Merko Ehitus
Quarterly report

2012 12 months and IV quarter consolidated unaudited interim report

Estonia, Tallinn, 2013-02-14 15:35 CET --

MANAGEMENT REPORT

Overview of the 12 months results

Background information and major changes introduced in the corporate structure

AS Merko Ehitus is a holding company incorporating construction and real estate development companies offering integrated construction solutions in Estonia, Latvia and Lithuania. Major construction companies incorporated under the holding company include AS Merko Ehitus Eesti (100%), SIA Merks (100%), UAB Merko Statyba (100%), as well as the AS Merko Ehitus Eesti group companies Tallinna Teede AS (100%) and AS Merko Infra (100%).

The Management Board of the holding company AS Merko Ehitus has two members: Andres Trink and Viktor Mõisja.

The profiles of the members of the Management Board and Supervisory Board have been presented in Note 15 to the financial statements, and published, together with the track record and photographs, on the company’s website at www.merko.ee.

On 6 July 2012, AS Merko Ehitus transferred, in connection with review of its investment strategy, its 25% stake in the reinforced concrete element manufacturer AS TMB to the company management.

The changes introduced in the management of SIA Merks, the Latvian-based subsidiary of AS Merko Ehitus, took effect in September 2012, with the former Chairman of the Management Board Ivars Geidāns being appointed a member of the Supervisory Board of SIA Merks, and the former CFO Oskars Ozoliņš the Chairman of the Management Board of SIA Merks. The Management Board of SIA Merks will continue with two members: Oskars Ozoliņš as the chairman and construction director Jānis Šperbergs as member of the Management Board. The company’s Supervisory Board will continue with Andres Trink serving as the chairman, and Tõnu Toomik, Jaan Mäe and Ivars Geidāns as members.

In connection with the review of the Lithuanian business strategy, the Supervisory Board of UAB Merko Statyba decided to end the implementation of water management projects on the Lithuanian market and focus on the field of general construction and apartment development.

In connection with the revising of the Ukrainian market prospects, the Supervisory Board of AS Merko Ehitus approved, on 4 September 2012, the management’s proposal for the initiation of the liquidation of the 100% subsidiary Merko Ukraine LLC. The company has no work-in-progress, contracts that needed to be served, or employees in Ukraine.

In December 2012, a 100% subsidiary in Russia was founded and registered, OOO Lenko Stroi (registry code 1129847028288). The subsidiary was founded through the 100% Finnish subsidiary Merko Finland OY. The share capital of the new subsidiary is EUR 4,986. This was a technicality aimed at establishing a legal platform for operations in Russia. No actual business activity is currently taking place in Russia.

In October 2012, the shareholders of OÜ Unigate signed a notarized plan for a division under which registered immovable property with natural conservation restrictions were separated from OÜ Unigate and distributed among the owners equally. AS Merko Ehitus founded two 100% subsidiaries in order to receive the five immovables arising from the transaction: Väike-Paekalda OÜ and Suur-Paekalda OÜ.

In 2012, the business strategy of AS Merko Ehitus subsidiary companies focused on improving profitability, enhancing the efficiency of the cost base and strengthening the long-term liquidity position, concentrating on general contracting and real estate development at the domestic markets of Estonia, Latvia and Lithuania.

In 2012, the activities of AS Merko Ehitus were recognized in the form of the following prizes:

International Olympic Committee (ROK) prize - Sport and the environment

At a gala evening taking place on 27 December 2012, the foundation behind Estonian recreational trails won an International Olympic Committee (ROK) prize - Sport and the environment. The foundation, SA Eesti Terviserajad (Estonian Recreational Trails), is the initiative of three companies – Merko Ehitus, Eesti Energia and Swedbank – for creating and improving Estonian trails and sports opportunities in natural settings. The goal of the joint venture is to support development of Estonian recreational trails to ensure that the public has free of charge access to places where they can exercise and play sports throughout the year. From 2004 to 2012, over EUR 23 million had been invested into the development of recreational trails, and among others contributors include SA Eesti Terviserajad, local governments, the Ministry of Culture and the European Union. Across Estonia, pro and amateur sportsmen and -women have close to 90 trails – 750 km worth of maintained and mostly illuminated trails.

The Entrepreneurship Award 2012

AS Merko Ehitus was granted the most competitive enterprise award in the field of construction at the Entrepreneurship Award competition organised by Enterprise Estonia, the Estonian Chamber of Commerce and the Estonian Employers’ Confederation.

Euromoney – Real Estate Survey 2012

In its real estate market survey for 2012, Euromoney – the international financial journal with a history of more than 40 years – declared AS Merko Ehitus Estonia’s best developer. The Real Estate Survey 2012 is the eighth survey conducted by Euromoney with the aim of ranking the best in real estate on the basis of the market data, as well as the assessments of developers, counsellors, business customers, investors and banks.

Business activities

Key financial indicators (in millions of euros):

Merko Ehitus generated a total of EUR 249.1 million in revenue in 12 months of 2012, including the EUR 71.4 million generated in the fourth quarter. 81.1% of the revenue was generated in Estonia, 15.4% in Latvia and 3.5% in Lithuania. The consolidated revenue grew by 13.6%, compared to 12 months of 2011. This can mainly be attributed to the increase in the revenue generated from engineering projects in Estonia and apartment projects in all three Baltic counties. A bulk of the revenue generated from the construction sector can be attributed to projects co-financed by the European Structural Funds.

A total of 235 apartments were sold in 12 months of 2012 at the total value of EUR 25.0 million (w/o VAT) (159 apartments and EUR 18.2 million in 12 months of 2011). In the last quarter, 116 apartments were sold for a total price of EUR 12.3 million (not including VAT) compared to 46 sold apartments in Q4 2011. In the fourth quarter, a 115-unit apartment building in Riga on Skanstese street and a 68-flat apartment in Vilnius on Mokslininkų street were completed. At the end of the period, the Merko Ehitus group’s inventory consisted of a total of 155 completed but not yet sold apartments (55 in Estonia, 47 in Latvia and 53 in Lithuania).

The following table lists the apartment projects in progress:

In addition, the construction activity on 311 apartments from 2007 and 2011 has been frozen.

The real estate market has become more selective – key aspects considered in the evaluation of risks prior to the launch of each project is the location, scale of development, design solutions and the target group. Considering the low mortgage interest rates and the limited supply on the new apartments market in the last three years, demand and transaction activity on the apartment market has grown moderately.

In 12 months of 2012, the group earned a gross profit from development and construction activity of EUR 17.9 million (12 months of 2011: EUR 3.6 million). The impact of seasonal factors in construction on the 12-month results for 2012 were insignificant compared to that of previous years. Considering the fact that Q3 is generally the most active construction period in the annual cycle, it nevertheless proved possible in the Q4 to increase the revenue compared to that of the previous quarter – by EUR 0.5 million. Sales of apartments in the amount of EUR 12.3 million gave a boost in this direction. The said sales made up 49.0% of the annual apartment sales. Primarily due to the above-mentioned result, the quarterly sales were 8.3% higher than last year in the same period. New and profitable projects and sales of apartment developments in Q4 have led to a positive gross profit trend compared to the same period the previous year. In addition, positive influence stems from the fact that the losses from problematic projects were already recognized in previous periods. For the same reasons, the gross profit margin has improved by 8.8% (12 months of 2012: 7.2%) compared to the 12 months of 2011 (-1.6%). In light of the ever more competitive construction sector, it is a major challenge for subsidiaries in the field of construction to maintain their gross margin at the same level.

The consolidated earnings before taxes (EBT) for the 12 months of 2012 amounted to EUR 7.9 million and net profit to EUR 7.6 million, compared to the negative EBT of EUR 14.0 million and net loss of EUR 14.1 million for the 12 months of 2011.

The group posted a net profit of EUR 4.4 million in the fourth quarter of 2012, compared to the EUR 6.8 million net loss for the fourth quarter of 2011. The result in the final quarter of 2011 was most impacted by impairment of inventories by EUR 6.0 million.

As at 31 December 2012, secured order book amounted to EUR 190 million, compared to the EUR 166 million as at 31 December 2011. The group does not include residential building projects developed by the group and development of investment property in the order book.

A total of EUR 247 million worth of new contracts (without sold apartments) were concluded in 12 months of 2012, compared to the EUR 168 million in the same period last year. The largest construction agreements concluded in fourth quarter of 2012 have been brought out below:

Although the share of public procurements was still predominant among construction contracts in 2012, the private customer segment became more active in the construction markets of all three Baltics. With the current EU financial framework period ending, a certain drop in the volume of public procurements can be forecasted starting in the latter half of 2013. As a result, it will be a challenge in its own right to keep the volume of new construction agreements at the 2012 level.

The group has improved on its financial resources. As at the end of the reporting period the Merko Ehitus group’s financial resources amounted to EUR 35.3 million, compared to the EUR 18.7 million in the same period last year.

During the year, the strategic cash position and investment capability of the AS Merko Ehitus holding company have improved.

The 12-month cash flow from operating activity was positive at EUR 3.5 million (12 months of 2011: negative EUR 12.3 million), cash flow from investing activity was positive at EUR 12.7 million (12 months of 2011: EUR 8.7 million) and the cash flow from financing activity was positive at EUR 0.7 million (12 months of 2011: EUR 12.1 million). The cash flow from operating activity was most influenced by the negative change in trade and other receivables related to operating activity – EUR 8.2 million, by the operating profit of EUR 7.4 million and positive change in trade payables and inventories related to operating activity – EUR 5.4 million. The group’s cash flows from operating activity were positive in the last quarter – EUR 19.3 million – compared to the EUR 9.9 million in Q4 2011. The significantly greater cash inflow in the last quarter of the year was due to the seasonality of construction activity. It should still be emphasized in this connection that the share of public sector orders with a long payment term has increased as a proportion of the group’s cash flow from operating activity (by contract, an average of 56 days after evaluation of the work) and there is an additional burden on working capital, including optimal management of cash flows. To support cash flows arising from operating activity, the group, in deliberated fashion, brought in additional external capital, including factoring. At the same time, the debt ratio has remained at a moderate level (15.8% as of 12 months of 2012).

The EUR 12.7 million cash flow from investing activities is made up of the positive EUR 9.9 million of repayment of loans related to the financing of development activities as well as the EUR 2.8 million generated from the disposal of the share in AS TMB. Negative cash flows consist of the EUR 1.5 million spent on the acquisition of investment property (mainly the construction of the court and police department building in Jõgeva).

The balance of loans received and loans repaid contributed EUR 1.6 million and the repayment of the finance lease principal EUR 0.9 million to the cash flow from financing activities.

The financial ratios of Merko Ehitus for the 12 months of 2012, and the methods for calculating the financial ratios (per share attributable to equity holders of the parent company):

Net profit margin = net profit / revenue
EBT margin = EBT / revenue
Operating profit margin = operating profit / revenue
Gross margin = gross profit / revenue
EBITDA margin = (operating profit + depreciation, amortisation and impairment) / revenue
ROE = rolling 4 last quarter net profit / average equity
ROA = rolling 4 last quarter net profit / average total assets
Equity ratio = equity / total assets
Debt ratio: interest-bearing liabilities / total assets
Current ratio = current assets / current liabilities
Quick ratio = (current assets - inventories) / current liabilities
General expense ratio = general expenses / revenue
Gross remuneration ratio = gross remuneration / revenue
Accounts receivable turnover = average accounts receivable / rolling 4 last quarter revenue x 365
Accounts payable turnover = average accounts payable / rolling 4 last quarter cost of goods sold x 365
Revenue per employee = revenue / average number of employees

Employees and remuneration

The number of the group’s employees has dropped by 2 in the last 12 months (-0.2%). As at 31 December 2012, the group had a total of 915 employees (including fixed-term and part-time employees). The 12-month gross remuneration for employees in the 12 months of 2012 was EUR 20.7 million, of which the share of basic wages made up 74.8% and bonuses accounted for 25.2% (12 months of 2011: EUR 16.7 million, basic wages 84.6% and bonuses 15.4%). Gross remuneration grew 24.0% compared to last year, including basic wage 9.7% and bonuses 102.4%.

Share and shareholders

Information on security

ISIN                                         EE3100098328
Short name                              MRK1T
List                                          Baltic Main List
Nominal value                           no par value
Securities issued                       17 700 000
Securities listed                         17 700 000
Date of listing                           11 August 2008

The shares of Merko Ehitus have been listed in the main list of NASDAQ OMX Tallinn. A total of 1,662 transactions were conducted with the shares of Merko Ehitus in 12 months of 2012, with 0.94 million shares traded, generating a turnover of EUR 5.5 million. The lowest share price amounted to EUR 5.37 and the highest to EUR 7.30 per share. The closing price of the share was EUR 5.90 on 31 December 2012. As at 31 December 2012, the market value of AS Merko Ehitus amounted to EUR 104 million.

Structure of shareholders as at 31.12.2012

Main shareholders of AS Merko Ehitus as at 31.12.2012 and change compared to previous quarter:

CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME
unaudited, in thousand euros

CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME
unaudited, in thousand euros

CONSOLIDATED STATEMENT OF FINANCIAL POSITION
unaudited, in thousand euros

Signe Kukin
Group CFO
+372 650 1250
signe.kukin@merko.ee