Terrafame Ltd’s report for the financial period 1 January–31 December 2017

Terrafame Ltd (hereafter also referred to as “Terrafame”) is a Finnish multi-metal company that produces nickel, zinc and cobalt as well as copper since the end of 2017 at its mine and metals production plant located in Sotkamo. The company’s goal is to conduct environmentally sustainable, safe and profitable operations.

Terrafame started actual operations on 15 August 2015. The financial period from 1 January–31 December 2017 is the company's third financial period and the second full year of operation.

Significant events during the financial period

Summary

  • Production ramp-up proceeded as planned: nickel production increased by 118% to 20,864 tonnes (2016: 9,554 tonnes) and zinc production increased by 109% to 47,205 tonnes (2016: 22,575 tonnes)
  • Net sales EUR 220 million (2016: EUR 101 million)
  • EBITDA EUR 13.6 million (2016: EUR -120.6 million)
  • Operating profit EUR -6.2 million (2016: EUR -134.5 million)
  • Lost-time injury frequency rate, or the number of lost-time injuries per one million person-hours worked, 3.5 (2016: 8.4).
  • Two significant financing arrangements: financing arrangement of February totalling EUR 250 million and financing arrangement of November totalling USD 200 million. The purpose of the latter arrangement is to enable planning and investment in the production of battery grade chemicals.

Market developments

Global demand for Terrafame’s main products, nickel and zinc, continued at a good level in the market in 2017. The stock levels of the London Metal Exchange (LME) and the Shanghai Futures Exchange (SHFE) decreased, contributing to a favourable price development. During the year, the combined nickel stock levels at the LME and the SHFE decreased by almost 60,000 tonnes, equalling 12 weeks’ demand at the end of the year (2016: 24 weeks). Zinc stock levels decreased by 331,000 tonnes, equalling 3.8 weeks’ demand at the end of the year (2016: 5.2 weeks). Demand was primarily supported by the use of nickel in stainless steel production and the use of zinc in galvanisation.

The global market price for nickel in US dollars rose markedly in the second half of the year. The average price in 2017 was USD 10,411 (2016: 9,609) per tonne. In the fourth quarter, the average price was USD 11,583 per tonne, which was 7.2% higher than the average price in the fourth quarter of the previous year (Q4 2016: 10,810). Due to the weakening of the US dollar, the price of nickel in euros decreased by 1.8% (Q4 2017: 9,838 and Q4 2016: 10,019).

In the global market price of zinc there was a slight reduction in the third quarter, but otherwise the price developed progressively. The average price in 2017 was USD 2,896 (2016: 2,095) per tonne. In the fourth quarter, the average price was USD 3,235 per tonne, which was 28.5% higher than the average price in the fourth quarter of the previous year (Q4 2016: 2,517). The price of zinc in euros in the fourth quarter of 2017 was 17.8% higher than in the fourth quarter of the previous year (Q4 2017: 2,748 and Q4 2016: 2,333).

Production

Terrafame’s production ramp-up continued in 2017 and, towards the end of the year, it was possible to proceed to the stabilisation of production after the fastest ramp-up phase. At the same time, focus was increasingly shifted to improving the cost-effectiveness of operations.

In terms of mining volumes, the target level had already been reached in summer 2016. The aggregate mining volume in 2017 was 35.1 million tonnes. Terrafame has long utilised waste rock as a building material for production areas. Towards the end of the year, the transfer of waste rock into a separate waste rock area was started, which will reduce transportation costs.

The primary leaching area, i.e. the first-phase bioleaching area, was fully commissioned in May, when it was stacked with completely new ore. In the secondary leaching area, i.e. the second-phase bioleaching area, ore stacking progressed to section 3 in the spring, which was virtually fully commissioned by the end of the year. Overall, the bioleaching recovery rate from the primary and secondary areas was almost up to expectations.

The production volumes of Terrafame’s main products more than doubled compared with the previous year. A record-breaking 20,864 tonnes of nickel and 47,205 tonnes of zinc were produced during the year. Towards the end of the year, the first customer deliveries of copper were also made.

Sales and business procurement

In accordance with the sales contracts concluded with Trafigura Ventures V B.V., most of the 2017 production was delivered to end customers through Trafigura’s sales network. During the year, sales volumes increased following production, and net sales more than doubled to EUR 220.0 million.

The ramp-up phase and moving towards the stabilisation of operations were also visible in procurement. During the year, the use of electronic procurement tools was expanded, and new, extensive contracts were concluded related to production supplies, storage, industrial cleaning and waste management. Additionally, the audits of partner companies were enhanced, and cooperation with ports was developed further.

Financial review and key figures

Terrafame’s net sales in 2017 totalled EUR 220.0 million (2016: EUR 101.0million). The nickel content of nickel-cobalt product customer deliveries was 20,287 (2016: 9,544) tonnes. The zinc content of zinc product customer deliveries was 46,828 (2016: 25,707) tonnes.

EBITDA was EUR 13.6 million (2016: EUR -120.6 million), and loss for the financial year was EUR -9.6 million (2016: EUR -124.9 million).

(EUR 1,000) 2017 2016
Net sales 220,024 101,042
EBITDA 13,622 -120,551
EBITDA % 6.2% -119.3%
Operating loss -6,219 -134,533
Operating loss % -2.8% -133.1%
Profit/loss for the financial year -9,601 -124,912
Equity ratio % 47.8% 44.6%
Balance sheet 618,511 370,656
Personnel, average 694 626
Wages and salaries 30,992 27,934

In 2017, capital expenditure totalled EUR 92.7 million (2016: EUR 84.3 million). Key areas of capital expenditure were the construction of foundations for secondary leaching area sections 3 and 4, and for the waste rock area, a third production line for hydrogen sulphide, as well as the addition to mining and ore reclaiming equipment of a one wheel loader, three dumper trucks and one ore surface miner. Also, the construction of a new emergency shelter got well under way.

Terrafame’s year-end inventories totalled EUR 168.6 million (2016: EUR 76.2 million). The value of work in progress on 31 December 2017 was EUR 138.0 million (2016: EUR 50.1 million), and the value of raw material and spare part inventories was EUR 22.8 million (2016: EUR 25.5 million), including an inventory provision for slow-moving items of approximately EUR 5.7 million (2016: EUR 6.0 million). The value of the finished goods inventory was EUR 7.8 million (2016: EUR 0.6 million).

Trade receivables on 31 December 2017 totalled EUR 24.7 million (2016: EUR 15.8 million). Other receivables on 31 December 2017 totalled EUR 2.9 million (2016: EUR 8.4 million). Prepaid expenses and accrued income totalled EUR 19.0 million (2016: EUR 2.8 million), the most significant item of which was derivative receivables, amounting to approximately EUR 11.7 million, due to hedging activities initiated during 2017. At the end of 2017, cash and cash equivalents totalled EUR 106.4 million (2016: EUR 44.7 million). Shareholders' equity on 31 December 2017 was EUR 295.6 million (2016: EUR 165.1 million).

In the financial period 2017, cash flow from operating activities was EUR -81.0 million (2016: EUR -176.8 million), of which change in net working capital comprised EUR -88.8 million (2016: EUR -55.3 million). Cash flow from investment activities was EUR -92.1 million (2016: EUR -74.0 million).

Currency and commodity hedge transactions

In the financial period 2017, cash flow hedging against dollar and metal price fluctuations was initiated in line with the company’s hedging policy. The policy was updated in 2017. The company also began to use hedge accounting.

Financing arrangements

Financing arrangement concluded in February 2017

Terrafame Group Ltd and Terrafame Ltd, together with Trafigura Ventures V B.V.  and Galena Private Equity Resources Investment 2 L.P. fund – both part of the Trafigura Group – executed and announced an agreement concerning Terrafame’s ownership and financing arrangements on 10 February 2017. The financing arrangement totalled EUR 250 million, thus covering the anticipated funding required for the completion of Terrafame’s ramp-up. In the arrangement, the value of Terrafame Ltd before equity financing is EUR 381.8 million, which corresponds with the capitalisation of Terrafame Ltd by Terrafame Group Ltd before the arrangement.

As a result of the arrangement, Galena Fund held approximately 15.5% of the shares of Terrafame Ltd against an equity investment of EUR 75 million. Terrafame Group Ltd made an additional equity investment of EUR 25 million in Terrafame Ltd. As a result of the arrangement, Terrafame Group Ltd held 84.2% of Terrafame shares. Terrafame Group Ltd also committed EUR 50 million stand-by facility for an equity investment in Terrafame Ltd, which is valid until the end of 2018. The above-mentioned financing was not drawn during the financial period 2017.

As part of the arrangement, Trafigura granted a loan of EUR 75 million to Terrafame Ltd, and Sampo Plc a loan of EUR 25 million under the same conditions as Trafigura. The loans entitle the Trafigura Group and Sampo to subscribe to Terrafame shares in an amount that corresponds to the loan principal and the interest on the loan. The option is valid for five years. Loan arrangement fees of 1.5% were paid in Terrafame Ltd shares.

It was also agreed in the arrangement that Trafigura will purchase all the nickel cobalt sulphide that Terrafame Ltd produces, as well as 80% of zinc sulphide for the next seven years.

Financing arrangement concluded in November 2017

In addition to the above arrangement, on 10 November 2017 the parties agreed on a financing package amounting to USD 200 million, the purpose of which is to enable further add value to Terrafame’s nickel-cobalt sulphide by investing in the production of battery grade chemicals. In the first phase of this financing arrangement, the Galena Private Equity Resources Investment 3 L.P. fund made an equity investment of USD 50 million in Terrafame. The fund also committed USD 50 million of equity investment, which is applicable for the financing of the battery chemical plant. As part of the package, Trafigura is committed to a USD 75 million, and Sampo Plc to a USD 25 million loan arrangement in connection with the investment. Terrafame Group Ltd did not participate in the arrangement as financer, apart from continuing its earlier EUR 50 million stand-by equity investment commitment until the end of 2021. After the finalisation of the financing arrangement, the shareholding of Terrafame Group Ltd in Terrafame Ltd will be approximately 71%.

Equity investments have been made at the same Terrafame share price as in the financing arrangement realised in February 2017. Equity investments also provide Galena with an option to subscribe to Terrafame shares in the amount of USD 100 million.

The repayment period of the loans is 5.5 years. The loan arrangement fee of 1.5% will be paid in Terrafame shares. The loans entitle the Trafigura Group and Sampo to subscribe to Terrafame shares in an amount that corresponds to the loan principal and the interest on the loan.

As part of the financing package, Trafigura and Terrafame Ltd continued their zinc sulphide streaming agreement and agreed on new commercial arrangements concerning future battery chemicals, i.e. nickel and cobalt sulphate products. In accordance with the continued agreement, Trafigura would purchase 80% of the zinc sulphide produced by Terrafame until the end of 2027. According to the agreement on new nickel and cobalt products, Trafigura would become an exclusive agent to market the nickel and cobalt products until the end of 2027. The commercial terms of the arrangement are in line with practices applied in international metal markets. The purchase agreement on nickel and cobalt sulphides will remain in force.

As a result of the financing arrangement, the company’s invested unrestricted equity fund increased by EUR 144.6 million during the financial period 2017. At the end of the financial period, the invested unrestricted equity fund totalled EUR 524.4 million. The number of shares increased by 901,423 shares and stood at 3,281,498 shares at the end of the financial period.

Estimate of major risks and uncertainty factors affecting operations

In accordance with good corporate governance on risk management, Terrafame Ltd 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 assessed in 2017.

The company’s operations are affected by various generic risks of the mining industry, including the risks of the impact of environmental permits and other permits 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 done. Hazard risk assessments were updated 2017 to reflect Terrafame's current operations, practices and requirements.  

Operational risks have continued to decrease during 2017. Key issues include the systematic update of piping and instrumentation diagrams, markings on process equipment, and the process change management model.

Research and development

In research and development, special focus was placed on bioleaching development. This work was conducted with own resources and together with partners, both on a laboratory and a production scale at the bioleaching heaps. Based on research results, significant amount of new information was obtained for further development of bioleaching technology.

Technical developments were made at the metals production plant to improve the cost-efficiency and yield of metals recovery. In the summer, plant-scale trial operations commenced to improve the precipitation properties of copper and, by the end of the year, copper precipitate was commercialized. Chemicals consumption at the plant was minimised and availability improved through new technical solutions.

In June, Terrafame filed a permit application for laboratory scale testing of the extraction process with the Radiation and Nuclear Safety Authority. The aim of the study is to extract rare earth elements in addition to uranium. The study received an operational permit in December.

During 2017, two different options were examined that would be applicable to the further processing of Terrafame’s nickel-cobalt product. In the roasting-smelting option, nickel sulphide would be refined into a metallic form suitable for stainless steel production. In the battery chemical option, nickel-cobalt sulphide would be refined into sulphate products suitable for batteries for electric vehicles. From the end of the year, particular focus was placed on studying the feasibility of a battery chemicals plant.

Safety

The development of occupational safety continued in 2017 with good results. The range of measures continued to comprise training courses, safety rounds, observation and non-conformity notices, as well as accident and near-miss review meetings. The operations of Terrafame and its partner companies that operate regularly in the industrial area were audited to improve safety. Terrafame’s personnel were also rewarded for good results with a safety bonus.

Terrafame’s lost-time injury frequency rate, i.e. the number of lost-time injuries per one million working-hours, fell to 3.5 from 8.4 in the previous year. This was a better result than the target for the year, set at under 5.0. The company’s employees suffered 4 lost-time injuries, the most significant of which was caused by a slippage in the yard due to icy conditions.

Occupational safety continued to be in focus through workplace visits, occupational hygiene measurements and employee biomonitoring. According to the results, the exposure level of Terrafame's personnel does not differ from the typical level of the Finnish population, and no cases of occupational disease have been reported in the company. During 2017, guidance and control of occupational hygiene provided to partner companies that regularly operate at the site was increased, and they were expected to organise biomonitoring.

In terms of process safety, the year went well. The root causes of the fire in a hydrogen sulphide generator in December 2016 were analysed in early 2017, and preventive measures were taken. During the year, the safety report on the extensive use and storage of chemicals was updated. This was used as a basis for preparing communications on safety issuesfor the neighbouring area. Terrafame’s industrial fire brigade and Kainuu Rescue Services extended their cooperation at the start of the year. According to the agreement, Terrafame’s fire brigade and its equipment can be utilised even outside the industrial area for various rescue missions, and inter-organisational rescue exercises will be further enhanced.

Environment

Environmental safety at Terrafame’s industrial site continued at a good level in 2017. Environmental monitoring of operations continued in accordance with the extensive monitoring programme approved by the supervisory authority.
     
The target level of 1–3 million cubic metres of stored water was achieved, and spring melt water and autumn rains were managed without difficulty. The substance concentrations of purified water discharged from the site were clearly below permit levels, apart from individual exceptions. One third of the company’s annual sulphate quota was unused, and the sulphate load fell by over 7,000 tonnes compared with the previous year. Overall, the  load on surrounding water bodies resulting from Terrafame’s operations was reduced from 2016. Purified discharge water was released to the northern routes only, mainly through the Lake Nuasjärvi discharge pipe. The spring and autumn natural overturns of Lake Nuasjärvi proceeded normally.

Towards the end of the summer, a disruption occurred in the waste rock construction area, where rainwater and runoff failed to be directed to water purification due to human error. Hence, unpurified metal containing water flowed outside the mining site. This caused an additional nickel load of around 100 kilogrammes. The aluminium content of discharge water in water treatment increased in late autumn, but the discharge of water was suspended, and the aluminium content was returned to its ordinary level by adjusting the operating parameters of the centralised water treatment plant.

The impact of operations on groundwater was monitored in line with an extensive monitoring programme, and still no impact from mining operations was observed in adjacent domestic water wells. In early 2017, Terrafame submitted a report to the supervisory authority on the groundwater impact in the industrial site’s primary leaching area and the neighbouring area of the Kortelampi dam, as well as the measures to prevent the impacts from spreading.

The dust impact of mining operations was reduced from the previous year, thanks to road watering, and other measures. Permit levels for air emissions were tightened in 2017, and the operations fulfilled the requirements, apart from one-time overruns in the particulate and sulphur dioxide concentrations in ore fine crushing and heating installations.

Permit processes

The most extensive of the permit processes in 2017 related to the environmental permit application covering Terrafame’s entire operations, which the Supreme Administrative Court (SAC) had required when deciding on the currently valid environmental permit. Terrafame filed a new permit application with the Northern Finland Regional State Administrative Agency (RSAA) within the time limit set by the SAC. In order to prepare for the application, the company had already initiated two Environmental Impact Assessment (EIA) procedures in 2016. These EIA processes, related to water management of the site as well as mining operations, were completed during 2017. Terrafame’s current environmental and water management permits will remain in force until the new environmental permit covering all operations is final.

In September 2017, the RSAA issued two environmental permit decisions for Terrafame’s operations. The RSAA granted permission for the use of waste rock area KL2, sectors 1–4. In its decision on water treatment deposits, it ruled that the so-called geo tubes, with deposits, could be finally disposed of in the area south of the open pit. The final disposal of earlier deposits requires further planning and a new permit process.

In January 2017, the RSAA granted Terrafame an environmental permit for the use of the new centralised water treatment plant. At the end of the year, Terrafame also had an environmental permit application pending with the RSAA for a third hydrogen sulphide plant, as well as compensation cases related to the existing permit decisions.

Terrafame filed a permit application for uranium recovery with the Government in October 2017, and in December, the Radiation and Nuclear Safety Authority granted the company an operational permit for the study of the extraction process used in uranium recovery.

Personnel

About 1,300 people were regularly employed at Terrafame’s industrial site during 2017. At the end of the year, Terrafame had 650 employees, and the balance of the people was employed with contractors. The headcount was at its highest during the summer months, when the company offered summer jobs to 90 persons.

Throughout the year, personnel were offered various development opportunities. Special emphasis was placed on vocational skills and supervisory work, as well as safety training. The operations development programme was also continued in 2017, aiming to enhance cooperation between the production and maintenance departments.

In the autumn, cooperation negotiations between the company and personnel were conducted at Terrafame to adjust personnel resources to the needs of the final stage of the ramp-up. As a result of the negotiations, 37 employees were laid off for production and financial reasons, as well as restructuring of operations.

Related party transactions

The Board of Directors of the parent company, Terrafame Group Ltd, has confirmed the group’s related party policy. The major related party organisations of Terrafame Ltd include Terrafame Group Ltd, 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 Ltd’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 2017, the company had a EUR 68 million counter-guarantee granted by the Finnish state for arranging collateral in accordance with environmental permits, and a EUR 17 million third-party pledge provided by Terrafame Group Ltd for the same arrangement. 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 158.8 million during the financial period.

The financing arrangements realised with the related-party companies Terrafame Group Ltd, Trafigura Ventures V B.V. and Galena funds are presented in the “Financing arrangements” section of the annual report.

All business transactions between Terrafame Ltd and its related parties were at arms-length basis.

Shares and shareholders

Terrafame Ltd has one series of shares. At the end of 2017, the company had 3,281,498 shares, EUR 2.0 million in share capital, and EUR 295.6 million in shareholders’ equity. Terrafame Ltd is a subsidiary of Terrafame Group Ltd, which owns 77.3% of the company. Minority shareholders are Galena Private Equity Resources Investment 2 L.P. and Galena Private Equity Resources Investment 3 L.P. funds,
both part of the Trafigura Group, with a holding totalling 22.6%, as well as Sampo Plc, with a 0.1% holding.

Governance

The General Meeting of Shareholders, the Board of Directors and the CEO are responsible for Terrafame Ltd's administration and operations. As an unlisted company, Terrafame follows, 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 2017.

Terrafame’s Board of Directors was expanded as a result of the ownership arrangemens made during the year under review. Lauri Ratia continued to act as Chairman of the Board. Esa Lager and Tuomo Mäkelä continued as previously appointed members of the Board, and Emmanuel Henry and Jesus Fernandez were appointed as new members in February 2017, together with Matti Hietanen, who also acts as Vice Chairman of the Board. 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 2017. In January 2018, the southern end of the Kuusilampi open pit was emptied of water, making the whole pit available for mining operations. This will provide more future options for the planning of mining and thus improve the cost-effectiveness of mining.

Estimate of future developments

Terrafame will continue ramping up its production and improving its profitability. During the first half of 2018, the permit process for a battery chemicals plant will be initiated, and preparations will be made for an investment decision for the plant. In addition, the company will study the recovery of rare earth metals and uranium on a laboratory scale.

The target for Terrafame’s personnel’s lost-time injury frequency rate, i.e. the number of lost-time injuries per one million working hours, is set at under 2.5 for 2018. The occupational safety of the employees of the partner companies that operate in the mining and industrial site will be developed further using the same criteria and means as the occupational safety of Terrafame’s own personnel.

According to the JORC code-compliant mineral resource and ore reserve estimate updated in July 2016, the mine’s mineral resources allow for mining operations and the production of metals and related downstream products for several decades. Only Measured and Indicated Mineral Resources were used in the calculation of Ore Reserves. The techno-economic parameters were drawn from the mine’s historical data, Terrafame’s mining plans and specified cost parameters. The Measured, Indicated and Inferred Mineral Resources amount to 1,458 million tonnes.

Board of Directors’ proposal for the disposal of the result

Terrafame Ltd's result for the financial period 2017 shows a loss of EUR -9,601,100.61. On 31 December 2017, Terrafame Ltd’s distributable equity totalled EUR 293,643,414.33. The Board proposes that the loss be transferred to the retained earnings/loss account and that no dividend be paid.

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