In the process of applying accounting rules with regards to the below issues, management has made judgments and estimates that affect the amounts presented in the consolidated financial statements, including in other explanatory information. The estimates were based on the best knowledge of the Management Board relating to current and future operations and events in particular areas. Detailed information on the assumptions made was presented below or in respective explanatory notes to the consolidated financial statements.

Recoverable amount of property, plant and equipment and goodwill

Changes in the electricity market may have a significant influence on the recoverable amount of power generating property, plant and equipment of particular PGE Group entities. If impairment indicators are identified, the Group estimates the recoverable amount of the respective property, plant and equipment owned. Estimate of recoverable amount of goodwill is performed once a year.

Impairment analysis of property, plant and equipment and goodwill is performed by estimating the recoverable amount of cash generating units. The analysis is based on a number of significant assumptions concerning factors, some of which are outside the control of the Group. Any significant change in these assumptions will impact the result of future impairment tests and as a consequence may lead to significant changes to the financial position and results of the Group.

Performed impairment test is described in note 3 of these financial statements.

Depreciation period of property, plant and equipment and intangible assets

Depreciation rates are calculated on the basis of the estimated economic useful life of an item of property, plant and equipment or intangible assets as well as estimates of its residual value. Capitalized costs of major inspections and overhauls are depreciated throughout the period until the beginning of the next major inspection or overhaul.

Estimated economic useful lives of assets are subject to verification at least once a year. Depreciation periods applied are presented in notes 4.8 and 4.9 of these financial statements.

The verification of the economic useful lives of property, plant and equipment and intangible assets conducted in 2016 resulted in a decrease in the depreciation and amortization costs for 2016 by approx. PLN 15 million in total, which had the following effects on the costs of particular segments:

• a decrease in the depreciation and amortization costs in the Conventional Generation segment by approx. PLN 14 million,
• a decrease in the depreciation and amortization costs in the Distribution segment by approx. PLN 1 million.

The verification of economic useful lives of assets in other segments did not have significant impact on the depreciation and amortization costs recognized in 2016.

Valuation of assets arising from capitalization of stripping costs in the production phase of a surface mine

Capitalization of stripping costs in the production phase is determined based on the excess of annual N:W ratio (ratio of the volume of overburden removed to the volume of coal extracted within a given year) over general N:W calculated for a particular deposit. The general N:W ratio is calculated by comparing the total volume of overburden still to be removed to the total volume of coal still to be extracted from the date of application of IFRIC 20 to the end of the exploitation of lignite from a particular deposit. This ratio is calculated at the end of each year based on the best knowledge of the technical experts employed in the mine and may be subject to change in case of acquisition of new information on the size of the deposit and the way it is located underground. Update of N:W ratio during 2016 caused an increase in costs of PLN 13 million.

Impact of assets arising from capitalization of the stripping costs in the production phase of a surface mine on property, plant and equipment and its depreciation is described in note 9 of these financial statements.

Rehabilitation provision

Rehabilitation provision is calculated using estimates of future costs of rehabilitation together with all information available as at the reporting date. Provision is updated in case of change of estimated time or amounts of expenses necessary to conduct rehabilitation process, or in case of change of discount rate. Estimation of rehabilitation provision requires making technical, geological, environmental, legal and tax assumptions, as well as schedule, scope and the level of rehabilitation costs. Changes in assumptions mentioned above impact the value of rehabilitation provision and capitalized rehabilitation costs recognized in property, plant and equipment, as well as statement of comprehensive income.

Valuation of provisions for employee benefits

Provisions for employee benefits were estimated using actuarial methods.

Key actuarial assumptions related to the calculation of provisions as at the reporting date are as follows:

• The probability of employee attrition has been predicted on the basis of historical data related to the Group’s employee turnover ratio and statistical data on employee attrition in the industry.
• Mortality and survival probability have been adopted from the Life Expectancy Tables published by Central Statistical Office of Poland, assuming that the population of Company’s employees corresponds, in respect of mortality, to the average in Poland.
• Normal procedure of employees’ retirement was assumed, in accordance with detailed rules included in the Law on State Social Insurance Pensions, with the exception of employees who meet the conditions required to early retirement.
• For discounting future benefit payments a discount rate of 3.5% was adopted (December 31, 2015: 3.0%), which corresponds to the profitability of long-term Treasury bonds listed on the Polish capital market.

Other provisions

As described in note 4.21 of these financial statements recognition of provisions requires estimates of the probable outflow of economic benefits and determination of the amount that shall be the best estimate of the expenditure required to settle the present obligation at the end of the reporting period. The most important provisions are:

• provision for CO₂ emission rights;
• provision for energy origin units held for redemption.

Sensitivity analysis for changes in assumptions used for calculation of carrying value of provisions, in particular a change in a discount rate, is presented in notes 21 and 22 of these financial statements.

Contingent liabilities

In accordance with IAS 37 with respect to recognition and measurement of provisions and contingent liabilities, the PGE Group estimates the probability of occurrence of potential liabilities. If the occurrence of unfavorable future event is probable, the PGE Group recognizes a provision in the appropriate amount. If the occurrence of unfavorable future event is estimated by the PGE Group as not probable but possible, a contingent liability is recognized. Detailed information on contingent liabilities and legal claims and disputes is presented in note 28 of these financial statements.

Compensations resulting from termination of long-term agreements (“LTC”)

The Group’s estimates of compensation related to early termination of long-term contracts for sale of capacity and electricity resulting in recognition of related revenues and receivables are based on appropriate, in the Group’s opinion, interpretation of the Act dated June 29, 2007 on the principles for coverage of costs incurred due to early termination of long-term contracts for sales of capacity and electricity (Official Journal from 2007, No. 130, item 905) ("the LTC Act"), the anticipated outcome of disputes with the President of the Energy Regulatory Office and on a number of significant assumptions to the factors, some of which are outside the control of the Group.

An unfavorable outcome of the dispute with the President of the Energy Regulation Office, described in note 33.1 of these financial statements, with respect to the interpretation of the LTC Act, and changes in assumptions used, including those resulting from mergers within the PGE Group, may significantly impact the estimates and as a consequence may lead to significant changes in the financial position and results of the PGE Group. It is not possible to predict the final outcome of the dispute with the President of the Energy Regulation Office as at the date of preparation of these consolidated financial statements.

During the reporting period the Group revised the estimates of LTC compensations. Detailed information is presented in note 33.1 of these financial statements.

Impairment allowances on receivables

As at the reporting date the Group entities assess whether there is an objective evidence for impairment of a receivable or a group of receivables. If the recoverable amount of an asset is lower than its carrying amount, the PGE Group recognizes an impairment allowance to the amount of the present value of expected cash flows.

Description of changes in impairment allowance on trade and other receivables is presented in note 26.5.1 of these financial statements.

Electricity sales accrual

Reading numbers from meters regarding the volume of electricity provided in retail sales including distribution services and its invoicing is performed mainly in periods different from the reporting periods. Taking into account the above, a retail sale company (PGE Obrót S.A.) and a distribution company (PGE Dystrybucja S.A.) that are part of the PGE Group perform certain revenues estimates at each reporting date that cover the period not covered by the meters reading. The estimates include also a change in the cost of purchase of electricity during the period of the estimates and reconciliation of the energy balance.

The carrying amount of the electricity sales accrual as at December 31, 2016 is described in note 25.1.1 of these financial statements.

Measurement of fair values of acquired assets and liabilities, goodwill calculation

The PGE Group identifies acquired assets and liabilities, measures their fair value and recognizes goodwill or gain on bargain purchase in accordance with IFRS 3 Business combinations. Measurement is based on a number of assumptions, which include inter alia: application of appropriate valuation method, management’s plans relating to the use of acquired assets, financial projections (including price forecasts influencing main positions of revenues and expenses), changes in laws and regulations and other. On the other hand, the settlement of the tranbbsaction is also influenced by the appropriate determination of the consideration transferred (including contingent part). Assumptions applied may significantly impact fair values of acquired assets and liabilities, and calculation of goodwill or gain on bargain purchase. Goodwill is tested for impairment together with the respective cash generating units.

During the year ended December 31, 2016 the PGE Group acquired shares in a jointly controlled entity: Polska Grupa Górnicza sp. z o.o. This resulted in recognition of goodwill of PLN 4 million. The settlement of the acquisition of shares was described in note 1.4 of these financial statements.

Influence of changes in selected estimates on the statement of comprehensive income for the year 2016