Risk management

Restrictions related to the impact of the coronavirus pandemic (COVID-19) affect directly and/or indirectly social life and the economic situation and their results may include increasing the level of unemployment, reducing the level of consumption, limiting the possibility of running business freely, increasing the risk of loss of liquidity of entrepreneurs. There is a risk that the aforementioned restrictions and their negative effects may translate into increased likelihood that some of the following risk factors affecting the Issuer Group’s ability to service its debt will materialise. The effects of the pandemic are affecting and may adversely affect the business and financial performance of the Issuer’s Group.

The armed conflict that began on 24 February 2022 in Ukraine and its consequences, as well as the actions taken by international communities against Russia are events that affect the Company’s and the Group’s operations and future financial performance is. Apart from the design work carried out on the contract concerning the Shehyni road border crossing, Unibep does not currently carry out any construction work in Ukraine, Belarus or Russia. The Company has no intention of withdrawing from the Ukrainian market. Unibep maintains its intention to implement projects, while further cooperation and performance of contracts in Ukraine depends on the development of the geopolitical situation in the region.

There are entities employing Ukrainian citizens among Unibep’s subcontractors and collaborating companies on the Polish market.. The Group is in ongoing contact with its business partners and monitors the impact of the conflict on the performance of contracts to which the Group entities are a party. At present, Unibep does not identify any risks in this area. Contractors are completing the works without any downtime.

The war in Ukraine is a huge challenge for the construction industry, including Unibep. Many private investors have held back their decisions and are waiting to see how the situation will develop. As of today, this causes difficulties in terms of reliable contract valuation and, consequently, long-term planning.

It cannot be ruled out that in the event of an escalation of the conflict or as a result of sanctions imposed on Russia by the international community, the conflict may significantly affect the Group’s operations, either directly or indirectly. Some of the limitations associated with this are noticeable. The problem affects such areas as: interrupted or disrupted supply chains, which may result in restrictions on the availability of raw materials from Ukraine and Russia; availability of raw materials and materials; influence on the level of prices of purchased materials (in particular steel, fuels and crude oil derivatives); an outflow of workers from Ukraine, which may have an impact on the availability of workers in the construction sector; increased investment financing costs; assessment of Poland’s attractiveness by foreign investors.

The Company is analysing the situation and building scenarios for action in case the conflict escalates. The Company’s representatives are in regular contact with business partners (contracting entities, subcontractors, material suppliers), engage in a dialogue with non-governmental organisations, as well as contracting entities from the public sector.

As part of their operations, the Issuer’s Group companies enter into contracts that are (or may be) denominated or expressed in foreign currencies. In terms of export earnings, hedging against foreign exchange risk is primarily effected through a natural hedging mechanism, which consists of signing agreements with subcontractors in the currency of the agreement, thus transferring the risk to them.

It is the intention of the Issuer’s Group to close the foreign currency position by balancing foreign currency transactions related to revenue and expenses. The Issuer has signed contracts concerning foreign currency transactions with banks, enabling it to use hedging instruments, provided that closing a natural position in the given period is not possible.

The strategy of the Issuer’s Group regarding financial instruments hedging foreign exchange risk is based on the following two main assumptions:

1. hedging amounts not greater than the planned foreign exchange flows,
2. using simple and predictable tools, e.g. forward or unrealistic forward.

The Issuer’s Group enters into specific transactions denominated in foreign currencies. As a result, there is a risk of exchange rate fluctuations. This risk is managed under the approved foreign exchange risk management procedure. The Issuer’s Group is particularly exposed to fluctuations of NOK/PLN, SEK/PLN and EUR/PLN exchange rates, hence it continuously analyses fluctuations of such exchange rates. The Issuer’s Group enters into derivative transactions in order to hedge its exposure to foreign exchange risk. The rules governing the use of derivatives are included in the foreign exchange risk man agement procedure.

Trade receivables are also among the Group’s assets exposed to an increased credit risk. Before signing a contract, each counterparty is assessed in terms of its ability to meet its financial obligations. A significant portion of the current contracts are performed for proven and reliable partners (subsequent contracts). In case of doubts regarding the counterparty’s ability to pay, entering into a contract is subject to establishing appropriate security (in cash or on property).

In addition, contracts signed with investors include clauses providing for the right to suspend the performance of works if there is a delay in the payment of amounts due for provided services. If possible, contractual provisions which make payments to subcontractors conditional on receiving funds from the investor are also agreed. However, it cannot be ruled out that a possible downturn in the property market and the construction industry will affect investors’ ability to pay, and thus increase the credit risk of the Group’s counterparties.

There is a risk that the Group’s contracting entity will not make the agreed payments, despite completing a given stage of work, which may lead to reducing the Group’s financial liquidity and, in extreme cases, to financial losses. In order to mitigate the liquidity risk, the Group maintains an adequate amount of cash and enters into credit facility contracts with banks, which serve as additional liquidity security.

It is the intention of the Group’s companies to sign contracts only with reliable and financially sound partners, who have access to bank financing. The Group uses its own funds to finance investment purchases, ensuring that the financing structure for this type of assets is sufficiently sustainable. In view of the fact that the investment programme is also implemented through subsidiaries (the majority of shares in the companies belong to UNIEBP S.A. or its subsidiary, i.e. UNIDEVELOPMENT S.A.), the Group grants internal loans for its implementation. Large residential and commercial projects are and will be implemented through . New projects are financed from the company’s own funds, bank loans or bond issues. Liquidity management is supported by the current system of monitoring expected revenues and expenditures, by means of an appropriate IT system module. Taking into account the aforementioned measures taken, the Group’s financial condition and the security provided with credit facilities, liquidity risk should be considered limited.

Due to the situation across Poland’s eastern border, the Issuer’s Group is particularly exposed to the political risks of these markets. At present, it is expected that it may not be possible to obtain new significant contracts in the Ukrainian market in the coming periods. In addition, the Group has for the time being cancelled contracts in Russia and Belarus.

In view of the recent events in Ukraine, threats and actions (including those of a military nature) that are difficult to foresee should be taken into account, the course of which may significantly destabilise the Group’s operations.

In the case of contracts previously performed in the East, schedules of works and expenditure have always been prepared in such a way as to minimise the risk of the Issuer’s Group related to the possible necessity of early completion of the performed works.

The Group strives to diversify its operations and seek new sources of profit. Operating in new markets entails the need to know in detail the principles of functioning in and cooperating e.g. with local authorities, institutions, and business partners A company lexpanding into a new market is usually exposed to greater operating costs (e.g. costs of promoting the company or its products) and costs of removing various barriers at the initial stage of operations.

As a result, the first periods of operations in a new market may involve greater costs or losses, and it may take longer to achieve the expected profitability. Entering a new market also entails tax risks arising from the need to get familiar with new principles and regulations characteristic for a given country.

Apart from expanding into new markets in the geographical sense, the Group introduces new products/ services in the markets in which it currently operates. Examples include activities in the property development segment, in the area of commercial investments (PRS market) and work on new products from the modular house production plant (e.g. nursing homes). As a result, there is a number of different types of risks related to launching new products on the market.

The Group strives to minimise these risks through measures such as carefully preparing for operations in a new area or cooperating with experienced partners and advisers. As a rule, such projects (depending on their scale or specific conditions) are carried out in the form of special purpose vehicles, which partially reduces the Group’s risk.

Unibep SA seeks to diversify its operations and therefore a decision was made to create a new business segment – in the energy and industrial sector. There is a risk that these projects will prove to be capital intensive and subject to early stage risks in the initial development of the segment. Underperformance of the segment may carry the risk of lower earnings for the Group.

The impact can also be reflected on the Group’s individual balance sheet items, such as an increase in receivables translating into a lower cash balance. The opening of the new energy and industrial segment is also associated with organisational changes in the Unibep Group and, consequently, the need to incur related costs.

The Group expects that engaging in activities as part of public-private partnerships (PPP) will yield economic benefits . However, we cannot rule out that the outcome of these activities will be so unfavourable that expenses will be incurred and the Group will not make efforts to be an active participant in this process. On the other hand, activities connected with developing activity as part of PPP bring risks similar to those of developing a new market or launching a new product on the market.

Entry barriers, getting familiar with market principles, operating costs – these and other aspects may give rise to the risk of lower than expected profitability of a new business. Undertaking activities as part of PPP, however, is essentially in line with the strategy of diversifying activities and ultimately reducing risks. The Group’s activities are based on several pillars, which allows reducing temporary risks and lower efficiency in particular areas.

Performance of a contract often depends on obtaining financing by the Investor, which is reflected in the contractual provisions. As a result, signing an agreement alone does not guarantee that an investment project will be implemented (or completed in its entirety).

This may lead to a loss of some of the anticipated revenues and profits. Adequate funding has been secured for the vast majority of domestic contracts currently underway. This risk also covers operations carried out on international markets. The parameters for financing transactions must now be verified more intensively.

In recent years, the Polish legal system has undergone frequent changes in regulations and produced inconsistent judicial decisions, which continues today. Attention should also be paid to the process of adapting Polish law to the requirements of the European Union and the impact of European case-law on court decisions in individual cases. It is impossible to predict the influence of changes in law, both those are currently under way and those expected to happen in the future, on the Issuer’s activities. Undoubtedly, these factors constitute a potential element of risk and may have a serious impact on the legal environment of business operations, including the Issuer’s operations. This applies in particular to the regulations governing the construction, property development and securities markets, as well as employment relations, social insurance, and the broadly-defined civil law system.

It is also possible that the catalogue of activities requiring appropriate permits or concessions may be extended. There is a risk of unfavourable changes in regulations or their interpretation in the future. This may have a negative impact on the Issuer’s operations, its market position, sales, financial performance, and development prospects.

In practice, tax authorities apply laws based not only directly on codes, but also on their interpretations by higher authorities or courts. Such interpretations also change, are replaced by other ones, or contradict each other. To some extent, this also applies to case-law. This results in uncertainty as to how the law will be applied by the tax authorities or as to the automatic application of the law in accordance with interpretations available at a given moment, which may not be in line with the various, often complex factual circumstances in business trading. The vagueness of many of the regulations that make up the Polish tax system further contributes to this risk.

On the one hand this raises doubts as to the correct application of regulations and, on the other, makes it necessary to take more account of the aforementioned interpretations. The instability in the practical application of tax laws may have a negative impact on the operations and financial position of the Issuer’s Group.

The Issuer has and will have financial liabilities dependent on current interest rates. In view of the above, the Issuer is exposed to the risk of interest rate fluctuations on its liabilities, particularly significant in the event of high volatility of market interest rates (e.g. under conditions of significant uncertainty or crisis on financial markets). An increase in the level of interest rates will increase the cost of financing and thus reduce the performance profitability of the Issuer’s Group. The aforementioned factor has a material adverse effect on the Issuer’s development prospects, performance and ability to service its debt (including but not limited to bonds or loans).

Activities of the UNIBEP Group are exposed to the risk of competition. The Group’s financial performance may be materially affected by the pricing policy of its competition, which consists in offering general contracting services at lower margins. This may result in the necessity to lower the prices of offered products and services, lower margins and, consequently, lower financial performance of the Group. The main segment of the Issuer’s activity, generating more than 50% of revenues, is residential and commercial construction business. In this basic segment of activity, the following entities are considered to be the main competitors of the Group: Erbud, Budimex, Skanska, Hochtief, Strabag, or Warbud. In the property development segment, the Group competes mainly with developers implementing projects in Warsaw, Poznań and the Tri-City. The property development market in Poland is highly competitive.

Through Unihouse S.A., the Group operates in the modular construction segment. The Group’s main competitors in this segment include entities such as: Moelven Bygg- Modul AB, Lindbäcks Bygg AB, Derome Husproduktion AB, HARMET OÜ, Scandibyg and Kodumaja AS.

In the infrastructure segment, the Unibep Group competes for contracts with Budimex, Mota-Engil, Strabag, Polaqua and Aldesa, among others.

In the energy and industrial construction segment, competitors include Erbud, Budimex, Polimex Energetyka, SBB and Doosan.

The property development market in Poland which the Group operates in is highly competitive.

Competition could have a material adverse effect on the Group’s business, cash flows, financial position, financial performance or prospects, and in particular may lead to oversupply of residential properties if too many development projects are completed, or it could lead to an increase in the price of land for new projects, which could affect the profitability of ongoing development projects

The Issuer’s strategy provides for the expansion of property development activity to new markets in the near future. The Group intends to pursue long-term value growth by increasing the scale of its operations in the Tri-City area. The Group also plans to develop the modular construction segment in the German and Swedish markets in the near future.

In the event of a decision to expand into new markets, the Issuer has carefully analysed potential projects (contracts) before deciding to implement the investment (contract); however, despite careful analysis, the identification and development of future projects (contracts) may not necessarily be successful. In addition, with respect to development projects in locations which are new to the Group, the Issuer may face more uncertainties as to the administrative, formal, operational and financial needs of development projects, which may translate, for example, into achieving lower margins on these projects than on the Warsaw or Poznań markets.

The value of a residential property and the associated realisable selling price of the property depends primarily on the location, architectural design and standard of construction.

If the attractiveness of the location of a property or project is incorrectly assessed, Group entities may not be able to sell the property at the previously assumed prices, or at all. The need to reduce the selling price in order to attract buyers implies a decrease in the margin achieved by the Issuer’s Group, lower cash flows and a negative impact on the Group’s financial position and business prospects.

In accordance with regulations governing environmental protection, entites using land where pollutants or detrimental transformations of natural topography appear may be obliged to remove them, bear the costs of reclamation of such areas or pay administrative penalties.

The Group cannot exclude the possibility that Group companies will be obliged to pay compensation, administrative penalties or to perform land reclamation, should any pollution be detected on the land used by such companies. This may have a material adverse effect on the Group’s operations, financial position, or financial performance. The Group performs technical and legal surveys of land for future projects in order to mitigate this risk. The occurrence of this risk may expose the Group to negative impacts, including an impact on its operating and financing activities, and on development prospects.

The implementation of relevant ESG procedures and policies involves a process of identifying and mitigating ESG risks. The actions of investors and shareholders are increasingly focused on ESG, with a range of regulations and guidelines in many countries leading to stricter disclosure and reporting by companies and their governing bodies (D&Os). Growing concerns about social inequality are also leading to new demands on businesses in terms of diversity, pay and supply chains. The reorientation of policies and the consideration of ESG factors in business, in line with the direction given by the European guidelines, is essential these days in order to maintain a competitive advantage.

European Union regulations are increasingly impacting the Group and increasing compliance costs, in particular in the area of regulations and guidelines on climate issues and climate change mitigation. This applies in particular to regulations under way at EU level, including reporting obligations under the two climate objectives of the EU taxonomy. In 2021, the European Commission presented a draft Corporate Sustainability Reporting Directive (CSRD) to replace the Directive of the European Parliament and of the Council (2014/95/EU) on the disclosure of non-financial and diversity information by certain large undertakings and groups (NFRD).

During the implementation of a construction project, protests of residents, associations, or non-governmental organisations may occur, hindering the implementation of the investment. Administrative bodies and companies involved in management and supply of utilities may attempt to impose costs on developers for the construction of additional infrastructure not directly related to the development project being carried out or, alternatively, set long deadlines for the construction of infrastructure as part of their own objectives. Moreover, when constructing the infrastructure provided for in the development project, developers may face difficulties in obtaining permits to dispose of properties necessary to run utility networks (energy, water, sewage, heat), and even obstruction during formal and legal proceedings, on the part of utility providers.

Such events may cause difficulties during administrative proceedings, construction of infrastructure (including utilities) and the project as a whole, which may lead to delaying or, in extreme cases, suspending the project, or to a significant increase in the costs of a given project. The factors outlined above could have a material adverse effect on the development prospects, performance and financial position of construction companies, including the Group. This also applies to activities in foreign markets.

Activities in the construction industry are marked by a noticeable susceptibility to weather conditions. Weather conditions typical of a given season of the year are assumed to occur when preparing a schedule for construction projects and budgeting financial performance. The best conditions for construction work usually occur during the summer months, and they deteriorate significantly in the winter months, especially when snow and frost are present (from December to February it is usually impossible to carry out construction work as part of a development project).

In addition, construction work may become impossible as a result of weather conditions unusual for a given period, including torrential rains in the summer or very low negative temperatures in the winter months, which also hinders finishing work. Similarly to other entities operating in the industry, the Group cannot exclude the occurrence of the aforementioned risk, i.e. the occurrence of unusual or extremely unfavourable weather conditions, which may prolong the construction process and delay the date of handing apartments over to customers, which in turn may delay the date of posting revenues in the income statement, and at the same time have a significantly negative impact on the development prospects, performance, and financial position of construction companies, including companies of the Group.

The possibility of acquiring new land in advance provides developers with the ability to maintain regularity in running operations, including revenue. The risk of acquiring insufficient land in good locations to guarantee smooth operations and continued growth cannot be ruled out. In particular, the risk of concentrating demand in the most attractive locations by other developers, the risk of unfavourable trading conditions, as well as delays or difficulties in obtaining financing for a given piece of land cannot be ruled out. Despite the mitigation of risks, purchased land may be burdened with defects, including geological defects in the form of e.g. lack of ground bearing capacity, discovering archaeological findings during the implementation of a project, or soil contamination. It is also possible that owners of adjacent properties will express their objections during the procedure of obtaining a zoning permit and a building permit.

The above-mentioned factors may slow down or limit development of developers, including companies of the Group, which may have a negative impact on the scale of their operations, performance, and financial situation. The Group actively searches through real estate markets on which it operates and analyses market offers on an ongoing basis in order to mitigate the mentioned risk. Co-implementation of projects with land owners has a positive impact on the minimisation of the indicated risk, as it makes it possible to obtain attractive land at much lower costs.

This risk refers to situations where properties purchased or planned to be purchased by companies of the Group are encumbered with legal defects, i.e. they were the property of an entity other than the seller or encumbered with rights of third parties, and situations where the legal status of a property is not regulated, i.e. where potential sellers are unable to prove their legal title to a given property, in particular when no land and mortgage register was established for it. The existence of the aforementioned legal defects leads to potential claims concerning such properties against companies of the Group by third parties, while an unregulated legal status is related to significant difficulties or inability to purchase a property for the purposes of development activities.

Moreover, if companies of the Group sell apartments or buildings located on land encumbered with legal defects, there is a risk that the buyers will make warranty claims for legal defects of the land on which individual premises are located. This may have a material adverse effect on the Group’s operations, in particular its financial position or performance. In order to mitigate this risk, the Group conducts a legal analysis of properties selected for acquisition. The occurrence of such a risk may expose the Group to negative impacts on its operating and financing activities, and on its development prospects.

To a large extent, financial performance and margins corresponding to development projects carried out by Group companies depend on the transaction prices of the purchased land properties. In the event of a significant increase in prices, the Group may be exposed to a decrease in the level of margins on property development activity, which may have a significant negative impact on the development prospects, performance and financial situation of the Group. Accordingly, there is a risk of increased costs of construction projects, such as land prices, prices of subcontractors or construction materials, forced changes in design, land contamination, adjustment of requirements to new environmental guidelines or to purchasers’ expectations related to the implementation of ESG policies, discovery of archaeological sites or unexploded ordnance and other similar events that could potentially have an impact on cost increases. An increase in the prices of construction materials and subcontractor services, lack of continuity in the supply of materials, which constitute a significant component in project cost estimates, may adversely affect the profitability of individual construction projects.

Recent changes in the market for the supply of materials and services indicate a real increase in production costs. This implies a risk that the Group will not be able to fully compensate for their negative impact with the prices of the flats sold. In addition, the phenomenon of difficult access to materials and subcontracting services is evident, thus creating the risk of delays in the execution of contracts. Developers, including the Group companies, are thus materially exposed to adverse effects having an impact on their development prospects, operations, performance and financial position.

The Group is exposed to price risk related to price increases in the most commonly purchased construction materials, such as steel and concrete, as well as timber, mineral wool and asphalt. The Group endeavours to guarantee price stability in its contracts with producers or material suppliers. In order to mitigate price risk, the Group continuously monitors the prices of the most frequently purchased construction materials, and the contracts signed have parameters appropriately adjusted to the market situation, including the duration of the contract and the contract value. Price risk increases in the case of events caused by socalled force majeure (pandemic, warfare) as well as by increases in other production factors (increases in energy, fuel prices).

These factors and trends are taken into account when calculating the contract price and negotiating with investors and subcontractors. This applies to actions taken in the long term, as well as to the current situation. A risk therefore exists that in the event of a significant upward trend (i.e. sharp increases in the prices of materials and subcontractor services and labour costs), the contracts currently being acquired will not achieve the planned profitability.

This may also be reflected in contracts acquired in earlier periods, if the execution of selected stages of these contracts occurs during a period of price turbulence, and the risk of uncontracted items has not been hedged. The change of price realities on the market of suppliers and producers of construction materials may thus affect the forecasts and performance of the Issuer and the Unibep Group.

As part of the implementation of construction projects, the UNIBEP Group uses the services of specialised contractors of construction work, who often employ their own subcontractors. The risk related to non-performance or improper performance of obligations by such contractors and/or subcontractors, which may adversely affect the implementation of construction projects and, consequently, the UNIBEP Group’s future financial performance cannot be ruled out. In addition, due to the joint and several liability of the investor and the contractor for payment of subcontractors’ remuneration, the risk of non-performance by contractors or subcontractors of their obligations in this respect cannot be ruled out, thus giving rise to the Group companies’ liability as an investor.

In order to minimise the risk, the Group vets its counterparties in terms of procedures, quality control, capacity to deliver, and pursues a policy of diversification of subcontractors, acts in accordance with implemented internal tender procedures, as well as includes clauses that ensure effective and rapid replacement of unreliable subcontractors in contracts. In addition, the Group companies are secured in each contract with their subcontractors by provisions on liability for improper performance of the work, its timeliness as well as liability during the warranty period. The occurrence of the above risk may expose the Group to adverse effects, including for its operational and financial activities and on its development prospects.