Annual Report Management's review...3. Statement by the Board of Directors and Executive Board Statement of Comprehensive Income...

Transcription

1 Annual Report 2014 CVR no Contents Management's review...3 Regulation of distribution activities Gasregulation check Regulation of PSO activities Audit Committee Corporate social responsibility The enterprise's internal control and reporting Special risks Development in group activities and financial conditions Key Figures and Financial Ratios Statement by the Board of Directors and Executive Board Independent Auditor's Report Statement of Comprehensive Income Balance Sheet Cash Flow Statement Statement of Changes in Equity Notes Company information... 61

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3 Management's Review Summary In 2014, the HMN Naturgas group as a whole recorded a loss after tax of DKK 19.9 million, driven primarily by a loss after tax of DKK 84.3 million in the Gassalg group and amortisation of customer relations in the HMN Naturgas group of DKK 22.4 million. This is offset in part by the DKK 88.5 million profit of the parent company HMN Naturgas I/S. The parent company reduced its net debt by DKK million to DKK million in 2014, while the group reduced its total net debt by DKK 86.3 million to DKK million. The Annual Report is presented in accordance with International Financial Reporting Standards (IFRS). This means that the Annual Report 2014 comprises the parent Financial Statements of HMN Naturgas I/S and the Consolidated Financial Statements, in which the parent is consolidated with the following subsidiaries: HMN Gassalg A/S with the subsidiary HMN Gashandel A/S HMN Erhverv A/S and Hovedstadsregionens Naturgas Holding ApS with the subsidiary A/S Strandvejs-Gasværket HMN Naturgas I/S' earnings from distribution activities are determined by income limits imposed by the Danish Energy Regulatory Authority for the individual years, taking into account that HMN Naturgas I/S may be able to repay debts established before 1 January 2005, earn a return on and write off investments made after 1 January 2005 and cover its operating expenses through efficient operation of the company. These income limits are conditional on annual efficiency improvements. The group's earnings from natural gas supply activities, which are handled by the HMN Gassalg A/S and HMN Gashandel A/S subsidiaries, have been generated by the sale of natural gas to customers in Denmark in competition with other natural gas suppliers. All customers are free to choose their own natural gas supplier. The other subsidiaries in the group have limited activities that contribute only modestly to the group's consolidated results. HMN Naturgas I/S' objective is to distribute natural gas as cheaply as possible and at a high safety and service level for the benefit of the customers in the enterprise's distribution area. Customers are offered natural gas on competitive terms via the supply company HMN Gassalg A/S and its subsidiary HMN Gashandel A/S. The object of the HMN Naturgas group is to be the most efficient natural gas distribution company in Denmark and to be the customers' preferred natural gas supply company. HMN Naturgas I/S (57 municipalities) 100% Hovedstadsregionens naturgas Holding aps HMN Erhverv A/S HMN GASSALG A/S 100% 100% a/s strandvejsgasværket HMN GAShandel A/S 3

4 HMN is the customers' company Customers are the focus of HMN Naturgas' business, and the company's objective is that being a gas customer with HMN Naturgas should be easy. As the customers' company, HMN Naturgas is constantly seeking to maintain and improve its already high standard of customer service and to develop effective and efficient solutions for the benefit of the customers. HMN Naturgas realises that gas tends to be a low-focus area for many private customers. Therefore, it is an integral part of the company's strategy that being a gas customer should be easy and that the customer experience should always be a positive one. HMN Naturgas' continued focus on customer service exemplifies how the company is constantly improving the customer experience. The company's ambition is that customers contacting it for help or advice should get an answer at their first inquiry and without being transferred. Another focus area is the ongoing improvement of the service scheme for gas furnaces offered by the company. This scheme is comparable to, say, roadside assistance for cars and ensures that customers can feel safe that their gas furnaces are checked and serviced regularly. At end-2014, 56,193 single-family homes had registered for HMN Naturgas I/S' service scheme. Cheap gas for households and businesses HMN Naturgas offers the lowest distribution rates of the gas sector and is the most efficient gas distribution company in Denmark. Natural gas is currently cheaper than oil, and the focus has increasingly shifted to gas prices relative to the price of district heating and other alternatives. The total annual cost of heating an average house with natural gas in HMN Naturgas' area is approx. DKK 11,600. Although natural gas is subject to much higher taxes than a number of other types of energy, including district heating, a comparison with the Danish Energy Regulatory Authority's latest price statistics for district heating (Dec. 2014) shows that, in 80 per cent of cases, natural gas customers in HMN's area will not stand to benefit from switching to district heating. Sales and customer additions HMN Naturgas' sales were reduced from 1,665 million m 3 in 2013 to 1,407 million m 3 in However, the primary driver of the sharp decline was the exceptionally warm weather in 2014 with record-low heat consumption. Despite falling sales, HMN Naturgas retained its total number of customers in In the industrial market, a number of new industrial customers are choosing to switch to natural gas in their production processes. Previously, a large number of these customers were using oil in their production processes, and thus the decision to convert to natural gas is driven by the vast financial benefit from switching to natural gas. As an added benefit, natural gas is an easy solution with minimum hassle for the customer. District heating projects are increasingly carried out in natural gas areas, and again in 2014 HMN Naturgas lost a number of customers to such conversion projects in parts of the country. The scope of conversion projects to district heating is expected to increase somewhat over the coming years, but in the face of this HMN managed to retain its total number of customers in HMN Naturgas in a fossil-free future Denmark has an ambitious climate and energy policy with clear objectives for the transition to fossil-free energy by 2035 and In other words, the Danish transport and energy sector is on the verge of a multi-year transition period during which the entire sector is to be converted. The Danish Parliament's energy agreement for the period , which was concluded in March 2012 with broad political support, laid the foundations for a sustainable Danish energy system of the future. The objective is to make Denmark independent of fossil fuels in favour of renewable energy, primarily wind and solar power, but also biomass and biogas. In May 2014, the Danish Energy Agency published four scenarios, outlining possible visions for the future fossil-free energy supply in Denmark, based on the political energy agreement. Each of the four scenarios explores how the Danish energy consumption could be composed by 2050 and assesses the opportunities and challenges for gas utilisation in the future. The energy system of the future will increasingly be dependent on fluctuating energy sources; consequently, we will see days with a surplus of energy when the sun is shining and the wind is blowing, 4

5 and, conversely, we will see days with a deficit of energy when the weather is overcast and calm. These fluctuations pose demands in terms of an energy system of the future that is able to quickly and flexibly generate and release energy on grey and calm days and store excess energy when required. This transition of the energy system is a slow and costly process, with a significant risk of being disproportionately expensive if it is not carried out in an economically rational manner. The role of the gas system in the fossil-free energy system of the future The Danish Government's objective of developing a fossil-free energy supply, with continued high supply security, will significantly change the role of the gas system in the future. The Danish gas system is currently transporting large volumes of energy. The annual gas consumption, totalling approx. 3 billion Nm 3, accounts for a higher volume of energy than the total annual Danish electricity consumption. At the same time, energy equivalent to more than 35 per cent of the annual Danish electricity consumption can be stored in the two gas storages. Natural gas also plays a key role in the electricity and heating sectors, and just over 400,000 Danish households are currently using natural gas for individual heating of their homes. According to the Danish Energy Agency's scenarios, Denmark after 2050 will have an energy system which is based increasingly on electricity and biomass rather than oil, coal and gas. The role of the gas grid will mainly be that of contributor to supply security in part for meeting peak load demand for electricity and heating and in part by using the storage capacity of the gas system. Finally, the role of the gas system will be to supply gas for process energy in the manufacturing industry and in the transport sector. In the assessment of the Danish Energy Agency, the gas grid and the gas storages have the flexibility and the exact properties required by a fossil-free energy system to balance the fluctuating energy generation of the future. While the flexibility of the gas system was previously used mainly to balance fluctuations in summer and winter heating requirements and fluctuations during the day, it will increasingly play a backup role in electricity and heating generation. Economically viable transition Viewed in isolation, the transition to fossil-free energy supply will unquestionably lead to permanently higher costs than today. In its scenario analyses, based on the assumptions used, the Danish Energy Agency assesses that the additional costs of fossil-free energy supply and a fossil-free transport sector will be in the range of DKK 6 billion and DKK 29 billion a year, more than half of which will be attributable to the conversion of the transport sector's energy consumption. The pivotal point of HMN Naturgas' work with the transition of the energy system is that the transition is to be based on the most economically advantageous solution. The aim should be to establish an efficient, fossil-free energy system with the lowest possible additional costs for Danish taxpayers. November 2014 saw the publication of a report commissioned by HMN Naturgas and prepared by Copenhagen Economics. This report, 'Gassen i klemme' (available in Danish only), points out that premature phasing out of natural gas could have substantial economic costs over and above the additional costs of the conversion to a fossil-free energy system calculated by the Danish Energy Agency. The explanation is that, in the short and medium term, gas-based energy generation is considerably cheaper than the new renewable energy technologies replacing gas, offshore wind power in particular. Copenhagen Economics estimates that premature phasing out could mean that Danish taxpayers will have to foot an additional bill of DKK 19 billion to achieve the planned CO2 reductions compared with the assumptions used in the official scenarios from the Danish Energy Agency. Moreover, Copenhagen Economics has challenged some of the key assumptions of the Danish Energy Agency's four transition scenarios. These are the assumption of substantial cost savings from installation of offshore wind farms and the assumption of a marked increase in gas prices. The report assesses that if these assumptions do not hold up in practice, for instance if the price of offshore wind power does not come down substantially by 2035, the bill to the taxpayers could be even higher, especially in case of premature transition to fossil-free energy. In its report, Copenhagen Economics concludes that if a less optimistic estimate of the development in the costs of installing new offshore wind farms (based on a number of other sources) is used and in case of a more modest price increase for European natural gas (based on the IEA forecast), the additional bill to Danish taxpayers will increase to just over DKK 40 billion over and above the additional costs calculated by the Danish Energy Agency. Since the presentation of the Danish Energy Agency's scenarios in the spring of 2014, gas prices have moved in a very different direction from the one assumed by the Danish Energy Agency. 5

6 Thus, gas prices have fallen during the latest period. As a result, gas is a more economically viable alternative to electricity generated by offshore wind farms. At the same time, it cannot be ruled out that the downward pressure on gas prices will persist if the USA increasingly exports shalebased gas to both Europe and Asia, thus causing the currently very significant gap between gas prices across continents to narrow. Between them, these factors mean that it may be an economically viable option to leave a significant role to natural gas also in the medium term to ensure an environmentally-friendly and costeffective transition of the energy sector. Instruments in a cost-effective transition of the energy sector The uncertainty surrounding future energy prices and the degree of innovation and efficiency in energy generation cannot be removed. Still, already at this stage, we need to focus on how to phase out natural gas and the instruments for supporting the most costeffective transition. An active position on these issues now will save the taxpayers billions of kroner later on. Natural gas is the fossil fuel with the lowest carbon footprint. Accordingly, from a climate and environmental perspective, natural gas should be the last fossil fuel to be phased out of the energy supply. However, natural gas for heating purposes is currently taxed much more harshly than other fossil fuels when considering the carbon emissions of the individual fuels. Thus, the taxation of fossil fuels currently distorts the use of natural gas to the effect that gas cannot compete with cheaper fuels with a higher carbon content such as coal. Decentralised CHP plants are already phasing out natural gas; a combination of tax incentives and the abolition of the so-called 'basic subsidy amount' after 2018 means that decentralised CHP plants are in the process of a transition from natural gas to biomass. As a result, a large portion of these gas-fired CHP plants may have converted their CHP generation already by Cheap power mainly from offshore wind farms makes it unprofitable for decentralised CHP plants to generate power, prompting them to change their production to heat generated from biomass only. It will not be possible to use the converted CHP plants for peak load and backup use for the rest of the energy system. Therefore, HMN is working to ensure that Danish policymakers define clear objectives for phasing out natural gas, including the pace of phase-out. Another focal point of HMN's work is ensuring that the transition of the energy system is planned to make it resilient to unforeseen developments in technologies and prices, while at the same time being sufficiently flexible to allow new technologies to be incorporated when ready. The instruments of the Danish energy system, including taxes and subsidy rules, should be designed to create appropriate incentive structures for supporting the most economical and efficient renewable energy technologies to ensure that the transition of the gas system and the rest of the energy system is effected with as little cost for the taxpayers as possible. Challenges facing gas at the transition to a green energy system of the future The gas grid is an efficient energy carrier and thus an important factor in an efficient solution to the green transition. The gas grid has seen massive investment over several decades, and the value of this investment now depends on the extent to which the system is used in the energy system of the future including for transmission and distribution of green gases, see below. However, the required transition of the gas system poses significant challenges. A major challenge is ensuring that a sufficient customer base is maintained throughout the transition period with the transition from natural gas to green gases to cover the ongoing operating expenses of the gas grid. The reason is that quite a large portion of the expenses of the gas grid are fixed expenses that are not dependent on customer numbers on the grid. Accordingly, recovery of the large investment already incurred in the Danish gas infrastructure depends on the use of this gas system over the coming decades. Gas customers continue to benefit from favourable conditions Today a number of large industrial customers use natural gas in their production processes, and they are expected to continue doing so for many years to come. The Danish Government's objective for a fossil-free heating system already by 2035 means that a considerable portion of the current gas sales must be switched to a different supply type. As a result, a large part of the current payment for the basic costs of operating the grid will disappear. This is highly significant for the remaining gas customers, including, inter alia, the industrial customers that are expected to continue 6

7 PJ Storage capacity PJ Energy loss PJ Transported volumes 0 Gas Electri- District city Heating 0 Gas Electri- District city Heating 0 Gas Electri- District city Heating being connected to the gas grid. In many cases, these enterprises are in close competition with manufacturers abroad and, therefore, reasonable financial conditions for using natural gas in the production process remain highly significant. Green gases in the natural gas grid Today there is a real risk that natural gas will be phased out before green gases have been fully phased in. Premature phasing out could very well entail that large segments of the gas grid will be (too) expensive to maintain, and ultimately the conditions for phasing in green gases in the energy system may be economically disadvantageous. As a result, biogas and other green gases may become expensive to integrate in the grid and may be difficult to transmit and distribute across the country to gas filling stations and other future gas customers. If, for a long period of time, there are too few buyers to pay for operating the grid, this may impact the economy of establishing new green gas solutions. An unfavourable side-effect could be that, in the longer term, this reduces the possibilities of relying on the flexibility of the gas system for converting excess wind power by electrolysis with subsequent methanisation. The gas grid as a carrier of energy The Danish gas system is a technically and financially efficient system. Of the three collective energy systems in Denmark, the gas system transports by far the largest quantity of energy. The gas system also has by far the best energy storage capacity over time with negligible energy loss. In other words, the gas system is energy efficient. Energy efficiency is a key parameter for achieving the ambitious Danish goal of reducing emissions of carbon dioxide and other greenhouse gases by 40% by 2020 relative to the 1990 level. Moreover, the approx. DKK 50 billion investment in the gas grid has almost been paid back, and the underground pipes will easily last at least another 50 years. Add to this that gas is cheap. Natural gas is currently still cheaper than oil per energy unit despite record-low oil prices at end Therefore, strong arguments can be advanced that gas and the gas grid may continue to form the backbone of the energy system of the future for many years to come. Consequently, HMN Naturgas points out that action is required already at this stage to ensure the best possible framework for supporting the plans for the role of the gas grid in the energy system of the future. 7

8 HMN's work towards the green transition HMN's energy-saving efforts The cheapest and cleanest energy is the energy we do not use. Therefore, the Energy Agreement of 13 November 2012 imposed significantly increased obligations on the energy companies in terms of realising energy savings for consumers. The target is for Denmark to reduce its final energy consumption by just under 7%, relative to 2010, by In the years to come, energy companies must work even harder to realise specific energy savings, for instance by providing advice and grants to households and the corporate sector. An overall obligation to realise energy savings has been in place since 2006, and throughout all these years HMN Naturgas I/S has exceeded the energy-savings targets set by the energy agreement. The costs of the energy-saving efforts are covered by rates. In the face of severely increased obligations, leading to stronger competition for acquiring energy savings, HMN Naturgas I/S has managed to keep unit costs for the energy savings realised almost constant. KwH 450, , , , , , , ,000 50,000 0 Energy-saving efforts Obligation Results Biogas The Danish Energy Agency's 2014 scenarios for the energy supply of the future assume a significant expansion of biogas use by In early 2014, as the first Danish energy company, the HMN group distributed upgraded biogas produced from slurry through the Danish natural gas grid to natural gas customers. Biogas can be sold directly to individual customers or be upgraded to natural gas quality. Although upgrading of biogas to natural gas quality involves additional costs, the advantage is that biogas production can be connected to the natural gas grid and thus be distributed across the country to reach a much wider customer base. That way, biogas can also benefit from the flexibility and storage capacities of the natural gas grid. At end-2014, the HMN group has entered into agreements with four biogas producers to distribute upgraded biogas through the natural gas grid. Agreements on connection plants for a further seven biogas plants are expected to be concluded during In 2014, more than 18 million cubic metres of slurry-based biogas was distributed through the natural gas grid in HMN Naturgas' distribution area, and this figure is expected to rise to about 60 million cubic metres of biogas in Biogas and customers Customers can support the transition to fossil fuel independence by buying biogas certificates for a small extra charge. When gas customers acquire a biogas certificate, they are guaranteed that a given volume of natural gas will be replaced by carbon-neutral biogas in the natural gas grid. Through their demand, customers can thus help to reduce carbon emissions. Among the first such customers are two municipalities that previously used natural gas for heating buildings such as kindergartens, schools, cultural centres, sports centres and town halls. Other customers to purchase biogas certificates are private enterprises with high gas consumption and a few residential customers. The municipalities that have purchased certificates will reduce their carbon emissions by almost 14,000 tonnes over a four-year period as a result of this transition. Average single-family homeowners with an annual consumption of 1,800 cubic metres of natural gas can buy upgraded biogas for an additional charge of about DKK 75 per month, thereby reducing their carbon emissions by approx. four tonnes per year. Biogas and environmental benefits The transition to distributing these so-called green gases to consumers through the natural gas grid is an important element in the green transition. This exemplifies how the natural gas grid can be used to distribute green gases to heat users and enterprises in an environmentally friendly manner. In the 2012 energy agreement, the Danish Government and the other parties backing the agreement set the target that 50 per cent of Denmark's livestock manure is to be converted to biogas by According to the Danish Energy Agency's special Biogas 8

9 Current production of upgraded biogas January Hjørring: 6 mill. m 3 /year Jan Energy company: HMN Naturgas I/S Biogas producer: LBT AGRO Upgrading plants Hjørring: 2.2 mill. m 3 /year Aug Energy company: HMN Naturgas I/S Biogas producer: Holger kirketerp Waste water 3 Brønderslev: 6 mill. m 3 /year Dec Energy company: HMN Naturgas I/S Biogas producer: GFE-Krogenskær 4 Natural gas grid Livestock manure 4 Skive: 4 mill. m 3 /year Okt Energy company: HMN Naturgas I/S Biogas producer: Madsen bioenergi Horsens: 7 mill. m 3 /year Jul Energy company: DONG ENERGY Biogas producer: Horsens Bioenergi 6 Fredericia: 3 mill. m 3 /year Aug Energy company: DONG ENERGY Biogas producer: Fredericia Spildevand Taskforce, only about seven per cent of the livestock manure is currently used for biogas production. The energy sector makes a positive contribution to the climate and environment by using slurry-based biogas and, in addition, the production and use of upgraded biogas also means that agriculture's climate and environmental impact is reduced. When the slurry has been treated in a biogas plant, it is subsequently returned to the farmers only in a cleaner and more useful form than before the process. Field crops absorb the nutrients of the slurry treated in a biogas plant more easily and fewer nutrients are discharged to the water environment. As an added benefit, the slurry smells considerably less when returned to the farmers. HMN Naturgas regularly enters into new agreements with new biogas producers and, therefore, will be able to supply green gas to a considerable number of municipalities, enterprises and private individuals looking to make a positive contribution to the climate and environment by switching to carbon-neutral gas. 9

10 Gas for transport The energy consumption of the transport sector, based almost exclusively on fossil fuels, currently accounts for approx. one-third of the total final energy consumption. The energy consumption for road transport accounts for the lion's share of this energy consumption. According to analyses, a switch from diesel to natural gas in heavyduty vehicles will provide some carbon reduction, but calculations also show that to deliver real climate benefits, vehicles need to run on upgraded biogas. In the shipping industry, LNG liquefied natural gas will over time play a larger role in the energy supply of the future. The reason is that LNG is much cleaner than the heavy fuel oil traditionally used in the shipping industry, and more stringent environmental requirements in 2015 and 2016 could give LNG a greater role in the shipping industry in future. If the conversion of the transport sector to natural gas, and possibly biogas, is to be realised, infrastructure for gas refuelling for road and shipping transport will generally be needed. Here, the finely-meshed existing natural gas distribution network provides a strong foundation for establishing the necessary gas filling stations. Several municipalities are already in the process of converting their heavy-duty transport to biogas, and if this trend is to continue, a well-developed infrastructure with gas filling stations is needed. The municipalities, that has started the process of convertion today includes Frederikshavn, Frederikssund, Horsens, Skive and the North Denmark Region. More municipalities are considering. Expansion of gas filling stations in Denmark Natural gas is a particularly suitable fuel for heavy-duty transport that is not easily converted to electricity. Gas can also be used in passenger cars, however, and gas-fuelled passenger cars are popular in a number of European countries. Thus, the transport sector of today and tomorrow will be a relevant purchaser also of upgraded biogas. As part of the 2012 energy agreement, the Danish Parliament earmarked DKK 20 million for expansion of the gas infrastructure for transport in Denmark. Gas filling stations are popping up across the country, and an increasing number of vehicles are running on carbon-neutral gas instead of diesel. Initially, municipalities, in particular, are choosing to convert buses and refuse vehicles to run on gas. Gas for transport in other countries Many other EU member states have made great strides when it comes to establishing filling stations for gas-run cars. In the period from 2008 to 2013 alone, the number of filling stations surged by 35% from 2,194 to 2,967. Italy topped the list by 1,046 stations, followed by Germany with 921 stations. Sweden comes in third with 154 gas filling stations. Allocation ensures that up to 100 new lorries and buses will run on biogas When the transport sector is to be converted to fossil-free energy, biogas is one of the fuels planned by the Danish government to replace diesel and petrol. The Danish Energy Agency expects the projects to result in between 50 and 100 new heavy-duty gas vehicles over the next three years with an additional longer-term potential. In December 2014, the Danish Energy Agency allocated just under DKK 10 million to projects to promote the use of biogas in the Danish transport sector. The funds will be allocated to both infrastructure projects and to lorries and buses running on biogas, and the allocation is believed to provide the necessary 'start-up assistance' for the projects. The projects will materialise into four new publicly available locations for filling up with gas and an expansion of another two existing gas filling stations. Overall, the subsidised projects contribute considerably to the national network of gas filling stations in Denmark. The allocation is believed to help to resolve the 'chickenbefore-the-egg' issue in that there will not be any filling stations before there are vehicles to use them and vice versa. HMN participates in several projects in partnership with municipalities and again in 2014 was among the recipients of funds from the partnership allocation. HMN Naturgas I/S received funds, inter alia, for a partnership for biogas for buses in Central Denmark Region, and HMN Naturgas I/S also participates in a project in the North Denmark Region on biogas in heavy-duty transport. The second and final round of the allocation process is expected to be implemented towards the end of

11 Public gas filling stations in Denmark Existing and planned March 2015 Frederikshavn Existing public filling station Aalborg due to open 2016 Planned public filling station Skive Due to open April 2015 Frederikssund Holstebro Gladsaxe Amager Tarm Fredericia Københavns Lufthavn Due to open 2015 Aabenraa due to open mid 2016 Glostrup Due to open? Tønder due to open mid 2016 Contract for the filling station must be submitted to tender Høje Taastrup Odense Due to open? Sønderborg due to open 2017 Facts about gas for transport In gas filling stations in Denmark, drivers can fill up with CNG complying with the requirements for renewable energy in the (Compressed Natural Gas). transport sector. Using certificates managed by the state-owned Energinet.dk, The price of natural gas is lower than that of both petrol and owners of gas cars may also choose to run on upgraded (carbon- diesel for the same energy-content. With a list price at end- neutral) biogas. December 2014 of DKK for 1 m3 of natural gas, this is equivalent to a price for a similar quantity of energy-content of DKK Biogas offers great potential in terms of meeting the carbon for petrol and DKK for diesel. On the other hand, gas reduction targets of the transport sector and in terms of cars are somewhat more expensive to acquire. 11

12 Development projects Upgrading of biogas from wastewater treatment, agricultural and industrial refuse is part of the Danish energy policy of using biogas from by-products. A major challenge facing the energy system is also that currently electricity cannot be stored in a cost-effective manner. A possible solution to this challenge is to convert electricity to gas using electrolysis with subsequent methanisation. This technology is very attractive in a volatile system in which electricity prices can drop very low sometimes even into negative territory when demand is low, but supply remains high. HMN is participating in a number of development projects to support this development. These projects include a major demonstration project on upgrading of biogas to natural gas quality using enzymes (ENZUP) and a related project exploring the possibilities of using hydrogen (formed by wind power-based electrolysis) to convert carbon dioxide into methane by applying a new biomethanisation technology based on microorganisms, see the Box 'Power-to-gas'. When the ENZUP upgrading plant is put into operation towards the end of 2015, this is expected to be the most extensive demonstration in the world of enzyme-based capture of carbon dioxide from an industrial gas stream. Demonstration project for biogas upgrading (ENZUP) HMN Gashandel A/S heads up a three-year full-scale demonstration project designed to devise a cheaper way to upgrade biogas to natural gas quality. The use of enzymes in the upgrading process for capturing carbon dioxide is expected to reduce the energy consumption (and by extension the costs involved) by approx. 25% compared with the current technologies in the market. The project is supported by the Energy Technology Development and Demonstration Programme (EUDP). The budget totals approx. DKK 42 million, EUDP contributing about DKK 21 million. 'Power to gas' HMN Gashandel A/S also participates in another demonstration project at Avedøre Wastewater Services: 'Power to gas' (P2G Biocat). The project uses hydrogen (generated by hydro-electrolysis using cheap wind power) to convert carbon dioxide to methane using a new methanisation technology based on microorganisms. The carbon dioxide used is a residue product from the ENZUP upgrading plant. In other words, the two pilot projects are linked. The methane can subsequently be used in the natural gas system. The project will be carried out in partnership with five partners: BIOFOS A/S, operator of three purification plants in the Greater Copenhagen area; Akermin Inc, designer of the upgrading technology; Ammongas A/S, which will be responsible for building the upgrading plant; Novozymes, supplier of the enzymes; and Danish Gas Technology Centre (DGC), which will be responsible for the measuring programme. The demonstration plant will be located on the premises of Avedøre Wastewater Services, close to Copenhagen, which will supply its entire biogas output to this plant throughout the project period instead of generating electricity and heat in a biogas engine. 12

13 Regulation of distribution activities The parent company HMN Naturgas I/S is in charge of the group's natural gas distribution activities. The parent company's financial affairs are mainly regulated by the Danish Executive Order on Income Limits and Opening Balance Sheets for Natural Gas Distribution Companies. According to the Executive Order, the Danish Energy Regulatory Authority sets the annual limit for the income the company is authorised to collect for the operation of the company the costs the company is authorised to include in its prices. The income limit period is four years, and 2014 is the first year in the income limit period In the autumn of 2013, the Danish Energy Regulatory Authority set preliminary income limits and efficiency requirements for the period The income limit is the annual cap on the income that the distribution company is authorised to collect from its customers, and the income limit is fixed with a view to repaying and paying interest on the distribution company's historical debt, covering operating expenses through efficient operation and earning a return on and writing off new investments over the useful lives of the assets. Interest payments on and repayment of the historical debt as at 1 January 2005 totalled approx. 30% of the income limit for HMN Naturgas I/S in Under the Executive Order on Income Limits, costs related to the operation and maintenance of the distribution system have been fixed so as to ensure that costs in each of the years , less an annual efficiency requirement of 0.60% p.a., cannot exceed the average annual costs realised in the period Costs relating to security tasks imposed on the distribution companies under the Gas Regulations are not comprised by the Danish Energy Regulatory Authority's efficiency requirements. The actual costs relating to these tasks may be included in the prices charged to the consumers by the companies. Extraordinary efficiency gains In the event that the efficiency-adjusted costs or the actual interest expenses in respect of net debt for a year are lower than the limits set by the Danish Energy Regulatory Authority for such costs, this constitutes an extraordinary efficiency gain under the Executive Order on Income Limits. At least 50% of this gain is to be refunded to the consumers through lower future distribution rates, while the remainder may be allocated to the return on the contributed capital, among other things. In September 2014, the Danish Energy Regulatory Authority determined the final income limit for HMN Naturgas I/S' distribution activities for The Danish Energy Regulatory Authority also calculated HMN Naturgas I/S' extraordinary efficiency gain for the same year at DKK 98.7 million. The Danish Energy Regulatory Authority does not determine the final income limit for 2014 until Q Accordingly, Financial Statements will not be presented pursuant to the Executive Order in this Annual Report, but efficiency gains for 2014 will be included in the Financial Statements for Distribution rate In addition to adjustment for extraordinary efficiency gains, adjustment is also made for excess/deficient cover as compared to the income limit. The realised sales will deviate more or less from the budgeted sales which are used as the basis for determining the distribution rates. A preliminary computation shows an accumulated excess cover of approx. DKK 18 million arisen during the period covering the years The excess cover is adjusted over the distribution rate in the period HMN Naturgas I/S strives to keep the companies' distribution rates measured in fixed prices fairly constant from year to year. The principles of the Executive Order on Income Limits mean that the company must reduce its distribution rate considerably after the expiry of the debt repayment period in

14 Gas regulation check As part of the Danish Government's growth plan for 2014, the Danish Ministry of Climate, Energy and Building initiated work to explore the possibilities of improving the efficiency of gas distribution in Denmark and the possibilities of increased competition in gas trading. This is to ensure an efficient and competitive sector in future. According to the terms of reference, the key issues of the work to make recommendations for new regulation are: Analysis of barriers and possibilities of the current regulation and ownership structure and of future alternative types of regulation, including the formulation of economic regulation Analysis of how best to adapt the gas infrastructure to smaller volumes of natural gas and a higher percentage of green gases, including whether the current regulation and ownership structure are appropriate in terms of ensuring the most efficient utilisation of the infrastructure Analysis of competition in the retail market, including the functionality and need to adjust the PSO task in the gas area, while at the same time ensuring the necessary consumer protection. The analysis is to include experience from the Danish electricity regulation committee, which published a number of recommendations for new electricity sector regulation in December HMN Naturgas participates in the reference group for the gas analysis and expects the working group to issue its recommendations in the course of Regulation of PSO activities Until the end of April 2013, the PSO task was undertaken by HMN Gassalg A/S in HMN Naturgas I/S' distribution area. Danish natural gas legislation was amended with effect from 1 May The amendment entails that, in future, the Danish Energy Agency invites tenders for the PSO task in the individual distribution areas. As a main rule, the PSO task will be granted to the company that is able to offer customers the lowest overhead charge on an exchange price of natural gas specified in the tender documents. In future, the primary recipients of natural gas on the new PSO terms will be customers who actively choose the PSO product and customers who move into natural gas-supplied homes without actively choosing a gas supplier. As a result of the Danish Energy Agency's invitation for tenders for the PSO task in early 2013, Naturgas Fyn, the current NGF Nature Energy, will be in charge of PSO natural gas activities in all of Denmark from 1 May 2013 to 30 April Audit Committee In accordance with the implementation in Danish legislation of the Eighth Company Law Directive of the EU, HMN Naturgas I/S has set up an Audit Committee to monitor the financial reporting process. The Audit Committee of the HMN Naturgas group is identical to the Board of Directors of HMN Naturgas I/S. This was found to be most expedient, as regulatory requirements related to the work of the Audit Committee already constitute a significant part of the Board of Directors responsibilities. The most important task for the Audit Committee in 2014 was to monitor the financial reporting process of the companies in the HMN Naturgas group and to monitor the group's risk management and internal control. 14

15 Corporate social responsibility Climate and environment HMN Naturgas I/S supports the development towards environmentally sustainable production and use of energy, so natural gas will continue to be an important element of Danish energy supply in the coming years. HMN Naturgas I/S will continue to focus on ensuring as efficient use of natural gas as possible, while endeavouring to develop the interaction between the gas grid and other energy systems. Development activities HMN Naturgas I/S is a co-owner of DGC (Danish Gas Technology Centre), which is responsible for the company's PSO research and development activities. HMN Naturgas I/S owns 38% of DGC and annually contributes approx. DKK 8 million to its operations. DGC has formulated a strategy with focus on the transition to renewable energy and how the natural gas system can support this transition. The long-term perspective is for natural gas to be replaced by renewable energy gases which are CO2-neutral. These are biogas, synthetic natural gas and gas produced from the gasification of biomass. The strategy is being implemented in specific research and development activities. Distribution of biogas For the past few years, HMN Naturgas I/S has focused on developing the possibility of distributing upgraded biogas. Using waste from agricultural production etc. for energy purposes generates major environmental benefits and, hence, using the natural gas grid for the distribution of biogas holds significant perspectives. The framework conditions established by the Danish Parliament in 2012 were approved by the EU at the end of Based on these framework conditions, HMN Naturgas I/S connected the first Danish upgrading plant for slurry-based biogas to the natural gas grid in early A number of similar plants are expected to be connected to HMN Naturgas I/S' distribution grid in 2014 and Natural gas leaks Natural gas consists of hydrocarbons (mainly methane), which are extremely aggressive greenhouse gases in relation to CO2. Therefore, HMN Naturgas I/S is making every effort to limit leaks from the natural gas grid. The natural gas grid is regularly examined for leaks. Natural gas leaks may occur if the pipelines are damaged during digging work. To prevent this from happening, HMN Naturgas I/S provides online information on the location of pipelines, and furthermore has considerable emergency response measures in place to reduce the effect of such damage. Employees with the required expertise must be present within one hour after damage to a pipeline during digging work. In practice, all employees are present at the scene of the damage within approx. 30 minutes. For all planned grid interventions, the pipelines are blown down using flaring to avoid the emission of methane into the atmosphere to the widest possible extent. To prevent accidents from occurring among gas consumers, HMN Naturgas I/S conducts random safety checks on new and existing customer installations. If suspicions of a gas leak from a consumer's installation are reported, an employee with the required expertise must be present at the site of the consumer within one hour after receiving the report. The employee will normally arrive at the site within approx. 30 minutes. Social responsibility Policies HMN Naturgas has adopted a social responsibility policy. Social responsibility is considered to be an important aspect of retaining HMN Naturgas I/S' position as an attractive place to work with satisfied employees. HMN Naturgas I/S' corporate social responsibility policy and the specific efforts are discussed on an annual basis as part of the company's staff policy discussions with the participation of the management and employee representatives. The company focuses on both internal and external social responsibility. Action The internal focus is on maintaining and promoting a good and inspiring working environment, physically as well as psychosocially. This is ensured by, among other things, providing a good framework for the employees, allowing them to make healthy choices in terms of food and exercise, and rules have been laid down for the care of and support to employees in the event of illness. HMN Naturgas I/S has a separate social responsibility policy in connection with illness. The social responsibility in relation to the surrounding world mainly entails that meaningful employment is offered to employees requiring special terms (flexible jobs and light jobs) or undergoing work test assessments. 15

16 In 2014, HMN Naturgas I/S decided to introduce labour clauses in the HMN Naturgas group's contracts with suppliers. Under the provisions of ILO convention no. 94, the HMN Naturgas group wanted to ensure that the main contractor and any sub-contractors ensure to the workers concerned wages (including allowances), hours of work and other conditions of labour which are not less favourable than those established by a current collective agreement, arbitration award, national laws or regulations, for work of the same nature in the trade or industry concerned in the district where the work is carried on. Result In 2014, HMN Naturgas I/S had five employees on special terms, and seven persons went through work test assessments. Trainees from lower secondary schools and other educational institutions are regularly taken in, and HMN Naturgas I/S endeavours to permanently have eight students under education. In 2014, the number of students under education was eight. The underrepresented gender With effect from 2013, the Danish Parliament passed regulations on gender distribution in all large enterprises. The new regulations generally include all enterprises in which the revenue, balance sheet total and number of employees exceed specified threshold values. Under the new regulations, the boards of directors of the enterprises concerned must determine: 1. The enterprise's target for the share of women on the board of directors and the time horizon within which the target is expected to be met 2. The enterprise's policies to increase the share of women in management positions in the enterprise 3. How the enterprise intends to include information on items 1 and 2 in its Annual Report, including its choice of targets, time horizon and policies HMN Naturgas I/S is exempt from the new regulations, as partnerships are not comprised by the Danish Companies Act. Being a so-called section 60 company approved according to the provisions laid down in the Danish Local Government Act, HMN Naturgas I/S is not comprised by the Danish Act on Undertakings Carrying on Business for Profit either. Human rights and anti-corruption HMN Naturgas I/S supports the United Nation's human rights and anti-corruption policies, but the company has not laid down any policies of its own in this area, as its transactions of goods with other countries are very limited. Therefore, the company finds that it can only to a very limited extent exert any influence in these areas. The enterprise's internal control and reporting The Audit Committee, comprising the Parent Company's Board of Directors, determines the group's overall guidelines on risk management, internal control and reporting. The implementation of these guidelines is performed by the day-to-day management. The purpose of the guidelines for the group's risk management and internal control is to manage rather than eliminate the risk of errors and omissions in connection with financial reporting. The internal control systems in the group and the guidelines laid down are continuously evaluated, and any significant deviations from and changes to these guidelines are addressed by the Audit Committee. The Board of Directors lays down the overall guidelines for risk management in connection with the group's financing, quantity and price risks in connection with the purchase and sale of natural gas and price and counterparty risks in connection with hedging on the financial market. The day-to-day management responsibility and competences in relation to the Board of Directors are laid down in the Articles of Association of HMN Naturgas I/S. 16

17 The day-to-day management lays down/approves policies and guidelines in areas that are important to the operation and day-to-day financial management of the companies, including: Customer credit and loan policy Investment policy Depreciation and amortisation policy Guidelines for financial reporting of items based on estimates or generated through complex procedures. Control activities and reporting The day-to-day management is responsible for ensuring that the internal control systems are adequate to ensure correct financial reporting in the HMN Naturgas group. The internal control systems to ensure correct financial reporting are divided into two categories: 1. Controls in connection with registration, approvals and reconciliation 2. Controls in connection with periodic reporting Controls in connection with registration, approvals and reconciliation Procedures and systems are organised so as to ensure the required separation of functions in the finance function. The organisational structure and internal guidelines constitute the control environment. Descriptions of financial reporting and reporting procedures are updated as required and reviewed at least once a year. Policies, descriptions of procedures and internal guidelines, including accounting rules relevant to the internal control in respect of financial reporting, are available to the relevant employees. Appropriations Upon the recommendation of the Board of Directors and in accordance with the company s Articles of Association, the company s Committee of Representatives approves the parent company s budget for the coming year by 15 November, at the latest. The appropriations for the coming year form part of the budget approval and comprise: Appropriation for revenue. Appropriation for operating expenses and other operating income. Appropriation for interest and other financing expenses. Appropriation of amount available for investments. The appropriations are granted upon the Committee of Representatives' approval of the budget. The Board of Directors may decide that investment activities are subject to special approval by the Board of Directors. Based on quarterly reports, the Board of Directors checks that the appropriation amounts are complied with and makes recommendations to the Committee of Representatives in the event that appropriation adjustments are needed. External audit The company's Financial Statements are audited by an external auditor appointed by HMN Naturgas I/S' Committee of Representatives. In this connection the auditor also addresses the company's financial reporting and internal controls. The auditor represents the interests of the local authority owners as well as public interests. The auditor reports material financial reporting matters or material weaknesses in the internal control environment to the Board of Directors via the Audit Committee and in the longform audit report to the Board of Directors. Controls in connection with periodic reporting As part of the internal control, periodic reports are prepared at the end of each quarter. Periodic reports are handled by the Board of Directors of the individual companies. Periodic reports include a statement of the company's current situation in the most important risk areas in which the Board of Directors has laid down/approved policies and guidelines. Any additional risks identified are assessed and reported. As part of the preparation of periodic reports including the Annual Report the central items included in the financial results for the period are subject to a probability test to ensure that they are recognised in the correct periods. 17

18 Special risks Distribution income Distribution income in the parent company is subject to regulation under the Danish Natural Gas Supply Act (lov om naturgasforsyning). According to the Act, the natural gas distribution company may have repaid its historical debt by 2014 at the earliest. In the autumn of 2012, HMN Naturgas I/S chose to extend repayment of its historical debt from the end of 2016 to the end of Inadequate distribution income in individual years may be taken into account when determining future distribution rates. Income from natural gas supply The HMN Gassalg group's income mainly derives from a minor amount per m³ sold that is added to expected natural gas purchase prices and from a fixed contribution per customer. In a warm year, the group's gross profit will decrease owing to reduced sales and any take-or-pay terms. This risk has been mitigated by purchasing some of the natural gas quantities on flexible terms supplemented by quantities that can immediately be resold on the international market and by purchasing storage capacity where surplus gas can be stored and retrieved in case of inadequate gas quantities. The flexibility is estimated to be adequate to cope with normal temperature fluctuations and normal market share losses to other suppliers or customers choosing other forms of energy supply. To the extent that customers choose natural gas suppliers other than HMN Gassalg A/S or HMN Gashandel A/S, the HMN Naturgas group's income basis is reduced. In its transactions, the group has allowed for any loss of market shares in the HMN Gassalg group. Competitive strength The market price of natural gas varies to a significant extent in step with the development in natural gas prices on the European gas exchanges and to a declining extent with the development in oil prices. The natural gas quantities purchased and the sales agreements concluded mainly follow these exchange prices or are hedged in relation to them. In this way, imbalances between natural gas quantities purchased and sold can be realised on current market terms, thereby increasing the competitive strength of the company relative to current market terms. Derivative financial instruments HMN Gashandel A/S offers customers agreements in which the selling price of natural gas is determined on the basis of different combinations of fuel and gas oil prices, exchange prices of natural gas and the USD and EUR rates. Similarly, HMN Gashandel A/S enters into purchase agreements in which the purchase price of natural gas is fixed on the basis of different exchange prices or combinations of fuel and gas oil prices and the USD and EUR rates. On entering into such agreements, HMN Gashandel A/S accepts a price and foreign-exchange risk as the purchase and selling prices of the gas are fixed on different bases. HMN Gassalg A/S and HMN Gashandel A/S hedge these oil price and foreign-exchange risks by using derivative financial instruments, including swaps and, to a limited extent, call and put options, so that HMN Gashandel A/S will assume minimal risk in connection with the purchase and sales agreements concluded. There will be a risk of a time difference occurring between the actual delivery to customers and the financial hedging of the delivery concerned. The financial hedging of the price products means that there is a potential risk than the financial counterparty will not be able to meet the obligations in the agreements concluded with HMN Gashandel A/S. The company seeks to hedge this risk through solvency requirements for the counterparty combined with a limitation of outstanding accounts with the individual counterparty. Ordering and nominations It will have financial implications if the company's ordering and nominations of natural gas for the next 24 hours are outside Energinet.dk's margins laid down in the rules governing the use of the transmission system. In recent years, the group has built up considerable knowledge in this area while at the same time automating the routines in the company's nomination system. The nominations have been hampered by the increasing impact of electricity prices on the customers' gas consumption. Unforeseen fluctuations, particularly in large customers' consumption of natural gas, may result in the forced sale or forced purchase of gas quantities from the system operators. Loans to customers HMN Naturgas I/S offers loan financing of, in particular, private customers' shift to natural gas or replacement of natural gas installation. The loans are based on a specific credit assessment of the individual customer. Loans are granted on commercial terms, meaning that the interest rate is fixed based on an assessment of the overall credit risk on the loan portfolio. Loss on bad debts In the wake of the financial crisis, the company has experienced an increase in its loss and provisions for loss on bad debts. The company seeks to reduce the risk of loss when determining customers' terms of payment and by closely following up on receivables due. 18

19 Over recent years, the company has seen a significant decline in losses and provisions for loss on bad debts, driven, in part, by general economic recovery, but also by improved debtor management in HMN Naturgas I/S. Development in group activities and financial conditions Results 2014 HMN Naturgas I/S' Financial Statements for 2014 show a loss for the group of DKK 19.9 million after interest, depreciation and amortisation and tax. In 2013, the group generated a net profit of DKK million. Net results are negatively affected by an IFRS adjustment of DKK million in the HMN Gassalg group where the market value adjustment of financial agreements is recognised in the income statement in the year in which the agreements are signed, while the value of the physical agreements is recognised when delivery is made. In 2014, this adjustment was reflected in significantly lower consolidated results than expected at the beginning of the year. The parent company, comprising the distribution activities of HMN Naturgas I/S, generated a profit of DKK 88.5 million after interest and depreciation and amortisation, compared with a profit in 2013 of DKK million. Due to its corporate form, the parent company is not liable to taxation. Distribution of natural gas HMN Naturgas I/S' gross profit from distribution activities amounted to DKK million in 2014 against DKK million in The 2014 gross profit reflects that the distributed natural gas quantity was lower in 2014 than in 2013 due mainly to mild weather and lower electricity production at decentralised CHP plants. Natural gas supply In 2014, the group's gross profit from natural gas supply activities was DKK 27.7 million, down from DKK 69.1 million in The 2014 gross profit is negatively impacted by old, unprofitable purchase agreements, all of which expired in 2014, and the fact that 2014 was an exceptionally hot year, which was reflected in lower sales. Finally, expenses related to purchase of gas storage affect the results for the year, as expenses are mainly incurred in 2014, while income from investment in storage capacity is not received until Other operating income Other operating income in the group was DKK 41.1 million in 2014 against DKK 43.1 million in Other operating income comprises various types of fee income and changes in the fair value of financial instruments used in connection with the purchase and sale of natural gas in the HMN Gassalg group. Included are financial agreements on hedging of purchase and sales contracts and financial hedging contracts in the financial markets. A market value of the agreements concluded in the financial year or previous financial years (and still in force) is calculated at the end of the financial year. The change in the market value of the portfolio relative to the market value at the beginning of the financial year is included in the Income Statement. In the Consolidated Financial Statements, the market value adjustment was a negative DKK 59.1 million (2013: a negative DKK 12.6 million). Other external costs and staff costs Total operating expenses in the group amounted to DKK million in 2014 against DKK million in In 2014, staff costs totalled DKK million, and other operating expenses were DKK million. The corresponding figures for 2013 were DKK million and DKK million, respectively. Depreciation and amortisation In 2014, depreciation and amortisation amounted to DKK million in the parent company and DKK million in the group against DKK million in 2013 in the parent company and DKK million in the group. The increase in depreciation and amortisation in 2014 relative to 2013 is attributable, among other factors, to increased investment activity in new business areas such as upgrading and connection of biogas plants and gas for transport. Financing costs The group's financial income or expenses amounted to net income of DKK 11.6 million in 2014 against net income of DKK 9.2 million in

20 The parent company's financial income or expenses amounted to net income of DKK 11.4 million in 2014 against net expenses of DKK 9.0 million in Net financial income in 2014 includes an interest expense on provisions for abandonment of DKK 5.9 million. In 2013, this expense amounted to DKK 7.2 million. Development in the group's net debt The group's net debt totalled DKK million at the end of 2014 against DKK million at the end of Equity The group's equity was reduced to DKK 1,957.5 million at the end of 2014 against DKK 1,977.4 million at the end of Events occurring after the end of the financial year No events of material importance to the evaluation of the Annual Report have occurred after the end of the financial year. Outlook The customers' switch to other forms of energy supply including, inter alia, conversion to district heating as well as general reductions in the consumption of energy may lead to increasing distribution rates. Therefore, it is essential to keep distribution rates at a level which ensures that the overall end price of natural gas remains competitive with that of alternative fuels. The distribution rate was reduced by an average of 22% in 2013 and will be further reduced once the historical debt has been repaid. The historical debt is planned to be repaid by The HMN Naturgas group as a whole expects to be able to maintain its position as an efficient enterprise offering customers competitive prices and a high service level. Overall, the group expects a significantly higher profit in 2015 than in