Financial outlook

Text from Fortum's 2016 Financial Statements Bulletin
Key drivers and risks
Fortum's financial results are exposed to a number of economic, strategic, political, financial and operational risks.
One of the key factors influencing Fortum's business performance is the wholesale price of electricity in the Nordic region. The key drivers behind the wholesale price development in the Nordic region are the supply-demand balance, the prices of fuel and CO2 emissions allowances, and the hydrological situation.
The continued uncertainty in the global and European economies has kept the outlook for economic growth unpredictable. The overall economic uncertainty impacts commodity and CO2 emissions allowance prices, and this could maintain downward pressure on the Nordic wholesale price of electricity. In Fortum's Russian business, the key drivers are economic growth, the rouble exchange rate, regulation around the heat business, and further development of electricity and capacity markets. In all regions, fuel prices and power plant availability also impact profitability. In addition, increased volatility in exchange rates due to financial turbulence could have both translation and transaction effects on Fortum's financials, especially through the Russian rouble and Swedish krona.
In the Nordic countries, the regulatory and fiscal environment for the energy sector has also added risks for utility companies. The main strategic risk is that the regulatory and market environment develops in a way that we have not been able to foresee and prepare for. In response to these uncertainties, Fortum has analysed and assessed a number of future energy market and regulation scenarios including the impact of these on different generation forms and technologies. As a result, Fortum’s strategy was renewed in 2016 to include broadening the base of revenues and diversification into new businesses, technologies and markets.
Nordic market
Despite macroeconomic uncertainty, electricity is expected to continue to gain a higher share of total energy consumption. Electricity demand in the Nordic countries is expected to grow by approximately 0.5% on average, while the growth rate for the next few years will largely be determined by macroeconomic developments in Europe, and especially in the Nordic countries.  
During 2016, oil and coal prices increased, while the price of CO2 emission allowances (EUA) declined. The price of electricity for the upcoming twelve months appreciated in the Nordic area as well as in Germany, and both are now on higher levels than at the end of 2015.
In mid-January 2017, the quotation for coal (ICE Rotterdam) for the remainder of 2016 was around USD 74 per tonne and for CO2 emission allowances for 2017 around EUR 5 per tonne. The Nordic system electricity forward price in Nasdaq Commodities for the rest of 2017 was around EUR 26 per MWh and for 2018 around EUR 23 per MWh. In Germany, the electricity forward price for the rest of 2017 was around EUR 34 per MWh and for 2018 around EUR 30 per MWh. Nordic water reservoirs were about 9 TWh below the long-term average and 19 TWh below the corresponding level in 2016.
Generation
The Generation segment’s achieved Nordic power price typically depends on such factors as the hedge ratios, hedge prices, spot prices, availability and utilisation of Fortum's flexible production portfolio, and currency fluctuations. Excluding the potential effects from changes in the power generation mix, a 1 EUR/MWh change in the Generation segment’s Nordic power sales achieved price will result in an approximately EUR 45 million change in Fortum's annual comparable operating profit. In addition, the comparable operating profit of the Generation segment will be affected by the possible thermal power generation volumes and its profits.
As a result of the nuclear stress tests in the EU, the Swedish nuclear safety authority (SSM) has decided to propose new regulations for Swedish nuclear reactors. The process is ongoing. Fortum emphasises that maintaining a high level of nuclear safety is the highest priority, but considers EU-level harmonisation of nuclear safety requirements to be of continued importance.
The Swedish Government increased the nuclear waste fund fee from approximately 0.022 to approximately 0.04 SEK/kWh for the 2015-2017 period. The impact on Fortum is approximately EUR 25 million annually. The process to review the Swedish nuclear waste fees is done in a three-year cycle. The Swedish Nuclear Fuel and Waste Management Co (SKB) will update the new technical plan in early 2017 for SSM to review. The final decision on the new nuclear waste fees will be made by the Swedish Government in December 2017. However, as a result of the decision on early closure of nuclear power plants, the Swedish Radiation Safety Authority, SSM, recalculated the waste fees for the Oskarshamn and Ringhals power plants.
In September 2016, the Swedish government presented the budget proposal for the coming years; One of the key elements was the proposal that taxation of different energy production forms should be more equal and the tax burden of nuclear and hydro should be taken to the level of other production technologies. The budget states that the nuclear capacity tax will be reduced to 1,500 SEK/MW per month from 1 July 2017 and abolished on 1 January 2018. In 2017, the tax is estimated to decrease by approximately EUR 32 million to EUR 52 million due to the tax decrease and by another EUR 5 million due to the premature closure of Oskarshamn 1 in the middle of the year. In 2018, there is no capacity tax.
A decision was also made to decrease the hydropower real-estate tax over a four-year period beginning in 2017, from todays 2.8% to 0.5%. The real-estate tax on hydro will, as stated in the government’s budget, be reduced in four steps: in January 2017 to 2.2%; in January 2018 to 1.6%; in January 2019 to 1.0%; and in January 2020 to 0.5%. In 2017, the tax is estimated to decrease by approximately EUR 20 million to approximately EUR 95 million.
In addition to the decrease in the tax rate, the hydropower real-estate tax values, which are linked to electricity prices, will be updated starting in 2019. The real-estate tax values are updated every six years. With the current low electricity prices the tax values in 2019 will be clearly lower than today. The process for renewing existing hydro permits will also be reformed.
The tax reductions will be financed through a higher electricity consumption tax that will mainly affect households. Electricity-intensive industries will be exempt.
In October 2016, the Swedish Energy Agency presented a concrete proposal on how to increase the production of renewable electricity by 18 TWh in 2020-2030 within the electricity certificate system, as part of the Energy Agreement. The government is expected to decide on the proposal in late March 2017.
In 2015, OKG AB decided to permanently discontinue electricity production at Oskarshamn unit 1 and to start decommissioning after the permission for service operation has been granted by the relevant Swedish authorities. The date for discontinued production and the start of decommissioning has been set to 30 June 2017. Oskarshamn unit 2, which has been out of operation since June 2013 due to an extensive safety modernisation, will stay out of operation. The closing processes are estimated to take several years.
City Solutions
In May, the Finnish Government decided to increase the tax on heating fuels by EUR 90 million annually from 2017 onwards. The negative impact on Fortum is estimated to be approximately EUR 5 million per year.
Russia
The Russia segment's new capacity generation built after 2007 under the Russian Capacity Supply Agreement (CSA) is a key driver for earnings growth in Russia, as it is expected to bring income from new volumes sold and also to receive considerably higher capacity payments than the old capacity. Fortum will receive guaranteed capacity payments for a period of 10 years from the commissioning of a plant. The received CSA payment will vary depending on the age, location, size and type of the plants, as well as on seasonality and availability. CSA payments can vary somewhat annually because they are linked to Russian Government long-term bonds with 8 to 10 years maturity. In addition, the regulator will review the earnings from the electricity-only market three years and six years after the commissioning of a unit and could revise the CSA payments accordingly.
The Competitive Capacity Selection for generation built prior to 2008 (CCS) takes place annually. The long-term CCS for 2017-2019 was held at the end of 2015, and the long-term CCS for 2020 was held in September 2016. The majority of Fortum’s plants were selected. The volume of Fortum’s installed "old" capacity not selected in the auction totalled 175 MW (out of 2,214 MW), for which Fortum has obtained forced mode status, i.e. it will receive payments for the capacity.
In December 2016, a bill draft containing the main principles of the heat reform, approved by the Russian Government in 2014, passed its first reading in the Russian Parliament. The draft contradicts the Roadmap in some crucial points, e.g. it does not include the requirement of the price liberalisation across the whole country. Instead it requires the consent of both the regional and the local authorities before starting the reform in certain pilot regions. If implemented, the reform should provide heat market liberalisation in 5 or 10 years, depending on the Government-imposed criteria.
The targeted operating profit (EBIT) level of RUB 18.2 billion in the Russia segment is expected to be reached during 2017-2018. The segment’s profits are impacted by changes in power demand, gas prices and other regulatory developments. Economic sanctions, the currency crisis, oil prices and the inflation have impacted overall demand. As a result, gas prices and electricity prices have not developed favourably as expected. The Russian annual average gas price growth was 3.6% in 2016. Fortum estimates the Russian annual average gas price growth to be 2.0% in 2017.
The euro-denominated result level will be volatile due to the translation effect. The income statements of non-euro subsidiaries are translated into the Group reporting currency using average exchange rates. The Russia segment's result is also impacted by seasonal volatility caused by the nature of the heat business, with the first and last quarter being clearly the strongest.
Capital expenditure and divestments
Fortum currently expects its capital expenditure, excluding acquisitions, to be approximately EUR 800 million in 2017. The annual maintenance capital expenditure is estimated to be below EUR 300 million in 2017, well below the level of depreciation.
Taxation
The effective corporate income tax rate for Fortum in 2017 is estimated to be 19-21%, excluding the impact of the share of profits of associated companies and joint ventures, non-taxable capital gains and non-recurring items.
Hedging
At the end of 2016, approximately 60% of Generation's estimated Nordic power sales volume was hedged at EUR 30 per MWh for the 2017 calendar year and approximately 35% at EUR 26 per MWh for the 2018 calendar year.
The reported hedge ratios may vary significantly, depending on Fortum's actions on the electricity derivatives markets. Hedges are mainly financial contracts, most of them Nasdaq Commodities forwards.

2/2/2017