3. Accounting principles

3.1. Principles of preparation of financial statements

The consolidated financial statements have been prepared in accordance with accounting principles contained in the International Financial Reporting Standards (IFRS), comprising International Accounting Standards (IAS) as well as Interpretations of Standing Interpretation Committee (SIC) and the International Financial Reporting Standards Interpretations Committee (IFRIC), which were adopted by the European Union (EU) and were in force as at 31 December 2014. The consolidated financial statements have been prepared on a historical cost basis, except derivative financial instruments, financial assets available for sale and investment properties, which have been measured at fair value. The scope of consolidated financial statements is compliant with Minister of Finance Regulation of 19 February 2009 on current and periodic information provided by issuers of securities and conditions for recognition as equivalent information required by the law of a non-Member state (uniform text Official Journal 2014, item 133) and covers the annual period from 1 January to 31 December 2014 and the comparative period from 1 January to 31 December 2013.

Presented consolidated financial statements present a true and fair view of the ORLEN Group’s financial position as at 31 December 2014, results of its operations and cash flows for the year ended 31 December 2014.

The consolidated financial statements have been prepared assuming that the ORLEN Group will continue to operate as a going concern in the foreseeable future. As at the date of approval of these consolidated financial statements, there is no evidence indicating that the ORLEN Group will not be able to continue its operations as a going concern. Duration of the Parent Company and the entities comprising the ORLEN Group is unlimited.

The foregoing consolidated financial statements, except consolidated statement of cash flows, have been prepared using the accrual basis of accounting.

The foregoing financial statements have been prepared in accordance with usefulness, relevance and faithfully representation principles contained in chapter 3 of the IFRS conceptual framework.

3.2. Impact of IFRSs amendments and interpretations on consolidated financial statements of the ORLEN Group

3.2.1. Binding amendments to IFRSs and interpretations

Począwszy od 1 stycznia 2014 roku, wspólne ustalenia umowne dla Grup Basell Orlen Polyolefines Sp. z o.o. (BOP) i Płocki Park Przemysłowo-Technologiczny S.A. (PPPT) zgodnie z nowym standardem MSSF 11 „Wspólne ustalenia umowne” zostały sklasyfikowane jako wspólne przedsięwzięcia i ujęte w skonsolidowanym sprawozdaniu finansowym metodą praw własności zamiast wcześniej stosowanej metody konsolidacji proporcjonalnej.

W efekcie zmiany sposobu ujęcia przekształcone zostały dane porównawcze za 2013 rok oraz na dzień 31 grudnia 2013 roku, jak również na dzień 1 stycznia 2013 roku. Wpływ istotnych zmian metody wyceny wspólnych przedsięwzięć na wybrane pozycje sprawozdania z sytuacji finansowej, sprawozdania z zysków lub strat i innych całkowitych dochodów przedstawia poniższe zestawienie:

Selected data for 2013 and as at 31/12/2013published dataimpact of new standard IFRS 11data after application of IFRS 11
Statement of profit or loss      
Sales revenues  113 853  (256)  113 597 
Cost of sales  (107 980) 127  (107 853)
Gross profit on sales  5 873  (129)  5 744 
Share in profit from investments accounted for under equity method  -  40 40
Profit from operations 333 (26) 307
Net profit 90  -  90
Statement of financial position       
Non-current assets  26 835  72  26 907 
Investments accounted for under equity method 12 603 615
Current assets  24 809  (364)  24 445 
Total assets  51 644  (292)  51 352 
Total equity  27 551   -   27 551 
Non-current liabilities  7 943  (97)  7 846 
Current liabilities  16 150  (195)  15 955 
Total equity and liabilities  51 644  (292)  51 352 

In accordance with IFRS 11, entities of the Unipetrol Group - Ceska Rafinerska and Butadiene Kralupy were classified as joint operation and as at 31 December 2014 are accounted based on the share in its assets, liabilities and generated revenues and incurred costs. Application of the new IFRS 11 in relation to the above entities had no impact on the change in consolidated data of the Group.

Begining from 1 January 2014, in the consolidated financial statements "Share in profit from investments accounted for under equity method" is presented as a result of operating activities, as the activity of these units is related to the core business of the Group. As a result, comparative figures for 2013 have been restated.

In the first half of 2014, the ORLEN Group implemented changes of operating activities management, in order to further improvement in their efficiency and integration. The organizational structure was adjusted by changes in the responsibilities of the particular members of the Management Board. As a result, the presentation of operating segments in ORLEN Group was updated - integrated operating segment Downstream consisted of previously, separately treated Refinery and Petrochemical segments.

As a consequence, the segments’ comparative data were adjusted for the period of 2013 and as at 31 December 2013.

Impact of new segment division and new standard IFRS 11 – Joint arrangements - on presented segment data in 2013

Revenues, costs, financial results, increase in investment expenditures of operating segment

 Downstream SegmentRefining SegmentPetrochemical SegmentCorporate FunctionsAdjustmentsTotal
             
Sales revenues from external customers  77 047   (61 466)  (15 837)  -   -  (256)
Sales revenues from transactions with other segments  15 939   (26 983)  (3 565) (3)  14 612   - 
Sales revenues  92 986   (88 449)  (19 402) (3)  14 612  (256)
Operating expenses  (92 710)  89 437   18 072  6  (14 612) 193
Other operating income 188 (80) (112)  -   -  (4)
Other operating expenses (399) 272 128  -   -  1
Share in profit from investments accounted for under equity method 41  -   -  (1)  -  40
Segment profit/(loss) from operations 106  1 180   (1 314) 2  -  (26)
   
Depreciation and amortisation  1 633  (958) (734)  -   -  (59)
             
EBITDA  1 739  222  (2 048) 2  -  (85)
             
Increases in investment expenditures (including borrowing costs)  1 596  (944) (526) (151)  -  (25)

Assets by operating segment

 published data 31/12/2013 impact of change in segment division and new standard IFRS 11data after changing segment division and new standard IFRS 11 31/12/2013
Refining Segment  28 229   (28 229)  - 
Petrochemical Segment  12 024   (12 024)  - 
Downstream Segment  -   40 348   40 348 
Retail Segment  5 990   -   5 990 
Upstream Segment  1 375   -   1 375 
Segment assets  47 618  95  47 713 
Corporate Functions  4 286  (398)  3 888 
Adjustments (260) 11 (249)
   51 644  (292)  51 352 

3.2.2. IFRSs and their interpretations, announced and adopted by the European Union, not yet effective

The Group intends to adopt listed below new standards and amendments to the standards and interpretations to IFRSs that are published by the International Accounting Standards Board, but not effective as at the date of publication of these financial statements, in accordance with their effective date.

Standards and Interpretations adopted by EUPossible impact on financial statements
IF RIC Interpretation 21 - Levies no impact expected

Amendments to IA 19 Employee Benefits entitled Defined Benefit Plans: Employee

Contributions

no impact expected
Improvements to International Financial Reporting Standards 2010-2012; 2011-2013 no impact expected

3.2.3. Standards and Interpretations adopted by International Accounting Standards Board (IASB), waiting for approval of EU

Standards and Interpretation waiting for approval of EUPossible impact on financial statements
New standards IFRS 9 - Financial Instruments impact*
New standards IFRS 9 - Regulatory Deferral Accounts no impact expected
New standards IFRS 9 - Revenue from Contracts with Customers impact**
Amendments to IFRS 11 - Joint Arrangements: Accounting for Acquisitions of Interests in Joint Operations  no impact expected
Amendments to IAS 16 - Property, Plant and Equipment and IAS 38 - Intangible Assets: Clarification of Acceptable Methods of Depreciation and Amortisation no impact expected
Amendments to IAS 16 - Property, Plants and Equipment and IAS 41 - Agriculture: Agriculture - Bearer Plants no impact expected
Amendments to IAS 27 - Separate Financial Statements: Equity Method in Separate Financial Statements no impact expected
Amendments to IFRS 10 - Consolidated Financial Statements and IAS 28 - Investments in Associates: Sale or Contribution of Assets between an Investor and its Associate or Joint Venture no impact expected

Improvements to International Financial Reporting Standard 2012-2014

no impact expected
Amendments to IFRS 10 - Consolidated Financial Statements, IFRS 12 - Disclosuere of Interests in Other Entities and IAS 28 - Investments in Associates and Joint Ventures: Investment Entities: Applying the Consolidation Exception no impact expected
Amendments to IAS 1 - Presentation of Financial Statements: Disclosure initiative no impact expected

                                                                 

3.3. Functional currency and presentation currency of financial statements and methods applied to translation of financial data for consolidation purposes

3.3.1. Functional currency and presentation currency

The functional currency of the Parent Entity and presentation currency of the foregoing consolidated financial statements is Polish Złoty (PLN). The data in the consolidated financial statements is presented in millions of PLN, unless is stated differently. The accounting policies for transactions in foreign currency is presented in note 3.4.1.

3.3.2. Methods applied to translation of data for consolidation purposes

Translation in to PLN of financial statements of foreign entities, for consolidation purposes:

  • particular assets and liabilities – at spot exchange rate as at the end of the reporting period,
  • items of statement of profit or loss and other comprehensive income and statement of cash flows are translated at the average exchange rate.

Foreign exchange differences resulting from the above recalculations are recognized in equity as foreign exchange differences on subsidiaries from consolidation.

CURRENCY Average exchange rate Exchange rate as at the end
 for the reporting period  of the reporting period
2014 2013 31/12/2014 31/12/2013
EUR/PLN 4.1846 4.1973 4.2623 4.1472
USD/PLN 3.1537 3.1611 3.5072 3.012
CZK/PLN 0.152 0.1616 0.1537 0.1513
CAD/PLN 2.8541 2.8655 3.0255 2.8297

Average CAD exchange rate adopted in 2013 was based on the average daily exchange rates of the month of December of 2013, which corresponds to the period of recognition in the consolidated financial statements, the results of the acquired company TriOil Resources Ltd. operating business activity in the upstream segment in Canada.

Accounting policies for foreign currency transactions are presented in note 3.4.1.

3.4. Applied accounting policies

3.4.1. Transactions in foreign currency

The Group recognizes exchange differences arising on the settlement of monetary items or on translating monetary items at rates different from those at which they were translated on initial recognition in profit or loss of the period in which they arise, except for the monetary items which hedge the currency risk and are accounted in accordance with the cash flow hedge accounting principles. Additional information is presented in note 3.3.

3.4.2. Principles of consolidation

The consolidated financial statements of the Group include assets, liabilities, equity, income, expenses and cash flows of the Parent Company and its subsidiaries that are presented as those of a single economic entity and are prepared as at the same reporting period as separate financial statements of the Parent Company and using uniform accounting principles in relation to similar transactions and other events in similar circumstances.

The subsidiaries are consolidated using full consolidation method and joint operations by recognition of respective share in assets, liabilities, revenues and cost. The joint ventures as well as investments in associates are accauted for under equity method.

In preparing consolidated financial statements using full consolidation method, an entity combines the assets, liabilities, revenues and cost of the Parent Company and its subsidiaries line by line and then performs adequate consolidation procedures in particular:

  • non-controlling interests in the profit or loss of subsidiaries for the reporting period are identified,
  • non-controlling interests in the net assets of subsidiaries are identified and presented separately from the Parent Company’s equity,
  • intra group balances are eliminated,
  • intra group revenues and cost and cash flows as well as profits or losses from intra group transactions are eliminated.

A joint operator recognizes: its assets, including its share of any assets held jointly; its liabilities, including its share of any liabilities incurred jointly; its revenues from the sale of its share of the output arising from the joint operation; its share of the revenue from the sale of the output by the joint operation and its expenses, including its share of any expenses incurred jointly.

Under the equity method, at initial recognition, the investment in an associate or a joint venture is recognized at cost and the carrying amount is increased or decreased to recognize the Group's share in profit or loss of the investee after the date of acquisition. The Group's share in profit or loss of the investee is recognized in the Group's profit or loss as other operating activity.

3.4.2.1. Investment in subsidiares

Subsidiaries are entities under the Parent Company‘s control. It is assumed that the Parent Company controls another entity, in which the investment was made if it is exposed to, or has rights to variable returns from involvement with the entity, and has the ability to affect those returns through its power over the investee.

Non-controlling interests shall be presented in the consolidated statement of financial position as non-controlling interest, separately from the equity of the owners of the Parent Company.

3.4.2.2. Investments in jointly controlled entities

A jointly controlled entity is a joint venture or a joint operation, in which the share of control thought contractual arrangement, exists when decisions about the relevant activities require the unanimous consent of the parties sharing control.

A joint venture is a joint arrangement whereby the parties that have joint control over the arrangement have rights to the net assets of the arrangement. Such an entity operates on the same basis as other entities, except that the contractual arrangements between the operators establish joint control on the economic activity of the entity. A joint operation is a joint arrangement whereby the parties that have joint control of the arrangement have rights to the assets, and obligations for the liabilities, relating to the arrangement.

3.4.2.3. Investment in associates

Investments in associates relate to the entities over which the Group has significant influence and that are neither controlled nor jointly controlled.

Significant influence is the power to participate in the financial and operating policy decisions of the investee but is not control or joint control over those policies. The Group has a significant influence if it holds, directly or indirectly (i.e. through subsidiaries), 20% or more of the voting rights of an entity, unless it can be clearly stated differently.

3.4.3. Business combinations

Business combinations under common control, including the acquisition of an organized part of the enterprise is settled by adding together, the particular items of assets and liabilities, revenues and cost of the combined companies, as at the date of the merger.

The effect of business combinations under common control has no effect on the consolidated financial data. Other business combinations are accounted for applying the acquisition method. Applying the acquisition method requires:

  • identifying the acquirer,
  • determining the acquisition date,
  • recognising and measuring the identifiable assets acquired, the liabilities assumed and any non-controlling interests in the acquiree and
  • recognizing and measuring goodwill or a gain from a bargin purchase.

3.4.4. Operating segments

The operations of the Group were divided into the following segments:

  • the Downstream segment, which includes integrated areas of refining and petrochemical production and sales and operations in the energy production activity,
  • the Retail segment, which includes sales at the petrol stations,
  • the Upstream segment, which includes the activity related to exploration and extraction of mineral resources,

and Corporate Functions which are reconciling items and include activities related to management and administration and other support functions and remaining activities not allocated to separate operating segments.

Segment revenues are revenues from sales to external customers or revenues from transactions with other segments that are directly attributable to a segment.

Segment expenses are expenses resulting from the operating activities of a segment that are directly attributable to the segment and the relevant portion of the Group’s expenses that can be allocated on a reasonable basis to a segment, including expenses relating to sales to external customers and expenses relating to transactions with other segments.

Segment result is calculated on the level of operating result.

Segment assets are those that are employed by the segment in operating activity and can be directly or on reasonable basis allocated to the segment.

3.4.5. Sales revenues

Sales revenues (from operating activity) comprise revenues that relate to core activity, i.e. activity for which the Group was founded, revenues are recurring and are not of incidental character.

Revenues from sales are recognized when the amount of revenue can be measured reliably, it is probable that the economic benefits associated with the sale transaction will flow to the Group and the costs incurred or to be incurred in respect of the transaction can be measured reliably. Revenues from the sale of goods and services are recognized when the Group has transferred to the buyer the significant risks and rewards of ownership of the goods, and the Group retains neither continuing managerial involvement to the degree usually associated with ownership nor effective control over the goods sold.

Revenues include received or due payments for delivered goods and services, decreased by the amount of any trade discounts, value added tax (VAT), excise tax and fuel charges.

Revenues are measured at fair value of the received or due payments. Revenues from sale are adjusted for profit or loss from settlement of cash flows hedging instruments related to above mentioned revenues.

Revenues and expenses relating to services for which the start and end dates fall within different reporting periods are recognized based on the percentage of completion method, if the outcome of a transaction can be measured reliably, i.e. when total contract revenues and costs can be measured reliably, it is probable that the economic benefits associated with the contract will flow to the Group and the stage of completion can be measured reliably.

If those conditions are not met, revenues are recognized up to the cost incurred, but not greater than the cost which are expected to be recovered by the Group.

3.4.6. Costs

Costs (relating to operating activity) comprise costs that relate to core activity, i.e. activity for which the Group was founded, costs are recurring and are not of incidental character.

Cost of sales comprises costs of finished goods, merchandise and raw materials sold and adjustments related to inventories written down to net realizable value.

Distribution expenses include selling brokerage expenses, trading expenses, advertising and promotion expenses as well as distribution expenses.

Administrative expenses include expenses relating to management and administration of the Group as a whole.

3.4.7. Other operating income and expenses

Other operating income and expenses are related indirectly to operating activities and are incidental.

3.4.8. Finance income and costs

Finance income and costs relate to financial operations, including the funding sources acquisition and their service.

3.4.9. Income tax expenses

Income tax expenses comprise of current tax and deferred tax.

Current tax is determined in accordance with the relevant tax law based on the taxable profit for a given period and is recognized as liability, in the amount which has not been paid or receivable, if the amount of the current and prior periods income tax paid exceeds the amount due the excess is recognized.

Deferred tax assets and liabilities are accounted for as non-current and are not discounted as well as are offset in the statement of financial position, if there is legally enforceable right to set off the recognized amounts.

The transactions settled directly in equity are recognized in equity.

3.4.10. Profit/(loss) per share

Profit/(loss) per share is calculated by dividing the net profit or loss for a given period which is attributable to ordinary shareholders of the Parent Company by the weighted average number of ordinary shares outstanding during the period.

The Group has no potential dilutive shares.

3.4.11. Property, plant and equipment

Property, plant and equipment include both fixed assets (assets that are in the condition necessary for them to be capable of operating in the manner intended by management) as well as construction in progress (assets that are in the course of construction or development necessary for them to be capable of operating in the manner intended by management).

Property, plant and equipment are initially measured at cost, including grants related to assets (IAS 20). The cost of an item of property, plant and equipment comprises its purchase price, including any costs directly attributable to bringing the asset into use.

The cost of an item of property, plant and equipment includes also the initial estimate of the costs of dismantling and removing the item and restoring the site on which it is located, the obligation for which is connected with acquisition or construction of an item of property, plant and equipment.

Property, plant and equipment are stated in the statement of financial position prepared at the end of the reporting period at the net book value ie. the amount at which an asset is initially recognized (cost) less accumulated depreciation and any accumulated impairment losses, as well as received grants for assets.

Depreciation of an item of property, plant and equipment begins when it is available for use, i.e. when it is in the location and condition necessary for it to be capable of operating in the manner intended by management, over the period reflecting its estimated useful life, considering the residual value. Fixed assets are depreciated with straight-line method and in justified cases units of production method of depreciation (catalysts, assets arising from development and extraction of mineral resources).

The depreciable amount of an asset is determined after deduction oh the residual value from the initial value.

Each part of an item of property, plant and equipment with a cost that is significant in relation to the total cost of the item is depreciated separately over the period reflecting its useful life.

The following standard useful lives are used for property, plant and equipment:

  • Buildings and constructions 10-40 years
  • Machinery and equipment 4-35 years
  • Vehicles and other 2-20 years

The method of depreciation, residual value and useful life of an asset are reviewed at least at the end of each year. When it is necessary adjustments of depreciation are carried out in subsequent periods (prospectively).

The costs of significant repairs and regular maintenance programs are recognized as property, plant and equipment and depreciated in accordance with their useful lives. The costs of current maintenance of property, plant and equipment are changed profit or loss in the period in which they are incurred.

Property, plant and equipment is tested for impairment, when there are indicators or events that may imply that the carrying amount of those assets may not be recoverable.

Recognition and reversal of impairment loss of property, plant and equipment is recognized in other operating activities.

3.4.12. Exploration and extraction of mineral resources

Within the framework of exploration and extraction of mineral resources, the following classification of stage was made:

Stage of exploration and assessment of mineral resources include:

  • Acquisition of rights to explore and extract, exploration and recognition of resources are recognized according to the successful efforts method.
  • expenditures for exploratory and recognition drillings and other expenditures (including acquisition of seismic data, their processing, interpretation of geological and geophysical data),
  • other costs which are directly attributable to the phase of exploration and recognition and are subject for capitalization. If the direct attribution is not possible, other costs are recognized in profit or loss when incurred.

The Group shall review annually expenditures incurred in the stage of exploration and recognition of mineral resources in order to confirm the intention of further work. If the work of the exploration and recognition is unsuccessful, the cost previously recognized as an asset are recognized as cost of a current period.

Expenditure incurred in the exploration and recognition of resources (including unsuccessful drillings) are transferred from assets related to exploration and evaluation of mineral resources and are recognized as assets related to planning and extraction of mineral resources within property, plant and equipment at the moment of the conclusion of their technical feasibility and economic viability of mining.

Stage of site planning and of extraction of mineral resources:

Expenditures incurred for mineral resource sites planning and extraction of resources are capitalized and amortised in line with general principles for property, plant and equipment and borrowing costs.

Depreciation of assets related to exploration and extraction of mineral resources recognized by applying unit of production method that means proportionally to the forecast amount of extraction of mineral resources. Similarly, property, plant and equipment included in the extractive infrastructure are depreciated by unit of production method based on recognition as cost the depreciation amount per unit of extracted mineral resources.

In case of significant change in estimated mineral resources, at the reporting date potential impairment allowances are recognized or reversed.

The Group creates provisions for the cost of removal of drillings and supporting infrastructure, which are recognized and valued in line with general principles for provisions. The amount of created provisions is verified at the end of each reporting period.

In case of performance of exploratory drillings on already extracted resource, the Group analyzes, if costs incurred enable rising new boreholes – expenditures are recognized in non-current assets at the date of put into use. If despite the expenditures, new boreholes do not rise, expenditures are recognized in costs of the current period.

3.4.13. Investment property

Investment property is measured initially at cost.

After initial recognition, the Group shall measure investment property at fair value using the comparison and revenue method depending on the nature of the investment.

Comparison approach is applied, assuming that the value of assessed property is equal to the price that can be obtained for a similar property in the market. In the revenue approach the calculations are based on discounted cash flows method. 5-year and 10-year forecast period was applied in the analysis for the most significant items. The following discount rate is used:

  • reflecting relation between annual revenue from an investment property and expenditures to be incurred for the purchase, of investment property, and
  • reflecting the level of risk associated with cash flows from the investment property in relation to other alternative investments on the capital market.

Forecasts of discounted cash flows relating to the valuated assets, consider conditions included in all rental agreements and external data such as current market rent charges for similar assets, being in the similar location, technical conditions, standard and designed for similar purposes.

3.4.14. Intangible assets

An intangible asset shall be measured initially at acquisition or production cost and shall be presented in the financial statements in its net carrying amount, including grants related to assets (IAS 20).

Intangible assets with the finite useful life are amortised using straight-line method. Amortization shall begin when the asset is available for use, i.e. when it is in the location and condition necessary for it to be capable of operating in the manner intended by management. The asset shall be amortised over the period reflecting its estimated useful life.

Standard useful lives of intangible assets are from 2 to 15 years for concessions, licenses, patents and similar and from 2 to 10 years for software.

The amortization method and useful life of intangible asset item are verified at least at the end of each year. When necessary, the adjustments to amortization expense are accounted for in the future periods (prospectively).

Intangible assets with an indefinite useful life shall not be amortised. Their value is decreased by the eventual impairment allowances. Additionally, the useful life of an intangible asset that is not being amortised shall be reviewed each period to determine whether events and circumstances continue to support an indefinite useful life assessment for that asset.

Recognition and reversal of impairment allowances on intangible assets is recognized in other operating activities.

3.4.14.1. Goodwill

Goodwill acquired in a business combination shall, from the acquisition date, be allocated to each of the acquirer's cash-generating units, (CGU), that is expected to benefit from the synergies of the combination, irrespective of whether other assets or liabilities of the acquiree are assigned to those units or groups of units.

The acquirer shall recognise goodwill as of the acquisition date measured as: the excess of a) over b) where:

The value of a) corresponds to the aggregate of:

  • the consideration transferred, which generally requires acquisition-date fair value,
  • the amount of any non-controlling interest in the acquire, and
  • in a business combination achieved in stages, the acquisition-date fair value of the acquirer's previously held equity interest in the acquiree.

The value of b) corresponds to:

  • the net of the acquisition-date amounts of the identifiable assets acquired and the liabilities assumed.

Occasionally, an acquirer will make a bargain purchase, which is a business combination in which the amount in point (b) exceeds the aggregate of the amounts specified in point (a). If that excess remains, after reassessment of correct identification of all acquired assets and liabilities, the acquirer shall recognise the resulting gain in profit or loss on the acquisition date as other operating profit for the period. The acquirer shall measure goodwill in the amount recognised at the acquisition date less any accumulated impairment allowances.

A cash-generating unit to which goodwill has been allocated shall be tested for impairment annually, and whenever there is an indication that the unit may be impaired. An impairment loss recognised for goodwill shall not be reversed in a subsequent period.

3.4.14.2. Rights

Carbon dioxide emission rights (CO2)

By the virtue of The Kyoto Protocol, the countries, which decided to ratify the Protocol, obliged themselves to reduce emissions of greenhouse gases, i.e. carbon dioxide (CO2).

In the European Union countries, the plants and companies, which reach productivity exceeding 20 MW and some other industrial plants were obliged to participate in emissions trading system. All of them acquire emission rights to CO2 or they are partially granted free of charge in a specified quantity under the derogations provided in article 10a and 10c of the EU Directive 2009/29/EC and are obliged to redeem them in a number corresponding to the size of emission realized in a given year.

CO2 emission rights are initially recognized as intangible assets, which are not amortised (assuming the high residual value), but tested for impairment.

Granted emission allowances should be presented as intangible assets in correspondence with deferred income at fair value as at the date of registration (grant in scope of IAS 20). Purchased allowances should be presented as intangible assets at purchase price.

For the estimated CO2 emission during the reporting period, a provision should be created (taxes and charges).

Grants should be recognized on a systematic basis to ensure proportionality with the related costs which the grants are intended to compensate.

Outgoing of allowances is recognized using FIFO method (First In, First Out) within the individual types of rights (EUA, ERU, CER).

3.4.15. Impairment of non-current non-financial assets

At the end of the reporting period, the Group assesses whether there are any indicators that an asset or cash-generating unit (CGU) may be impaired or any indicators that the previously recognized impairment should be reversed.

If any indicator exists, the Group estimates the recoverable amount of such asset or CGU by determining the greater of its fair value less costs of disposal or value in use by applying the proper discount rate.

Assets that do not generate the independent cash flows are grouped on the lowest level on which cash flows, independent from cash flows from other assets, are generated (CGU). If such case occurs, the recoverable amount is determined on the CGU level, to which the asset belongs.

In the estimation of value in use, the expected cash flows resulted from the most recent and approved financial plan, and thereafter the Group assumed constant rate of cash flow growth, estimated at the level of long-term inflation. Expected cash flows were discounted to their present value using a discount rate calculated as a weighted average cost of engaged equity and debt, before tax, which reflected the current market estimation of time value of money in and the risk specific to the asset.

3.4.16. Inventories

Inventories, including mandatory reserves comprise products, semi-finished products and work in progress, merchandise and materials.

Finished goods, semi-finished products and work in progress are measured initially at production cost. Production costs include costs of materials and costs of conversion for the production period. Costs of production include also a systematic allocation of fixed and variable production overheads estimated for normal production level.

Finished goods, semi-finished products and work in progress shall be measured at the end of the reporting period at the lower of cost and net realizable value, after deducting any impairment losses.

Outgoings of finished goods, semi-finished products and work in progress is determined based on the weighted average cost of production. Merchandise and materials are measured initially at acquisition cost, while as at the end of the reporting period merchandise and raw materials are measured at the lower of cost and net realizable value, considering any impairment allowances. Outgoings of merchandise and raw materials is determined based on the weighted average acquisition cost or production cost formula.

Impairment tests for specific items of inventories are carried out on a current basis during a reporting period. Write-down to net realizable value concerns inventories that are damaged or obsolete and the selling price have fallen. Raw materials held for use in the production are not written down below acquisition or production cost if the products in which they will be incorporated are expected to be sold at or above cost.

However, when a decline in the price of materials indicates that the cost of the products exceeds net realizable value, the materials are written down to net realizable value.

Recognition and reversal of impairment loss of inventories is recognized in cost of sales.

3.4.17. Receivables

Receivables, including trade receivables, are recognized initially at fair value increased by transaction costs and subsequently at amortised cost using the effective interest method less impairment allowances.

Impairment allowances of receivables are based on the individual analysis on the value of held collaterals, and based on the possible compensation of debts, allowances.

Recognition and reversal of impairment losses on receivables are recognized in other operating activity in relation principal amount and in financial activities in relation to interest for delay payments.

3.4.18. Cash and cash equivalents

Cash comprises cash on hand and in a bank accounts. Cash equivalents are short-term highly liquid investments (of initial maturity up to three months), that are readily convertible to known amounts of cash and which are subject to an insignificant risk of change in value.

Valuation and outflows of cash and cash equivalents in foreign currencies are based on FIFO (First In First Out) method.

3.4.19 Equity

3.4.19.1. Share capital

The share capital is an equity paid by shareholders and is stated at nominal value in accordance with the Parent Company’s of association and the entry in the Commercial Register.

Share capital as at 31 December 1996, in accordance with IAS 29, § 24 and 25, was revalued based on monthly price indices of consumer goods and services.

3.4.19.2. Share premium

Share premium is created by the surplus of the issuance value in excess of the nominal value of shares decreased by issuance costs. Capital from issue of shares above their nominal value as at 31 December 1996, in accordance with IAS 29, § 24 and 25, was revalued based on monthly price indices of consumer goods and services.

3.4.19.3. Hedging reserve

Hedging reserve relates to valuation and settlement of hedging instruments that meet the criteria of cash flow hedge accounting. The Group applies cash flow hedge accounting to hedge commodity risk, exchange rate risk and interest rate risk. Changes in fair value, which are an ineffective part of the hedge relationship, are recognized in statement of profit or loss.

3.4.19.4. Retained earnings

Retained earnings include:

- reserve capital created and used in accordance with the Commercial Companies Code,

- actuarial gains and losses from post-employment benefits,

- the current reporting period profit/loss,

- other capitals created and used according to the rules prescribed by law.

3.4.20. Liabilities

Liabilities, including trade liabilities, are initially measured at fair value, increased by, in case of financial liability not qualified as those measured at fair value through profit or loss, transaction cost and subsequently, at amortised cost using the effective interest rate method.

3.4.21. Provisions

The amount recognized as a provision is the best estimate of the expenditure required to settle the present obligation at the end of the reporting period.

The provisions are reviewed on a regular basis during reporting period and adjusted to reflect the current best estimate.

Provisions are not recognized for the future operating losses.

3.4.21.1. Environmental provision

The Group creates provisions for future liabilities due to reclamation of contaminated land or water or elimination of harmful substances if there is such a legal or constructive obligation. Environmental provision for reclamation is periodically reviewed on the basis of contaminated assessment.

3.4.21.2. Jubilee bonuses and post employment benefits

Under the remuneration plans employees of the Group are entitled to jubilee bonuses, paid to employees after elapse of a defined number of years in service as well as retirement and pension benefits, paid once at retirement or pension. The amount of retirement and pension benefits as well as jubilee bonuses depends on the number of years in service and an employee’s average remuneration.

The jubilee bonuses are other long-term employee benefits, whereas retirement and pension benefits are classified as post-employment defined benefit plans.

Provisions are determined by an independent actuary and revalued if there are any indications impacting their value, taking into account the staff turnover and planned growth of wages.

Actuarial gains and losses from post-employment benefits are recognized in components of other comprehensive income and from other employment benefits, including jubilee awards, are recognized in the statement of profit or loss.

3.4.21.3. Shield programs

Shield programs provision (restructuring provision) is created when the Group started to implement the restructuring plan or announced the main features of the restructuring plan to those affected by it in a sufficiently specific manner to raise a valid expectation in them that the restructuring will be carried out. A restructuring provision shall include only the direct expenditures arising from the restructuring, i.e. connected with the termination of employment (paid leave payments and compensations), termination of lease contracts, dismantling of assets.

3.4.21.4. CO2 emissions costs

The Group recognizes provision for the estimated CO2 emission during the reporting period in operating activity costs (taxes and charges). Provision is recognizes based on the value of allowances recognized in the statement of financial position, taking into account the principle of FIFO (first in, first out). If there is a shortage of allowances, the provision is created based on the purchase price of allowance concluded in forward contracts and market quotations at the reporting date.

3.4.21.5. Other provisions

Other provisions include mainly provisions for legal proceedings and are recognized after consideration of all available information, including the opinions of independent experts. The Group recognizes a provision if the existence of the obligation at the end of the reporting period, based on evidence is more likely than not.

If it is more likely that no obligation exists at the end of the reporting period, the Group discloses a contingent liability, unless the possibility of an outflow of resources embodying economic benefits is remote.

3.4.22. Government grants

Government grants are transfers of resources to the Group by government, government agencies and similar bodies in return for past or future compliance with certain conditions.

Government grants are recognized if there is reasonable assurance that the grants will be received and the entity will comply with the conditions attaching to them.

Grants for cost position (e.g. the cost of CO2 emissions) are recognized as a reduction of costs as they are incurred. Surplus of received grants over the value of the relevant costs are recognized in other operating income.

Government grants related to assets are recognized as a decrease of a carrying amount of an asset and as a revenue over the useful life of the amortised asset through the decreased depreciation and amortisation charges.

3.4.23. Consolidated statement of cash flows

The Group has chosen the presentation within the statement of cash flows and applies the following rules:

- cash flows from operating activities using the indirect method,

- the components of cash and cash equivalents in the consolidated statement of cash flows and consolidated statement of financial position are the same,

- dividends received are presented in cash flows from investing activities,

- dividends paid to shareholders of the parent company and non-controlling interest are presented in cash flows from financing activities,

- interest and commissions paid on bank loans and borrowings received, debt securities issued, finance leases are presented in cash flows from financing activities, other interest paid is presented in cash flows from operating activities,

- inflows and outflows from the settlement of derivative financial instruments, which are not recognized as a hedging position are presented in investing activities.

3.4.24. Financial instruments

3.4.24.1. Measurement of financial assets and liabilities

At initial recognition, the Group measures financial assets and liabilities at its fair value plus, in the case of a financial asset or a financial liability not at fair value through profit or loss, transaction costs that are directly attributable to the acquisition or issue of the financial asset or financial liability.

At the end of the reporting period the Group measures loans and receivables including trade receivables at amortised cost using effective interest rate method. Effective interest is the rate which discounts estimated future cash flows or payments made in expected periods until financial instrument expiration, and in justified situations in shorter period, up to net book value of financial asset or liability.

At the end of the reporting period the Group measures its financial liabilities at amortised cost using the effective interest rate method.

3.4.24.2. Transfers

In the Group there were no particular circumstances for the reclassification of the financial instruments measured at fair value through profit or loss.

3.4.24.3. Hedge accounting

Derivatives designated as hedging instruments whose cash flows are expected to offset changes in the cash flows of a hedged item are accounted for in accordance with the cash flow hedge accounting.

The Group assess effectiveness at the inception of the hedge and later, at minimum, at each reporting date. The Group assess hedge as effective, for external reporting purposes only if the actual results of the hedge are within a range of 80% - 125%.

The Group uses statistical methods, in particular regression analysis, to assess effectiveness of the hedge. The Group uses simplified analytical methods, when a hedged item and a hedging instruments are of the same nature i.e. maturity dates, amounts, changes affecting fair value risk or cash flow changes.

If a hedge of a forecast transaction subsequently results in the recognition of a financial asset or a financial liability, the associated gains or losses that were recognized in other comprehensive income are reclassified to profit or loss in the same period or periods during which the asset acquired or liability assumed affects profit or loss.

However, if the Group expects that all or a portion of a loss recognized in other comprehensive income will not be recovered in one or more future periods, it reclassifies to profit or loss the amount that is not expected to be recovered.

If a hedge of a forecast transaction subsequently results in the recognition of a non-financial asset or a non-financial liability, or a forecast transaction for a non-financial asset or non-financial liability becomes a firm commitment for which fair value hedge accounting is applied, the Group removes the associated gains and losses that were recognized in the other comprehensive income and includes them in the initial cost or other carrying amount of the asset or liability.

If a hedge of a forecast transaction results in the recognition of revenue from sales of products, merchandise, materials or services, the Group removes the associated gains or losses that were recognized in the other comprehensive income and adjusts these revenues.

3.4.25. Fair value measurement

The Group maximizes the use of relevant observable inputs and minimizes the use of unobservable inputs to meet the the objective of fair value measurement, which is to estimate the price at which an orderly transaction to transfer the liability or equity instrument would take place between market participants as at the measurement date under current market conditions.

The Group measures derivative instruments at fair value using valuation models for financial instruments based on generally available exchange rates, interest rates, forward and volatility curves, for currencies and commodities quoted on active markets.

Fair value of derivatives is based on discounted future flows related to contracted transactions as a difference between term price and transaction price.

Forward rates of exchange are not modeled as a separate risk factor, but they are calculated as a result of spot rate and forward interest rate for foreign currency in relation to PLN.

Derivative instruments are presented as assets, when their valuation is positive and as liabilities, when their valuation is negative. Gains and losses resulting from changes in fair value of derivative instruments, for which hedge accounting is not applicable, are recognised in a current year profit or loss.

As compared to the previous reporting period the Group has not changed valuation methods concerning derivative instruments.

3.4.26. Lease

A lease is an agreement whereby a lessor conveys to the lessee in return for a payment or series of payments the right to use an asset for an agreed period of time. Particularly leases are the agreements defined in the Polish Civil Code as well as rent and tenancy agreements concluded for a definite time.

Assets used under the operating lease, that is under the agreement that does not transfer substantially all the risks and rewards incidental to ownership of an asset to the lessee, are recognised as assets of the lessor. Determining whether the transfer of risks and rewards exists depends on the assessment of essence of the economic substance of the transaction.

3.4.27. Contingent liabilities

Contingent liabilities are not recognized in the statement of financial position, but are disclosed in the financial statements, unless the possibility of outflow of economic benefits is remote.