Results of Operations for the 1st half-year 2013

MANAGEMENT REPORT

Contractual Highlights

• AS Tallinna Vesi tariffs continue to be on the same level based on temporary injunction granted by the Court for the period of court proceedings to protect the Company from the unilateral breach of privatization agreement by Estonian Authorities. At the end of May 2012 the District Court ruled that AS Tallinna Vesi’s Services Agreement, that was part of the international privatisation, is a public law contract, overturning the Competition Authority’s claim that the tariff mechanism specified in the Services Agreement is allegedly a civil law agreement that the company cannot rely on in an administrative court.   AS Tallinna Vesi firmly believes that the terms and conditions of the international privatisation contract that has been deemed a public law contract should not be broken simply by transferring the duties of the regulator from one state institution (the City of Tallinn) to a different state institution (the Competition Authority). A public law contract should enjoy the protection of the Estonian legal system, should the contract not honoured then the company will have a claim against the Estonian state.
• AS Tallinna Vesi would like all its shareholders to be fully aware of the facts that the Company was privatised i n 2001 with the full support and knowledge of the Estonian national government, with written confirmations from the Prime Minister, the Minister of Finance, and the Competition Authority itself regarding the key terms of the agreements, and utilising the expertise and guidance of the European Bank for Reconstruction and Development (EBRD). In addition to approving the framework of the privatisation the State of Estonia directly benefited as the sovereign guarantee it had been required to provide to EBRD to secure the then municipal AS Tallinna Vesi’s loans was passed to the Strategic Investor on privatisation. As this privatisation and these loans were EBRD sponsored projects, then the state of Estonia was required to object if the project did not comply with the PWSSA, it is noteworthy that it did not, in fact it voted in favour of both the privatisation and loan re-financing.
• During the 1 ^st quarter of 2013 initial court proceedings commenced. The next court hearing is due to take place on 13 August 2013 AS Tallinna Vesi believes in open and transparent regulation and requested open court proceedings. On the other hand, the Competition Authority believes its methodology to be a “business secret” hence it requested closed court proceedings. On 20 ^th of March 2013 the Administrative Court rules that the court proceedings would be partially closed, meaning that there could be no public discussion of the Competition Authority’s methodology, whilst all other aspects of the hearing will be  held in open proceedings, i.e all information can be made available to the public.
• Discussion of the complaint submitted to the EU Commission is on-going.
• Average real return on capital invested at privatization is still 6.2% since 2001.

The Company has continuously stated its belief in fully transparent regulation and its willingness to enter into meaningful and evidence-based dialogue that takes into account the privatization contract signed in 2001.

RESULTS OF OPERATIONS - FOR THE 1 ^st HALF-YEAR 2013

Financial highlights of 2 ^nd quarter 2013

In the 2 ^nd quarter of 2013 the Company’s underlying performance in general was good, the Company is continuously focused on the improvement of operational performance and customer service.

During the 2 ^nd quarter of 2013 the Company’s total sales increased, year on year, by 2.6% to 13.5 mln euros. Sales of water and wastewater treatment were up by 2.8% to 12.2 mln euros compared to the 2 ^nd quarter of 2012.

The operating profit from the Company’s main business activity decreased by 0.6 mln euros or 8.7% to 5.7 mln euros during the 2 ^nd quarter of 2013 compared to the 2 ^nd quarter of 2012, mainly due to the increase in the variable costs, which is in more detailed explained below.

The Company’s profit before taxes for the 2 ^nd quarter in 2013 was 6.4 mln euros, which is a 0.8 mln euros or 13.2% increase compared to the relevant period in 2012. The Company’s net profit for 2 ^nd quarter of 2013 was 1.7 mln euros, which is 0.5 mln euros or 50.4% larger than the net profit of 1.2 mln euros in the equivalent period in 2012.

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

Profit and Loss Statement

2 ^nd quarter 2013

Sales

In the 2 ^nd quarter of 2013 the Company’s total sales increased, year on year, by 2.6% to 13.5 mln euros. 89% of sales comprise of sales of water and treatment of wastewater to domestic and commercial customers within and outside of the service area, 6% of sales from fees received from the City of Tallinn for operating and maintaining the storm water system and 5% from other works and services.

Sales of water and wastewater services were 12.2 mln euros, a 2.8% increase compared to the 2 ^nd quarter of 2012, resulting from the changes in sales volumes as described below.

Within the service area, sales to residential customers were at 5.9 mln euros, showing a 0.4% decrease year on year, as revenues from apartment blocks form the biggest share of our residential sales, the biggest decrease came also from this client group. Sales to commercial customers increased by 4.4% to 5.0 mln euros, mainly coming from the sales in industrial sector. Sales to customers outside of the main service area increased by 6.6% to 1.1 mln euros in the 2 ^nd quarter of 2013. Over pollution fees received were 0.22 mln euros, a 49.5% increase compared to the 2 ^nd quarter of 2012.

As there has not been a tariff increase compared to last year and same tariffs are applied in 2013 the sales volumes reflect the same variances in main services area as prescribed above.

Outside service area sales volumes were 0.1 mln m ³ or 6.0% higher than in the 2 ^nd quarter of 2012. The main factor in this increase was higher volumes in sewerage service due to connection of small areas in neighbouring municipalities, balanced by a small reduction in storm water volumes. This resulted in a sales increase in the 2 ^nd quarter compared to the comparative period last year of 6.6% or 0.07 mln euros. Higher sales increase than volumes increase is due to storm water tariffs being significantly lower than sewage tariffs.

The sales from the operation and maintenance of the storm water and fire-hydrant system in the main service area decreased by 11.1% to 0.86 mln euros in the 2 ^nd quarter of 2013 compared to the same period in 2012. According to the terms and conditions of the contract revenues reflect actual volumes treated and costs for treating the storm water, therefore this cost pass through has no impact on profits.

Cost of Goods Sold and Gross profit

The cost of goods sold for the main operating activity was 6.2 mln euros in the 2 ^nd quarter of 2013, showing 0.84 mln euros or 15.8% increase compared to the equivalent period in 2012. The cost increase is highly influenced by the additional pollution tax incurred due to the incidents in the wastewater treatment plant in the 2 ^nd quarter of 2013 resulting extra pollution tax in the amount of 0.91 mln euros.

Total variable costs increased by 0.87 mln euros or 50.1% year on year. Main reason for increased costs was the increase in pollution tax, which was mentioned above. Other changes came from a combination of increase in prices and tax rates and movements in treatment volumes that affected the variable costs together with the following additional factors:

• Water abstraction charges increased only by 0.01 mln euros or 5.1% to 0.25 mln euros in the 2 ^nd quarter of 2013, driven mainly by 5% raise in tax rates.
• Total chemical costs increased by 0.05 mln euros or 12.1% to 0.43 mln euros. Chemicals costs increased due to an increase in chemicals price worth 0.04 mln euros (0.03 mln euros coming from methanol price increase by 21%) and increased coagulant usage due to bad raw water quality amounting to 0.04 mln euros. Costs increase was balanced by a decrease in chemicals volumes used due to less sewage treated, with an impact worth 0.3 mln euros.
• Electricity costs in total decreased by 0.04 mln euros or 4.9% in the 2 ^nd quarter of 2013 compared to the 2 ^nd quarter of 2012. Main reason for lower electricity costs is the decreased treatment volumes, worth 0.09 mln euros. Positive effects are reduced by increased electricity unit costs by 0.05 mln euros.
• In the 2 ^nd quarter of 2013 the pollution tax expense increased by 0.86 mln euros or 378.4%.There was an incident in the wastewater treatment plant due to which for the short period of time not all wastewater could have been treated. Due to that emergency in the 2 ^nd quarter of 2013 higher rates for pollution tax were applied and the Company faced additional pollution tax and income tax all in total worth 0.91 mln euros. Eliminating the effects of the incident the pollution tax would have decreased by 0.05 mln euros or 22.1%. The pollution tax decrease due to the improved pollutants removal process and decrease in volumes was balanced by overall increase in tax rates by 15%.

To mitigate the external price risk of maintenance services the Company switched from outsourcing to insourcing in various areas in the 3 ^rd quarter of 2012. Total fixed cost of goods sold (staff costs, depreciation and other cost of goods sold) in the main operating activity decreased by 0.03 mln euros or 0.9%.

As a result of all of the above the Company’s gross profit for the 2 ^nd quarter of 2013 was 7.3 mln euros, which is a decrease of 0.5 mln euros, or 6.3%, compared to the gross profit of 7.8 mln euros for the 2 ^nd quarter of 2012.

Other Operating Costs

Marketing expenses and General administration expenses stayed mostly flat during the 2 ^nd quarter of 2013 compared to the corresponding period in 2012, increasing in total by 0.07 mln euros, mainly due to overall salary increase and also changes in the management board. In the 2 ^nd quarter of 2013 the legal fees related to the on-going tariff dispute have also increased compared to the comparative period last year.

Other net income/expenses

Other net income decreased by 0.02 mln euros or 25.4% to a net expense of 0.05 mln euros, compared to 0.07 mln euros net expense in the 2 ^nd quarter of 2012.

Operating profit

As a result of above factors the Company’s operating profit from main services and in total, for the 2 ^nd quarter of 2013 totalled 5.7 mln euros compared to 6.3 mln euros in the corresponding quarter in 2012, which shows a decrease of 0.60 mln euros. Year on year the operating profit for the 2 ^nd quarter has decreased by 8.7%.

Financial expenses

The company received net financial income in the amount of 0.62 mln euros in the 2 ^nd quarter of 2013, which is a positive change of 1.3 mln euros compared to -0.67 mln euros financial expenses in the 2 ^nd quarter of 2012. In 2012 the financial costs were mainly impacted from the non-cash revaluation of the fair value of swap agreements, in the 2 ^nd quarter of 2012 when the revaluation impact was negative by 0.22 mln euros compared to the positive revaluation impact of 1.1 mln euros in the 2 ^nd quarter of 2013.

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 75 mln euros and 20 mln euros are thereby still with floating interest rate. At this point in time the estimated fair value of the swap contracts is negative, totalling 2.9 mln euros. In order to continuously mitigate the interest risk, the Company entered into 2 new swap contracts in the total amount of 30 mln euros in May 2013, which will come into force after two old contracts expire.  One contract was concluded for the period of 2013-2108 and the other one for the period if 2015-2018. The average fixed interest rate for new contracts is 0.92%.

Effective interest rate (incl. swap interests) in the 2 ^nd quarter of 2013 was 3.24%, amounting in the interest costs of 0.78 mln euros, compared respectively to 3.35% and 0.80 mln euros in the 2 ^nd quarter of 2012.

Profit Before and After Tax

The Company’s profit before taxes for the 2 ^nd quarter of 2013 was 6.4 mln euros, which is 0.8 mln euros higher than the profit before taxes of 5.6 mln euros for the 2 ^nd quarter of 2012, resulting from the movements in fair value of financial instruments and increased costs as described above.

The year on year increase in dividend payment by 0.6 mln euros increased also the income tax on dividends by 0.16 mln euros. The Company’s profit after taxes for the 2 ^nd quarter of 2013 was 1.7 mln euros, which is 0.5 mln euros higher than the profit after taxes of 1.2 mln euros for the 2 ^nd quarter of 2012.

Results for the six months of 2013

During the six months of 2013 the Company’s total sales increased, year on year, by 0.2% to 26.2 mln euros. Sales of water and wastewater treatment were 24.0 mln euros, a 0.7% increase compared to the six months of 2012.

The movements in sales are similar to the movements in the 2 ^nd quarter described above. There has been a slight 0.1 mln euros or 1.2% decline in the sales to residential customers and 0.3 mln euros or 2.6% of increase in the sales to the commercial clients. Industrial sector has given the most of the increase in the sales to commercial clients.

Due to less rainfall, the revenues from storm water treatment in the first half of 2013 remain 0.27 mln euros or 15.6% behind the comparative period in 2012.

The operating profit from the Company’s main business activity decreased by 9.6% to 11.9 mln euros during the six months of 2013 compared to the six months of 2012. Main reason for a decline comes from the rise in pollution tax expenses (1.29 mln euros year on year). Increase is influenced by two factors: first the pollution tax expenses in 2012 were impacted by the reversal of provision in the amount of 0.44 mln euros made in 2011 and also due to the incident at the wastewater treatment plant described above.

The Company’s profit before taxes for the six months of 2013 was 12.6 mln euros, which is a 5.4% increase compared to the relevant period in 2012 being highly influenced by the change in fair value of swap contracts.

The Company’s net profit for the six months of 2013 was 7.9 mln euros, which is 0.4 mln euros higher than the net profit of 7.5 mln euros in the equivalent period in 2012.

Balance sheet

In the six months of 2013 the Company invested 3.5 mln euros into fixed assets. As of 30 June 2013 non-current fixed assets amounted to 151.1 mln euros and total non-current assets amounted to 159.5 mln euros.

Current assets decreased by 6.0 mln euros to 36.7 mln euros in the six months mainly due to decreased cash at bank by 3.0 mln euros and lower trade receivables by 2.9 mln euros.

Current liabilities increased by 6.0 mln euros to 15.9 mln euros in the six months mainly due to increased payments to suppliers and also due to the dividend income tax liability that is due in July in the amount of 4.6 mln euros.

The Company has a Total debt/Total assets level as expected of 61.7%, in range of 55%-65%, reflecting the post dividend payment equity profile. This level is consistent with the same period in 2012 when the total debt/total assets ratio was 63.1%.

Long-term liabilities stood at 105.1 mln euros at the end of June 2013, consisting mainly of the outstanding balance of three long-term bank loans totalling 95 mln euros. The first repayment of loans or refinancing should take place at the end of 2014. The weighted average interest margin for the total loan facility is 0.96%. The rest of long term liabilities reflect mainly the accounting record of deferred income from connection fees.

In the 4 ^th quarter of 2011 the Company recorded an exceptional contingent liability, which could cause an outflow of economic benefits of up to 36.0 mln euros, as per note 13 to the accounts. Considering that the court proceedings are continuously on-going, the Management has not changed the evaluation of the contingent liability.

Cash flow

During the six months of 2013, the Company generated 15.3 mln euros of cash flows from operating activities, a decrease of 0.38 mln euros compared to the corresponding period in 2012. 2013 operating cash flows were below 2012 cash flows mainly due to the lower operating profit and also from an increase in current payables. Underlying operating profit still continues to be the main contributor to operating cash flows.

In the six months of 2013 net cash flows from investing activities resulted in a cash inflow of 0.71 mln euros, a decrease of 1.0 mln euros compared to an inflow of 1.7 mln euros in the six months of 2012. This is made up as follows:

In the six months of 2013 the cash outflows related to the fixed asset investments were 3.4 mln euros compared to 4.2 mln euros spent in the same period of 2012, a decrease of 0.80 mln euros. The compensations received for the construction of pipelines were 3.6 mln euros in the six months of 2013, a decrease of 2.0 mln euros compared to same period in 2012. In 2013 the Company did not give any loans. In 2012 the loan granted to AS Maardu Vesi amounted to 0.38 mln euros.

In the six months of 2013, cash outflow from financing amounted to 19.0 mln euros due to interests paid and loan financing costs and dividends paid, which is 0.57 mln euros more than in the same period of 2012, almost entirely due to higher dividends.

As a result of all of the above factors, the total cash outflow in the six months of 2013 was 3.0 mln euros compared to a cash outflow of 1.1 mln euros in 2012. Cash and cash equivalents stood at 20.9 mln euros as of 30 June 2013, which are 7.2 mln euros higher than at the corresponding period of 2012.

Employees

At the end of the 2 ^nd quarter of 2013, the total number of employees was 309 compared to 318 at the end of the 2 ^nd quarter of 2012. The full time equivalent (FTE) was respectively 296 in 2013 compared to the 304 in 2012. The management continues to work actively for the efficiencies in processes to balance the increase in individual salaries and cost pressure from the market with more productive company structure.

Dividends

Dividend allocation to the shareholders is recorded as the liability in the financial statement of the Company at the time when the profit allocation and hence 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.

On the annual general meeting of shareholders held on 21 ^st May 2013, 87 cents dividends per share and the total dividend pay-out from the profit of 2012 net income in the amount of 17.4 mln euros was approved. It is in accordance with the Company’s dividend policy. Compared to 2012 dividends of 84 cents per share, the increase is equal to the inflation.

Dividends were paid out on 13 ^th and 14 ^th of June 2013.

Share performance

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

As of 30 June 2013 AS Tallinna Vesi shareholders, with a direct holding over 5%, were:

Pension funds have continued to increase their portfolios during the 2 ^nd quarter of 2013, owning 2.47% of the total shares compared to 1.57% at the end of 1 ^st quarter 2012.

As of 30 June 2013, the closing price of the AS Tallinna Vesi share was 10.00 euros, which is a 3.85% decrease compared to the closing price of 10.40 euros at the beginning of the quarter. During the same period the OMX Tallinn index decreased by 3.04%. In the 2 ^nd quarter the Company’s share price was mainly impacted by the on-going contractual debate and dividend payment in June.

Operational highlights in 1 ^st half-year of 2013

Complaint to European Commission

In parallel, on 10 ^th December 2010 AS Tallinna Vesi lodged a complaint to the European Commission regarding certain measures adopted by the Estonian authorities. The company believes these measures unilaterally alter the terms of AS Tallinna Vesi's privatization regime, and without any objective justification, any form of meaningful prior discussion, or willingness to engage in dialogue. Therefore they violate EU rules on the freedom of establishment and the free movement of capital (articles 49 and 63 TFEU). The process is on-going.

Disclosure of relevant papers and perspectives

The Company has published its tariff application and all relevant correspondence with the CA on its website ( http://www.tallinnavesi.ee/?op=body&id=728 ) and to the Tallinn Stock Exchange and will keep its investors informed of all future developments regarding the further key developments regarding the processing of the tariff application.

In opposite to the Company the CA has requested the Court procedures to be closed. Based on misleading information submitted by the CA the Court approved the CA’s request. ASTV has reapplied for open proceedings.

Still, at this point in time the Company is unable to say what is going to happen to the tariffs before Court judgments and what would be the next steps by the European Commission. The outcome and lengths of the Court proceedings is outside the control of the Company.

Corporate structure

At the end of the quarter, 30 June 2013, 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.

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.

In the annual general meeting that was held on 21 ^st May 2013 the independent member Valdur Laid was recalled from the Supervisory Council and new independent member Allar Jõks was appointed.

Supervisory Council has formed three committees to advise Supervisory Council on audit, remuneration and corporate government 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:

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

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 1 ^st June 2013 there are 4 members of the Management Board of AS Tallinna Vesi: Ian Plenderleith (Chairman of the Board), Ilona Nurmela, Aleksandr Timofejev and Riina Käi.

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

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

Additional information:

Ian John Alexander Plenderleith

Chairman of the Management Board

+372 6262 201

ian.plenderleith@tvesi.ee

         Ian John Alexander Plenderleith          Chairman of the Management Board          +372 6262 201          ian.plenderleith@tvesi.ee