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100 2005 NORILSK NICKEL • ANNUAL REPORT •NORILSK NICKEL • ANNUAL REPORT •2005101Cash operating costsIn 2005, cash operating costs increased by 20% and amountedto USD 233 million as opposed to USD 193 million in2004. In 2005 consumables and spares continued to accountfor the largest portion of cash operating costs (46% as comparedto 43% in 2004). At the same time, the share of laborcosts decreased from 33% in 2004 to 29% in 2005.The key reasons for the growth of cash operating costs in2005 included:• increase in prices for fuel, consumables and spares;• deterioration of mining and geological conditions at theOlimpiada deposit resulting in increased costs for extractionand processing of gold;• increase of the share of sulfide ores in total ore processedin 2005 by 4%; sulfide ore processing requires on averagetwo times more reagents and materials and three timesmore energy;• RUR appreciation against the USD and respective increaseof costs in US dollar terms; and• consolidation of cash operating costs of the acquired Yakutsubsidiaries for the fourth quarter of 2005 totaling USD13 million.Consumables and sparesDuring 2005, the cost of consumables and spares increasedby USD 25 million to USD 108 million. This increase is explainedmainly by the growth of fuel prices (7.7%) and chemical prices(7.4%) and increase of fuel and material consumption as aresult of deteriorating mining and geological conditions.LaborIn 2005, labor costs increased by USD 3 million up to USD 67million. This increase results from the consolidation of acquiredYakut subsidiaries and the growth of these costs in US dollarterms and as a result of the RUR appreciation against the USdollar.Mineral extraction tax and pollution taxThe mineral extraction tax and pollution tax increased fromUSD 26 million up to USD 30 million in 2005, which relatesmainly to the growth of gold prices by an average 10% ascompared to 2004.Amortization and depreciation of operating assetsDuring 2005, the amortization and depreciation charge onoperating assets remained virtually on the same level as in2004, amounting to USD 42 million despite the fact that averageannual depreciated value of property, plant and equipmentin 2005 was significantly higher than in 2004.The reason for this was the review and resulting increase ofthe useful lives of gold mining and smelting property, plantand equipment in 2005. Accordingly, the rate of depreciationon these property, plant and equipment decreased in 2005 ascompared to 2004 and so did the depreciation charge. UnderIFRS this change was reflected as change in accounting estimatesprospectively, without adjusting the prior year amount.Increase in gold inventoriesDuring 2005, the metal inventories increased by USD 9 millioncompared to USD 11 million mainly due to an increase in unrefinedgold balances in CJSC Polus at the end of December2005.Cost of gold production by Polus and itssubsidiaries(US dollars per ounce or as noted)2005 2004 2003Gold production('000 ounces) 1,038 1,085 832Unit cost of production 244 209 133Cash operating cost 206 175 107The amortization and depreciation of operating assets constituteda considerable component of the production cost in2005, amounting to USD 38 per ounce.In 2005, the cost of production per ounce of gold of thePolus group increased by USD 35 per ounce to USD 244 perounce and cash operating costs of the Polus group grew byUSD 31 per ounce to USD 206 per ounce.During 2005, the cost of production per ounce of gold byPolus grew for the following reasons:• consolidation of the operating results of the acquired Yakutcompanies with a higher gold production cost;• growth of consumables prices;• deterioration of mining and geological conditions at theOlimpiada deposit; and• RUR appreciation against USD.The table below demonstrates the cost of production perounce of gold and cash operating costs at Polus group for theyear ended 31 December 2005 by business units.(US dollars per ounce)Business unit Unit cost of Total cashproductioncostsPolus 196 159Lenzoloto 373 337Yakut companies 534 457Selling, general and administrativeexpensesDuring 2005, selling, general and administrative expenses("SG&A") of the group increased by USD 28 million (by 88%)to USD 60 million. The key growth factors for these expenseswere as follows:• growth of the cost of auditors', lawyers' and other professionalservices by USD 2.1 million (by 148%) in connectionwith the preparation for the spin-off of the gold miningassets from MMC Norilsk Nickel and creation of a separatecompany;• growth of transportation costs by USD 2.6 million (347%)as compared to 2004 on account of travel costs connectedwith the establishment of the holding;• growth of salary costs to USD 33.5 million by USD 13.8 million(70%) as compared to 2004. This growth is mainlyconnected with the start of active operations of the group'scorporate center and LLC Lenskaya Gold Mining Companyholding, as well as the consolidation of the SG&A expensesof the Yakut companies acquired by the group for a totalof USD 1.4 million; and• growth of tax payments by USD 1.4 million (by 41%) as comparedto 2004, mainly on account of property tax increasedue to the acquisition of property, plant and equipment.Other net operating expensesDuring 2005, the group's other operating expenses amountedto USD 25 million whereas in 2004 the group had USD10 million of other operating income. Thus, the net changeof operating results amounted to USD 35 million. The mainreasons for this were as follows:• recognition of the impairment of assets by USD 6 milliondue to the accrual of the asset decommissioning obligationsat Matrosov Mine (as the operation of property, plantand equipment was terminated and their recoverable amountwas equal to zero due to the liquidation of the mine, theobligation in the full amount of USD 6 million was expensed);• write-off of the construction-in-progress projects by Lenzolotototaling USD 5 million; and• accrual of the provision for tax risks of USD 2 million, predominantlyon account of the risk of partial non-recoveryof value added tax, as opposed to the reversal of the respectiveprovision in 2004 for USD 15 million.Net profit for the yearNet profit for the year increased from USD 10 million in 2004to USD 115 million in 2005.GOLD MINING ASSETS OF MMC NORILSK NICKEL(Polus)9
1022005NORILSK NICKEL • ANNUAL REPORT •NORILSK NICKEL • ANNUAL REPORT •2005103Cash and cash equivalentsAt 31 December 2005 cash and cash equivalents amountedto USD 28 million as compared to USD 13 million as at31 December 2004.Investments in securities andother financial assetsAt 31 December 2005 investment in securities and otherfinancial assets amounted to USD 2,234 million as comparedto USD 397 million as at 31 December 2004. The increase byUSD 1,837 million relates mainly to the acquisition of 100%in Jennington International Inc., the holder of 20% in GoldFields, a South African gold mining company and the growthof market value of Gold Fields to USD 1,736 million as of31 December 2005.Property, plant and equipmentAt 31 December 2005 the carrying value of property, plantand equipment amounted to USD 965 million as comparedto USD 516 million as at 31 December 2004. The increase byUSD 449 million (87%) was the result of:• consolidation of property, plant and equipment of subsidiariesacquired in 2005, which provided for the growthof property, plant and equipment by an overall USD 424 million,including USD 327 million of mineral use rights;• acquisition of property, plant and equipment for USD 79 millionand commissioning of capital construction projects witha value of USD 20 million;• changes of accounting policy in respect of geologic researchand mine development work – transition from chargingthese costs to period expenses to capitalization until themoment when the respective deposit reaches commercialproduction quantities or expensing where there is no evidenceof proved or probable reserves; this change in theaccounting policy led to increase of property, plant andequipment by USD 32 million; and• increase of the carrying value of property, plant and equipmenton account of the revision of the asset decommissioningprovision by USD 27 million.The increase of property, plant and equipment was partiallyoffset by the disposal of property, plant and equipment witha value of USD 21 million (including depreciation on disposalof USD 3.5 million), including on disposal of subsidiaries,effect of translation from the functional currency to the currencyof presentation of USD 27 million and depreciationcharges for 2005 of USD 53 million.Short-term loans and borrowings(including current portionof long-term borrowings)At 31 December 2005 short-term loans and borrowingsamounted to USD 26 million as compared to USD 36 millionas at 31 December 2004. The decrease in the debt was mainlydue to the fact that in 2005 Matrosov Mine fully repaid itsobligations on short-term notes totaling USD 23 million. In addition,during 2005 Lenzoloto group fully repaid the majorityof its short-term loans totaling USD 6 million. This reductionwas partially offset by the consolidation of the short-termpayables of the acquired Yakut subsidiaries of USD 21 million.Long-term borrowings andfinancial lease obligationsAt 31 December 2005 long-term borrowings and financiallease obligations of the Polus group amounted to USD 5 millionas compared to USD 9 million as at 31 December 2004.This reduction was the result of the repayment of long-termbank loans totaling USD 4 million.Share capital and reservesAt 31 December 2005 capital and reserves amounted to USD3,106 million (including minority interest of USD 30 million)as compared to USD 943 million (including minority interestof USD 44 million) as at 31 December 2004. The main reasonsfor the increase were as follows:• issue of additional shares by Polus, which led to increase ofthe group's capital by USD 1,300 million;• revaluation surplus on securities available for sale, of USD819 million, including an interest in Gold fields, South Africa;and• growth of the group's retained earnings by USD 107 million.Net cash flows generated by operatingactivitiesNet cash provided by operating activities was USD 52 million,which is USD 75 million less than in 2004. Decrease of net cashinflows was explained by the following factors:• increase of the balance of cash costs in work in progressby USD 14 million. Cash invested in work in progress in2005 was not yet charged against revenue received fromsubsequent sales of finished goods as at 31 December2005, thus creating a timing difference;• increase of cash operating costs by USD 40 million;• increase of cash SG&A costs by USD 27 million; and• increase of the balance of inventories (fuel, spares and consumables)by USD 24 million. This increase was mainly onaccount of acquisition of spares for property, plant andequipment purchased in 2005, the growth of purchaseprices and increase of fuel and consumables use due tothe growth of ore processed volumes.This increase of cash operating costs was partially offset byrevenue growth by USD 30 million.Net cash flows used in investing activitiesIn the reviewed period cash was used in investing activitiesmainly to finance acquisition of subsidiaries, property, plantand equipment, securities and other financial assets.Cash used in investing activities increased from USD 593 millionin 2004 to USD 1,307 million in 2005 by USD 714 million.This increase was due mainly to the following:• acquisition of 100% in Jenington International Inc, holding20% of shares in Gold Fields, South Africa, for USD 945million;• increase of expenses for the acquisition of property, plantand equipment from USD 70 million in 2004 to USD 146million in 2005 by USD 76 million; and• this increase was partially offset by the decrease of expensesfor the acquisition of subsidiaries to USD 153 million in2005 by USD 117 million and decrease of amounts for theacquisition of promissory notes from USD 756 million in2004 to USD 613 million in 2005.Net cash flows generated by financingactivitiesThe main source of cash for the Polus group in 2005 and2004 included the net cash flows from financing activities.The most significant item of this was proceeds from the issueof shares. During 2005, the cash inflows from financing activitiesof the Polus group amounted to USD 1,270 million (2004:USD 471 million), including cash received though the issue ofshares – USD 1,300 million (2004: USD 499 million).GOLD MINING ASSETS OF MMC NORILSK NICKEL(Polus)9
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