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GRI Index: G4-2

Risks

In the course of its business, the ORLEN Group monitors and assesses its risk exposures on an ongoing basis and takes steps to minimise their effect on its financial position.

ENTERPRISE RISK MANAGEMENT SYSTEM

In 2015, the underlying principles of the Group’s Enterprise Risk Management System did not change.

In the course of its business, the ORLEN Group monitors and assesses its risk exposures on an ongoing basis and takes steps to minimise their effect on its financial position.

PKN ORLEN’s Audit and Enterprise Risk Management Office coordinates the enterprise-wide risk management process at all levels of the organisation. The key responsibility of the Office is to assess risk management and internal audit systems in an independent and unbiased manner, and to analyse business processes. Audit tests and procedures are performed in accordance with annual audit plans authorised by the Management Board and approved by the Supervisory Board’s Audit Committee and the Supervisory Board. Ad-hoc audits are also conducted when and as requested by the Company’s Supervisory or Management Board.

Structure of the ORLEN Group Enterprise Risk Management System

Overall supervision

MANAGEMENT BOARD

  • Supervises the enterprise risk management process;
  • Develops risk management policy and procedures;
  • Periodically reports on results of risk assessment reviews to the Supervisory Board’s Audit Committee.

SUPERVISORY BOARD/AUDIT COMMITTEE

  • Annually assesses the effectiveness of the Enterprise Risk Management System;
  • Monitors the level of risk affecting execution of business objectives;
  • Presents its assessment of the internal audit and risk management systems to the General Meeting.

The third line of defence

AUDIT AND ENTERPRISE RISK MANAGEMENT OFFICE

  • Supervises the enterprise risk management process;
  • Develops risk management policy and procedures at the Company level;
  • Periodically reports on results of risk assessment reviews to the Management Board and the Supervisory Board’s Audit Committee.

The second line of defence

FINANCIAL RISK COMMITTEE

  • Manages the commodity price risk (i.e. changes in refining and petrochemical margins, Brent/Urals differential, crude oil and product prices, and prices of CO2 emission allowances);
  • Manages the currency and interest rate risks;
  • Manages the liquidity and credit risks;
  • Manages working capital.

The first line of defence

MANAGEMENT TEAM

  • Identifies, monitors, assesses, and analyses risks;
  • Implements recommendations for individual risks in line with the applied policies.

ORLEN GROUP EMPLOYEES

  • Identify risks;
  • Inform their superiors of possible occurrence of individual risks.

Financial risk management is designed to mitigate the undesired impact of changes in market risks on cash flows and performance in the short and medium term. The ORLEN Group operates a consistent hedging policy for the commodity, currency and interest rate risks, and manages such market risks based on the market risk management policy and strategy, which specify the principles for measuring individual risk exposures, the parameters and time horizon of the hedges, and hedging instruments.

At PKN ORLEN, the market risk management policy is implemented by designated organisational units supervised by the Financial Risk Committee, the Management Board and the Supervisory Board.

The Financial Risk Committee is responsible for supervision and coordination of financial risk management.

To ensure the efficiency, effectiveness and operational security of the process, three separate areas have been designated within PKN ORLEN’s Finance Management Office, responsible for the execution of financial transactions (Front Office), risk measurement and analysis (Middle Office), and transaction reporting and settlement (Back Office).

Management boards at each ORLEN Group company, supervised by their respective supervisory boards, are responsible for risk management. PKN ORLEN, authorised to do so under relevant agreements, executes hedging transactions on behalf of individual ORLEN Group companies covered by a consistent hedging policy. The effectiveness and execution of hedging transactions are monitored and reported to the Financial Risk Committee and the PKN ORLEN Management Board by the Finance Risk Management Office.

Risk management is a continuous process, though it is modified in response to changes in the economic environment.

PKN ORLEN and other ORLEN Group companies have implemented Enterprise Risk Management Policy and Procedure. Developed in 2013, the policy and the procedure regulate the operation of the Enterprise Risk Management System in a comprehensive and structured manner.

In line with these regulations, the Audit and Enterprise Risk Management Office coordinates the risk management process, providing tools and methodological support to those involved in the process. The applied methodology allows risk identification based on a single shared model. It also links risks with strategic objectives – and thus with business processes.

The ERM (Enterprise Risk Management) System is one of the tools used to support effective implementation of the strategic and operating objectives. The system enables collection of information on the organisation’s key risks and ensures that effective risk management tools have been selected to address the risks.

Business areas assess risks at least once a year to ensure that the list of most significant risks is up to date. The process, risk and audit owners are responsible for the assessment. Its objective is to measure materiality of each risk with respect to the following three states:

  • Gross risk, where no risk-specific controls have been implemented;
  • Net risk, where risk-specific controls have been implemented; the risk is measured based on the results of testing the operational effectiveness of the risk-specific controls;
  • Risk appetite, understood as the organisation’s target risk level.

Results of the assessment are used to develop plans of remedial actions for individual risks and risk controls, to help bring net risk (with risk-specific controls in place) exactly in line with the organisation’s desired risk appetite. Upon completion of each risk assessment exercise and risk controls testing a report is prepared and submitted to the Management Board and to the Supervisory Board’s Audit Committee. The report identifies the risks most material to PKN ORLEN and recommends suitable mitigation methods.

In 2015, the process of risk self-assessment and risk controls testing at PKN ORLEN was performed with the participation of key management personnel, which enabled assessment of 675 risks to be updated through testing 1,280 risk controls in 85 business processes.

The Audit and Enterprise Risk Management Office also regularly verifies the quality of the risk and risk controls assessment process.

For three years now, work has also been underway to roll out the ERM system at the ORLEN Group’s key subsidiaries. In 2015, the ERM system was implemented at ORLEN Deutschland and ORLEN Gaz, while at the ORLEN Lietuva Group the implementation process was nearing completion.

Risks and threats to the ORLEN Group’s business

The ORLEN Group’s operations expose it to the following key financial risks:

1. Market risks:

  • Commodity risk – related to changes in refining and petrochemical margins on sales of products, Brent/Urals differential, crude oil and product prices, and prices of CO2 emission allowances.
  • Currency risk – related to economic currency exposure.
  • Interest rate risk – related to changes in cash flows caused by interest rate movements, resulting from the fact that certain assets and liabilities held by the Group have interest income and expense driven by floating interest rates.

2. Liquidity risk

  • Related to an unforeseen shortage of cash or unavailability of financing sources.

3. Risk of loss of cash and deposits

  • The risk of bankruptcy of domestic or foreign banks with which ORLEN Group keeps or deposits its cash.

4. Credit risk

  • Related to payment default on the part of the customers receiving our products or services.

5. Sector risks

  • The ORLEN Group is also exposed to a number of risks specific to fuel sector companies:
    • Fuel consumption. The overall economic situation has a material effect on fuel consumption levels and thus has a bearing on the sales and prices of the ORLEN Group’s products and its financial position. The ORLEN Group’s fuel trading operations are subject to risk resulting from the existence of the grey market, chiefly involving the practice of tax evasion in marketing fuels.
    • Crude processing / raw material supplies. The ORLEN Group’s crude processing activities may be disrupted as a result of irregular raw material supplies, unavailability of pipeline transport, or unstable situation in oil-producing countries. Other important factors include changes in the parameters of the received crude, and the resulting reduction in ‘white’ product yields, as well as maintenance shutdowns of production units. The expansion of existing refineries in Russia and the construction of new ones may translate into reduced crude oil exports, limiting the feedstock’s availability to European customers, including the ORLEN Group.
      Gas purchases are made by the ORLEN Group under a long-term agreement with PGNiG and short-term contracts with alternative suppliers. Due to the lack of the pricing mechanisms present on liquid European gas markets, gas prices in Poland may be lower or higher than those on neighbouring deregulated markets (e.g. in Germany and the Czech Republic). The ORLEN Group takes steps to ensure the steady supply of raw materials, chiefly by diversifying supply sources and adapting production facilities to processing various grades of feedstock. Furthermore, the ORLEN Group is implementing a number of exploration and production projects with a view to securing its own sources of natural gas and crude oil.
      With respect to product logistics, the ORLEN Group is largely dependent on local companies, such as PERN and its subsidiary OLPP in Poland or ČEPRO in the Czech Republic. In terms of product logistics, the Mažeikiai refinery relies on a single provider of rail transport services – AB Lietuvos Geležinkeliai.
  • Risk of changes in the legal enviroment - Changes in existing regulations or the implementation of new regulations may have a material effect on the ORLEN Group, its financial position and performance:
    • Implementation of the National Indicative Target (NIT). Since 2008, fuel producers have been required to achieve the NIT, which specifies the minimum share of biocomponents and other renewable fuels, calculated according to their calorific value, in the total amount of fuels and liquid biofuels consumed during a calendar year in the transport sector. Since January 1st 2012, fuel producers can apply a lowered NIT, adjusted by a reduction index which corresponds to 0.85 of the NIT for a given year, if they use in fuel production at least 70% of biocomponents supplied by domestic producers listed in the producer register of the Agricultural Market Agency. Starting from 2015, all biocomponents used to fulfil the NIT obligation must meet the criteria of sustainable development. In 2015, a decision was made to maintain the NIT reduction mechanism for the years 2016–2017. In 2016, the NIT in Poland will remain unchanged at 7.1%. Taking into account the reduction index referred to above, the NIT for PKN ORLEN will be 6.035%. If NIT is not met, a penalty of approximately PLN 17.5 thousand may be imposed for each tonne of biocomponents below the specified minimum amount. Moreover, implementation of the provisions of Directive 2009/30/EC will force fuel producers to meet the National Reduction Target (NRT) related to a 6% mandatory reduction of greenhouse gas emissions (GHG) by the end of 2020 compared with 2010.
    • CO2 emission allowances. On February 26th 2014, the European Commission approved a draft list of installations receiving free CO2 emission allowances and the initial allocations. The legislative process at the national level is nearing completion. The CO2emission management at the ORLEN Group involves annual monitoring of CO2 emissions for installations covered by the emission trading scheme and balancing of any deficit/surplus in line with the rules applicable to intragroup transactions or transactions on the forward and spot markets.
    • Industrial emissions. The Industrial Emissions Directive has introduced more stringent sulfur dioxide, nitrogen oxides and dust emission requirements as of 2016. To address these requirements, the ORLEN Group has built flue gas desulfurisation, denitrification and dust removal units, which will reduce emissions of sulfur dioxide, nitrogen oxides and dust at the CCGT unit in Płock by more than 90%.
    • ‘Colour’ certificates. ‘Colour’ certificates are designed to provide support to utilities producing electricity from renewable energy sources and in high-efficiency cogeneration. The certificates are allocated in an amount corresponding to the amount of energy produced and the structure of fuel used. The Act Amending the Energy Law and Certain Other Acts has reinstated the certificate-based support mechanism for high-efficiency co-generation until 2018. In the coming years, the ORLEN Group will be exposed to risks related to certificate allocation, risk of changes in certificate prices, and the risk of substitution fee increases.
    • Mandatory stocks. In 2014, as part of the implementation of EU legislation, amendments were made to the laws on mandatory stock levels. In line with the new regulations, producers and traders − in exchange for a gradual reduction of the level of physical stocks required to be maintained for the purpose of stocks held by the Material Reserves Agency (from the equivalent of 76 days to the equivalent of 53 days of the average daily production of fuels or imports of crude oil or fuels at the end of December 31st 2017) − are under the obligation to pay, starting from January 1st 2015, a stocks charge. In 2015, the level of mandatory stocks was reduced by the equivalent of 8 days, to the equivalent of 68 days, and the stocks charge amounted to PLN 43 per tonne of crude oil and PLN 99 per tonne of LPG. In 2016 the level of mandatory operational stocks will be further reduced from the equivalent of 68 days to the equivalent of 60 days. The change in the mandatory stocks system will enable the ORLEN Group to release capital thus far tied up in physically maintained mandatory stocks of crude oil and fuels.
      The stocks charge paid to the Material Reserves Agency may further increase operating expenses incurred by the ORLEN Group, depending on the stocks levels maintained by the Group. The stocks charge may affect the price of fuels, and, as a result, the domestic fuel consumption. Additionally, maintaining mandatory stocks (despite the reduction of the mandatory stock levels required to be maintained by producers) continues to force the ORLEN Group to incur additional cost of their financing and storage and may have a non-cash effect on the Group’s operating performance where changes in market prices lead to revaluation of the stocks.
    • Hydrocarbon tax. On January 1st 2016, the Act on Special Hydrocarbon Tax of July 25th 2014 came into force. The Act introduces a new tax and adds oil and gas to the list of items subject to tax on production of certain minerals.
      Under the Act, a special hydrocarbon tax will be charged on profits from hydrocarbon production. The Act classifies crude oil, natural gas and their natural derivatives as hydrocarbons. The Act will also introduce amendments to the Act on Tax on Production of Certain Minerals, and will regulate natural gas and crude oil production.
      The introduction of additional charges under the hydrocarbon law may affect the economics of the ORLEN Group’s operations in the Upstream segment.
    • Gas market liberalization. Gas market liberalization assumes a two-stage deregulation of gas fuel prices (Stage I: institutional customers, Stage II: households). Potential consequences of the gas market deregulation for the ORLEN Group may include changes in gas prices resulting from the abolition of tariffs, and gradual reduction of the use of long-term agreements and building a portfolio of suppliers based on short-term contracts.
    • Retail tax. Legislative work is under way with a view to introducing a retail tax to be paid by retail chains and retailers that achieve a certain threshold of sales revenue. Pursuant to the provisions of the draft Act, the retail tax will be progressive, with variable rates depending on the sales volumes. The ORLEN Group, carrying out retail sales through its network of service stations, may be required to pay the tax.
  • New business areas. In line with its strategy, the ORLEN Group focuses on the development of new business segments, including Upstream and Power Generation. These initiatives are aimed at diversifying the ORLEN Group’s business, currently concentrated on the Downstream segment, i.e. activities that involve the processing of crude oil into petroleum products, including fuels, and on the marketing of those products.
    The upstream projects carried out by the ORLEN Group are subject to a number of geological and operational risks, which may prevent the Group from earning expected profits. Implementation of such projects may be delayed or may fail to succeed, chiefly because of high exploration risk inherent in this type of business, cost overruns, lower-than-expected crude and gas prices, higher-than-expected fiscal burden, adverse changes in sectoral regulations, shortage of equipment and qualified staff, bad weather, or difficulty finding partners to share the risks and costs related to project implementation. Project execution may often entail using new and advanced technologies, which are expensive to develop, acquire and implement and may not operate as expected.
    Power generation projects are primarily exposed to the risk of higher gas prices and adverse regulatory changes related to the loss of support to utilities producing electricity from renewable energy sources and in high-efficiency cogeneration.
  • Operational and incidental losses. The ORLEN Group is exposed to the risk of losses incurred in the course of its operations and the risk of incidental losses. The ORLEN Group mitigates potential adverse effects of such losses with a professional insurance programme customised to its needs. The programme is developed and relevant insurance agreements are concluded by a dedicated insurance company, ORLEN Insurance Ltd. The insurance coverage guaranteed under policies issued by ORLEN Insurance Ltd. is reinsured by major international insurance and reinsurance companies as part of a programme led by AIG Europe and Allianz and involving the largest global and Polish insurance companies, such as AIG, Allianz, SCOR, VIG, Munich Re, ACE, as well as PZU and TUiR Warta. In addition to comprehensive insurance of assets, the ORLEN Group also holds other insurance policies enabling it to minimise the adverse effects of losses, such as business liability insurance or transportation insurance.
  • Court and regulatory proceedings, tax, customs and excise duty inspections. In the course of its business, the ORLEN Group undergoes regular tax, customs and excise duty inspections. Although the ORLEN Group does not currently expect any of the proceedings to which it is a party to have a material adverse effect on its financial position and performance, there can be no assurance that the result of any current or future proceedings will not have such an effect on the Group’s financial position or performance.
  • Risks related to the stability and security of IT systems and data. As the ORLEN Group relies on complex and advanced IT systems in many areas of its business, to the extent typical of a corporate organisation, the Group identifies certain risks associated with proper operation of its IT systems. The ORLEN Group applies security measures for its IT systems which are in line with the world’s best practices in ICT system security. However, there can be no assurance that such risks will not materialise.

See also

Corporate governance at PKN ORLENCorporate governance

see more

Management and supervisory bodiesCorporate governance

see more

Management's discussion and analysisFinancial results

see more

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