Terrafame Ltd's report for the financial period 1 January–31 December 2018

Terrafame Ltd (hereafter also referred to as “Terrafame”) is a Finnish multi-metal company producing nickel, zinc, cobalt and copper at its mine and metals production plant located in Sotkamo, Finland. The company is focused on environmentally sustainable, safe, and profitable business.

Terrafame started operations on 15 August 2015. The financial period 1 January–31 December 2018 is the company's fourth financial period and its third full year of operation.

Highlights during financial period 2018

  • Production ramp-up and stabilisation proceeded as planned: nickel production increased by 31.2% to 27,377 tonnes (2017: 20,864 tonnes) and zinc production increased by 30.5% to 61,608 tonnes (2017: 47,205 tonnes)
  • Net sales EUR 325.8 million (2017: EUR 220.0 million)
  • EBITDA EUR 32.8 million (2017: EUR 13.6 million)
  • Operating profit EUR 3.0 million (2017: EUR -6.2 million)
  • Cash flow from operating activities EUR 5.1 million (2017: EUR -81.0 million)
  • Lost-time injury frequency rate, or the number of lost-time injuries per one million person-hours worked, 7.4 (2017: 3.5)
  • In October, Terrafame’s Board of Directors made the decision to invest EUR 240.0 million in building a new battery chemicals plant
  • When the investment decision was made, the company’s owners agreed on a supplementary funding package of approximately EUR 100.0 million

Market developments

Global demand for Terrafame’s main products – nickel and zinc – continued at a good level in the market in 2018. The total combined nickel stocks of the London Metal Exchange (LME) and Shanghai Futures Exchange (SHFE) decreased by approximately 190,000 tonnes, equalling 5 weeks’ demand at the end of the year. Zinc stock levels decreased by 100,000 tonnes, equalling 1 weeks’ demand at the end of the year. Demand was primarily supported by the use of nickel in stainless steel production and the use of zinc in galvanisation. With the rapidly growing supply of electric vehicles, nickel was also increasingly used in the manufacture of electric vehicle batteries.

Over the course of the year, the trade disputes between the USA and China had a negative impact on the development of the world market prices of many metals. At the same time, however, the US dollar strengthened against the euro by 4.5 percent.

The first half of 2018 saw an uptrend in the world market price of nickel, but the price fell clearly lower during the second half of the year. The average price in 2018 was USD 13,122 per tonne (2017: 10,411 per tonne), which was 26.0 percent higher in dollars and 20.6 percent higher in euros compared to the previous year’s average price.

The world market price of zinc in US dollars began declining in February 2018, but then levelled off in the fourth quarter. The average price in 2018 was USD 2,922 per tonne (2017: 2,896 per tonne), which was 0.9 percent lower in dollars and 3.5 percent lower in euros compared to the previous year’s average price.

The world market prices of cobalt and copper also fell towards the end of the year.  

Production

Production ramp-up, stabilisation and cost-efficiency improvement measures continued at Terrafame during 2018. The target level set for full capacity nickel and zinc production at the start of the company's operations was achieved as planned in the third quarter.

The excess water previously stored in the Kuusilampi open pit was emptied at the beginning of the year. This enabled mining operations also at the southern end of the pit. During the year, 46,334 tonnes of nickel and 97,633 tonnes of zinc were mined and transferred to bioleaching. The aggregate mining volume was 42.2 million tonnes.

In the summer, the building of a third hydrogen sulphide production line for the metals production plant was completed, and the line was opened for operations alongside the two existing lines. The new facility enables increasing the metals production plant’s capacity while improving its operational reliability.

In total, 27,377 tonnes of nickel and 61,608 tonnes of zinc were produced during the year (2017: 20,864 and 47,205 tonnes). The production of cobalt and copper also continued alongside the main products.

Sales and procurement

In 2018, all nickel-cobalt deliveries and 80 percent of zinc deliveries to end customers were handled via Trafigura’s sales network in accordance with the sales agreements concluded with Trafigura Ventures V B.V. Sales volumes grew in line with production, and Terrafame’s net sales increased to EUR 325.8 million (2017: EUR 220.0 million).

The purchase prices of electricity and sodium hydroxide increased markedly over the course of the year. At the same time, Terrafame used energy and chemicals more efficiently. The use of chemicals was improved significantly especially with regard to lime products. Also during 2018, the fuel distribution points located in the industrial site were renewed and the procurement process for sulphur was developed.

Electronic tools and the related procurement process continued to be used for purchases, inter alia, in the tendering and procurement of the main technologies for the future battery chemicals plant. Consequently, warehousing operations were organised to support procurement.

Financial review and key figures

Terrafame’s net sales in 2018 totalled EUR 325.8 million (2017: EUR 220.0 million). The nickel content of nickel-cobalt product customer deliveries was 28,199 (2017: 20,287) tonnes. The zinc content of zinc product customer deliveries was 62,139 (2017: 46,828) tonnes.

EBITDA was EUR 32.8 million (2017: 13.6 million), operating profit EUR 3.0 million (2017: -6.2 million), and loss for the financial period was EUR -6.2 million (2017: -9.6 million).
 

(EUR 1,000) 2018 2017
Net sales 325,830 220,024
EBITDA 32,810 13,622
EBITDA % 10.1% 6.2%
Operating profit/loss 2,991 -6,219
Operating profit/loss % 0.9% -2.8%
Profit/loss for the financial year -6,171 -9,601
Equity ratio % 53.6% 47.8%
Balance sheet 681,580 618,511
Personnel, average 669 694
Wages and salaries 31,209 30,992

Capital expenditure is reviewed at Terrafame in two groups: investments in improving productivity and capacity, and investments in sustaining capex. In 2018, capital expenditure totalled EUR 81.5 million (2017: 92.7 million). Of this amount, EUR 37.9 million was allocated to improving productivity and capacity.

The key targets for capital expenditure relating to improving productivity and capacity were launching the battery chemicals plant construction project, completing the construction of block 4 of the secondary bioleaching area, finalising block 1 of the waste rock area and starting construction work in block 2, and commissioning the third hydrogen sulphide production line. The key investments related to sustaining capex included purchasing a dumper truck, an excavator and a wheel loader. The construction of a new emergency shelter was completed during the financial period.

Terrafame’s year-end inventories totalled EUR 199.2 million (2017: 168.6 million). The value of work in progress was EUR 170.7 million (2017: 138.0 million) and the value of raw material and spare part inventories was EUR 26.6 million (2017: 22.8 million), including an inventory provision for slow-moving items and obsolete inventory totalling approximately EUR 5.8 million (2017: 5.7 million). The value of the finished goods inventory was EUR 1.9 million (2017: 7.8 million).

Trade receivables on 31 December 2018 totalled approximately EUR 17.0 million (2017: 24.7 million). Other receivables totalled approximately EUR 1.0 million (2017: 2.9 million). Prepaid expenses and accrued income totalled approximately EUR 20.3 million (2017: 19.0 million), the most significant of which were derivative receivables amounting to approximately 10.9 million (2017: 11.7 million) due to hedging operations. At the end of 2018, cash and cash equivalents totalled EUR 96.7 million (2017: 106.4 million). Shareholders' equity on 31 December 2018 was EUR 365.6 million (2017: 295.6 million).

In the financial period 2018, cash flow from operating activities was EUR 5.1 million (2017: -81.0 million), of which change in net working capital comprised EUR -20.6 million (2017: -88.8 million). Cash flow from investment activities was EUR -81.1 million (2017: -92.1 million).

Currency and commodity hedging

During the financial period 2018, cash flow hedging against dollar and metal price fluctuations continued in line with the company’s hedging policy. The company used hedge accounting.

Financing arrangements

In October 2018, Terrafame decided to build a battery chemicals plant. The aim is that the plant will be completed at the end of 2020 and that commercial production will start at the beginning of 2021. The direct investment costs for the battery chemicals plant amount to approximately EUR 240.0 million.

With regard to the construction of the battery chemicals plant, Terrafame’s owners agreed already in November 2017 on the funding package of USD 200.0 million in total, of which USD 100.0 million was equity financing and USD 100.0 million was debt financing. Half of the equity financing was paid already in 2017 and half at the end of 2018. None of the debt financing was used during 2018.

In the context of making the final investment decision for the plant in October 2018, Finnish Minerals Group, Trafigura and Galena Fund agreed on a supplementary funding package of approximately EUR 100.0 million. In the supplementary financing arrangement, Trafigura committed to a 50.0 million loan facility, while the Galena Fund and Finnish Minerals Group contributed EUR 30.0 million each in the form of equity investment commitments.

The equity investments of the financing arrangement agreed in October 2018 will be realised with the same Terrafame share price as in the previous financing arrangements concerning Terrafame. Equity investments also provide Galena with a call option to later subscribe for Terrafame shares in the value of approximately EUR 17.0 million in total with a price that is 15.0% higher than the current subscription price. As part of the financing package, Trafigura and Terrafame continued their zinc sulphide streaming agreement for another five-year period. The agreed loan facility does not include giving option rights to the creditors or the right to obtain interest on the loan in Terrafame shares.

In addition to the financial arrangement described above, in December 2018, the remaining EUR 20.0 million was paid to Terrafame from the Finnish Minerals Group’s investment commitment of 2017.

Taking into account all the financial arrangements since the start of Terrafame’s operations, the company has accumulated a total of approximately EUR 188.0 million from the Galena Fund in equity financing, and approximately EUR 179.0 million from Trafigura and approximately EUR 46.0 million from Sampo in debt financing. The contribution of private financiers therefore is approximately EUR 413.0 million in total. Finnish Minerals Group has financed Terrafame throughout its operating history with approximately EUR 456.8 million in total. The above amounts include all financial items, in other words, also any unused investment commitments.

On 31 December 2018, Finnish Minerals Group held approximately 77.0%, Galena approximately 22.7% and Sampo approximately 0.3% of Terrafame’s shares. These holdings do not take account of the above amounts of equity financing paid to the company in late 2018, i.e. a USD 50.0 million contribution of the Galena Fund based on the financing arrangement of October 2017 or a EUR 20.0 million contribution of Finnish Minerals Group based on the investment commitment of February 2017.

After the equity investments in the battery chemicals plant, Finnish Minerals Group’s holding will fall to approximately 69.2% and Galena's holding will rise to approximately 30.6%. In the future, Finnish Minerals Group’s holding may fall to 50.1% at the lowest, provided that Trafigura, Galena and Sampo use their call options to subscribe for shares and the interest on the loans is paid as shares. In such a case, Galena and Trafigura would hold approximately 45.0% of Terrafame shares and Sampo approximately 5.0%.

Estimate of major risks and uncertainty factors affecting operations

In accordance with good corporate governance on risk management, Terrafame complies with the risk management policy approved by the Board of Directors. Efforts are made to identify risks, their impact on company business and operations is assessed, and risk management measures are planned as required. Key business risks were also assessed in 2018.

The company’s operations are affected by various generic risks of the mining industry, including the risks of the impact of environmental permits, other permits, taxes and fees on company expenses. Key business risks include fluctuations in exchange rates and the price of nickel and zinc, the counterparty risk associated with customers and other business partners, as well as risks related to the prices of major raw materials and energy.

Occupational, process safety and environmental risk management at Terrafame are based on earlier risk assessments conducted by the previous mine operator done in 2012–2015. Hazard risk assessments were updated to reflect Terrafame's current operations, practices and requirements.

Operational risks were successfully reduced further during 2018. Among the key success factors here were the process change management approach, the revised safety instructions for explosive atmospheres (ATEX) and the risk assessments carried out during the ‘Don’t get hurt’ safety campaign.

Research and development

Research of the bioleaching process using microbiological and mineralogical techniques continued in 2018 with the aim of maximising the output. In addition, opportunities to optimise agglomeration, aeration and irrigation in the bioleaching heaps were examined.

Process research work was carried out alongside the planning of the battery chemicals plant in order to confirm the plant’s design criteria and dimensions. In preparation for the possible commissioning of the uranium recovery plant, the performance of the liquid-liquid extraction process and the recovery of uranium and rare earth elements (REE) were studied on a laboratory scale. This also provided background information for the optimisation of the recovery plant’s operating parameters.

In the secondary bioleaching area, surface structure trial sites were constructed for studying various ways of covering waste rock areas in the future. The previous trial sites located in the secondary leaching area were also used for monitoring purposes. Similarly, the research activities initiated in 2016 at the gypsum ponds were resumed according to the plan.

A three-year trial related to waste rock was launched in autumn 2017, and the work continued in the summer of 2018. The aim of the trial is to obtain information that can be used in the development and monitoring of the base structures of waste rock areas. Another aim is to examine the opportunities to benefit financially from the low concentrations of valuable minerals in waste rock.

Safety

Substantial efforts were made to develop the safety culture during the year. While the total recordable injuries (TRI) rate remained at the previous year’s level, the year also saw more lost-time injuries compared to a year earlier. One of the injuries occurred in a serious fall accident, after which the work practices used were carefully reviewed to prevent similar accidents from happening in the future.

Terrafame’s personnel experienced 8 lost-time injuries, making the lost-time injury frequency rate (LTIFR) for the whole year 7.4 injuries per one million person-hours worked (2017: 3.5). The workers of partner companies operating in Terrafame’s industrial site experienced 11 lost-time injuries, which makes the total combined LTIFR for partner companies 10.1 (2017: 11.7).

Efforts relating to occupational hygiene continued in the form of occupational hygiene measurements and inspection and counselling visits to various workstations. According to the biomonitoring results for the year, the total concentration of nickel in the urine of Terrafame employees corresponded to the average in Finland, and no cases of occupational diseases were found at the company in 2018. Terrafame also requires that its partner companies operating in the industrial site carry out biomonitoring as well.

Process safety is based on well-functioning process automation and production control. During the second half of the year, the 2015 set target level for production was achieved at Terrafame and the metals production plant operated at a high utilisation rate during the year, which is a sign of the stabilisation of operations. In addition to risk assessments of individual projects, the most significant process risks were updated for operational development purposes. The most significant investments in process safety were made in hydrogen sulphide and hydrogen plants. In October, a safety deviation occurred in the process of a partner company’s heating plant located in Terrafame’s industrial site in which pressure discharge damaged the plant's equipment and structures.

In November, together with primary care services, the police, Terrafame and the Kainuu Regional Rescue Authority organised a major-accident drill in the industrial site to practice not only fire fighting but also personnel evacuation.  

Environment

In 2018, it rained less than usual in Kainuu and Terrafame's production process worked well, as it did in the previous year. As a result, less water needing purification accumulated in the mining site during the year and, on the whole, the amount of water at the site stayed well within the target level. The substance concentrations of purified water released from the site were clearly below permit levels, apart from individual exceptions.

The sulphate load of discharge water during the year was 3,434 tonnes (2017: 10,468 tonnes) whereas the environmental permit’s annual sulphate quota was 16,300 tonnes. The metal loads were also clearly below the environmental permit’s quotas. Purified discharge water was released to the water courses in the north, mainly via a discharge pipe in Lake Nuasjärvi. The quality of the water in Lake Nuasjärvi continued to be good and the lake is well-suited for recreational use. The sulphate content of lake water was lower than previously.

Monitoring of the quality of groundwater at the mining site and its surrounding areas continued in accordance with an extensive groundwater monitoring programme. On the basis of a study completed at the beginning of 2017, there is contaminated groundwater in the immediate vicinity of the mine’s primary bioleaching area. In 2018, improvements were made to the leaching solution collection system in the primary bioleaching area with the aim of preventing groundwater impact. No groundwater impact caused by the mine’s operations was observed outside the mining site.

Mining operations always cause dust, noise and vibration effects that cannot be completely eliminated. The methods used to limit the effects included concentrating blasts on certain days and watering the roads in the summertime. With regard to air emissions, the operations met the permit limits, apart from a few individual exceptions.

The exceptional situations caused by the operations were mainly due to broken pipes or human errors. During the year, the number of pipeline inspections was increased and the situations that led to deviations were analysed to identify the appropriate corrective measures.

Permit processes

The environmental impact assessment of Terrafame’s battery chemicals production, i.e. the EIA procedure, was launched in April 2018, at which time the EIA programme prepared by the company was announced by the Centre for Economic Development, Transport and the Environment (ELY Centre) for the Kainuu region. The final EIA report was announced in October. Terrafame aims to file the application for environmental permit for the production of battery chemicals in early 2019. In July, the municipality of Sotkamo granted a building permit for the upcoming battery chemicals plant in the existing plant area.

Terrafame filed an application for an environmental permit covering the entirety of its operations to the Northern Finland Regional State Administrative Agency (RSAA) in August 2017. The application for a new environmental permit was supplemented in July 2018 with the detailed process descriptions requested by the permit-issuing authority and plans for the new production areas. The company’s current environmental and water management permits will remain in force until the new environmental permit covering all operations is legally valid.

Preparations for an EIA procedure concerning the final disposal of the water treatment precipitate placed into interim storage at the mining site by the previous operator, were initiated in early autumn. The procedure is scheduled to start in early 2019. The year 2018 also saw the preparation of the documentation on uranium recovery. In 2019, the Government is expected to issue a decision on the application for a uranium recovery permit, which was filed in 2017.

In the beginning of summer 2018, an environmental permit was granted for a new hydrogen sulphide plant, which was commissioned in the summer. Other decisions received in late 2018 include the decision on the mixing zone in Lake Nuasjärvi from the RSAA and the decision on process precipitates from the Administrative Court of Vaasa. Additionally, at the end of the year, Terrafame had claims relating to permit decisions pending with the RSAA.

Personnel

Just under 1,300 people were regularly employed at Terrafame’s industrial site during 2018. At the end of the year, Terrafame employed 667 people, in addition to which the company gave summer jobs to roughly 90 people. In addition to the company’s own employees, its partner companies' employees worked in the industrial site.

Personnel development at Terrafame continued through training courses on themes such as occupational safety, emergency first aid and hot work. Over the course of the year, as offered by the employer, many decided to participate in education leading to further vocational qualification in process engineering and electrical engineering, as well as specialist vocational qualification in technology. Other training opportunities offered by the employer included managerial coaching, workplace instructor training and project management training. The user-maintenance training started in 2017 continued in 2018.

The decision to invest in the battery chemicals plant prompted the company to start strengthening local industrial expertise by cooperating with educational institutions. Terrafame and Kajaani Polytechnic have agreed on the provision of specialist training programmes in process engineering. In December, a call for applications was announced for apprenticeship training leading to vocational qualifications in the process industry, which will be organised at Terrafame’s industrial site.

An employee survey was carried out at Terrafame in February–March. In addition to the development targets set specifically for each department, it was decided at the company level to emphasise fair and equal treatment, well-being at work, reducing bureaucracy and inter-departmental cooperation and flow of information.

Related party transactions

The Board of Directors of the parent company, Finnish Minerals Group, has confirmed the group’s related party policy. The key related parties of Terrafame include Finnish Minerals Group, the state of Finland, Galena Private Equity Resources Investment 2 L.P. and Galena Private Equity Resources Investment 3 L.P. funds, as well as Trafigura Ventures V B.V. The related parties also include members of Boards, CEOs and management team members of group companies, persons responsible for Terrafame’s commercial agreements, immediate family members of persons referred to here, as well as entities over which they or their immediate family members have control.

During the financial period 2018, the company had a EUR 58.5 million (2017: 68.0) counter-guarantee granted by the State for arranging collateral in accordance with environmental permits. EUR 17.0 million third-party pledge provided by Finnish Minerals Group for the same arrangement was released in 2018. Legal and other administrative services were bought from the parent company.

The sales of nickel-cobalt sulphide and zinc sulphide to Trafigura Ventures V B.V. company amounted to EUR 305.6 million (2017: 158.8 million) for the financial period.

The financing arrangements realised with the related-party companies Finnish Minerals Group, Trafigura Ventures V B.V. and Galena funds are presented in the “Financing arrangements” section.

All business transactions between Terrafame and its related parties conformed to accepted market practices.

Shares and shareholders

Terrafame has one series of shares. On 31 December 2018, the company had 3,293,781 shares, EUR 2.0 million in share capital, and EUR 365.6 million in shareholders’ equity. Terrafame is a 77.0 percent owned subsidiary of Finnish Minerals Group. Minority shareholders were Trafigura Ventures V B. V., Galena Private Equity Resources Investment 2 L.P. and Galena Private Equity Resources Investment 3 L.P. funds, with a holding totalling 22.7%, as well as Sampo plc, with a 0.3% holding.

Governance

The General Meeting of Shareholders, the Board of Directors and the CEO are responsible for Terrafame’s administration and operations. As an unlisted company, Terrafame observes, as applicable, the Finnish Corporate Governance Code for listed companies issued by the Securities Market Association. The company will publish a corporate governance statement as part of its Annual Report for 2018. As of 14 August 2015, Terrafame’s Board of Directors comprises Lauri Ratia (Chairman), Esa Lager and Tuomo Mäkelä. In February 2017, Matti Hietanen (Vice Chairman), Jesus Fernandez and Emmanuel Henry were appointed to the Board. Riitta Mynttinen was appointed as the Board’s seventh member in July 2018. Joni Lukkaroinen continued as CEO. Terrafame Ltd's auditor is the Authorised Public Accountants KPMG Oy Ab, with Antti Kääriäinen, APA, as principal auditor.

Significant events after the end of the financial period

Terrafame’s financial period ended on 31 December 2018. The environmental impact assessment of Terrafame’s battery chemicals production was completed at the beginning of January 2019. The EIA report and the reasoned conclusion published on 8 January 2019 are both part of the statutory EIA procedure that must be completed in the course of the battery chemicals plant’s environmental licensing process. The conclusion includes, for example, a description of the project and its alternatives as well as conclusions on the most notable environmental impacts of the proposed battery chemicals production process. Reasoned conclusions were introduced by the new EIA Act that entered into force in 2017 as replacements for the coordinating authority’s statements on assessment reports.

Estimate of future developments

Terrafame continues to develop production and improve cost-efficiency further. During the first half of 2019, the application for an environmental permit for the battery chemicals plant will be filed and the construction related to the plant will continue.

In February 2019, the Board of Directors of Terrafame Ltd decided on the establishment of a long-term incentive scheme for the company’s Management Team and other key employees. The scheme consists of annually commencing individual performance-based plans, each with a three-year performance period which is followed by the payment of the potentially earned reward in cash. The incentive scheme is in line with the Finnish state-owner’s principles.

The data on Terrafame’s mineral resources and ore reserves were updated in June in accordance with the ‘JORC Code’. According to an assessment by an independent, external body, the measured, indicated and inferred mineral resources amount to 1,525 million tonnes. The ore reserves and mineral resources will enable the production and further processing of metals for many decades. The techno-economic parameters were drawn from the mine’s historical data, Terrafame’s mining plans and specified cost parameters.

Board of Directors’ proposal for the disposal of the result

Terrafame Ltd's result for the financial period 2018 shows a loss of EUR -6,171,386.74. On 31 December 2018, Terrafame’s distributable equity totalled EUR 357,244,274.37. The Board proposes that the loss be transferred to the retained earnings/loss account and that no dividend be paid.

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