Results of operations – for the year 2015

Financial highlights of 2015

In 2015, we were able to make further improvements to the services we provide to our customers. We also demonstrated exceptional operational performance and a good financial performance.

The sales revenues of the Group in 2015, compared to the same period in 2014, increased by 5.0%, or EUR 2.69 million, to EUR 55.93 million. The main impact on sales revenues was due to an increase in construction and asphalting services revenues and higher water and wastewater services revenues.

Gross profit in 2015 was EUR 32.25 million, increasing by 4.6%, or EUR 1.41 million, year on year. The increase in gross profit was related to the higher main services revenues mentioned earlier and lower chemical and pollution tax costs, which was supported by higher revenues and profit from construction and asphalting services. In 2014, gross profit was also influenced by an increase in pollution tax expenses, resulting from changes in the water permit limits. The new permit, issued to the Group at the end of 2013 and valid until the end of the 2nd quarter of 2014, set unreasonably high concentration limits for heavy metals, more than 400 times higher than earlier. When eliminating the influence of the 2014 increase in pollution tax, gross profit rose by 0.8% or EUR 0.3 million.

Operating profit in 2015 was EUR 25.58 million, increasing by 3.0%, or EUR 0.75 million, year on year. The operating profit was mainly affected by the changes in gross profit mentioned above and was balanced out by higher staff costs and by consultation and legal fees related to the tariff dispute.

Net profit for 2015 amounted to EUR 19.86 million, up by 10.7% or EUR 1.92 million. The net profit was mainly affected by changes in operating profit mentioned earlier and by lower financial expenses. The lower financial expenses were influenced by a decrease in interest costs of EUR 0.85 million year on year and by a bigger positive change of the fair value of swap contracts by EUR 0.35 million. The net profit for 2015, without the impact resulting from the pollution tax and the change of the fair value of swap contracts, was EUR 19.03 million, 2.32% or EUR 0.43 million higher than in the comparative period last year.

Statement of comprehensive income

Sales

With the Group’s water and wastewater tariffs frozen at the 2010 tariff level, changes in water and wastewater sales revenues are fully driven by consumption.

In 2015, the Group’s total sales revenues increased year on year by 5.0%, or EUR 2.69 million, to EUR 55.93 million. Of this, 88.1% consisted of sales of water and wastewater services to domestic and commercial customers within and outside of the service area, 6.0% were fees received from the City of Tallinn for operating and maintaining the storm water and fire hydrants system in Tallinn and 5.9% were from other works and services. There is no considerable seasonality in the operation of the Group’s main activities (sales of water and wastewater services).

Sales from water and wastewater services amounted to EUR 49.30 million, showing a 1.4% or EUR 0.70 million increase compared to the twelve months of 2014. This was a result of the changes in sales volumes as described below:

• Sales to private customers within the main service area in 2015 increased by 1.1% to EUR 24.41 million compared to the same period in 2014. The increase in sales to private customers came mainly from apartment blocks, which are also the biggest private customer segment.
• Sales to commercial customers within the main service area increased by 1.4% to EUR 19.36 million, a result stemming primarily from an increase in industry and other customer segments.
• Sales to customers outside the main service area increased by 5.4% to EUR 4.77 million. The biggest increase in sales to outside area customers was a result of the increase in sales of water services which increased by 11.0% to EUR 1.28 million.
• Over pollution fees received from business customers decreased by 8.7% to EUR 0.77 million.

Sales from the operation and maintenance of the main service area storm water and fire-hydrant system, in the twelve months of 2015, were EUR 3.36 million, showing an increase of 9.2% or EUR 0.28 million.

Sales of construction, design and asphalting services were EUR 2.72 million, a rise of 188.9%, or EUR 1.78 million, year on year. Mild weather and consequently a longer construction period, facilitated the increase in pipe construction revenues by EUR 1.00 million. In 2014, the Group began providing asphalting services, mostly internally to the company. As in 2015, asphalting services were extended to external customers, resulting in an increase in revenues of EUR 0.78 million.

Cost of goods sold and Gross profit

The cost of goods sold in the twelve months of 2015 amounted to EUR 23.68 million showing a 5.7%, or EUR 1.28 million increase compared to the equivalent period in 2014. The increase in cost of goods sold was mainly influenced by higher staff costs and an increase in construction and asphalting services related costs, which were balanced-out by lower, direct production costs.

Total direct production costs (water abstraction charges, chemicals, electricity and pollution taxes) were EUR 6.67 million, a decrease by 16.5%, or EUR 1.32 million, year on year. The biggest amount came from a decrease in pollution tax and chemicals costs, which was balanced-out slightly by the increase in water abstraction charges as described below:

• Water abstraction charges remained relatively flat, increasing by 4.2% to EUR 1.10 million. This was driven by an increase in treated volumes and an average 3.1% raise in tax rates.
• Chemicals costs decreased by 11.9% to EUR 1.53 million, mainly as a result of a smaller use of chemicals to remove pollutants in the wastewater treatment process and, on average, a 10.4% lower methanol price, worth EUR 0.14 million and EUR 0.07 million respectively.
• In 2015, electricity costs were almost at the same level as in 2014, amounting to EUR 3.04 million.
• Pollution tax expenses decreased by 53.7% to EUR 1.00 million. The decrease was for the most part influenced by a change in the water permit at the end of 2013, which remained in effect until the end of the 2nd quarter of 2014. The changes in the water permit allowed the concentration for heavy metals to decrease by 400. Previously applicable concentration limits were subsequently re-established, starting from the 3rd quarter of 2014, after which the pollution tax costs stabilised at their normal level. The influences of the changes in the water permit notwithstanding, the pollution tax expenses increased by 12.6%, or EUR 0.11 million, year on year. The main contribution to the increase in pollution tax expenses came from on average 4.8% rise in tax rates amounting to EUR 0.12 million.

Other costs of goods sold (staff costs, depreciation, construction and asphalting services costs and other cost of goods sold) amounted to EUR 17.01 million, an increase of 18.0%, or EUR 2.60 million, compared to the same period in 2014. The main increment came from an increase in staff costs and in costs related to higher construction and asphalting services. Higher staff costs were related not only to an increase in the average number of employees throughout the year, which enabled the Group to provide a broader range of services, but also to the increases in salaries in 2015, necessary in order for the Group to pay fair and competitive salaries. In addition, staff costs were affected by the reduced bonus reserve at the end of 2014.

As a result of all of the above, the Group’s gross profit for 2015 was EUR 32.25 million, 4.6%, or EUR 1.41 million, higher compared to a gross profit of EUR 30.84 million in 2014.

Administrative and marketing expenses

Administrative and marketing expenses were EUR 6.52 million, showing an increase of 9.2% or EUR 0.55 million. This was mainly due to an increase in salary costs and in consultation and legal fees related to the tariff dispute. The increase in salary expenses was mostly related to the reduced bonus reserve in 2014 but it was also affected by salary increases at the beginning of 2015. Legal and consultation fees will continue to be at higher levels for as long as the Company is involved in ongoing local and international disputes.

Operating profit

As a result of the factors listed above, the Group’s operating profit for 2015 amounted to EUR 25.58 million, 3.0% or EUR 0.75 million higher than in 2014. The Group’s operating profit from the core business was 2.9% or EUR 0.71 million higher compared to 2014. The operating profit from the main services, without the impact of the pollution tax increase in 2014, decreased by 1.7%, or EUR 0.43 million, to EUR 25.24 million.

Financial expenses

The Group’s net financial income and expenses resulted in a net expense of EUR 1.22 million, compared to a net expense of EUR 2.10 million in 2014. It was mainly the result of a decrease in interest costs of EUR 0.85 million and a EUR 0.35 million higher positive change in the fair value of the swap contracts. The decrease in costs was balanced-out by a lower interest income of 78.1% or EUR 0.34 million.

The standalone swap agreements have been signed to mitigate the majority of the long term floating interest risk. The interest swap agreements are signed for EUR 75 million and EUR 20 million of the loans are still with floating interest rate. As of 31st December 2015, the estimated value of the fair swap contracts is negative, totalling EUR 1.01 million. The effective interest rate of loans, including swap interests, in 2015 was 2.2%, amounting to interest costs of EUR 2.13 million, compared to the effective interest rate of 3.1% and the interest costs of EUR 2.98 million in 2014.

Profit before taxes and net profit

The Group’s profit before taxes for 2015 was EUR 24.36 million, 7.2% or EUR 1.63 million higher than profit before taxes of EUR 22.73 million for 2014. This was a direct result of increased revenues and decreased financial expenses and was set-off by the increase in costs as described above. The Group’s net profit for 2015 was EUR 19.86 million, EUR 1.92 million higher than the net profit of EUR 17.94 million for 2014.

Statement of financial position

In the twelve months of 2015, the Group invested EUR 11.30 million into fixed assets. As of 31st December 2015, non-current tangible assets amounted to EUR 162.73 million and total non-current assets amounted to EUR 163.63 million (31st December 2014: EUR 157.48 million and EUR 158.34 million respectively).

Compared to the year end of 2014, there has been a reduction in receivables and prepayments of EUR 1.09 million to EUR 7.17 million, which is mainly related to the collection of money for the network extension program.

Current liabilities decreased by EUR 0.41 million to EUR 8.42 million in comparison to the year end of 2014. The increase in trade and other payables by EUR 0.73 million was balanced-out by a decrease in the fair value of derivatives of EUR 0.56 million and in prepayments of EUR 0.65 million. The increase in payables was related to increased investment-related liabilities as well as to a bigger bonus reserve.

The Group’s loan balance remained stable, at EUR 95 million. The weighted average interest risk margin for the total loan facility is 0.95%.

The Group had a Total debt/Total assets level of 57.4%, well within the expected range of 55%-65%, reflecting the Group’s equity profile. This level was consistent with the same period in 2014, when the Total debt/Total assets ratio was 57.6%.

Deferred income from connection fees grew, compared to the end of 2014, by EUR 2.46 million to 15.03 million.

Contingent liability regarding the tariff risk

In the 4th quarter of 2011, the Group evaluated and noted an exceptional off-balance sheet contingent liability, which could have caused an outflow of economic benefits of up to EUR 36.0 million. At the end of 2015, the Group re-evaluated the liability, which now stands at EUR 42.8 million (31 December 2014: EUR 40.1 million), as per note 3 to the accounts. The re-evaluation is made annually at the end of each year.

Cash flow

As of 31st December 2015, the cash balance of the Group stood at EUR 37.82 million, which was 18.1% of the total assets (31st December 2014: EUR 38.56 million, forming 18.8% of the total assets).

The biggest contribution to the cash flows came from main operations. During the twelve months of 2015, the Group generated EUR 31.11 million of cash flows from operating activities, a decrease of EUR 0.34 million compared to the corresponding period in 2014. Underlying operating profit still continued to be the main contributor to operating cash flows. The collection of receivables continued to be strong.

In the twelve months of 2015, the result of net cash flows from investment activities was a cash outflow of EUR 6.87 million, a decrease of EUR 8.19 million compared to the inflow of EUR 1.32 million in the twelve months of 2014. This was made up as follows:

• In the twelve months of 2015 the investments in fixed assets increased by EUR 3.85 million when compared to 2014, amounting to EUR 13.50 million.
• The compensations received for the construction of pipelines were EUR 6.50 million in the twelve months of 2015, showing a decrease of EUR 4.02 million when compared to the same period of 2014.

In the twelve months of 2015, cash outflow from financing activities amounted to EUR 24.99 million, decreasing by EUR 1.01 million when compared to the same period in 2014. The change was mainly related to a reduction in interest payments of EUR 0.82 million due to the renewal of swap contracts. In addition to and in spite of the same dividend payment, dividend income tax was lower by EUR 0.29 million due to a change in income tax rate.

Employees

Competent and engaged employees are key to any business. The Group is committed to creating a work environment where everyone is respected and valued. We have described our human resource management procedures, including but not limited to recruitment, remuneration, evaluation and training policies. We follow equality principles in selecting and managing people which translates into providing, when feasible, equal opportunities to everyone. Understanding and appreciating the diversity of our staff, we ensure that everyone is treated fairly and equally and that they have access to the same opportunities as is reasonably practicable. We aim to ensure that no employees are discriminated against due to, but not exclusive to, age; gender; religion; cultural or ethnic origin; disability; sexuality orientation or marital status.

At the end of 2015, the total number of employees was 323 compared to 321 at the end of 2014. The full time equivalent (FTE) was 311 in 2015 compared to the 307 in 2014. The average number of employees (FTE) during the full year was respectively 307 in 2015 and 300 in 2014.

It is of paramount importance, that we invest in our people and have appropriately qualified employees. For this purpose, we prepare annual training plans and have designed succession planning and apprenticeship programs that allow us to have ongoing people development and highly skilled employees.

We arrange an annual employee engagement survey conducted by an independent research company TNS EMOR. Based on the feedback from the employee engagement survey, we carry out discussions with our employees and, based on these discussions, prepare action plans at department and company level in order to address any issues raised.

At the end of 2015, the employee engagement index amounted to 72 points (in 2014, 71), which is higher than the Estonian average of 66 points and the European average of 60 points. This compares very favourably with the score of 58 points, which is the average of the Estonian manufacturing sector.

The total salary cost was EUR 7.98 million, including EUR 0.18 million paid to Management and Supervisory Council members. The off-balance sheet potential salary liability could rise up to EUR 0.08 million should the Council want to replace the current Management Board members.

Dividends

Dividend allocation to shareholders is recorded as a liability in the financial statement of the Company at the time when profit allocation and dividend payment is confirmed by the annual general meeting of shareholders.

According to the dividend policy, which is also published on Company’s website, the Company will maintain dividends to shareholders at the same amount in real terms, i.e. dividends will increase in line with inflation each year.

The Annual general meeting of shareholders, held on 27th May 2015, approved a 90-cent dividend per share to be paid and a total dividend pay-out of EUR 18.0 million from the 2014 net income profit. Hence, there was no change compared to the dividend of 90 cents paid per share in 2014.

Dividends were paid out on 19th of June 2015. Dividend pay-outs in last five years have been as follows:

Share performance

AS Tallinna Vesi is listed on NASDAQ OMX Main Baltic Market with trading code TVEAT and ISIN EE3100026436.

As of 31 December 2015, the shareholders of AS Tallinna Vesi, with a direct holding over 5%, were:

During 2015, the shareholder structure was relatively stable compared to the end of 2014. At the end of 2015 the pension funds owned 1.89% of the total shares compared to 1.54% at the end of 2014.

As of 31 December 2015, the closing price of AS Tallinna Vesi’s share was EUR 13.80 representing a 5.3% increase from EUR 13.10 in the beginning of the year (in 2014, the increase was 10.1%). During the same period, the OMX Tallinn Index saw an increase of 19.1% (-7.7% respectively in 2014).

In 2015, shareholders completed 7,818 deals using Company’s shares in which 79% or 1,581 thousand shares exchanged owners. In 2014, the number of deals was 4,962, with 1,239 thousand shares, or 6.2%, exchanging owners.

The turnover of the transactions was EUR 5.80 million higher than in 2014, amounting to EUR 21.75 million.

Future actions and risks

Legal claim for breach of international treaty

In May 2014, the Supervisory Council of the Company gave notice of potential international arbitration proceedings against the Republic of Estonia for breaching the undertakings it is required to abide by, in the bilateral investment treaty.

In October 2014, AS Tallinna Vesi and its shareholder United Utilities (Tallinn) B.V commenced international arbitration proceedings against the Republic of Estonia for breach of the Agreement on the Encouragement and Reciprocal Protection of Investments between the Kingdom of The Netherlands and the Republic of Estonia.

The claim was filed after three years of seeking negotiations to try to reach mutually agreeable settlement, but that has not happened.

Additional details related with the claim can be found via the following links:

https://newsclient.omxgroup.com/cdsPublic/viewDisclosure.action?disclosureId=609264&messageId=754811
https://newsclient.omxgroup.com/cdsPublic/viewDisclosure.action?disclosureId=627851&messageId=779161

At this point in time, the Company cannot determine future developments in relation to the claim, possible outcomes or timing of the conclusion of the proceedings.