Results of operations for the 1st quarter 2017 M

MANAGEMENT REPORT

CHAIRMAN'S SUMMARY

In the 1 ^st quarter of 2017 the operational and financial performance of the Company’s has been excellent. All key performance indicators are on track and overall network leakage is below 14%, which represents the best performance in the Company’s history and a testament of all the hard work done by AS Tallinna Vesi staff and targeted Capital investments.

The water quality in the 1 ^st quarter of 2017 was 100% compliant based on the 738 samples taken and 6,160 analysis made.

Besides providing quality drinking water, we are also responsible for a wastewater discharge service to nearly one third of Estonia’s population (460,000). It is therefore extremely important that the wastewater treatment plant in Paljassaare works effectively and in accordance with the stipulated quality requirements, set by the Estonian Ministry of Environment. Throughout the 1 ^st quarter of 2017, the final effluent leaving Paljassaare was 100% compliant with all stipulated requirements.

We continue to make targeted capital investments, renovating or replacing assets based on previous condition surveys and performance data, to ensure the continued reliability of the infrastructure. This includes the 5+5 programme, where 5 km of drinking water and 5 km wastewater network are replaced each year.

Delivering good operational and financial performance is only possible through the continued motivation, commitment and performance of AS Tallinna Vesi staff. We remain focused on the development and training of our employees and ensuring appropriate succession plans are in place.

OPERATIONAL INDICATORS FOR THREE MONTHS OF 2017

   CONTRACTUAL HIGHLIGHTS

• Tariffs of AS Tallinna Vesi continue to be on the same level, based on a temporary injunction granted by the Court for the period of court proceedings back in 2011.
• The Company was privatised in 2001, with the support and knowledge of the Estonian national government.

• At the end of May 2012, the District Court ruled that AS Tallinna Vesi’s Services Agreement, which was part of the international privatisation, is a public law contract.
• AS Tallinna Vesi believes that the terms and conditions of the international privatisation contract, that has previously been deemed a public law contract, should be protected by the Estonian legal system.
• In May 2014, AS Tallinna Vesi submitted a claim against the Competition Authority to the Tallinn Administrative Court to avoid the expiry of monetary claims. The Company is claiming compensation for potential damages over the lifetime of the international privatisation contract, up until 2020. The claim is based on estimated future volumes and level of consumer price index (CPI). In recent years, CPI has been lower than at the time the claim was originally calculated, with a current undiscounted value of EUR 73 million, compared to the original of EUR 90 million.
• On 5 ^th of June 2015, the Tallinn Administrative Court dismissed the Company’s complaint in the local tariff dispute. The reasoning for the dismissal, was not made disclosed until 12 ^th of October 2015. Tallinn Administrative Court, formed an opinion that the tariffs part of the Services Agreement, which has been deemed to be as a public law contract by the Estonian Courts in 2012, is not binding on the Competition Authority. AS Tallinna Vesi filed the appeal to the Tallinn District Court on 11 ^th of November 2015.
• On 23 ^rd November 2016, the hearing in District Court took place and on the 26th January 2017, the District Court dismissed AS Tallinna Vesi’s appeal.
• The Company submitted its Cassation to the Court on 27 ^th February 2017, and is currently awaiting a decision as to whether or not the case will be heard.
• I n October 2014, in parallel to the local dispute about tariffs, AS Tallinna Vesi and its shareholder United Utilities (Tallinn) B.V have commenced international arbitration proceedings against the Republic of Estonia, for breaching the international treaty and more specifically “the fair and equitable treatment ” requirement by changes to the law and activities of the public authorities which have deprived AS Tallinna Vesi of tariffs approved according to the Services Agreement concluded as part of the privatisation in 2001. The arbitration will be carried out through the International Centre for the Settlement of Investment Disputes (ICSID), which is part of the World Bank Group.
• On 17 ^th of June 2015, the timetable of the International Arbitration Proceedings was determined. Procedural orders and decisions issued during the arbitration process, subject to the redaction of the confidential information, are available on the ICSID website .
• International Arbitration Proceedings are being held in parallel, and are not linked to the local dispute .
• In February 2016, the Republic of Estonia submitted their Memorial, with AS Tallinna Vesi and United Utilities (Tallinn) B.V, responding with their counter Memorial in June 2016 to which Government of Estonia submitted their rejoinder in September 2016.
• The International Arbitration hearings were held on 7-11 and 14-15 November 2016 in Paris.
• Both parties submitted their Post Hearing Briefs in February 2017, with the final verdict expected in the summer of 2017.
• AS Tallinna Vesi has continuously stated its belief in fully transparent regulation, and its willingness to enter into meaningful and evidence-based dialogue, which takes into account the privatisation contract that was originally signed back in 2001.

FINANCIAL HIGHLIGHTS FOR THE 1 ^st QUARTER 2017

The Group’s sales revenues during the 1 ^st quarter of 2017 were EUR 13.78 million, being down by 4.1% or EUR 0.59 million compared to the same period in 2016.

The gross profit in the 1 ^st quarter of 2017 was EUR 8.21 million, showing a decrease of 1.5% or EUR 0.13 million. Decrease in gross profit was mainly related to lower storm water revenues and profit from construction and asphalting services, higher electricity costs and other costs of goods sold costs. It was balanced by higher water and wastewater revenues and by lower depreciation and pollution tax expenses.

The operating profit was EUR 6.49 million, showing a decrease of 2.2% or EUR 0.15 million. The operating profit was mostly impacted by the above mentioned changes in gross profit.

The net profit for the 1 ^st quarter of 2017 was EUR 6.36 million, being higher by 12.8% or EUR 0.72 million. The net profit was mainly impacted by above mentioned changes in operating profit, balanced by lower financial expenses, which in itself were mostly influenced by the positive change in the fair value of swap contracts in the 1 ^st quarter of 2017 compared to the negative change in the same quarter of 2016. The net profit for the 1 ^st quarter of 2017 and 2016 without the impact resulted from the change of the fair value of swap contracts was EUR 6.11 million and EUR 6.29 million respectively, being lower by 3.0% or EUR 0.19 million year-on-year.

MAIN FINANCIAL INDICATORS

Gross profit margin – Gross profit / Net sales

Operating profit margin – Operating profit / Net sales

Net profit margin – Net profit / Net sales

ROA – Net profit / Average Total assets for the period

Debt to Total capital employed – Total liabilities / Total capital employed

ROE – Net profit / Total equity

Current ratio – Current assets / Current liabilities

Main business – water and wastewater activities, excl. connections profit and government grants, construction, design and asphalting services, doubtful debt

FINANCIAL RESULTS FOR THE 1 ^st QUARTER 2017

STATEMENT OF COMPREHENSIVE INCOME

SALES

As the Company’s tariffs are frozen at the 2010 tariff level, the changes in the main activities revenues, i.e. from sales of water and wastewater services, are fully driven by consumption with no considerable seasonality in the main business. The Company does not expect significant changes in the consumption in future. There has been incremental increase in consumption in the past and that is expected to continue.

In the 1 ^st quarter of 2017 the Group’s total sales were EUR 13.78 million, showing a decrease by 4.1% or EUR 0.59 million year-on-year. 92.4% of sales comprise of sales of water and wastewater services to domestic and commercial customers within and outside of the service area. 5.4% of sales are the fees received from the City of Tallinn for operating and maintaining the storm water system and fire hydrants, 1.3% from construction and asphalting services and 1.0% from other works and services. The construction and asphalting services sales are more seasonal and the Company continues to seek possibilities to keep and to grow these services revenues.

Sales from water and wastewater services were EUR 12.73 million, showing a 1.6% or EUR 0.21 million increase compared to the 1 ^st quarter of 2016, resulting from the changes in sales volumes as described below:

• There has been an increase in private customers’ revenues by 0.1% to EUR 6.35 million. The increase in domestic customer consumption volumes came from apartment blocks, which is also our biggest private customer group. At the same time, there was a slight in individual houses and other customer groups.
• Sales to corporate customers within the service area increased by 3.7% to EUR 5.06 million. Increase was mostly related to increase in sales of industrial and leisure segments.
• Sales to customers outside the main service area have shown a decrease by 1.9% to EUR 1.11 million. It was mainly driven by decrease in storm water revenues by 36.8% to EUR 0.10 million, due to lower snow melting water and stormwater volumes in the 1 ^st quarter of 2017. While there has been a decrease in storm water sales, the sales of water supply and waste water disposal services to outside areas in total have increased.
• Over pollution fees received have increased by 22.8% to EUR 0.21 million.

Sales from the operation and maintenance of the main service area storm water and fire hydrant system were EUR 0.74 million, showing a decrease of 21.6% or EUR 0.20 million in the 1 ^st quarter of 2017 compared to the same period in 2016.

Sales of construction, design and asphalting services were EUR 0.18 million, decreasing by 76.2% or EUR 0.58 million year-on-year. The decrease was related to lower pipe construction services revenues during the 1 ^st quarter of 2017.

COST OF GOODS/ SERVICES SOLD AND GROSS PROFIT

The cost of goods sold amounted to EUR 5.57 million in the 1 ^st quarter of 2017, showing 7.6% or EUR 0.46 million decrease compared to the equivalent period in 2016. The cost decrease is mainly influenced by decrease in construction and asphalting services related costs and also by lower depreciation and pollution tax expenses, which was partly balanced by higher electricity and other costs of goods sold costs.

Total direct production costs (water abstraction charges, chemicals, electricity and pollution tax) were EUR 1.78 million, being on same level as last year same period. Changes in direct production costs came from a combination of changes in prices and in treated volumes that affected the cost of goods sold together with the following additional factors:

• Water abstraction charges increased by 1.7% to EUR 0.30 million, driven mainly by increase in treated volumes.
• Chemicals costs decreased by 2.6% to EUR 0.33 million, driven mainly by lower usage of coagulant and methanol in the wastewater treatment process, worth in total EUR 0.07 million. Savings were balanced by 17.7% higher methanol price and 13.5% higher coagulant price, worth in total EUR 0.02 million, and higher use of polymers, worth EUR 0.03 million. Lower total year-on-year chemicals costs in wastewater treatment process were offset by increase in usage of different chemicals in water treatment due to higher treated water volumes and higher dosage of different chemicals due to poor raw water quality, worth in total EUR 0.02 million.
• Electricity costs increased by 5.4% to EUR 0.85 million. It was related to on average 8.0% higher electricity prices, worth EUR 0.07 million, balanced by decrease in treated wastewater volumes, worth EUR 0.02 million.
• Pollution tax expense decreased by 13.1% to EUR 0.29 million, mainly due to decrease in treated wastewater volumes, balanced by higher pollution load of different pollutants.

Other costs of goods sold (staff costs, depreciation, construction and asphalting services costs and other costs of goods sold) amounted to EUR 3.80 million, having decreased by 10.7% or EUR 0.46 million. The decrease came mostly from costs related to construction and asphalting services and depreciation, balanced by increase of other costs of goods sold. Decrease in construction and asphalting services costs by 79.6% to EUR 0.14 million was related to a decrease in construction and asphalting services revenues mentioned earlier. Other costs of goods sold increase is mainly related to timing of asset maintenance works and higher use of different rental mechanisms.

As a result of all above the Group’s gross profit for the 1 ^st quarter of 2017 was EUR 8.21 million, showing a decrease of 1.5% or EUR 0.13 million, compared to the gross profit of EUR 8.34 million for the comparative period of 2016.

ADMINISTRATIVE AND MARKETING EXPENSES

Administrative and marketing expenses were relatively stable amounting to EUR 1.67 million. The slight increase was related to some increase of the IT purchases and consultation costs. Increase was balanced by lower staff costs due to some vacancies and slightly lower tariff dispute related costs.

OPERATING PROFIT

As a result of the factors listed above the Group’s operating profit for the 1 ^st quarter of 2017 amounted to EUR 6.49 million, being 2.2% or EUR 0.15 million lower than in the corresponding period of 2016. The Group’s operating profit from main business was EUR 6.48 million, being 1.1% or EUR 0.07 million lower compared to 2016.

FINANCIAL EXPENSES

The Group’s net financial income and expenses have resulted a net expense of EUR 0.13 million, compared to net expense of EUR 1.00 million in the 1 ^st quarter of 2016. The decrease was mainly impacted by a positive change in the fair value of the swap contracts year-on-year, worth EUR 0.91 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 are still with floating interest rate. At this point in time the estimated fair value of the swap contracts is negative, amounting to EUR 1.07 million. Effective interest rate of loans (incl. swap interests) in the 1 ^st quarter of 2017 was 1.60%, amounting to interest costs of EUR 0.38 million, compared to the effective interest rate of 1.47% and the interest costs of EUR 0.35 million in the 1 ^st quarter of 2016.

PROFIT BEFORE TAXES AND NET PROFIT

The Group’s profit before taxes and net profit for the 1 ^st quarter of 2017 were EUR 6.36 million, being 12.8% or EUR 0.72 million higher than for the 1 ^st quarter of 2016. Eliminating the effects of the change in derivatives fair value, the Group’s net profit for the 1 ^st quarter of 2017 would have been EUR 6.11 million, showing a decrease by 3.0% or EUR 0.19 million compared to the relevant period in 2016.

STATEMENT OF FINANCIAL POSITION

In the three months of 2017 the Group invested into fixed assets EUR 2.21 million. As of 31.03.2017, non-current tangible assets amounted to EUR 171.88 million and total non-current assets amounted to EUR 172.70 million (31.03.2016: EUR 163.12 million and EUR 163.91 million respectively).

Compared to the year end of 2016 the trade receivables, accrued income and prepaid expenses have shown a decrease in the amount of EUR 0.26 million to EUR 6.91 million. The collection rate of receivables continues to be high, being 99.4% compared to 99.8% in the 1 ^st quarter of 2016.

Current liabilities have decreased by EUR 2.23 million to EUR 8.41 million compared to the year end of 2016. Decrease mainly derives from decrease in trade and other payables by EUR 1.90 million and decreased prepayments of connections in construction process by EUR 0.31 million. It is related to decreased construction activities and investments related liabilities.                                                                                                                          

Deferred income from connection fees has grown compared to the end of 2016 by EUR 1.12 million to EUR 18.17 million.

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

The Group has a Total debt to assets level as expected of 56.2%, in range of 55%-65%, reflecting the Group’s equity profile. This level is consistent with the same period in 2016, when the Total debt to assets ratio was also 56.2%.

CONTINGENT LIABILITY REGARDING THE TARIFF RISK

In the 4 ^th quarter of 2011 the Group evaluated and noted an exceptional off-balance sheet contingent liability, which could cause an outflow of economic benefits of up to EUR 36 million. In the 1 ^st quarter of 2017 the Group re-evaluated the liability, which now stands at EUR 43 million (4 ^th quarter of 2016 EUR 43 million), as per note 14 to the accounts.

CASH FLOW

As of 31.March 2017, the cash position of the Group is strong. At the end of March 2017 the cash balance of the Group stood at EUR 38.51 million, which is 17.6% of the total assets (31. March 2016: EUR 44.17 million, forming 20.5% of the total assets).

The biggest contribution to the cash flows comes from main operations. During the three months of 2017, the Group generated EUR 7.22 million of cash flows from operating activities , a decrease of EUR 1.54 million compared to the corresponding period in 2016. Underlying operating profit continues to be the main contributor to operating cash flows.

In the three months of 2017 the result of net cash flows from investing activities was a cash outflow of EUR 2.27 million, an increase of EUR 0.22 million compared to the cash outflow of EUR 2.05 million in the three months of 2016. This is made up as follows:

• The cash outflows from investments in fixed assets have increased by EUR 0.93 million compared to 2016 amounting to EUR 3.17 million.
• The compensations received for the construction of pipelines were EUR 0.87 million, showing an increase of EUR 0.72 million compared to the same period of 2016.

In the three months of 2017 cash outflow from financing activities amounted to EUR 0.42 million, increasing by EUR 0.07 million compared to the same period in 2016. The change was mainly related to increase in interest payments by EUR 0.06.

EMPLOYEES

We believe it is important to treat our employees equally, involve them in the decision-making process and to inform them regularly. We consider the involvement of our staff in the decision-making process instrumental for them to understand and be able to support the Company in its pursuits. Our staff can vary to a large degree in age, nationality, nature of work and in many other aspects. This requires us to be resourceful and flexible in our communication with the staff in order to involve, engage and listen to them. This is done using several opportunities and channels of communication, such as regular staff meetings with the management, information boards, intranet, informative letters, team events and a quarterly internal newsletter. Estonian is not a communication language for quite a number of our staff. Therefore, we organise Estonian classes at the Company’s expense to make the staff, whose mother tongue is not Estonian, also feel as part of our unified team. At the same time, we provide the majority of important information also in Russian.

We have described our human resource 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 they have access to the same opportunities as is reasonable and 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, sexual orientation or marital status.

At the end of the 1 ^st quarter of 2017, the total number of employees was 312 compared to 319 at the end of the 1 ^st quarter of 2016. The full time equivalent (FTE) was respectively 303 in 2017 compared to the 307 in 2016. Average number of employees (FTE) during the three months was respectively 301 in 2017 and 310 in 2016.

By gender, employee allocation was as follows:

The total salary costs were EUR 2.05 million for the 1 ^st quarter of 2017, including EUR 0.08 million paid to Management and Supervisory Council members (excluding social taxes). 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 the shareholders is recorded as a liability in the financial statement of the Company at the time when the profit allocation and dividend payment is confirmed by the annual general meeting of shareholders.

The dividend policy has been related keeping the dividends in real term i.e. dividends amounts have been increased in line with inflation. Every year the Supervisory Board evaluates the proposal of the dividends to be paid out to the shareholders and approves it to be presented to the voting to the Annual General Meeting of shareholders, considering all circumstances.

The Annual General Meeting of Shareholders will be held on 01 ^st June 2017. Dividends will be paid out in June 2017.

SHARE PERFORMANCE

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

As of 31.03.2017, AS Tallinna Vesi shareholders, with a direct holding over 5%, were:   

During the three months of 2017 the shareholder structure has been relatively stable compared to the end of 2016 . At the end of 1 ^st quarter 2017 the pension funds shareholding has stayed the same, being 2.1% of the total shares, compared to the end of 2016.

As of 31.03.2017, the closing price of AS Tallinna Vesi share was EUR 14.00, which is 1.4% (2016: 7.2%) higher compared to the closing price of EUR 13.80 at the beginning of the quarter. During the 1 ^st quarter the OMX Tallinn index increased by 4.3% (2016: 8.0%).

In the three months of 2017, 1,784 deals with the Company’s shares were concluded (2016: 1,514 deals) during which 246 thousand shares or 1.2% of total shares exchanged their owners (2016: 258 thousand shares or 1.3%).

The turnover of the transactions was EUR 0.22 million lower than in 2016, amounting to EUR 3.39 million.

CORPORATE STRUCTURE

As of 31 ^st March 2017, the Group consisted of 2 companies. The subsidiary Watercom OÜ is wholly owned by AS Tallinna Vesi and consolidated to the results of the Company.

CORPORATE GOVERNANCE

SUPERVISORY COUNCIL

Supervisory Council plans and organises the management of the Company and supervises the activities of the Management Board. According to AS Tallinna Vesi articles of association Supervisory Council consists of 9 members, who are appointed for two years. There has been no changes in Supervisory Council members in the 1 ^st quarter of 2017. Tallinn City reappointed Mr Toivo Tootsen with the powers of the Supervisory Council Member until 06 ^th April 2019.

Supervisory Council has formed three committees to advise Supervisory Council on audit, remuneration and corporate governance matters.

More information about the Supervisory Council and committees can be found in the note 12 to the financial statements as well as from the Company’s webpage:

https://www.tallinnavesi.ee/en/about-us/corpo...y-council/

http://tallinnavesi.ee/en/Investor/Corporate-...-Committee

http://tallinnavesi.ee/en/Investor/Corporate-...nce-Report

MANAGEMENT BOARD

Management Board is a governing body, which represents and manages AS Tallinna Vesi in its daily operations in accordance with the legal requirements as well as the Articles of Association. The Management Board must act economically in the most efficient way taking into consideration the interest of the Company and its shareholders and ensure the sustainable development of the Company in accordance with the set objectives and strategy.

To ensure that the company’s interests are met in the best way possible, the Management and Supervisory Boards shall extensively collaborate. Meetings of Management and Supervisory Board members are held at least once a quarter. In those meetings the Management Board informs the Supervisory Council about all significant issues in Company’s business operations, the fulfilment of the company’s short and long-term goals are being discussed and the risks impacting them. For every meeting of the Management Board prepares report and submits the report in advance with the sufficient time for the Supervisory Board to study it.

According to the Articles of Association the Management Board consists of 2-5 members, who are elected for 3 years.

Starting from 2 ^nd of June 2014 there are 3 members of the Management Board of AS Tallinna Vesi: Karl Heino Brookes (Chairman of the Board, with the powers of the Management Board Member until 21 ^st March 2020), Aleksandr Timofejev (with the powers of the Management Board Member until 29 ^th October 2018) and Riina Käi (with the powers of the Management Board Member until 29 ^th October 2018).

Additional information on the members of the Management Board can be found from the Company’s website:

http://tallinnavesi.ee/en/Investor/Corporate-...ment-Board

FUTURE ACTIONS & 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 have 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 as three years of intensive negotiation to try and reach an amicable settlement that has not happened.

The hearings of international arbitration took place in Paris in November 2016 and the decision is expected in 2017.

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

https://newsclient.omxgroup.com/cdsPublic/vie...eId=754811

https://newsclient.omxgroup.com/cdsPublic/vie...eId=779161

DISCLOSURE OF RELEVANT PAPERS AND PERSPECTIVES

The Company will keep the investment community informed of all relevant developments of the tariff dispute, both locally as well as internationally. AS Tallinna Vesi has published all relevant materials on its website ( http://www.tallinnavesi.ee/en/Investor/Regulation and https://www.tallinnavesi.ee/en/investor/stock-announcements ) and to the Tallinn Stock Exchange.

At this point in time the Company will not speculate on future developments and possible outcomes or timing of the proceedings.

         Karl Heino Brookes          Chairman of the Management Board          +372 62 62 200          karl.brookes@tvesi.ee