By way of introduction, I would like to assure you that ČEZ’s principal objective is – and will continue to be – to maximize and secure long-term growth in shareholder value. However, the conditions for meeting this objective are getting more and more difficult from one year to the next.
The European energy industry is going through a difficult period and has become a sector where words like “security”, “stability”, and “simple rules” may no longer apply. Nearly all big European utilities are under a lot of pressure as they face a number of common factors, most of them unfavorable. These factors go far beyond the prolonged debt crisis in the European Union and the related sluggishness in the economies of most European countries. They are now being joined by growing regulatory interventions at both the pan-European and national levels, in the form of massive growth in subsidized renewable power sources, shifts in the stance on nuclear energy in major European Union countries, a languishing emission rights system, and substantial declines in the prices of energy commodities – reflecting in particular growth in shale gas extraction in the USA. Together, these factors are bringing about a long-term decline in electric power prices, which are currently at levels last seen in 2006, and limiting the resources that less-developed European countries, in particular, can dedicate to making necessary investments in distribution grid operation and maintenance.
Despite these negative factors, CEZ Group managed a solid financial performance in 2012, nearly matching the previous year’s level. CEZ Group net income reached CZK 40.2 billion in 2012, while EBITDA exceeded CZK 85.5 billion. That’s down just 2% year-on-year, despite the major negative impact of losses associated with unprecedented actions of the Albanian government against the country’s distribution company, leading to a loss of CEZ Group control over the company.
As one of few European utilities to do so, we maintained our credit rating from Standard & Poor’s at A– with stable outlook. The Company’s overall financial stability, strong liquidity position, and investor trust is also attested to by the successful placement of a CZK 1 billion, USD-denominated bond issue in the American market. This was the first ever corporate issue in the U.S. Dollar market under Rule 144A of the Securities Act of 1933 (USA) not just in the Czech Republic, but in the entire region. A portion of the issue (USD 300 million) has a maturity of 30 years, making it the issue with the longest maturity in Central and Eastern Europe, issued under the demanding terms of the most liquid bond market in the world, and the interest rates achieved are close to the levels commanded by the highest-rated Western European utilities.
CEZ Group’s position amongst successful utilities is also documented by a number of global rankings. For example, in the Platts TOP 250 survey, ČEZ improved its position in the Europe, Middle East, and Africa (EMEA) region by three notches, coming in fourth just behind Enel SpA, Iberdrola S.A., and Électricité de France S.A. Worldwide, we continue to occupy seventh place. In the CE TOP 500 ranking by Deloitte, ČEZ is the most valuable power company in Central Europe – a position we held in previous years as well.
What did we do to maintain financial performance and prevent a weakening of the Company’s position? In response to unfavorable economic developments and the deteriorating business environment in Europe, over the past few years we have undertaken a number of countermeasures aiming to stabilize and mitigate CEZ Group’s risk profile. In view of the persistent risk of further declines in the price of electric power, we are diversifying our asset structure to leverage business opportunities in price-regulated segments. In sales, we fix our margins by selling larger volumes of electricity several years in advance, as well as through long-term contracts expiring in 2020. We are developing sales of natural gas and rolling out new products. On the expenses side, we are emphasizing internal efficiency through initiatives such as the creation of shared service centers in support, distribution, and customer services.
For me, the conclusion of an agreement with Czech Coal Group on long-term supplies of coal for Počerady Power Station is an important milestone. This agreement marks a fundamental advance in the strategic area of securing fuels for ČEZ power sources, as well as for the future of the Počerady site.
Over the past few years we have worked intensively to increase power plant output, efficiency, and reliability, particularly at the nuclear plants, as they are the pillars of our production base. Two key projects, SAFELY 16 TERA for Dukovany and 15 TERA for Temelín, are already bearing fruit. In 2012, both nuclear power plants broke their previous electricity generation records to grow power output by a total of 2 TWh (+7%) year-on-year – all under safety measures that are getting stricter and stricter. 2012 was a year of plant inspections conducted in response to the events at the Fukushima nuclear power plant in Japan. Both of our nuclear plants passed a series of stress tests, demostrating resistance to extreme natural influences and the capacity to withstand even very grave situations without threatening their surrounding areas. Based on the experience and lessons of the Fukushima nuclear power plant accident, certain requirements were identified for further increasing the resistance of nuclear power plants, particularly in conjunction with extreme natural phenomena. Yet still, we will continue to improve them because safety has always been, and always will be, our first priority.
2012 also saw continuation of the comprehensive renewal of selected coal-fired power plants in the Czech Republic with the aim of operating only highly efficient sources with the lowest possible emission factors. The upgrade of Tušimice Power Station was completed in June, the construction of a new, Czech coal-fired power source in Ledvice is continuing in accordance with an updated timeline, and the retrofit of Prunéřov II Power Station got underway following a protracted approvals process. We entered into a contract on the sale of Chvaletice Power Station, bringing us closer to fulfillment of a proposed settlement with the European Commission.
In the area of electricity and natural gas sales to end customers, our company ČEZ Prodej is successfully holding its position as the electricity market leader in all customer segments, despite growing competition. In gas sales, early last year the company became the biggest alternative supplier. Compared with 2011, the number of connection points served increased by 86%. In line with the strategic objective of diversifying CEZ Group assets, 2012 saw the completion of the acquisition of Energotrans, bringing about a major increase in our market share in heat. We also made progress in the regional energy initiative, in the areas of microcogeneration, environmentally-friendly utilization of waste, and biomass. ČEZ’s position in renewable energy sources grew substantially, especially at the international level as we completed construction of the largest onshore wind farm in Europe with 600 MW total installed capacity. The last, 240th turbine at the Fântânele and Cogealac site in Romania was connected to the grid on exactly November 22, 2012, the previously announced completion date. We are also developing other plans in Poland. However, we will support only those projects that offer attractive returns with acceptable risk profiles.
At the very top of ČEZ’s priority list for future development is to lay the groundwork for construction of, and selection of a contractor for, two new reactor units at Temelín Nuclear Power Station. On July 2, 2012 we received bids from three qualified contractors. Due to its failure to meet required criteria, however, Areva had to be disqualified. As a result, just two consortia – the U.S.-Japan Westinghouse and the Czech-Russian MIR 1200 – are continuing in the tender, which is the only one in the world conducted according to the strict terms of the Public Procurement Act. And while a team of specialists is working very intensively to assess the bids, preparations for the permit and licensing process are going forward according to plan. We applied to the State Office for Nuclear Safety for a building permit and, in January 2013, the Ministry of the Environment of the Czech Republic issued a positive opinion within the Environmental Impact Assessment (EIA) process for the two new units. I can report that we are fully aware of the importance and risk of this investment decision for CEZ Group, as we are that the current situation in Europe is not favorably inclined toward the construction of any new nuclear power source purely on a market basis. My principal tasks for 2013 are to ensure that the conditions for building the new nuclear source are the best possible, and prepare top-quality materials for the shareholders to make a decision on the further course of action in this key ČEZ project.
I have mentioned above the loss that affected the 2012 results ensuing from developments in Albania, and later in this Annual Report you will read what legal steps the Company is taking to ensure that the loss is not permanent. In early 2013, ČEZ’s equity holdings in Bulgaria came under pressure as well. In both cases, baseless and unjustified allegations are being leveled at CEZ Group. Regardless of what further developments take place in these countries I am confident that, in the end, CEZ Group will defend its actions and investments, though it be forced to take legal action to do so. In conclusion allow me, dear shareholders, to share my conviction that the measures we are taking, such as modifying the risk profile and exerting sustained pressure toward improving internal efficiency through cost-cutting, are the way to navigate CEZ Group through the current period of challenges in the power sector.
Chairman of the Board of Directors and Chief Executive Officer of ČEZ, a. s.
Allow me to address you once again after a year, but for the first time as Chairman of the Board of Directors and Chief Executive Officer of the Company, in this section of the CEZ Group Annual Report. In introduction, I would like to assure you that ČEZ’s intent is and will continue to be to bring shareholders the highest possible return on their investment, even though the energy sector is laboring under the economic and debt problems of the Eurozone countries. When I took over leadership of ČEZ in September we were in good, stable shape and, despite the adverse external conditions, CEZ Group posted solid financial performance results for the year 2011.
Net income of CEZ Group reached CZK 40.8 billion in 2011, while operating profit before depreciation and amortization (EBITDA) exceeded CZK 87.3 billion. Although the 2011 operating results are 1.7% lower than in 2010, in the end ČEZ delivered a higher than expected net income. Another very positive signal is the fact that ČEZ, as one of few power utilities to do so, managed to maintain its credit rating throughout 2011, reflecting the Company’s overall financial stability. The results justified our long-term focus on CEZ Group internal efficiency. This imperative is something that we also demand of our international companies as their contribution to the overall CEZ Group results continues to grow. Thanks to the fact that all our international acquisitions meet or exceed their expected rates of return, their cumulative EBITDA at year-end 2011 covered 70% of capital expenditures. The average annual rate of return on CEZ Group international acquisitions is now 17.6% (in terms of operating profit).
In 2011 we put a lot of effort into fine-tuning CEZ Group’s strategy to address rising uncertainty concerning the future economic development and business environment in Europe.
In addition to the Eurozone debt crisis and the risk of recession in Europe, another significant factor bringing fundamental uncertainty into all ČEZ decision-making processes is the future of European Union regulation in the power industry. The entire energy sector is going through a period of turbulence and long-term investments are subject to extreme levels of uncertainty.
Due to this situation, in the last decade construction of power plants – other than renewables – practically ground to a halt in European Union Member States. The track record to date, however, clearly confirms the opinion of energy professionals that renewable sources in their current form cannot cover energy needs. For the time being, then, conventional plants play a crucial role in the energy mix because they generate electricity regardless of the weather, enabling them to absorb deviations in output from renewable sources. The United Kingdom, which in the past has utilized its geographic position and invested massively in renewable sources in general, and wind power plants in particular, came forward with a comprehensive energy sector support package focused, among other things, on building new nuclear power plants.
Nuclear power is a very important part of the energy mix, both in the Czech Republic and in Europe as a whole. If it were to be partially or fully replaced, an alternative source of baseload power would need to be found. Renewables cannot be that alternative, and what’s more their feasibility relies on massive subsidies. More likely it would be a combination of increased generation from natural gas and a renaissance in power generation from coal. Reducing CO2 emissions – something the European Union has pledged to do – would in all likelihood become more difficult, and it would become even more urgent to develop and roll out solutions for capturing and storing carbon dioxide from coal-fired power plants, regardless of the effect this would have on electricity prices.
A common thread that runs through the entire CEZ Group strategic decision-making process is the question of the future direction of energy sector regulation in the European Union. Here, the decisive factors will be how, and to what extent, to support renewable sources, and how, and over what time period, will CO2 emissions be regulated. These two factors will have a major impact on the competitiveness of European utilities and on prioritization of investments in the energy sector. Another fundamental question is what requirements will be placed on the operation and construction of nuclear power plants in Europe in the wake of the natural catastrophe in Japan and Germany’s unprecedented decision to prematurely close down selected nuclear power plants.
In autumn 2011, we updated the CEZ Group strategy to take into account the range of possible responses to these issues. We vetted 15 possible scenarios and selected the seven most probable. For each of these seven scenarios, we modeled how CEZ Group’s cash flow and value would develop. At the same time, we analyzed the energy needs, conceptual priorities, and capacity of the Czech Republic, which as a European Union Member State is a part of the regional market. Based on our comprehensive assessment, we selected a strategy that we are convinced will be the best in all the scenarios under consideration, and will ensure CEZ Group has the financial strength and stability necessary to successfully build a new nuclear power source in Temelín.
So, the development of nuclear energy and, primarily, the construction of new generating units at Temelín Nuclear Power Station, is at the forefront of our strategic objectives. In 2011, we made substantial progress in our preparations when, in late October, we distributed a call for bids and Request For Proposal (RFP) documentation to qualified parties interested in completing the power plant. This is the biggest tender, not just in ČEZ or the Czech Republic, but within all of central Europe. More, it is the only nuclear power plant tender in the world that is subject to public procurement laws, underlining the transparency of the whole process.
Concerning nuclear power, I should add that both existing nuclear power plants successfully underwent comprehensive “stress tests”, which the countries of the European Union agreed to do in light of the consequences the natural catastrophe in Japan had on the plant in Fukushima. I am pleased that the positive results of these comprehensive tests confirmed long-term assessments from relevant national and international institutions. Both plants are built to withstand even extreme natural forces with a large margin of safety, and are located in areas that are extremely favorable in terms of seismic activity and climate. The result of the stress tests also confirmed that our philosophy of taking an active approach to nuclear power plant safety, in which we continually vet and improve plant parameters, is the right one.
CEZ Group has a broad portfolio of generating facilities and our development plans call for its further diversification. We will focus on resolving relations with coal suppliers and on securing sufficient fuel for operating our coal-fired power plants. We also anticipate continued development and use of biomass and other alternative fuels to ensure the maximum possible increase in the value of our conventional installations. Closely related to this is our emphasis on regional power, with increased investment in district heat and cogeneration, including the search for environmentally-friendly ways to utilize waste in the energy industry.
The updated strategy reaffirms our priority focus on the Czech Republic in our business operations. Going forward, we intend to expand only those international projects that are highly profitable and relate to renewable sources – particularly wind power installations with short payback periods that will help us to obtain stable future cash flows and thereby enable us to implement the chosen development strategy. Currently, we have renewables projects either in operation or in the implementation phase in Romania and Poland.
In conventional power, we are already retrofitting those coal-fired power plants for which we have secured sufficient coal for their future operations. In 2011, we made major progress in all the coal plant retrofit projects, as well as in building a new installation in Ledvice. We also commenced construction on a large CCGT power plant in Počerady and the Egemer CCGT installation in Turkey. We are increasing the efficiency of our existing hydro power plants as well. Through the FUTUR/E/MOTION program, we are also involved in the “new power” area – cogeneration, distributed generation of power and heat, electromobility, and smart distribution grids.
In addition to the strategic priorities discussed above, we will continue – both this year and in the years to come – to take measures designed to maximize the internal efficiency of CEZ Group.
Although the forecasts for this year show only modest growth potential, we are confident that we will post good results in 2012 for you, our shareholders.
May you, too, have a successful 2012.
Chairman of the Board of Directors and Chief Executive Officer of ČEZ, a. s.
CEZ Group is an established, integrated electricity conglomerate with operations in a number of countries in Central and Southeastern Europe and Turkey, headquartered in the Czech Republic. Its principal businesses encompass generation, trading, and distribution of power and heat, as well as coal mining. The shares of the Group’s parent company, ČEZ, a. s., are traded on the Prague and Warsaw Stock Exchanges, where they form a significant part of the respective indexes. As of December 31, 2010, the Czech Republic remained the company’s largest shareholder with a nearly 70% stake in the stated capital.
A crucial part of CEZ Group’s mission is to maximize the return on investments in the Group, and ensure long-term growth in shareholder value. To this end, CEZ Group is directing its efforts toward fulfilling its vision of becoming the leader in the electricity market of Central and Southeastern Europe. At the same time, however, CEZ Group upholds the principles of sustainable development, supports energy conservation, brings new technologies to bear, systematically reduces the environmental burden posed by its business, and furthers the development of education, childcare, and health. In its internal operations, CEZ Group emphasizes continual improvement in efficiency, and repeatedly expresses that emphasis by successfully implementing specific programs focused in this direction. Following the completion of the previous program, a new project – entitled “NEW VISION” – was launched in September 2010, reflecting the current power industry reality following the economic crisis. That reality led CEZ Group to reassess its program of capital expenditures and adapt it to the current state and near-term forecast of the company’s resources. The aim of the newly launched program is to increase performance and improve the cost effectiveness of key processes in the upcoming period of stabilization and consolidation. Extraordinary emphasis is being placed on preserving and further utilizing key knowledge assets. In the Czech Republic, CEZ Group companies generate and distribute electricity and heat, engage in electricity trading, mine coal, and supply natural gas. CEZ Group is also developing operations outside the Czech Republic, focusing in particular on the markets of Central and Southeastern Europe, where we can apply our unique expertise in managing an electricity conglomerate during a period of transition to a liberalized power market and leverage our know-how. CEZ Group focuses primarily on markets where it already has some form of operations, as well as on the renewables sector. Outside the Czech Republic, CEZ Group currently has actively operating companies in Albania, Bulgaria, Romania, Poland, the Netherlands, Bosnia and Herzegovina, Germany, Hungary, Turkey, Serbia, and Slovakia. In Albania, CEZ Group operates the country’s sole distribution company. In Bulgaria, CEZ Group distributes and sells electricity in the western part of the country and generates power in its own coal-fired power plant near Varna, the Black Sea port city. In Romania, CEZ Group engages in distribution and sale, operates the Fântânele wind farm and, nearby, is building the Cogealac wind farm. In Poland, two black coal-fired power plants near the country’s border with the Czech Republic are part of CEZ Group. In Germany, the Group co-owns – with a partner – a brown coal-mining company that includes coal and wind power plants. In Turkey, CEZ Group and its local partner operate a distribution company, generate electricity, and are preparing to build new power plants. In Slovakia, CEZ Group sells electricity and natural gas to end customers and is teaming with a local partner to build a new nuclear power plant at the Jaslovské Bohunice site. Companies in the remaining countries carry on electricity wholesale operations, function as holding companies, or engage in financing activities. Throughout Central and Southeastern Europe, CEZ Group engages in wholesale trading in electricity and natural gas.
To ensure the CEZ Group’s business continues to be successful in the future, it is necessary to renew the generation portfolio. CEZ Group is investing, and will continue to invest, significant sums in upgrading aging Czech brown coal power plants and building new, high-efficiency plants in the Czech Republic. In 2010, CEZ Group expanded its generation mix by adding solar power plants. The first containers were successfully installed in the newly-built spent fuel storage facility in Temelín. Power plant upgrades and new power plants are also planned in Hungary, Germany, Turkey, and Slovakia.
CEZ Group is bravely embracing the technologies of the future. Together with a major European automaker, we have struck a deal to implement a pilot project focused on developing electromobility (electric cars) in the Czech Republic. Some of the new electric cars will be tested in the Vrchlabí area, where CEZ Group’s “Smart Region” project is currently underway, focused on building an area covered by a “smart distribution grid”. Several new-build CHP (combined heat and power) projects are currently in various phases of implementation. Other CAPEX projects are dedicated to research and development, environmental protection, and energy conservation.
The CEZ Group has a performance-oriented corporate culture. We operate our plants to the highest possible safety standards. At the same time, however, our business operations adhere to strict ethical standards, which include behaving responsibly toward local communities, society, and the environment. CEZ Group is a major supporter of a number of non-profit organizations and public-benefit projects.
Allow me, once again, to greet you and present to you this report on the development of CEZ Group’s business in the past year. In 2009, electricity consumption in the Czech Republic – affected by the economic recession – declined 6% from the year before. Despite this, our company posted record operating and overall financial performance. EBITDA increased 3% (up CZK 2.4 billion) to CZK 91.1 billion. Net income grew by 10% (up CZK 4.5 billion) to CZK 51.9 billion. As a result, the companies of CEZ Group handed over CZK 44.6 billion in dividends, taxes, social and health insurance, and gifts for the benefit of the Czech nation and its citizens.
When the business environment changed, we responded actively and promptly. Our corporate strategy, symbolized by an ancient Greek temple, was expanded by the addition of another pillar representing a new strategic focus on innovation which, alongside the three existing pillars International Expansion, Plant Portfolio Renewal, and Operational Excellence, also supports the realization of our vision of being the leader in the power market of Central and Southeastern Europe. Therefore, in mid-2009 CEZ Group introduced a new project, FutureMotion, which covers activities in the so-called “new energy” area. The project’s primary focus will be in four areas: research and development, utilization of “smart grids” technology, increasing the use of decentralized generation, and support for electromobility. Another active measure we took in response to the changed business environment was to redouble our emphasis on the internal functioning of the entire CEZ Group. Since its launch the Efektivita Program, dedicated to improving our internal performance, has contributed CZK 12.9 billion to EBITDA despite the impacts of the economic crisis. We made substantial progress in component projects concerning IT and telecommunications services in CEZ Group, reducing the number of employees and administrative overhead expenses at the Company’s headquarters, and in power production- and distribution-related measures.
The importance of CEZ Group’s international portfolio is growing every year thanks to new acquisitions and the increasing performance of CEZ Group, which in the past year expanded further with the addition of companies in Turkey and Albania. At the same time, we significantly expanded our operations in Germany by acquiring MIBRAG, a mining and power company there. In Turkey and Germany, we operate through joint-ventures with local partners. One of the biggest accomplishments of last year, however, was the establishment of a joint-venture with the Slovak company JAVYS. It is tasked with building another nuclear reactor unit at the Jaslovské Bohunice site in Slovakia. We are very pleased that the Slovak government chose us as the strategic partner for this project, out of a field of world-class competitors. CEZ Group’s over 60 foreign companies have so far contributed CZK 30.8 billion to the Group’s EBITDA and currently account for over a quarter of its total assets. The 2009 results point to a continuation of this positive development trend. The Efektivita Program is successfully optimizing CEZ Group’s internal processes and functions at the international level as well.
We also made substantial progress in renewing our plant portfolio. In 2009, we commissioned the first two retrofitted generating units at Tušimice II Power Station. Both units are now achieving very good environmental performance and high efficiency (which in January reached 43%, including heat supplies). Thus, we were able to commence phase two in the process of upgrading this plant, in which two more generating units are being retrofitted. An opinion has yet to be issued in the environmental impact proceedings concerning the Prunéřov Power Station retrofit project, which is planned to begin after completion of the Tušimice Power Station upgrade. The project for a new 660 MW supercritical unit at the Ledvice site in North Bohemia, on the other hand, is on schedule.
The development of CEZ Group’s production portfolio, driven by the imperative of reducing carbon exposure, also includes a number of projects for low- and zero-emission power plants, in addition to the already mentioned projects for increasing the efficiency of our coal-fired power plants and making them more environmentally friendly. Our focus, then, is on renewable sources of energy and CCGT plants, which have so far been missing from CEZ Group’s portfolio. Further, we are increasing generation in our nuclear power plants, Temelín and Dukovany, though the projects Safely 15 TERA and Safely 16 TERA, respectively. By 2012, these two plants are to generate 31 TWh of power per year, with zero CO2 emissions. Another effect of our projects’ focus is to reduce dependence by diversifying the generation mix. Last year, as part of a project currently under consideration to complete the Temelín Nuclear Power Station, we announced a public tender for a general contractor, in which three bidders qualified. At the same time, the project is undergoing the Environmental Impact Assessment (EIA) process.
CEZ Group is also exploring the possibility of leveraging synergies in power generation by supplying heat from our existing plants. In particular, this includes re-examining the possibility of supplying heat from Dukovany Nuclear Power Station to the city of Brno, and by commencing the process of acquiring a nearly 50% stake in Pražská teplárenská, a major player in Prague’s district heat network, to arrive at a unified solution for generating electricity and heat at the Mělník site, where we are preparing to build a CCGT power plant with installed capacity of around 800 MW to replace the site’s existing plant, which is nearing the end of its useful lifetime. A similar heat supply integration solution is part of the planned project for a new generating facility in Ústí nad Labem. Combined heat and power generation has a major environmental dimension, of course, because it substantially increases plant efficiency.
In 2010, we are expecting demand for electricity to stabilize. Only now, however, is the full impact of the economic crisis on CEZ Group financial performance being felt. Despite this, however, we anticipate that our emphasis on streamlining internal procedures and saving on costs will lead to very good results. In terms of operating profit, EBITDA is expected to be just 3% under 2009’s record level. Positive factors will include, for example, the commissioning of Phase One of what will be Europe’s largest coastal wind farm in Fântânele, Romania, and the launch of natural gas trading in the Czech Republic in late 2009. The results of our sales campaign exceeded expectations and we are readying to expand the offering to include additional customer segments, as well as to offer gas to customers in neighboring Slovakia. Dear shareholders, the year 2010 will be a year of challenges for CEZ Group. I am confident that, at the next Annual General Meeting, I will be able to report to you that we met those challenges successfully. I wish you much success.
Chairman of the Board of Directors and Chief Executive Officer of ČEZ, a. s.
CEZ Group is a dynamic, integrated electricity conglomerate based in the Czech Republic and with operations in a number of countries of Central and Southeastern Europe. Its principal businesses encompass generation, distribution, and sale of electricity and heat as well as coal mining. The shares of the parent company ČEZ, a. s. are traded on the Prague and Warsaw Stock Exchanges, where they form a significant part of the respective indexes. The Czech Republic continues to be the company’s largest shareholder with a 63% stake as of 31 December 2008.
A critical part of CEZ Group’s mission is to maximize returns and ensure long-term growth in shareholder value. To this end, CEZ Group focuses its efforts on fulfilling the vision of becoming the leader in the power market of Central and Southeastern Europe. At the same time, however, CEZ Group adheres to sustainable growth principles, furthers energy conservation, systematically reduces the environmental burdens posed by its business, and furthers the development of education, childcare, and health.
The realization of CEZ Group’s vision rests on three strategic pillars. The first is Operational Excellence, within which a new program was introduced in March 2007 as part of the ongoing integration process. The aim of the program is to increase performance and improve the cost effectiveness of key processes in order to make CEZ Group one of the most efficient players in the European power industry by 2012.
The second strategic pillar is to develop operations in selected target countries outside of the Czech Republic. CEZ Group’s priority focus is on markets in Central and Southeastern Europe, where we can best apply our unique experience in managing an electricity conglomerate during a period of transition to a liberalized power market and in achieving operational excellence.
In addition to the Czech Republic, CEZ Group currently has actively operating companies in Poland, Bulgaria, Romania, the Netherlands, Germany, Hungary, Serbia, Turkey, Kosovo, Bosnia and Herzegovina, and Slovakia. In the Czech Republic, CEZ Group companies produce and distribute electricity and heat, trade in electricity, and mine coal. In Bulgaria, CEZ Group distributes and sells electricity in the western part of the country and produces electricity in its own coal-fired power plant near Varna, the Black Sea port city. In Romania, CEZ Group owns companies that distribute and sell electricity. In the power production area, CEZ Group began building the largest wind farm in Europe in Fântânele and Cogealac, two locations in Romania near the coast, and is participating in the construction of two new reactor units at the Cernavodă Nuclear Power Station. In Poland, CEZ Group has two black coal-fired power plants near the country’s border with the Czech Republic. In Turkey, following victory in a tender, CEZ Group and its local partner are preparing to operate the distribution company Sedaş. Some of the Group’s holdings in other countries are companies that function as holding companies or engage in financing activities (the Netherlands). The rest, for the most part, are trading companies and companies that monitor developments in a particular country in order to take advantage of possible acquisition opportunities there.
The purpose of the third pillar – Plant Portfolio Renewal – is to ensure the CEZ Group’s continued successful operation in the future. The Group is investing, and will continue to invest, significant sums in upgrading aging Czech brown coal power plants and building new, high-efficiency plants in the Czech Republic, including some based on renewable sources of energy. CEZ Group is also planning to upgrade existing power plants and build new ones in Hungary, Romania, Bulgaria, Poland, and Slovakia as well.
In order to achieve the goals we have set, it is critical to have a functioning organization. Therefore, CEZ Group has come up with and is implementing a set of seven principles that are fundamental values for all employees:
- creating value safely,
- responsibility for results,
- playing as one team,
- developing our potential,
- growing beyond borders,
- seeking new solutions,
- playing fair.
CEZ Group’s business is governed by strict ethical standards that include behaving responsibly toward society and the environment. CEZ Group is a major supporter of a number of non-profit organizations and public-benefit projects.
Hereby we are presenting to you the Annual Report which summarizes CEZ Group’s operations and financial performance in 2007. The results we have the honor of presenting here are the best in the Company’s 15-year history and document that our ambition of being the leader in the electricity market of Central and Southeastern Europe is realistic and achievable.
In 2007 we posted record income of CZK 42.8 billion, an improvement of nearly one half over 2006. Our commercial success and the Company’s development plans for the future were reflected in a major, over 40% surge in the share price. As a result, the Company’s market value now exceeds CZK 700 billion. The sustained high level of our financial performance allowed us to improve our dividend policy, moving both the lower and upper boundaries of our dividend pay out ratio by 10 percentage points, to 50–60% of consolidated net income. I am confident that this step, which moves ČEZ, a. s. closer to its competitors in Western Europe, will be welcomed by our shareholders.
I would like to express appreciation for the part played by all employees in the Company’s good performance and, in particular, to mention the manner in which they joined in the process of transforming and integrating the entire CEZ Group. Thanks to their striving, the extensive corporate transformation project entitled VIZE 2008 was completed one and a half years early and saved us billions of Crowns, which contributed to the good results. This is not the end of our improvement efforts, however. We are pressing on with a new project entitled Efektivita. Our expectation of the project is that it will help us to become, within five years, one of the most effective players in the European power industry.
Our international expansion continued successfully all year long. As the most significant step we see the signing of a strategic partnership with MOL, the Hungary-based petroleum and gas company. The joint venture between ČEZ and MOL will focus on generating electricity in gas-fired power plants in Hungary, Slovakia, Croatia and Slovenia. Here, at home in the Czech Republic, we are beginning to plan new gas power plants that will complement our retrofitted coal-fired plants. Of the latter, I would like to mention in particular the cutting-edge 660 MW installed capacity coal-fired plant in Ledvice that we began building in 2007. The decision to accelerate the preparation of gas-fired plant projects is related to the European Union’s CO2 emissions reduction scheme.
The year 2007 also brought us two prestigious international awards in recognition of our strategy and accomplishments. In 2007, the Edison Electric Institute began evaluating European utilities using a well-respected American method. It is a great honor for us that we placed first in the ranking of companies with large market capitalization. The score of the second-ranking company, which is also based in Central Europe, was just half of ours. This was also the first time ever in history that the success of a Czech company received formal recognition in international capital markets. At the same time for you, our shareholders, this accomplishment is an assurance that we are putting your investments to good use. At the beginning of March 2008, ČEZ, a. s. won this award for the second time. In addition, in May 2007, the prestigious journal Euromoney named ČEZ, a. s. the company with the most convincing strategy in Central and Eastern Europe. We are very pleased that ČEZ, a. s. won this award for the second time in a row.
I am confident that 2008 will be yet another year in which we will bring good news.
Chairman of the Board of Directors and Chief Executive Officer of ČEZ, a. s.
Allow me once again to report to you in person on the most important events in CEZ Group during the past year. Three years ago, we likened the CEZ Group strategy to an ancient Greek temple. The roof is upheld by three pillars: plant portfolio renewal, international expansion, and the integration project called VIZE 2008 by which we changed the structure of the entire CEZ Group of over 90 companies. I am pleased to report that we completed VIZE 2008 early, and its targets have now been met. In its place, we have erected a new third pillar – operational excellence – to raise the level of our individual processes so that we are on a par with the world’s top energy companies.
The temple roof symbolizes our vision: to be the leader in the power market of Central & Southeastern Europe.
I am pleased to report that we succeeded in reinforcing and strengthening all three pillars in 2006 so that now, one year on, our temple is more stable and capable of withstanding unforseen tremors. Once again, we succeeded in increasing the Company’s value for you, our shareholders.
During 2006 the share price grew by over 30%, from CZK 736 to CZK 960, bringing the Company’s market capitalization to CZK 565 billion. In early 2007 the share price even broke through the magical CZK 1,000 barrier for a short time. In late October 2006, the shares of ČEZ, a. s. began trading on the Warsaw Stock Exchange, confirming the status of ČEZ, a. s. as an international company with multiple share listings. The Company’s value was reaffirmed a short time later when the shares were integrated into the Warsaw Stock Exchange’s WIG 20 blue chip index with a weighting of 2.23%.
2006 was also a very successful year for CEZ Group in terms of financial performance, as shown by record income. Consolidated net income reached CZK 28.8 billion, up CZK 6.5 billion from the previous year. We became the first Czech corporate grouping in history to post net income of over EUR 1 billion. We are sure to hold the trend in 2007 as well and I am fully confident that the performance will improve even more. Our positive financial performance was also confirmed in October when Standard & Poor’s increased the long-term rating of CEZ Group to A- from the previous BBB+ rating.
As part of our work in the International Expansion pillar, we added three major power plants to our portfolio. Two of them, Elektrociepłownia Chorzów "ELCHO" Sp. z o.o. and Elektrownia Skawina S.A., both in neighboring Poland not far from the Dětmarovice Power Station on the Czech side of the international border, joined CEZ Group in May, forming a strong black-coal portfolio with formidable synergic potential. We also significantly expanded our business in Bulgaria, the country where ČEZ, a. s. began its international growth. Late in the year we acquired a 100% stake in the black-coal power plant TEC Varna EAD in addition to the distribution company we already own in the western part of the country. The establishment of a joint venture in Republika Srpska, Bosnia and Herzegovina to retrofit the existing Gacko Power Plant, build a new generating unit and develop an adjoining coal mine represented the culmination of a phenomenally successful year of international growth. In the Czech Republic, 2006 was the first year of CEZ Group’s operation under a completely restructured organization. It tested and confirmed that the VIZE 2008 project – part of one of the pillars of our corporate strategy – was well planned and viable in practice. Even so, we are still finding weak points and room for improvement, which we are endeavoring to fill in an effective manner. In addition, in 2006 we began to transfer our know-how and experience to our international subsidiaries which also faced or are facing the requirement of clearly separating the non-regulated generation and trading functions from the regulated ones, i.e. distribution.
Work continued on reinforcing the last pillar, renewing CEZ Group’s production portfolio. Projects initially announced in 2005 moved closer to implementation. Construction work on the comprehensive retrofit of the Tušimice II Power Station is set to begin in early June 2007. We are also planning a comprehensive retrofit of the neighboring Prunéřov II Power Station and construction of a new power plant in Ledvice. In the new generating units we plan to use cutting-edge, environmentally friendly technologies, all in full accordance with CEZ Group’s public declaration in which we pledged to contribute to sustainable development. In addition to the use of modern technologies, the specific steps for doing this also include approximately CZK 30 billion in planned investments in renewable sources of energy, use of proceeds from sale of CO2 emission allowances to invest in measures that further reduce CO2 emissions, and promotion/support of energy conservation.
A major milestone in 2006 was November 6, when the final building approval for Units 1 and 2 of Temelín Nuclear Power Station entered into force.
In terms of events in the Czech and European energy markets, 2006 was a very rich and varied year. And so, our thanks go out also to all CEZ Group employees for rising to the challenges and successfully growing value for you, our shareholders. Growing the Company’s value will be our motto in 2007 as well.
Chairman of the Board and CEO
In 2004 we created the fundamental strategy of CEZ Group and likened it to an ancient Greek temple. Our number-one objective, which forms the roof of this “strategic temple”, is to become the leader in the electricity markets of Central and Southeastern Europe. The roof is supported by three pillars: the VIZE 2008 integration project which is gradually changing the overall structure of CEZ Group, which today encompasses over 90 companies, international M&A expansion, and plant portfolio renewal. The foundations of our temple are solid because they consist of a performance-focused corporate culture ensuring that all of our efforts go towards increasing the company’s shareholder value.
Your assets rose significantly in value last year. During this period, the share price rose by 116.1% (from CZK 341 to CZK 736) and the company’s shareholder value increased by CZK 232 billion. The briskly paced growth continued in early 2006 and the 800 CZK/share barrier was quickly shattered. The company’s market capitalization passed USD 21 billion, putting ČEZ, a. s. at the top of the ladder of Central European power companies. Last year was very successful for CEZ Group in terms of net earnings, which were the highest in company history. Consolidated net income totaled CZK 22.3 billion, up 56.2% from the previous year. This exceeded even our own forecast from the beginning of last year. We are certain the high earnings trend will be maintained in 2006 as well, when we are expecting the results to be even better.
Operating profit was up year-on-year by over 48% to CZK 29.4 billion on higher electricity revenues. Especially positive is the news that, while revenues were up significantly, costs were kept under control even when the favorable impact of CO2 emission permits sold is excluded.
Major accomplishments and progress were achieved in all three pillars of our “strategic temple”. This was especially evident in foreign M&A activity. CEZ Group expanded its territorial reach, adding the Romanian electricity distribution company Electrica Oltenia S.A. to the three Bulgarian distributors already acquired. We also took our first step in Poland, acquiring the power plants Skawina and ELCHO. Here at home, CEZ Group’s ranks swelled with the addition of Severočeské doly a.s. and while we succeeded in keeping Severočeská energetika, a.s. in the group, we also obtained full control over ŠKODA PRAHA a.s. In addition, we opened sales representation offices in a number of neighboring countries. The future outlook for growth in financial performance is bright. We also made progress in the plant portfolio renewal pillar. After 2010, the useful lifetimes of our current plants will start to expire. To counter this, we have already nearly completed preparations for the first phase in renewing our coal generating capacity. A total of 11 generating units in the brown coal-fired power plants Tušimice, Prunéřov and Počerady will be completely retrofitted. We are planning to build two completely new brown coal-fired units, each with an installed generating capacity of 660 MW, in Ledvice and Počerady. In 2005, we approved the first three projects and more will come up for approval in 2006 to ensure that our generating portfolio is balanced and that it provides good prospects for the future development of ČEZ, a. s.
The past year was successful for the VIZE 2008 integration project pillar as well. 2005 saw a major restructuring of CEZ Group. Activities that were previously duplicated five or even six times will now be done only once. This is one of the most significant changes in the history of the Czech power industry. As a result, 2004 and 2005 saw the formation of new subsidiaries focused on sales, distribution, and customer services, to name just a few. The result of this very time-, capital-, and work-intensive process of transforming the power sector is the clear separation of the non-regulated electricity generation and sales functions from the distribution function, which is regulated.
Most of CEZ Group’s employees were involved in the project and the results show that they did some remarkable work. And for that, our employees deserve a round of thanks. No other power company has made such extensive changes in such a short time. I am convinced that in 2006 we will take yet another major step on the road to becoming the leader in the electricity markets of Central and Southeastern Europe. Our development initiatives are not a mere exercise, nor will they be. Our growth is always fully subordinated to the goal of delivering maximum value to you, our shareholders.
Chairman of the Board and CEO
Interview with the Chairman of the Board of ČEZ, a. s.
What do you consider the most important news for shareholders?
Definitely it is the market performance of our company’s shares. On the Prague Stock Exchange, the share price of ČEZ, a. s. grew by 134% in 2004 (from CZK 146 to CZK 341). This equates to a CZK 115 billion increase in shareholder value. Sharp gains early on in 2005 continued and the shares quickly broke through the CZK 400 barrier. Market capitalization exceeded USD 10 billion, making ČEZ, a. s. one of the top 500 corporations in the world.
How did last year shape up in terms of financial performance?
In 2004, ČEZ Group turnover exceeded CZK 100 billion for the first time, operating profits reached CZK 19.2 billion, and net earnings less minority shares stood at CZK 13.1 billion. Our profits are perceived – especially here at home – as gigantic. However, it must be borne in mind the huge value of the assets that are necessary to generate such profits. Our return on invested capital, 5.8%, will not seem excessively high to anyone. Still, we have set for ourselves a more ambitious goal: by 2008 we intend to increase this rate of return to 10%. Then we will be able to generate shareholder value.
ČEZ, a. s. has declared its objective of becoming the leader in the electricity markets of Central and Southeastern Europe. How are you progressing towards this goal?
The success in the privatization of distribution companies in Bulgaria, where ČEZ acquired the most valuable group that was offered, as well as our success in the tender for the Romanian distributor, Electrica Oltenia S.A., are the first steps on this road. The former acquisition, i.e. that of three Bulgarian distribution companies, made ČEZ, a. s. a corporation with international reach. In addition, this investment of nearly CZK 9 billion is the biggest ever foreign direct investment by a Czech company. We are monitoring the situation in Poland, where the privatization of the power sector is mostly still in the preparatory stages. Possible acquisition targets are also emerging in Macedonia and Montenegro. Also, Romania is planning to sell off some of its generation facilities.
Aren’t you sorry that you didn’t win the tender for Slovenské elektrárne, a.s.?
We really did want Slovenské elektrárne, a.s., because we saw a lot of potential for leveraging synergies there in alliance with ČEZ, a. s., thereby reducing costs for both sides. However, we will always proceed in the interests of our shareholders and make only those investments that are sure to bring a financial return for our owners. We offered a price that was based on our clear view of the target company’s value and that took into account the potential for future cost savings from the interconnection of the generation bases of both countries. The competition offered more, but looking at the performance of the ČEZ, a. s. share, shareholders evidently appreciated our decision on this acquisition.
How is ČEZ’s commercial position shaping up?
I’ll start with the aspect that relates to the previous question. Thanks to the acquisition of Bulgarian and Romanian distribution companies, the number of customers rose from 3.4 million to 6.6 million. This near doubling of the customer base puts us in a very good position for the future. Moreover, the overall development of the pan-European electricity market is playing in our favor. ČEZ, a. s. is benefiting from an across-the-board rise in electricity prices as most power companies in Europe prepare to renew their generation base. Sure, it isn’t pleasant for customers that ČEZ’s wholesale electricity price for 2005 is 11% higher than the 2004 price, but this increase is substantially less than the trend in neighboring countries. ČEZ, a. s. is successfully selling its surplus capacity in foreign markets. The price of exported electricity is also on the rise and, in new contracts for 2005, it has reached domestic levels for comparable products. We have reinforced our position as the key supplier of ancillary services to ČEPS, a.s., whose 71% market share is similar to ours. In the domestic retail segment, ČEZ Group is building a network of representations and a central call center to improve our customer services. As a result of this move, service quality will be unified at the same high level of quality nationwide.
On what principal goals will the company concentrate in the near term?
The objective of ČEZ, a. s. will be to continue in the long-term good operating performance trends and maximize earnings for our shareholders. We will focus on integrating operations within ČEZ Group in the Czech Republic and thereby also on complying with our unbundling obligations under law. We will also focus on fine-tuning the new organization structure, having transitioned to a divisional model in conjunction with Group integration. We also have the opportunity to further grow the company through foreign acquisitions. A very important area for us will be the renewal of our generation base, since our current power stations are set to reach the end of their useful lifetimes starting in 2010. Their successful replacement and the securing of the necessary raw materials and other resources for their operation will lay a foundation upon which the companies of ČEZ Group can build good performance in the decades to come. In conclusion, let me thank the employees of ČEZ Group, as well as our shareholders and business partners, for the part they played in the company’s favorable performance in 2004. The situation in European power markets and our successful foreign acquisitions debut reinforce my conviction that, together, we are headed in the right direction.
Chief Executive Officer and Chairman of the Board
Introduction by the Chairman of the Board of Directors
How did the Group’s financial performance pan out in comparison with 2002?
First of all, I must say that the performance results of ČEZ Group in 2003 were substantially influenced by changes in the Group and therefore it is difficult to make a year-on-year comparison. While in 2003 we consolidated – either fully or by the equity method – a total of 33 companies, in 2002 the consolidated group consisted of just four companies. In 2003, the expanded ČEZ Group, containing equity interests in the electricity distribution companies, achieved major growth in revenues from sales of electricity (by CZK 26.6 billion, or 50.3%) thanks to the inclusion of sales to final customers by the five electricity distribution companies in ČEZ Group, but also thanks to higher sales of electricity in the liberalized wholesale market. On the other hand, the sale of a 66% ownership interest in ČEPS, a. s. did not have a direct impact on the profit figure, but it did lead to an increase in consolidated shareholders’ equity. Net income did not reach 2002’s level (CZK 8.4 billion), and declined to CZK 5.9 billion (down by 29.6%). The principal factors contributing to this decline included changes in the nuclear power plants area – a CZK 2.8 billion increase in depreciation charges related to Temelín Nuclear Power Station and also a CZK 3.5 billion increase in nuclear provisioning.
What, in your opinion, was the company’s biggest accomplishment in 2003?
What do you appreciate the most and what do you think is the best news for shareholders? Certainly the acquisition of stakes in the Czech electricity distribution companies – majorities in five cases. Immediately thereafter, an agreement was reached with E.ON, which was formalized upon completion of the already mentioned process of integrating the ČEZ, a. s. production base with the electricity distribution companies. It is a promise for the future that, despite the necessary presence of competition in the electricity market, ČEZ, a. s. will be capable of reaching mutually beneficial agreements with its competitors.
ČEZ Group has set for itself the goal of becoming a leader in the Central and Eastern European electricity market. What steps have you already taken on this road?
At this moment, ČEZ, a. s. is bidding in two tenders – for Slovenské elektrárne, a.s. and the Bulgarian distribution companies. We are also monitoring the situation in Poland, where the privatization of the power industry has yet to move out of the preparation phase. The Hungarian market also holds some potential business opportunities.
How would you describe ČEZ Group’s performance in the liberalized electricity market in the Czech Republic? After all, it’s been two years since the market was first opened up to competition.
ČEZ Group has done very well to-date, but the market is still not yet completely open, and we still have a long way to go. Often it is more difficult to defend a position than to gain it. But I am convinced that our success will hold as we go forward.
On what areas will the company focus this year and what are your most important near-term goals?
The goal of ČEZ Group will be to continue in its long-term trend of strong financial performance. However, we cannot count on such strong one-off factors such as the proceeds from last year’s sale of ČEPS, a.s. Instead, we will have to prepare ourselves well for the full liberalization of the electricity market starting in 2006. The reason: in the past, opening up of markets to competition has had a negative impact on the earnings of most European power companies. Other goals of ČEZ Group are to become a leader in the Central European electricity market through acquisitions in other countries and to create a functional and effective ČEZ Group by completing the integration of the electricity distribution companies.
This year, ČEZ, a. s. is publishing a separate Corporate Responsibility Report. In what way do you see a corporation like ČEZ, a. s. having responsibility for society? Is that in shareholders’ interests?
Corporations like ČEZ, a. s. are often referred to as public utilities and that implies a universal role. ČEZ, a. s. is a Czech power company – one of the strongest corporations in the Czech Republic – and it also has responsibility for the development of society in all its forms and aspects, not just in electric power. One aspect of our sponsorship program is guided by the slogan “We help where we operate” and that, I think, speaks for itself. And, certainly, this broader responsibility is in the interests of shareholders, too. Good relations also lead to good results. In conclusion, allow me to thank the company’s employees, shareholders, and business partners for the roles they played in driving the company’s solid financial performance in 2003. I am confident that our joint efforts will continue to guide the company in a positive direction in the future, as well.
Chairman of the Board of Directors and Chief Executive Officer