MANAGEMENT REPORT
General information
AS Merko Ehitus operates in Estonia, Latvia and Lithuania as a construction
group providing integrated construction solutions. Largest companies of the
Group are SIA Merks (100%), UAB Merko Statyba (100%), Tallinna Teede AS
(100%), AS Gustaf (75%), OÜ Gustaf Tallinn (80%), AS Merko Tartu (66%), and
AS Tartu Maja Betoontooted (25%).
Due to the extensive changes in the economic environment and on the
construction market, the management and supervisory boards of AS Merko
Ehitus have reviewed the corporate strategy and established the group's
strategic targets for 2010 to 2015.
The strategy covers the period from this year until the end of 2015. All
the main principles and some of the financial targets, such as the minimum
equity ratio, must be applied or met throughout the defined period.
The detailed strategy is based on the following estimates and assumptions
about Baltic economy:
- There will be no economic growth in 2010; the construction sector will
experience a fall by max. 10%;
- In the coming years (2011 and 2012), economic growth will not exceed 3%,
as estimated by different experts;
- The main clients in the coming years will come from the public sector
where focus will be on infrastructure projects co-financed by the EU funds;
- Since the public sector lacks the financial means for investment, there
will be more extensive application of PPP models;
- There will be more projects related to the improvement of energy
performance;
- There will be more activity on the apartment market, compared to the
slump in recent years;
- There will be an increased demand for industrial facilities;
- The availability of credit/loans will improve;
- Starting 2011, unemployment rates will decrease and the retail business
will enter the phase of recovery.
AS Merko Ehitus strategic targets:
- The vision of AS Merko Ehitus is to provide its clients with high-quality
construction services in various fields.
- AS Merko Ehitus aims to be the leading construction company on its home
market - in the Baltic countries.
- In addition to the home market, AS Merko Ehitus has identified Ukraine
(especially Kiev) and St. Petersburg in Russia as its prospective markets.
- Outside of the above-mentioned markets, the company will only provide
construction/development services for clients that Merko has cooperated with
in the past or that require a facility similar to previous construction/
evelopment projects successfully executed by Merko.
- In 2015, turnover from Estonian operations would constitute approx. 35%
of the consolidated turnover; turnover from Latvian operations, Lithuanian
operations, and other markets would account for approx. 30%, 25% and 10%,
respectively, of the consolidated turnover. The division of profit between
the different markets is expected to be more or less similar to the division
of turnover.
- In addition to current construction and design-engineering services, the
company will offer an even more comprehensive service covering the entire
process, from helping to find the suitable plot of land to helping the
client obtain financing.
AS Merko Ehitus long-term financial targets:
- To ensure that the average annual return on equity (ROE) of the group
between 2011 and 2015 is at least 15%;
- To ensure that the group's equity ratio is at least 40% throughout the
entire period.
In order to fulfil our targets:
1. We will look for opportunities to acquire holdings in successful
companies, especially in Lithuania and Latvia.
2. We will restructure the group's management system with the help of the
following methods, above all:
- We will add a fifth member to the management board; their responsibilities
will initially include foreign markets and development activities;
- We will launch several new activities in order to improve horizontal
cooperation between the different companies in the group, and in order to
utilise the engineering know-how and management expertise (acquired in
different countries) in the different functions of the group;
- As the final outcome of the restructuring, we envision a publicly traded
holding company which has divisions in all countries where the group has
permanent operations, controlled through locally registered entities.
3. We will preserve the core of the motivational system, which has proved to
be effective so far, and will enhance the system in line with our set targets.
Operating results
Group's revenue for the year 2010 3 months was EEK 500.6 million. 51.9% of
the sales originated from Estonia, 47.1% from Latvia and 1.0% from Lithuania.
As compared to with the 2009 3 months, company's sales increased in Latvia
by 64.6% and decreased in Lithuania by 71.6% and in Estonia by 42.0%.
The fall in revenue in this period was caused by the reduced unit prices
in construction and the continued decrease in demand in the construction
sector, caused by the overall recession.
In 2010 3 months, the Group sold 45 apartments in total cost of EEK 52.7
million (without VAT). As at 31.03.2010 Group held in inventories unsold
142 completed apartments in total cost EEK 174.4 million and 441 apartments
in the construction stage in total cost EEK 232.6 million. As the stock in
Tallinn reached zero in the fourth quarter of 2009, Merko Ehitus commenced
the construction of three new apartment buildings (with a total of 109
apartments) in Tallinn.
As at 31 March 2010, the group's backlog of construction contracts in
progress amounted to EEK 2.0 billion.
Companies of the Group 3M 2010 consolidated revenue
(sales outside the Group) were (in thousand kroons and euros):
3M 2010 3M 2009
EEK EUR EEK EUR
Estonian companies
AS Merko Ehitus (parent company) 209 257 13 374 358 256 22 897
AS Gustaf (75% partnership) 2 217 142 12 732 814
OÜ Gustaf Tallinn (80% partnership) 8 939 571 17 048 1 090
AS Merko Tartu (66% partnership) 9 552 610 36 657 2 343
Tallinna Teede AS (100% partnership) 28 438 1 818 19 397 1 240
Latvian company
SIA Merks (100% partnership) 235 763 15 068 143 192 9 152
Lithuanian company
UAB Merko Statyba (100% partnership) 4 527 289 17 070 1 091
In one year, the Group's cost of goods sold decreased by 15.4% and marketing
and general administrative expenses by 5.6%. The economizing measures taken to
reduce costs helped to decrease marketing and administrative expenses, with the
EEK 2.5 million decrease in labour costs, EEK 2.8 million decrease in office
expenses and communication services and EEK 1.3 million decrease in advertising
and sponsoring were the most significant factors. Despite the vigorous measures,
the group's cost-cutting rate failed to keep up with the fall in revenue - thus,
the cost of goods sold in the period increased to 88.3% and marketing and
administrative costs to 8.3%.
The group's earnings before taxes in 2010 3 months were EEK 23.8 million, which
means a decrease by EEK 13.1 million compared to 2009 3 months. The net profit
in the period was EEK 16.6 million; representing an EEK 16.2 million or 49.4%
decrease. The fall in earnings was affected by revenue, the reduced
profitability of the construction and property development sectors and the
impact of the seasonal nature of the construction activity. The cyclical nature
of the development activity was insignificant.
In 2010 3 months Group's total cash flows amounted to EEK -3.5 million, of
which the cash flows from operating activities totalled EEK +75.2 million,
from investment activities EEK -25,6 million and from financing activities
EEK-53.1 million. The cash flows from operating activities of the reporting
period were mostly affected by change in trade and other receivables related
to operating activities EEK -130.5 million, change in receivables and
liabilities related to construction contracts recognised under the stage of
completion method EEK -125,9 million and operating profit EEK +25.9 million.
From investment activities cash flows EEK -84.2 million from loans granted and
EEK 63.5 million from return of deposits with maturities greater than 3 months.
Of the cash flow from financing activities, EEK -51.5 million was used to repay
loans and EEK -4.9 million for finance lease principal payments.
As at 31 March 2010, the Group has EEK 694.9 million of funds on the Group's
bank accounts and deposits.
The ratios and calculation methods characterizing the operating activities
of the Group
2010 3 months 2009 3 months 2008 3 months
Net profit margin 3,3 % 5,4 % 13,8 %
Profit before taxes margin 4,8 % 6,1 % 15,7 %
Operating profit margin 5,2 % 6,8 % 15,9 %
Gross profit margin 11,7 % 14,2 % 21,0 %
EBITDA margin 7,0 % 7,8 % 16,5 %
Return on equity per annum 3,1 % 6,3 % 29,6 %
Return on assets per annum 1,9 % 3,5 % 15,8 %
Equity ratio 60,5 % 57,7 % 55,5 %
Current ratio 2,5 3,1 2,7
Quick ratio 1,2 1,4 1,1
General expense ratio 8,3 % 7,2 % 5,1 %
Gross remuneration ratio 12,3 % 12,0 % 9,3 %
Net profit margin: Net profit* / Revenue
Profit before taxes margin: Profit before taxes / Revenue
Operating profit margin: Operating profit / Revenue
Gross profit margin: Gross profit / Revenue
EBITDA margin: (Operating profit + Depreciation and impairment charge) / Revenue
Return on equity: Net profit* x 4 / Average equity during the period*
Return on assets: Net profit* x 4 / Average assets during the period
Equity ratio: Owners equity* / Total assets
Current ratio: Current assets / Current liabilities
Quick ratio: (Current assets - Inventories) / Current liabilities
General expense ratio: General expenses / Revenue
Gross remuneration ratio: Gross remuneration / Revenue
*attributable to equity owners of the parent
Construction market
The building sector was not affected by major changes during the 1st quarter
of year 2010. The volumes continued to drop, accompanied by tougher
competition, price decrease of building services stopped, prices of building
materials appreciated, relying upon metal and oil products as input. Offers
are often made at building competitions at prices lower than direct costs to
acquire new clients, hoping to compensate the price difference by expected
price decline. Quite definitely, such an approach is no longer sustainable
in today's economic environment, includes enhanced commercial risks for the
tenderer, implementation risks for the clients and credit risks for possible
suppliers. According to our estimates, the prices of construction works have
hit the rock bottom and reserves for continued price decrease are no longer
available. Reaching the bottom and following possible rise of prices of
construction works will bring complications with budgets of new projects,
accompanied by extra risks to be considered when performing long-term
(concluded for 12 months and longer) contracts with fixed price rates and
price pressure, affecting the profitability of projects.
Low prices of construction works have created a situation where we can
observe a certain increase in activities of small-scale, repair works market,
where the need for loan capital is lower and usually savings are used to
fund the works. One can note increased interest of foreign investors in the
region; however, there are no real transactions yet. Majority of the
large-scale construction projects are initiated in the sphere of
infrastructure and environmental civil engineering works, where the funding
is made available by public sector and the Structural Funds of the European
Union. Declining income of private sector and dropping consumption rates
have damaged considerably the income base of public sector, also affecting
financial capabilities. Companies, established by banks to develop failed
real estate projects, have entered the property sector as a new force to be
considered with. The active involvement of the latter have somewhat assured
that marked that the prices of residential property are about to stabilise.
During the last quarter of 2009 and the first quarter of 2010 the market of
residential property of Estonia showed the first signs of perking up, the
number of transactions as well as average prices increased. Buyers, having
postponed their purchase of residential property, hoping that the prices
will continue to plummet, have realised that the prices can't drop forever
and further waiting would limit their freedom of choice to a major degree.
The large price decline (40-50%) of the last year and a half and stopping
thereof during the 2nd half of 2009 has made banks to adopt a more
aggressive attitude again. Today's price levels have made financing
residential property safer for banks; loans granted under new terms and
conditions allow banks to improve their income base and therefore,
compensate for the influence of failed loans. The aforementioned trends
have contributed to a financing environment, which has warmed up over the
last months, above all, where it concerns the self-financing rates and
interest margins for final consumers.
Temporary sales success in the sphere of residential property has
encouraged many developers to review suspended projects and launch fresh
business plans and loan requests. Some Estonian developers, depending on
the financing environment to a lesser degree, including Merko Ehitus, have
launched a number of small-scale development projects. Regardless of
budding optimism, characterising developers and banks, the scope of new
development projects shall remain rather modest in the future and
therefore, the choice of offered residential property is expected to
continue to narrow down.
The availability of finances for funding long-term projects is still
restricted; the price of money remains high and pre-conditions for gaining
access to loan capital unrealistic. Therefore, the launching of new rental
projects could hardly be expected. Rental project cash flows can expected
to improve during the second half of the year, as consumption environment
improves, however, the key words of this sector will still be struggling
with dried-up rental revenues, loan commitments and liquidity issues.
Employees and remuneration
In 31.03.2010, the number of employees in the Group's service was 787,
including 751 full-time employees. The Group reduced the number of its
personnel by 6.9% or 58 employees in a year. The gross remuneration paid
to employees in 2010 3 months amounted to EEK 61.6 million a decrease of
15.4% compared to previous year. The smaller amount of performance pay,
due to the fall in the group's profitability, and the reduced staff levels
also contributed to the fall in the group's labour costs.
Shares and shareholders
Share information
ISIN EE3100098328
Short name of the security MRK1T
Stock Exchange List Baltic Main List
Nominal 10.00 EEK
Total no of securities issued 17 700 000
No of listed securities 17 700 000
Listing date 11.08.2008
The shares of Merko Ehitus are listed in the main list of NASDAQ OMX
Tallinn Stock Exchange. In 2010 3 months 1246 transactions with the shares
of Merko Ehitus were performed in the course of which 0.5 million shares
were traded and the total monetary value of transactions was EEK 55.9
million. The lowest share price was EEK 79.02 and the highest price was
EEK 124.7 per share. The closing share price as at 31.03.2010 was EEK
119.7. AS Merko Ehitus market value as at 31.03.2010 was EEK 2.12 billion.
STATEMENT OF COMPREHENSIVE INCOME 3M 2010
consolidated, unaudited, in thousand EEK and EUR
EEK EUR
3M 2010 3M 2009 3M 2010 3M 2009
Revenue 500 623 609 191 31 996 38 934
Cost of goods sold (442 106) (525 002) (28 256) (33 553)
GROSS PROFIT 58 517 84 189 3 740 5 381
Marketing expenses (7 178) (7 050) (459) (451)
Administrative and general expenses(34 426) (37 009) (2 200) (2 365)
Other operating income 11 951 1 910 764 122
Other operating expenses (2 973) (811) (190) (52)
OPERATING PROFIT 25 891 41 229 1 655 2 635
Financial income and expenses
from stocks of associate
companies and joint ventures (2 430) (3 323) (155) (213)
Interest expense (3 250) (7 839) (208) (501)
Foreign exchange gain 1 449 170 93 11
Other financial income 2 183 7 778 140 498
Other financial expenses (2) (1 111) (0) (71)
Total financial income and expenses (2 050) (4 325) (130) (276)
PROFIT BEFORE TAX 23 841 36 904 1 525 2 359
Corporate income tax expense (8 107) (4 653) (519) (297)
NET PROFIT FOR FINANCIAL YEAR 15 734 32 251 1 006 2 062
incl. equity holders of the parent 16 567 32 726 1 059 2 092
minority interest (833) (475) (53) (30)
OTHER COMPREHENSIVE INCOME
Exchange differences on
translating foreign subsidiaries 845 (1 006) 54 (64)
COMPREHENSIVE INCOME 16 579 31 245 1 060 1 998
incl. equity holders of the parent 17 412 31 720 1 113 2 028
minority interest (833) (475) (53) (30)
Earnings per share for profit attributable
to the equity holders of the parent
(basic and diluted, in EEK and EUR) 0,94 1,85 0,06 0,12
STATEMENT OF FINANCIAL POSITION AS OF 31.03.2010
consolidated, unaudited, in thousand EEK and EUR
EEK EUR
31.03.2010 31.12.2009 31.03.2010 31.12.2009
ASSETS
Current assets
Cash and cash equivalents 357 507 359 732 22 849 22 991
Shortterm financial investments 337 415 400 916 21 565 25 623
Trade and other receivables 641 690 665 839 41 012 42 554
Inventories 1 506 199 1 536 463 96 264 98 199
Total current assets 2 842 811 2 962 950 181 690 189 367
Non-current assets
Long-term financial investments 248 936 243 958 15 909 15 592
Investment property 16 394 16 552 1 047 1 058
Property, plant and equipment 261 668 266 276 16 724 17 018
Intangible assets 24 014 24 238 1 535 1 549
Total non-current assets 551 012 551 024 35 215 35 217
TOTAL ASSETS 3 393 823 3 513 974 216 905 224 584
LIABILITIES AND OWNERS' EQUITY
Current liabilities
Borrowings 401 452 447 569 25 657 28 605
Trade and other payables 679 806 787 719 43 448 50 344
Short-term provisions 64 416 37 702 4 117 2 410
Total current liabilities 1 145 674 1 272 990 73 222 81 359
Non-current liabilities
Long-term borrowings 69 722 76 316 4 456 4 878
Long-term payables to suppliers 9 979 10 653 638 681
Long-term suppliers advance payments 8 5 1 0
Total non-current liabilities 79 709 86 974 5 095 5 559
Total liabilities 1 225 383 1 359 964 78 317 86 918
Equity
Minority interest 24 147 27 129 1 543 1 734
Equity attributable to equity holders of the parent company
Share capital 177 000 177 000 11 312 11 312
Statutory reserve capital 17 700 17 700 1 131 1 131
Currency translation differences(13 971) (14 816) (893) (947)
Retained earnings 1 963 564 1 946 997 125 495 124 436
Total equity attributable to
equity holders of the parent 2 144 293 2 126 881 137 045 135 932
Total equity 2 168 440 2 154 010 138 588 137 666
TOTAL LIABILITIES AND EQUITY 3 393 823 3 513 974 216 905 224 584
Alar Lagus
Member of Board
+372 6 805 109
alar.lagus@merko.ee
