ORLEN ORLEN Group 2017
Integrated Report

General Information

GRI INDICATORS:
Capitals:

5.1. Principal activity of the ORLEN Group

PRINCIPAL INFORMATION ABOUT THE ORLEN GROUP
NAME OF THE PARENT COMPANY Polski Koncern Naftowy ORLEN Spółka Akcyjna
REGISTERED OFFICE ul. Chemików 7, 09-411 Płock
NATIONAL COURT REGISTER NUMBER (KRS) 0000028860
INDUSTRY IDENTIFICATION NUMBER (REGON) 610188201
TAX IDENTIFICATION NUMBER (NIP) 774-00-01-454
PRINCIPAL ACTIVITY

– crude oil processing
– production of fuel, petrochemical and chemical goods
– retail and wholesale of fuel products
– exploration, recognition and ex traction of hydrocarbons
– generates, distributes and trades of electricity and heat
– service-related activity: storage of crude oil and fuels, transportation, maintenance and overhaul services, laboratory, security, design, administrative, insurance and financial services

Polski Koncern Naftowy ORLEN Spółka Akcyjna (“Company”, “PKN ORLEN”, “Issuer”, “Parent Company”) was founded by incorporation of Petrochemia Płock S.A. with Centrala Produktów Naftowych S.A., on 7 September 1999.

PKN ORLEN along with the entities forming the Capital Group of Polski Koncern Naftowy ORLEN S.A. (“ORLEN Group”, “Group”) is one of the biggest and most modern fuel and power companies in Central Europe, operating on the Polish, Lithuanian, Czech, German and Canadian market. The Group also possesses entities located in Malta, Sweden, the Netherlands, Slovakia, Hungary, Estonia, Latvia and the USA.

Since 26 November 1999 PKN ORLEN shares are quoted on the main market of the Warsaw Stock Exchange (WSE) in the continuous trading system. One of the subsidiaries of PKN ORLEN – Unipetrol a.s. which shares are listed on the Stock Exchange in Prague.

5.2. 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 entered in force till the end 2017. The Group adopted all IASs and IFRSs in accordance with their effective date.

The consolidated financial statements have been prepared on a historical cost basis, except derivatives, financial assets available for sale and investment properties, which have been measured at fair value. The foregoing financial statements have been prepared using the accrual basis of accounting except from the consolidated financial statement of cash flows. 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, as amended Official Journal 2016, item 860) (“Regulation”) and covers the annual reporting period from 1 January to 31 December 2017 and the comparative period from 1 January to 31 December 2016. Presented consolidated financial statements present a true and fair view of the ORLEN Group’s financial position as at 31 December 2017, results of its operations and cash flows for the year ended 31 December 2017.

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 the foregoing 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.

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

The functional currency of the Parent Company and presentation currency of the foregoing consolidated financial statements is Polish Złoty (PLN).

Translation into 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 the statement of profit or loss and other comprehensive income and the statement of cash flows - at the average exchange rate for the reporting period (arithmetic average of daily average exchange rates published by the National Bank of Poland ("NBP") in a given period).

Foreign exchange differences resulting from the above recalculations are recognized in equity in the line exchange differences on translating foreign operations.

CURRENCY Average exchange rate for the reporting period Exchange rate as at the end of the reporting period
  2017 2016 31/12/2017 31/12/2016
EUR/PLN 4.2576 4.3648 4.1709 4.4240
USD/PLN 3.7783 3.9459 3.4813 4.1793
CZK/PLN 0.1617 0.1614 0.1632 0.1637
CAD/PLN 2.9101 2.9772 2.7765 3.0995

5.4. Accounting principles

Significant accounting principles and significant values based on judgements and estimates are presented as a part of the specific explanatory notes to the consolidated financial statements. The Group applied the accounting principles consistently to all presented reporting periods.

The preparation of consolidated financial statements in accordance with IFRSs requires that the Management Board makes expert estimates and assumptions that affect the presented amounts. The estimates and related assumptions are based on historical expertise and other factors regarded as reliable in given circumstances and their effects provide grounds for professional judgment of the carrying amount of assets and liabilities which is not based directly on any other factors.

In the matters of considerable weight, the Management Board might base its judgments, estimates or assumptions on opinions of independent experts. The judgments, estimates and related assumptions are verified on a regular basis.

Selected accounting principles Note
Investments in subsidiaries, jointly controlled entities and associates 6.1
Operating segments 8.1
Sales revenues 9.1.1
Costs 9.1.3
Income tax expenses (tax expense) 9.1.7
Property, plant and equipment 9.2.1
Exploration and extraction of mineral resources 9.2.1
Intangible assets 9.2.2
Investments accounted for under equity method 9.2.4
Impairment of property, plant and equipment and intangible assets 9.2.5
Inventories 9.2.6.1
Trade and other receivables 9.2.6.2
Trade and other liabilities 9.2.6.3
Net debt 9.2.7
Equity 9.2.8
Provisions 9.2.10
Financial instruments 9.3
Fair value measurement 9.3
Lease 9.4.2
Contingent assets and liabilities 9.4.4

5.5. Impact of IFRS amendments on consolidated financial statements of the ORLEN Group

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

  • IFRS 9 – FINANCIAL INSTRUMENTS

On 24 July 2014, the International Accounting Standards Board issued International Financial Reporting Standard 9 Financial Instruments („IFRS 9”). IFRS 9 covers three topics related to financial instruments: classification and measurement, impairment and hedge accounting. IFRS 9 applies to annual periods beginning on 1 January 2018 and later, with the possibility of earlier application. The Group will apply IFRS 9 retrospectively for periods beginning after 1 January 2018 without converting comparable data. Changes in measurement of financial assets as of the date of the first application of IFRS 9 will be recognized under retained earnings. In 2017, the Group carried out a detailed assessment of the impact of the adoption of IFRS 9 on the accounting principles applied by the Group with respect to the Group's operations or its financial results.

The Group assessed the adoption of IFRS 9 will have no impact on the consolidated statement of financial position and consolidated equity of the Group, except for the effects of the application of IFRS 9 in the area of impairment. As at 1 January 2018, impairment allowances (after deferred tax) will reduce the Group's equity by PLN (4.6) million in correspondence with a decrease in the carrying amount of trade receivables. In addition, as a result of the adoption of IFRS 9, the classification of some financial assets will change.

Classification and measurement
The Group expects that all financial assets so-far measured at fair value will remain measured in the same way. The Group has one business model assuming that assets are maintained in order to generate cash flows.
The Group will make use of the option to choose and in the case of shares in unlisted companies, will recognize their subsequent changes in fair value by other comprehensive income, therefore the adoption of IFRS 9 will have immaterial impact on the Group's future financial results.
Trade receivables are maintained to obtain cash flows resulting from the agreement, and the Group does not sell trade receivables as part of factoring - they will continue to be measured at amortized cost by the financial result.

Impairment
IFRS 9 introduces a new approach to estimating the impairment of financial assets measured at amortized cost or at fair value through other comprehensive income (with the exception of investments in capital assets and contract assets). The new impairment model will be based on the expected loss calculation as opposed to the currently applied model resulting from IAS 39, which is based on the concept of incurred loss. Expected credit losses are credit losses weighted by the probability of default. The Group will use the following models for determining impairment allowances:

  • Simplified model: for trade receivables.
  • General model: for financial assets measured at amortized cost - other than trade receivables and assets valued at fair value through other comprehensive income.

In the general model, the Group will monitor the changes in the level of credit risk associated with a given financial asset and determines the level of impairment allowance for expected credit loss in the amount equal to 12-month expected credit loss (if from the initial recognition there was no significant increase in credit risk for a given instrument) or expected credit losses during the life of the financial instrument (in opposite situation).
In the case of trade receivables, the Group will apply a simplified approach and will measure the allowance for expected credit losses in the amount equal to the expected credit losses throughout the lifetime of the exposure. For the purpose of estimating the expected credit loss, the Group will use the provision matrix, which was estimated based on the observation of historical levels of repayment of receivables (including recoveries from receivables for which debt collection activities were undertaken and collateral used).

The most important item of financial assets in the Group's financial statements, which is subject to the new principles of calculating expected credit losses, are trade receivables. The Group estimates, the new method of calculating allowances will not significantly affect the impairment loss as at 1 January 2018. The amount of the impairment loss on other financial assets is immaterial.

Hedge accounting
At the time of implementing IFRS 9, the Group may choose an accounting policy to remain in the hedge accounting model in accordance with IAS 39 or change to the hedge accounting model in accordance with IFRS 9. The Group decided to adopt a new hedge accounting model according to IFRS 9 from 1 January 2018.

IFRS 9 requires that hedging relationships are consistent with the Group's goals and risk management strategy and the use of a prospective approach to estimating the measurement of effectiveness. IFRS 9 also introduces new requirements for adjusting the hedge ratio (so-called rebalancing) and does not allow for the voluntary resolution of hedging relationships. At the same time, the standard enables the application of hedge accounting principles to a wider range of hedging strategies, in particular – an option to separate the risk component in non-financial assets or liabilities. The Group intends to use the new requirements of hedge accounting in definition of its hedging relationships to a great extent, in particular: the mechanism of defining the commodity hedging relationships will be better aligned with the exposure characteristics and the applied risk management strategies. Each type of commodity hedging relationship will, as a rule, contain an element of the risk component. The Group will seek to limit the underlying risk in hedging relationships (resulting from various commodity indices on the side of the hedging instrument and the hedged item).

The Group intends to apply cost of hedging rules for FX hedging relationships, where the forward component and the cross-currency margin will be recorded in a separate item in other comprehensive income. As a result of applying hedge accounting in accordance with IFRS 9, the Group expects to limit the volatility of the profit and loss.
The Group will apply the new accounting principles prospectively and therefore it will not affect the profit or loss or other comprehensive income as at 1 January 2018.
As a result of the implementation of IFRS 9, the Group will redesignate hedging relationships with the date of 1 January 2018 (with a prospective effect). From the perspective of the impact on the financial statements, this means that amounts as effective part of hedging instruments accumulated in other comprehensive income as at 31 December 2017 will be reclassified to the statement of profit or loss in future periods in accordance with the original schedule of hedging.

  • IFRS 15 REVENUE FROM CONTRACTS WITH CUSTOMERS

International Financial Reporting Standard 15 Revenue from Contracts with Customers (“IFRS 15”) which was issued in May 2014, and amended in April 2016 establishes a five-step model to account for revenue arising from contracts with customers. Under IFRS 15, revenue is recognised in an amount that reflects the consideration to which an entity expects to be entitled in exchange for transferring goods or services to a customer. The new revenue standard will supersede all current revenue recognition requirements under IFRS.
The Group will implement IFRS 15 on the required effective date using the modified retrospective method i.e. with the combined effect of the first application of IFRS 15 on the date of the first application (which could result in the adjustment of equity as at 1 January 2018). The Group analyzed in detail the impact of IFRS 15 on the current accounting policy. This assessment is based on the currently available information and interpretations of IFRS 15 and may be susceptible to revision arising from gaining additional reasonable and documentable information in the period when the Group will adopt the IFRS 15 for the first time and as a result of changes in interpretations of the standard. The Group will continue to monitor any further development in that area.

The analysis of IFRS 15 impact covered the following issues:
Delivery of products and merchandise with transportation and insurance services
The Group realises a number of deliveries under the contracts based on Incoterms. In terms of some of the agreements, the Group, as a vendor, is responsible for organizing transportation and/or providing the insurance of products. Under IAS 18 Revenues (“IAS 18”) revenue is recognised when the risks and rewards over the goods are transferred to the buyer.

Regarding revenue recognition, IFRS 15 outlines a definition of transfer of control over goods, which is broader than transfer of risks and rewards concept. IFRS 15 requires also to identify separate performance obligations and to allocate the transaction price to identified performance obligations. The entity that offers transfer of goods, together with transportation and/or insurance considers whether they are separate performance obligations.

If the control over promised goods is transferred to the customer after the transportation service is completed and the insurance period is ended, delivery of goods, transportation and insurance form a single performance obligation. Alternatively, if the control over the promised goods is transferred to the customer before the transportation and/or insurance services are provided, then delivery of goods, transportation and insurance are separate performance obligations. The delivery of goods is an obligation which is fulfilled at a point in time, while the transportation and insurance services are obligations which are satisfied over time.

Allocation of part of consideration to the separate performance obligations i.e. the sale of goods, transportation service and insurance impacts the following areas:

  • Timing of revenue recognition – recognition of revenue related to delivered goods at a point in time when the control over the goods is transferred to the ustomer and recognition of revenue allocated to the transportation service and/or insurance over the time.

The Group estimated the impact of IFRS 15 related to agreements for delivery of goods with transportation and insurance services and determined that the impact of IFRS 15 on revenue recognition timing is immaterial. Consequently, no adjustment on the Group’s equity as at 1 January 2018 is required.

Services provided to vendors
IFRS 15 requires to identify the distinct performance obligations and to determine whether the particular transactions with given counterparty are distinct. Currently, under IAS 18, the Group conducts the assessment whether the provided services could be treated as ‘identifiable benefit’ for the given supplier and the received consideration is related to the goods sold (i.e. whether it affects the cost of sales or constitutes a revenue item).

The Group does not expect the new revenue recognition standard to impact the Group’s practices adopted under IAS 18.

Variable consideration
Under IFRS 15, if the consideration which is determined in the contract includes variable amounts, the Group should estimate the amount of consideration to which it expects to be entitled in exchange of transfer the promised goods and services to the customer and includes some or all of an amount of variable consideration to the transaction price only to the extent that it is highly probable that a significant reversal in the amount of cumulative revenue recognised will not occur when the uncertainty associated with the variable consideration is subsequently resolved.

Some contracts with customers, concluded by the Group, include trade incentives such as discounts or volume rebates. Currently, the Group recognises the revenue from the sales of goods measured at the fair value of the consideration received or receivable, net of returns and allowances. If the revenue cannot be measured reliably, the Group defers revenue recognition until the uncertainty is resolved.

Due to the fact that IFRS 15 requires the variable components of consideration to be included in the transaction price at contract inception, the estimation of the amount of receivable variable consideration and allocation to performance obligations related to variable amount is necessary. These components of variable consideration shall be updated at the end of each reporting period. As a consequence of standard implementation, in relation to selected contracts, i.a. the timing of recognition of trade incentives will be changed. Decrease or increase of the revenue due to this change will occur earlier than under legacy of IAS18, which permitted to recognise the conditional components of consideration (such as volume rabates) after the conditions to grant such rebate had been met.

Additionally, under IFRS 15, the variable components of consideration include penalty clauses. According to the current practice of the Group, income and costs related to penalties were presented in other operating activity. The Group analysed the types of penalties that occur in concluded contracts. In relation to penalties which were in the scope of other standards, such as IAS 37, before implementation of IFRS 15, the Group will continue to apply those other standards.

The most common penalties such as breach of exclusivity clauses or not meeting purchase volume limits, will be treated as a part of a transaction price. In consequence, presentation of certain penalties in statement of profit or loss and other comprehensive income will be changed – it will be recognised as an increase or decrease of revenue from contracts with customers.

Subsequently, to predict the amount of variable consideration to which the Group will be entitled, the Group decided to use the most likely amount method for contracts with only a single volume threshold while for contracts with more than one volume threshold the expected value method or the most likely amount method, depending on which of them better predicts the amount of variable consideration for the particular contract.

The Group estimated the impact of IFRS 15 with respect to assessment of revenue arising from variable consideration. The Group determined that the impact of IFRS 15 at the moment of revenue recognition is immaterial. Consequently, no adjustment on the Group’s equity as at 1 January 2018 is required.

Non-monetary exchanges
The Group enters into the transactions of non-monetary exchange of goods with the entities in the same line of business.
Under IFRS 15, the transactions of non-monetary exchanges between entities in the same line of business to facilitate sales to end-customers are out of the scope of the standard. The contracts between two oil companies that agree to exchange oil to fulfil demand from their customers in different specified locations on a timely basis are not in the scope of IFRS 15. Regarding that, this kind of exchange will not results in revenue recognition.

The Group analysed the non-monetary exchange transactions with the entities from the same line of business. Regarding the fact that under IFRS 15 the approach, which the Group will apply, is consistent with the current accounting policy, the Group does not identify the impact of IFRS 15 in this area.

Transactions with right of return
IFRS 15 regulates the issue of granting the customer with a right to return the goods. The standard determine that the revenue should be recognised in amount of consideration for which the Group expects to be entitled. The Group does not recognise the revenue from the sales of goods which are expected to be returned. Under IFRS 15, due to the fact that the contract allows the customer to return the goods, the consideration from the customer is variable. The Group decided to use expected value method to estimate the value of goods that are expected to be returned.

The Group analysed the revenue contracts, which include the sale of goods with a right of return. As a result of analysis, the Group does not identify IFRS 15 impact on Group’s equity as at 1 January 2018.

Principal versus agent considerations
IFRS 15 establishes the new model for assessing whether the vendors act as a principal or as an agent. In accordance with IFRS 15, to determine whether the
vendor acts as a principal, it should be considered, whether it has a control over the promised goods or services before the control is transferred to the customer.
In the assessment concerning the agency model the Group decides to take into consideration the following criteria:
– primarily responsibility for fulfiling the promise of delivery of goods or services,
– inventory risk,
– discretion in establishing the prices of goods and services.

The Group analysed contractual clauses in sales contracts in the aspect of identifying the agency model and does not identified the impact of IFRS 15 in this area, having regard the specificity and nature of operating contracts.

Loyalty programmes
The Group offers the loyalty programmes to its customers (VITAY). According to the conditions, the customers are entitled to exchange the gained loyalty points to the goods purchased in the future. Under IFRIC 13 Customer Loyalty Programmes a loyalty program results in allocating some of transaction price to the loyalty program using the fair value of points issued and recognition of the deferred revenue in relation to points issued but not yet redeemed or expired. The Group concluded that under IFRS 15 the loyalty program gives rise to a separate performance obligation because it generally provides a material right to the customer. Consequently, the Group will need to allocate a portion of the transaction price to the loyalty program based on relative standalone selling price. The amounts which are currently presented as “Deferred revenue” will be reclassified and presented as “Contract liabilities”.

The Group analyzed the impact of IFRS 15 in order to estimate a possible adjustment of the amount of recognized revenue in correspondence with the contractual obligation. The Group determined that the impact of IFRS 15 on the amount of recognized revenue is immaterial. Therefore, it does not determines adjustment on Group’s equity as at 1 January 2018.

Significant financing component
Under IFRS 15, the Group assess whether the contract includes the significant financing component. The Group decided to use the practical expedient, in accordance to which the Group need not adjust the promised amount of consideration for the effects of a significant financing component if the entity expects, at contract inception, that the period between the transfer of promised good or service to the customer and the customer payment for that good or service will be one year or less. Consequently, the Group will not separate the significant financing component for short-term advance.

Presentation and disclosures
The presentation and disclosure requirements under IFRS 15 are more detailed than under current IFRS 18, IFRS 11 and related interpretations. The Group expects that the changes with the reference to the notes to the financial statements will be expanded in scope of significant judgements which regard i.a.: determining the transaction price of contracts that include variable consideration; allocation of the transaction price to the performance obligations and the assumptions made to estimate the stand-alone selling prices of each performance obligation. In addition, as it is required by IFRS 15, the Group will disaggregate the revenue from contracts with customers. The Revenue will be divided into categories that depict the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. The Group will also disclose information about the correlation between the disclosure of disaggregated revenue and revenue information disclosed for each reportable segment.

  • IFRS 16 LEASE

International Financial Reporting Standard 16 Leases (“IFRS 16”) was issued in January 2016 and it replaces IAS 17 Leases, IFRIC 4 Determining whether an Arrangement contains a Lease, SIC-15 Operating Leases-Incentives and SIC-27 Evaluating the Substance of Transactions Involving the Legal Form of a Lease. IFRS 16 sets out the principles for the recognition, measurement, presentation and disclosure. IFRS 16 introduces a unitary model of the lessee's accounting and requires the lessee to recognize assets and liabilities resulting from each lease with a period exceeding 12 months, unless the underlying asset is of low value. At the commencement date, the lessee recognizes an asset representing the right to use the underlying asset and a liability to make lease payments. Lessees will be required to separately recognise the interest expense on the lease liability and the depreciation expense on the right-of-use asset.

Lessees will be also required to remeasure the lease liability upon the occurrence of certain events (e.g. a change in the lease term, a change in future lease payments resulting from a change in an index or rate used to determine those payments). The lessee will generally recognise the amount of the remeasurement of the lease liability as an adjustment to the right-of-use asset.

Lessor accounting under IFRS 16 is substantially unchanged from today’s accounting under IAS 17. Lessors will continue to classify leases using the same classification principle as in IAS 17 and distinguish between two types of leases: operating and finance leases. IFRS 16 also requires lessees and lessors to make more extensive disclosures than under IAS 17. A lessee can choose to apply the standard using either a full retrospective or a modified retrospective approach. The standard’s transition provisions permit certain reliefs.

IFRS 16 is effective for annual periods beginning on or after 1 January 2019. Early application is permitted, but not before an entity applies IFRS 15. The Group has not decided to IFRS 16 early adoption.

At the date of the authorization of these consolidated financial statements for publication, the Management Board is in the process of assessing the impact of the application of IFRS 16 on the accounting principles applied by the Group with respect to the Group's operations or its financial results.

The Group grouped its current operating lease agreements as well as identified agreements not previously classified as lease which can meet lease definition according to IFRS 16. For such determined areas of potential impact an assessment is made by the Group whether particular category of agreements fulfills or not definition of a lease under new standard.

Standards adopted by International Accounting Standards Board (IASB), waiting for approval of European Union.

  • IFRS 14 - Regulatory Deferral Accounts.
  • IFRS 17 - Insurance Contracts.
  • Amendments to IFRS 2 - Share-based Payment: Classification and Measurement of Share-based Payment Transactions.
  • Amendments to IFRS 9 - Financial Instruments: Prepayment Features with Negative Compensation.
  • Amendments to IFRS 10 - Consolidated Financial Statements and IAS 28 - Investments in Associates and Joint Ventures: Sale or Contribution of Assets between an Investor and its Associate or Joint Venture and further amendments.
  • Amendments to IAS 19 - Employee Benefits: Plan Amendment, Curtailment or Settlement.
  • Amendments to IAS 28 - Investments in Associates and Joint Ventures: Long-term Interests in Associates and Joint Ventures.
  • Amendments to IAS 40 - Investment Property: Transfers of Investment.
  • Amendments to various standards due to “Improvements to IFRSs (cycle 2015-2017)” resulting from the annual improvement project of IFRS (IFRS 3, IFRS 11, IAS 12 and IAS 23) primarily with a view to removing inconsistencies and clarifying wording.
  • IFRIC 22 - Foreign Currency Transactions and Advance Consideration.
  • IFRIC 23 - Uncertainty over Income Tax Treatments.

The Group expects that the above standards will have no material impact on consolidated financial statements of the ORLEN Group.

The Group intends to adopt new IFRS standards listed above that are published by the International Accounting Standards Board, but not effective as at the date of publication of the foregoing financial statements, in accordance with their effective date.



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