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Implementation of the ORLEN Group's strategy - current status

Consistent building of new business areas with financial stability maintained

When we commenced the work on a new strategy for 2013–2017, we knew that in the course of its implementation we would have to face a volatile, changing environment. It was already evident back then that the all-European refinery market was under a great deal of pressure from the macroeconomic background. At the same time, estimates concerning the grey market for fuels in Poland were rising at an alarming rate, especially in diesel oil.

Thus, last year we had to tackle the exceptionally adverse impact of this operating environment on our core business. The illegal trade in fuels, with market share currently estimated at around 15%, remains a major issue for the industry. While our southern neighbours have successfully implemented regulations limiting this problem, Polish legislation in this area still needs further development. Companies operating in compliance with applicable tax regulations will find it difficult to maintain their competitive edge and halt declines in performance unless new legal solutions, to effect the contraction of the grey fuel market in Poland, are implemented.

Another issue is with regulations governing the maintenance of mandatory stocks. The existing legal regime, under which companies are obliged to maintain stocks covering 76-day consumption, puts a burden on their balance sheets and has an indirect effect on fuel prices paid by end users. As at the end of 2013, the ORLEN Group maintained mandatory stocks valued at PLN 7.2bn. The work on amending the Act on Mandatory Stocks is nearing completion and we hope that the solutions adopted will take into account the position of the industry.

At a European level, there was much work on new legislation concerning the climate policy. From our point of view, it is crucial that climate-related regulations are closely linked with business objectives. In the coming years, the role of natural gas as an environmentally-friendly feedstock will undoubtedly grow. The ORLEN Group is among the largest consumers of gas fuel in Poland. Given our planned involvement in gas-fired energy generation projects, gas supplies will become increasingly important to us. Therefore, it is essential that we actively participate in the process of change in the gas market. We are building relationships with gas suppliers both in Poland and abroad. While we acknowledge the significant potential benefits of deregulation in the Polish gas sector, we also expect that, without further extension of the infrastructure, including in particular cross-border connections, the growth of the market will be slow and insufficient. It also important to companies purchasing gas that the problem of long-term contracts be solved through the implementation of regulations which would enable them to meet a part of their gas requirement with purchases on the energy exchange, outside binding contracts.

Last year we continued our efforts to build our new business segment: exploration for and production of hydrocarbons. The upstream business has become a pillar of our strategy, and in the coming years hydrocarbon production, from both unconventional and conventional deposits, will be further developed. To date, we have drilled ten exploratory wells and performed two hydraulic fracturing treatments. Our plans provide for further extensive work under our licences in Poland. Last year, we extended the area of our shale gas exploration activities. Having finalised the transaction with ExxonMobil at the beginning of 2013, we now own ten licences in Poland. In line with our strategy, we also monitored the market for M&A opportunities, and at the end of 2013 we finalised the acquisition of the Canadian TriOil Resources. This transaction is vital for the implementation of the strategy, and with it we have gained access to production assets and unique expertise, which we intend to use in shale gas exploration in Poland.

The power generation segment is an important element in PKN ORLEN's value building process. In mid-2013, we commenced the construction of a 463 MWe CCGT unit. An important feature of the project is its location, close to industrial customers for heat and electricity such as ANWIL, which has a positive effect on the economic viability of the planned investment. The construction of a CCGT unit in Płock is the next project proposed in this area, and the final decision on that is expected in the second half of 2014. Our involvement in power generation projects is based on the forecast growth of electricity demand in Poland together with a reduction in the domestic production capacities. We anticipate PKN ORLEN’s installed generation capacity to grow from the current level of 345MWe to 1,400MWe by 2017. Planned investments in the power segment are expected to provide a stable revenue stream as soon as in 2017.

Last-year's achievements also included maintenance of the strong position in the petrochemical segment in our region and leadership in the production of olefins and polyolefins. The forecast increase in demand for petrochemical products gives a solid foundation for further value growth in this area, with priority to be given to maximising the value from existing assets. In line with the strategy, the petrochemical segment intends to leverage PKN ORLEN’s potential by stepping up production at key units, enhancing olefin production efficiency and boosting polymer and PTA sales.

We are also consistently in pursuit of our objectives in the retail segment, which recorded its highest ever performance in 2013 thanks to a strong and well-established market position. Not only did we increase fuel sales, but we also invested to develop our non-fuel offering. In Q4 2013 alone, 83 new Stop Cafe and Stop Cafe Bistro catering outlets were opened at ORLEN service stations. For the coming years we plan on higher spending for further expansion of the network, primarily through the construction of motorway stations.

The past year proved extremely difficult to the refining segment all over Europe, with refining margins hitting ten-year lows in Q4 2013. The segment's performance was also adversely affected by the grey market, both in Poland and the Czech Republic. Although the ORLEN Group operates high-quality integrated production facilities, the adverse macroeconomic environment forced us to focus on further efficiency improvements and on maximising value based on our existing capabilities. The impact of the weaker refining sector's performance was felt most at the Mažeikiai refinery, which was reflected in the performance of ORLEN Lietuva.

On the Czech market, we acquired a 16.335% interest in Česká Rafinérska from Shell in 2013. After this transaction, Unipetrol, an ORLEN Group company, gained a qualified majority of votes and gained further control over the management of the Czech refineries. As part of our activities in the Czech Republic, we secured supplies of crude oil to the Litvinov refinery by signing a long-term contract directly with an oil producer in June 2013. We see our presence on the Czech market as a long-term investment, and therefore it was paramount that we secure feedstock supplies necessary to ensure the uninterrupted operation of the refinery.

Our consistent efforts and attention to the financial fundamentals have had results: we have regained investment-grade rating from leading agencies, Fitch and Moody’s, which assigned us credit ratings of BBB- and Baa3, respectively, in 2013, with a 'stable' outlook. In line with our strategy of diversifying financing sources, we also carried out a very successful issue of retail bonds: we placed PLN 700m worth of debt securities on the market, which met with enormous interest from retail investors.

Our liquidity position, financial performance and investments in areas of key importance to our operations are the pillars upon which we intend to further build value in our Company. Quite obviously, much depends on the external environment, including macroeconomic factors. For our industry, the poor economic situation is no longer a transitory state but a real economic environment, and we need to flexibly respond to what is happening. For this reason, in the coming years we intend to put even more emphasis on improving efficiency, while simultaneously investing in more promising areas in order to protect PKN ORLEN against fluctuations on the market or a prolonged economic slowdown in the refining sector

said Sławomir Jędrzejczyk,
Vice-President and CFO.

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