Integrated Report of KGHM Polska Miedź S.A.
and the KGHM Polska Miedź S.A. Group
for 2020

3.2 Impairment of assets as at 31 December 2019

Due to the fact that the Parent Entity’s market capitalisation remained below the carrying amount of net assets in 2019, in accordance with IAS 36 the Management Board of KGHM Polska Miedź S.A. conducted an analysis to determine which areas of the Company’s activities may be impaired. As the result of the conducted analysis, it was determined that impairment testing of the investment in the KGHM INTERNATIONAL LTD. Group was necessary (held by Future 1 Sp. z o.o., a subsidiary of KGHM Polska Miedź S.A.). A description of the adopted assumptions and results of the test conducted on the investment in Future 1 Sp. z o.o. is presented below. The Management Board of KGHM Polska Miedź S.A. also analysed whether the Polish production assets of KGHM Polska Miedź S.A. might have been impaired. In the assessment in particular the following were analysed: past financial results of the Parent Entity, forecasts of the copper price adopted for subsequent years of KGHM Polska Miedź S.A.’s operations, USD/PLN exchange rate fluctuations and their impact on the level of results achieved by the Parent Entity, ore deposit availability, production technology, production costs, levels of market interest rates, level of debt and the share price of KGHM Polska Miedź S.A. versus other parameters such as the main stock exchange indices in Poland, and copper price and one-off events that did not have any connection with the fundamentals of the Parent Entity’s operations in Poland. As a result of the assessment, it was judged that there was no relation between the fall in the share price of KGHM Polska Miedź S.A. with the Polish activities of the Parent Entity, and as a result, it was decided that there was no risk of impairment of the Polish production assets of KGHM Polska Miedź S.A.

In the current period, as a result of the identification of indications of a possible change in the recoverable amounts of the international mining assets of the KGHM INTERNATIONAL LTD. Group, the Parent Entity’s Management Board performed impairment testing of these assets and took into account the results of these tests in the calculation of expected credit losses on loans granted to Sierra Gorda S.C.M. (these loans are not part of the net investment in the joint venture Sierra Gorda S.C.M., and an allowance for the impairment of loans measured at amortised cost is set pursuant to principles presented in note 6,2). The key indications to perform impairment testing were:

  • a significant change to the market paths of commodities prices forecasts,
  • a change in the assessed risk of individual projects and risk free rates which are the basis used to determine discount rates for testing purposes, and
  • a change in the technical and economic parameters of the mining assets of the KGHM INTERNATIONAL LTD. Group and Sierra Gorda S.C.M. (a joint venture in the KGHM INTERNATIONAL LTD. Group) as respects production volumes, assumed operating costs and the level of capital expenditures during a mine’s life.

The key indications that the recoverable amount may be higher than the carrying amount, and therefore it may be justifiable to reverse previously recognised impairment losses, were:

  • a change in risk free rates,
  • a change in price paths for gold, palladium, silver and nickel,
  • the assumed level of operating cost of the CGU Sierra Gorda,
  • risk evaluation of the CGU Robinson, and
  • extension of the Life of Mine of the CGU Robinson.

The key indications that the recoverable amount may be lower than the carrying amount, and therefore it may be necessary to recognise an additional impairment loss, were:

  • a change in copper price paths,
  • the level of capital expenditures during the life of mine of Sierra Gorda,
  • the volume of production of the CGU Sierra Gorda,
  • risk evaluation of the CGU Sierra Gorda.

The following CGUs have been selected for the purpose of assessment of ] the recoverable amount of the assets of the KGHM INTERNATIONAL LTD. Group:

  • the Robinson mine,
  • the Sudbury Basin, comprising the Morrison mine, the McCreedy mine and the pre-operational Victoria project,
  • the Franke mine,
  • the Carlota mine,
  • involvement in the joint venture Sierra Gorda S.C.M., including loans granted, and
  • the Ajax project.

To determine the recoverable amount of assets during the testing, their fair value (decreased by costs to sell) was calculated using the DCF method, i.e. the method of discounted cash flows for the CGU Sudbury and involvement in the joint venture Sierra Gorda S.C.M. and the value in use for the following CGUs: Franke, Robinson and Carlota.
As for the recoverable amount of the CGU KGHM Ajax, due to a lack of indications of changes in the recoverable amount, it was set at its carrying amount.

The fair value of the CGU Sudbury and the CGU Sierra Gorda S.C.M. were classified to level 3 of the fair value hierarchy.

Price paths were adopted on the basis of long-term forecasts available from financial and analytical institutions.
A specified forecast is being prepared for the period 2020-2024, while for the period 2025-2029 a technical adjustment of prices was applied between the last year of the specified forecast and 2030, from which a long-term metal price forecast is used, as follows:

  • for copper – 6 614 USD/t (3.00 USD/lb);

  • for gold – 1 500 USD/oz;

  • or nickel – 8.00 USD/lb.

In its annual budgeting process, in order to determine its Reserves and Resources, the Group uses block models based on the price paths current at the moment of commencing work. Moreover, it takes into account information obtained, from the moment of preparation of the previous budget to the day the work commenced on the new budget, as a result of supplementary drilling (quality information, e.g. copper grade) and metallurgical drilling (e.g. copper recovery). Moreover, geotechnical and hydrogeological information is used.

The Victoria project’s deposit has copper-nickel ore with a significant percentage of precious metals. The identified mineralisation zone of the Victoria project was classified as “Inferred”. Exploration work commenced in 2008. Moreover, in the years 2015 – 2016 exploration work was performed on the deep part of the deposit, under the so-called Deep Drilling Program. In 2019, exploration work took place, aimed at deepening the knowledge of the project’s reserves and resources.

The mineralisation potential of the Pampa Lina deposit (CGU Sierra Gorda S.C.M deposit) was estimated based on the executed scope of exploration work, in particular on the basis of drilling performed, geophysical analyses and geological hypotheses. The estimation of Pampa Lina’s mineralisation potential is based on the work of specialist external companies and work executed by the company itself. Sierra Gorda S.C.M. has rights to the mineralisation of Pampa Lina.

Other key assumptions used for recoverable amount estimation of the assets of the CGUs

Assumption Sierra Gorda Sudbury Robinson Franke Carlota
Mine life / forecast period 24 18** 9 5 3
Level of copper production during mine life [kt] 4 241 276 435 94 12
Level of nickel production during mine life (kt) 249
Level of gold production during mine life (koz t) 1 100 7 324
Average operating margin during mine life* 40.2% 58% 38% 23% 1%
Capital expenditures to be incurred during mine life [USD million] 2 110 1 619 563 75 4
Applied discount rate after taxation for assets in the operational phase* 8% 7.5% 7.5% 10.5% 9.5%
Applied discount rate after taxation for assets in the pre-operational phase 9% 10.5%
Costs to sell USD 9 million 2%
Level of fair value hierarchy to which the measurement at fair value was classified Level 3
* In order to maintain data cohesion between individual CGUs, the presented data is post-taxation despite the model of measuring the value in use for the CGU Robinson, CGU Franke and CGU Carlota. The use of pre-taxation data does not significantly impact the recoverable amount.
** In total for all assets of the CGU, i.e. McCreedy, Morrison and Victoria.

 

Key factors responsible for the modification of technical and economic assumptions
Sierra Gorda Increase in average operating margin due to a decrease in operating costs for the processing plant and mine.
Sudbury Increase in the copper and precious metals ore resource base of the McCreedy mine thanks to drilling carried out in 2019. In addition, the commencement of mining of nickel ore from the McCreedy deposit was deferred from the year 2020 to 2021.
Robinson The inclusion in the mining plans of the Liberty pit, at which mining has been suspended since 2013. This was thanks to additional drilling, geotechnical and metallurgical tests in the years 2018 and 2019 as well as to technical and feasibility analyses of the Liberty deposit prepared on their basis. Another factor is the introduction of changes in gold recovery calculations, due to the higher-than-assumed historical execution of forecasts in this regard.
Franke Documentation of additional oxide ore resources and the update of mining plans, which enabled the extension of mine life by an additional production year.
Carlota Increase in the resource base for the Eder deposit and the delay in commencement of operations there. In addition, recovery calculations for copper leaching using SSL (sub-surface leaching) technology were updated.

 

Results of the test performed as at 31 December 2019 are presented in the following table:

CGU

Segment
(Part 2)

Carrying amount Recoverable amount Reversal of
impairment loss
USD mn PLN mn USD mn PLN mn USD mn PLN mn
Sierra Gorda S.C.M. ** Sierra Gorda S.C.M. 1 471 5 588 1 499 5 694 28 106
Sudbury* KGHM INTERNATIONAL LTD. 227.4 864 272 1 033 44.6 169
Robinson* 267 1 114 267 1 114
Franke* (12) (46) (12) (46)
Carlota* (37) (141) (37) (141)
* the carrying amount of fixed assets decreased by the provision for future decommissioning costs of mines, which in the case of the CGU Franke and the CGU Carlota was higher than the carrying amount of the tested assets,
** the carrying amount of CGU Sierra Gorda S.C.M. consists only of the amount of the loan granted to Sierra Gorda S.C.M., because the carrying amount of the Group’s investment in Sierra Gorda S.C.M. equals 0 (Part 6. Involvement in joint ventures).

 

The following took place as a result of the conducted test:

  • for the CGU Sudbury, a reversal of an impairment loss, which was recognised in the following items: “Other operating income” in the amount of PLN 150 million and “Cost of sales” in the amount of PLN 19 million,
  • for the CGU Sierra Gorda S.C.M., a reversal of an allowance for impairment, which was recognised in the consolidated statement of profit or loss, in the item “gains due to reversal of allowances for impairment of loans granted to joint ventures”. On the basis of estimates on the repayment of loans granted, an increase in the recoverable amount of receivables due to loans was identified, which was the basis to partially reverse an allowance for impairment recognised at the moment of initial recognition of a loan (POCI). The conducted test showed a recoverable amount for the investment in Sierra Gorda S.C.M. of 0.

The results of tests performed as at 31 December 2019 for the CGUs Robinson, Franke and Carlota confirmed that their recoverable amounts are equal to their carrying amounts.

Sensitivity analysis of the fair value of CGU Sierra Gorda S.C.M.

Recoverable amounts per price paths adopted for testing
as at 31 December 2019
Recoverable amounts per price paths adopted for testing
as at 31 December 2018
USD million
Discount rate (8%, for Oxide – 9%) – adopted for testing 1 499 1 758
Discount rate (8.5%, for Oxide – 9.5%) – increase in the rate by 0.5 percentage points 1 398 1 656

 

Sensitivity analysis of the fair value of CGU Sudbury Recoverable amount
Discount rate for assets at the operational phase 8%,
at the pre-operational phase 11%
888
Discount rate for assets at the operational phase 7.5%,
at the pre-operational phase 10.5% (test)
1 033
Discount rate for assets at the operational phase 7%,
at the pre-operational phase 10%
1 188

 

The results of the sensitivity analysis of the recoverable amount of the CGU Franke and CGU Carlota due to their low carrying amounts, are immaterial.

In the current period, due to indications of the possibility of changes in the recoverable amount of the property, plant and equipment and intangible assets of the company Energetyka sp. z o.o., the Management Board of the Parent Entity performed impairment testing on these assets. The key indication to perform impairment testing in the current reporting period was a negative change in forecasted operating cash flows of Energetyka Sp. z o.o. The carrying amount of property, plant and equipment and intangible assets of Energetyka sp. z o.o. as at 31 December 2019 amounted to PLN 563 million. For the purpose of estimating the recoverable amount, in the conducted test the value in use of the cash generating unit, comprised of the property plant and equipment and intangible assets of the company, was measured using the DCF (discounted cash flows) method.

Basic assumptions adopted for impairment testing

Assumption Level adopted in testing
Forecast period 2020-2029
Average operating margin during the forecast period 1.15%
Capital expenditures during the forecast period PLN 282 million
Discount rate 5.60% (nominal rate after taxation)
Growth rate following the forecast period 0%

 

As a result of the impairment testing conducted on the property, plant and equipment and intangible assets, the recoverable amount of assets was determined to be at the level of PLN 373 million, which was lower than the carrying amount of the tested assets, which was the basis for recognising an impairment loss in the amount of PLN 190 million. The impairment loss was recognised in the consolidated statement of profit or loss in the item “Cost of sales”.

The measurement of non-current assets and intangible assets of the company indicated a significant sensitivity to the adopted discount rates. The following table presents the impact of changes to this parameter on the measurement of the assets.

Sensitivity analysis of the recoverable amount of property, plant and equipment and intangible assets of Energetyka Sp. z o.o.

Discount rate 4.6%

Discount rate 5.6% (test)

Discount rate 6.6%

Recoverable amount 539 373 287

 

In order to monitor the risk of impairment of operating assets in subsequent reporting periods, it was determined that the recoverable amount would be equal to the carrying amount of the assets if the discount rate were to fall to  4.5%.

In the current period, due to indications of the possibility of changes in the recoverable amount of the property, plant and equipment and intangible assets of the company WPEC w Legnicy S.A., the Management Board of the Parent Entity performed impairment testing on these assets. The key indication to perform impairment testing in the current reporting period was a negative change in forecasted operating cash flows of WPEC w Legnicy S.A. The carrying amount of the property, plant and equipment and intangible assets of WPEC w Legnicy S.A. as at 31 December 2019 amounted to PLN 157 million. For the purpose of estimating the recoverable amount, in the conducted test the value in use
of the cash generating unit, comprised of the property, plant and equipment and intangible assets of the company, was measured using the DCF (discounted cash flows) method.

Basic assumptions adopted for impairment testing

Assumption Level adopted in testing
Forecast period 2020-2029
Average operating margin during the forecast period -0.36%
Capital expenditures during the forecast period PLN 89 million
Discount rate 6.10% (nominal rate after taxation)
Growth rate following the forecast period 0%

 

As a result of the impairment testing conducted on property, plant and equipment and intangible assets, the recoverable amount of assets was determined to be at the level of PLN 146 million, which was lower than the carrying amount of the tested assets, which was the basis for recognising an impairment loss in the amount of PLN 12 million. Moreover, an impairment loss on goodwill was recognised  in the amount of PLN 9 million due to the acquisition of shares of WPEC w Legnicy S.A.  These impairment losses were recognised in the consolidated statement of profit or loss in the item “Cost of sales”.

The measurement of non-current assets and intangible assets of the company indicated a significant sensitivity to the adopted discount rates. The following table presents the impact of changes to this parameter on the measurement of the assets.

Sensitivity analysis of the recoverable amount of property, plant and equipment and intangible assets of WPEC w Legnicy S.A.

Discount rate 5.10% Discount rate 6.10% (test) Discount rate 7.10%
Recoverable amount 212 146 108

 

In order to monitor the risk of impairment of the operating assets in subsequent reporting periods, it was determined that the recoverable amount would be equal to the carrying amount of assets if the discount rate were to fall to 5.87%.

The market capitalisation of the subsidiary Interferie S.A. in 2019 was below the carrying amount of the company’s net assets, which in accordance with the adopted accounting policy was recognised by the company to be an indication to perform impairment testing of the company’s assets (the carrying amount of the tested assets was PLN 106 million). In order to assess the impairment, the Company identified the following CGUs: INTERFERIE in Ustronie Morskie – Leisure and Sanatorium Cechsztyn, INTERFERIE in Kołobrzeg Leisure and Sanatorium Chalkozyn, INTERFERIE in Dąbki Sanatorium Argentyt, INTERFERIE in Świeradów Zdrój – Hotel Malachit, INTERFERIE Hotel in Głogów and INTERFERIE Hotel Bornit in Szklarska Poręba. In order to assess the impairment, the fair value of the assets was estimated on the basis of the sum of future cash flows of individual CGUs discounted by the rate estimated on the basis of ratios used by the hotel industry, with the exception of CGU INTERFERIE Hotel in Głogów and CGU INTERFERIE Hotel Bornit in Szklarska Poręba, for which the fair value was determined on the basis of valuation reports.

The fair value was classified to level 3 of the fair value hierarchy.

Basic assumptions adopted for impairment testing

Assumption Level adopted in testing
Discount rate

7.5%
8.5% for objects with planned significant investments

Costs to sell 3%

 

As a result of the impairment testing conducted on the company’s assets, the estimated fair value of the assets was determined to be higher than the carrying amount of the assets, which did not provide a basis to recognise an impairment loss.

The measurement indicated a significant sensitivity of fair value to adopted discount rates and the volatility of operating profit in the forecasted period of the following CGUs:

Sensitivity analysis of fair value

CGU Carrying amount Discount rate Operating profit
6% -6% 6% -6%
INTERFERIE in Ustronie Morskie – Leisure and Sanatorium Cechsztyn 10 11 13 12 11
INTERFERIE in Kołobrzeg Leisure and Sanatorium Chalkozyn 19 59 72 70 60
INTERFERIE in Dąbki Sanatorium Argentyt 27 49 60 58 50
INTERFERIE in Świeradów Zdrój – Hotel Malachit 23 23 27 26 23

 

The fair values of the CGU INTERFERIE Hotel in Głogów and the CGU INTERFERIE Hotel Bornit in Szklarska Poręba demonstrated low sensitivity to changes in key parameters.

Level of change in assumptions implicating an impairment loss

CGU Increase in discount rate
by one percent
% decrease
in operating profit
INTERFERIE in Ustronie Morskie – Leisure and Sanatorium Cechsztyn 1.4 18.9
INTERFERIE in Kołobrzeg Leisure and Sanatorium Chalkozyn 8.6 61.1
INTERFERIE in Dąbki Sanatorium Argentyt 4.9 40.4
INTERFERIE in Świeradów Zdrój – Hotel Malachit 0.5 8.8

In the current period, due to indications of the possibility of changes in the recoverable amount of the property, plant and equipment and intangible assets of the company POL MIEDŹ TRANS Sp. z o.o., the Management Board of the Parent Entity performed impairment testing on these assets. The key indication to perform impairment testing in the current reporting period was a loss for the period incurred by POL MIEDŹ TRANS Sp. z o.o. The carrying amount of property, plant and equipment and intangible assets of POL MIEDŹ TRANS Sp. z o.o. as at 31 December 2019 amounted to PLN 238 million. For the purpose of estimating the recoverable amount, in the conducted test the value
in use of property plant and equipment and intangible assets of the company was measured using the DCF (discounted cash flows) method.

Basic assumptions adopted for impairment testing

Assumption Level adopted in testing
Forecast period 2020-2024
Average operating margin during the forecast period 1.49%
Capital expenditures during the forecast period PLN 260 million
Discount rate 5.99% (nominal rate after taxation)
Growth rate following the forecast period 0%

 

As a result of the impairment testing conducted on property, plant and equipment and intangible assets, the recoverable amount of assets was determined to be higher than the carrying amount of the tested assets, which did not give a basis to recognise an impairment loss.

The recoverable amount of the non-current assets and intangible assets of the company indicates a sensitivity to the adopted discount rate. The following table presents the impact of changes to this parameter on the measurement of the assets.

Sensitivity analysis of the recoverable amount of property, plant and equipment and intangible assets of POL-MIEDŹ TRANS Sp. z o.o.

Discount rate 4.99%

Discount rate 5.99% (test)

Discount rate 6.99%

Recoverable amount 378 272 212

 

In order to monitor the risk of impairment of property, plant and equipment and intangible assets in subsequent reporting periods, it was determined that the recoverable amount would be equal to the carrying amount of assets if the discount rate were to increase to 6.48%.

In the Group, water rights in Chile are annually subjected to impairment testing by comparing their carrying amount to the recoverable amount, which is set as fair value decreased by costs to sell. The fair value of water rights is classified under level 2 of the fair value hierarchy, in which fair value measurements are based on significant observable input data, other than market prices.

For the year ended on 31 December 2019, the Group assessed the factors impacting the recoverable amount of the asset and concluded that there are no grounds for recognising an impairment loss, as the water price
and the estimated amount of water available for extraction did not change compared to the level of these factors adopted for measurement as at 31 December 2018. The carrying amount of water rights amounted to PLN 65 million as at 31 December 2019 (as at 31 December 2018: PLN 65 million).

It was determined that there are no indications of impairment of the other non-current assets of the Group.

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