Ukrnafta (50%+1 share) Oil and gas production

Naftogaz of Ukraine Ukrtransnafta (100%) NAFTOGAZ Headquarters, trading Oil transmission and storage

Ukrgazvydobuvannya (100%) Ukrtatnafta (43 %) GROUP Oil and gas upstream GROUP Oil refining and storage Ukrtransgaz (100%) Petrosannan Company (JV, Egypt) STRUCTURE Oil and gas production Gas transmission and storage OIL Ukrspetstransgaz (100%) Zakordonnaftogaz (100%) LHG railway transportation GAS 6% Oil and gas production revenues Gas of Ukraine (100%) Retail supply until 2012 92% revenues OTHER Ukravtogaz (100%) Naukanaftogaz (100%) CNG retail (stations) 2% Research and development revenues Naftogaz Trading Europe S.A. (100%) (former Naftogaz Overseas S.A.) Vuhlesyntezgaz of Ukraine (100%) Development of gas replacement projects Trading (Geneva) Kirovohradgaz (51%) LIKVO (100%) Gas distribution and supply Prevention of emergencies

Chornomornaftogaz* (100%) Naftogazbezpeka (100%) Oil and gas upstream Security services

Ukrnaftogazkomplekt (100%) Supply of equipment

Naftogazobslugovuvannia (100%) Services

Gas value chain: 92% of the group revenues Oil value chain: 6 % of the group revenues

EXPLORATION AND TRANSMISSION AND MARKETING AND EXPLORATION AND TRANSMISSION AND IMPORT DISTRIBUTION REFINING MARKETING AND RETAIL PRODUCTION STORAGE SUPPLY PRODUCTION STORAGE

UKRGAZVYDOBUVANNYA NAFTOGAZ (HQ) UKRTRANSGAZ 1.5% NAFTOGAZ UKRNAFTA UKRTRANSNAFTA UKRTATNAFTA UKRNAFTA natural monopoly Naftogaz share in the segment (50 % + 1 share) natural monopoly (43 %) The biggest retail chain in Ukraine: 14.6 bcm 74% 36% Even formal control was lost in 2015 production (73% of domestic production) in total imports from the EU 82.2 bcm 70% market share in non-regulated segment 1.52 million t 15.2 million t The only oil refinery operating in Ukraine 537 of transit of the segment is controlled by one in 2016 oil production (68% of domestic production) oil transportation, including: fuel stations (8.4% of total) 271 bcm 8.2 bcm private group 18.6 million t/year gas reserves of imported gas 29.3 bcm 100% 40 million t 13.8 million t capacity 14% domestic transmission of supplies to DHCs, the most troublesome oil/condensate reserves to Europe share in Ukraine’s total retail 140 15 segment (17% of total consumption) 1.2 million t in 2016 fields explored and operated suppliers from Europe 31 bcm 1.4 million t production (15% of domestic demand) of UGS capacity 0% UKRGAZVYDOBUVANNYA within Ukraine UKRGAZVYDOBUVANNYA 0 cubic meters of direct supplies to households UKRNAFTA (50% + 1 share) of gas imported from Russia since 0.5 million t 1.1 mcm UKRGAZVYDOBUVANNYA 18 November 2015 The market is controlled by intermediaries oil/condensate production (20% of domestic oil reservoir capacity fuel stations in Kharkiv region 1.3 bcm related to operators of distribution production) 0.9 million t/year production (8% of domestic production) networks oil, condensate and NGL refining capacity 3.7 million t 32.1 bcm oil/condensate reserves 0.5 million t gas reserves production of petrochemicals (3% of total demand) NAFTOGAZ (HQ) NAFTOGAZ (HQ) 0.2 million t 1.9 million t LPG production (12% of total demand) 0.5 bcm oil/condensate reserves gas reserves PETROSANNAN CO PETROSANNAN CO (JV, Egypt) (JV, Egypt) 0.3 million t 176 bcm oil/condensate production gas production 0.5 million t Naftogaz estimates based on reserves assessed by Ryder Scott Company 0.2 bcm oil reserves gas reserves ANNUAL WHO WE ARE REPORT NAFTOGAZ FINANCIAL INDICATORS NAFTOGAZ GROUP NET CONTRIBUTIONS TO THE STATE BUDGET 2016 2016, UAH billion IN 20142016, UAH BILLION

Upstream Midstream Downstream +132 40.4

SEGMENT RESULT 9% 9% 1% 10% 5% 0.8 91.3 1.7 73.8 1.6 1.6 3.5 5% 47.6 NATURAL GAS CRUDE OIL CRUDE OIL NATURAL STORAGE TRANS REFINING, GAS GAS SALES PAID CONDENSATE AND SUPPLY 20.2 AND OTHER PORTATION RECEIVED PROCESSING AND 11.9 29.7 PETROLEUM 21.0 OTHER 33.4 43% PRODUCT 23% 26.2 AND PROFIT TRADING UNALLOCATED BEFORE 96.6 17.1 ITEMS TAXES PAID GAS INCOME 6.8 TRANSMISSION TAX AND 2016 IN 2016 SUBSIDIES/TARIFF DIFFERENCE, CRUDE DISTRIBUTION EXEMPTIONS AND SUBSIDIES (2014) OIL AND GAS RECAPITALIZATION OF NAFTOGAZ 15.3 CONDENSATE 23% ROA PRODUCTION 14.9 NATURAL GAS PRODUCTION 2014 2015 2016

CHANGE IN THE GROUP’S REVENUES AND ASSETS THE GROUP'S OPERATING REVENUE (WITHOUT ELIMINATION) THE GROUP'S ASSETS

OTHER DOWNSTREAM MIDSTREAM UPSTREAM UPSTREAM MIDSTREAM OTHER 262.1 0.5 115.6 82.1 63.5 2016 2016 82.8 488.4 93.5 39.9 704.6

157.7 1.8 54.8 73.5 27.6 2015 2015 94.5 488.1 46.9 31.4 660.7

94.3 0.4 27.6 58.5 7.8 2014 2014 48.3 405.9 33.3 28.5 515.9

90.3 0.5 32.4 52.1 5.3 2013 2013 39.4 144.5 32.3 21.7 237.9 4 5 4 5 ANNUAL WHO WE ARE REPORT 2016

CONTENT

WHO WE ARE WHAT WE HAVE ACHIEVED Naftogaz group...... 2 Operating revenues and assets by segment...... 99 Key financial results...... 4 Key figures...... 103 Mission and values...... 8 Operational efficiency...... 104 Address of CEO Andriy Kobolyev...... 10 Oil and gas upstream ...... 106 Ukrgazvydobuvannya...... 116 HOW WE WORK Ukrnafta...... 122 Supervisory board report...... 12 Investment projects in Egypt...... 124 Corporate governance structure...... 18 Midstream ...... 126 Creating value: 6 capitals...... 20 Gas transmission...... 132 Executive board structure and remuneration...... 22 Crude oil transmission...... 138 Other top executives...... 24 Downstream ...... 142 Personnel...... 26 Gas supply and trading...... 143 Health and safety...... 32 Refinery, petroleum products...... 149 Local community development...... 40 Other activities...... 151 Energy efficiency...... 44 Capital investments...... 151 Environmental protection...... 48 Taxes, subsidies and loans ...... 152 Cash flows and working capital ...... 154 WHERE WE ARE NOW Timeline...... 58 FINANCIAL STATEMENTS Macroeconomic environment...... 60 Management comments on the auditor’s opinion.....156 Ukraine in European gas market...... 62 Independent auditor’s opinion...... 160 Gas balance of Ukraine...... 64 Statement of financial position...... 163 Gas market overview...... 68 Transit to the EU...... 70 Statement of profit or loss...... 164 Imports to Ukraine...... 73 Statement of changes in equity...... 165 Production...... 74 Statement of cash flows ...... 166 Consumption...... 75 Notes...... 168 Oil and petroleum products market overview...... 79 Important regulatory changes...... 85 ADDITIONAL INFORMATION First results of gas market reform...... 90 Terms and abbreviations ...... 208 Unbundling...... 92 GRI content index...... 210 6 Main risks...... 94 Contacts ...... 7217 6 7 ANNUAL REPORT 2016

Integrity and trust: we are honest and reliable in our relations both inside the company and with third parties

Transparency: we are open and objective in our interaction both within the company and with third parties

OUR MISSION IS TO BECOME THE DRIVING FORCE FOR MODERNIZATION AND PROFESSIONALISM IN THE Professionalism: we are dedicated to professional UKRAINIAN ENERGY SECTOR development and adhere to the highest ethical INTEGRATED WITH THE EUROPEAN standards MARKET, ENSURING SECURITY OF ENERGY SUPPLIES AT COMPETITIVE PRICES WHILE MAXIMIZING THE

VALUE OF NATIONAL RESOURCES Fairness: we are consistent, fair, and meritocratic in our relationships with all our customers, employees, competitors, and the state AND VALUES MISSION

8 9 9 ANNUAL WHO WE ARE REPORT 2016

ADDRESS OF CEO ANDRIY KOBOLYEV HOW WE WORK

coal reserves are well below the minimum. shareholder – the government of Ukraine. Thanks to diversification of suppliers, Our core values are integrity and trust: effective stock management, and we are honest and reliable in relations cooperation with international financial within the group and with third parties. organizations, we are now optimizing our They also include transparency: we are major expenditures. In 2016, we managed open and objective when interacting, both to end a multi‑year downward trend for inside and outside the group. Most of all, Ukrgazvydobuvannya gas production, and we appreciate professionalism: we are we plan to achieve significant growth for dedicated to professional development the first time in 2017. Transparency and and adhere to the highest ethical a systemic struggle against corruption standards. Finally, we ensure fairness: we are not just attractive catchphrases; are consistent and meritocratic with all they have become key elements of our our customers, employees, competitors, corporate culture, which, among other and the state. things, has made us the biggest user of The document you are holding is more Ukraine’s corruption‑beating ProZorro I am very grateful to the people who than just a report on the group’s e‑procurement system. As of the date of share our values, both within Naftogaz performance in 2016. It is a three‑year this address, we have received a separate and outside the group. You have led the summary of the work done by the current award from the Stockholm Arbitration group to success despite the reckless management team of Naftogaz. The Tribunal in the Gazprom vs Naftogaz resistance of the “old system”. In 2016, this company’s major achievement is being case, which fully rejects the “take‑or‑pay” resistance continued to pose a key threat in the black for the first time in the past claim of the Russian side in excess of to gas market reform, with Naftogaz as five years, with no support from the USD 44 billion. an integral part. It was the number one state budget for the first time in the past threat. Fighting against this internal enemy The above‑mentioned achievements decade. turned out to be much harder and more represent the perseverance and efforts of dangerous than any arbitration. We also have a number of additional many people. While very different at first accomplishments to be proud of. Naftogaz glance, they have one thing in common I am convinced that in the near future is the top taxpayer in Ukraine. Besides that serves as the key to the success for we will succeed in this battle too, and will providing a secure gas supply to Ukrainian any team ‑ this thing is shared values. move forward to new victories. households, we ensure sufficient supplies These values formed the foundations of Sincerely, for all other consumer categories our strategy in 2014.They have helped us to regardless of circumstances, be it an make tough but important decisions. They Andriy Kobolyev unusually long cold winter or Gazprom are at the core of the group’s new strategy refusing to supply gas to Ukraine when that we have submitted for approval to our

10 11 10 11 ANNUAL HOW WE WORK REPORT 2016

suppliers. The share of each supplier company under sovereign guarantee at Trade of Ukraine. did not exceed 30% of the total volume the end of 2015; During 2016, all of the appointed supervisory of gas purchased by Naftogaz; REPORT OF NAFTOGAZ SUPERVISORY • agreements with Citibank and board members were compliant with the • development of the company’s own Deutsche Bank on a EUR 478 million criteria applied to the identity of a board licensed gas resources held through revolving credit facility guaranteed by member as established by then effective BOARD 2016 its subsidiary Ukrgazvydobuvannya. the World Bank were signed. These rules of procedures of supervisory board An agreement was concluded with have been put in place to finance the (in edition approved by the Resolution of Ukrgazvydobuvannya on drilling wells purchase of natural gas. By doing so, the Cabinet of Ministers of Ukraine dated and equipping fields at licensed sites of the cost of financing was reduced. The 5 December 2015 No. 1002), including those the company HQ to perform minimum cost of the credit line does not exceed regarding competence and time to be obligations via work programs that are 2.5% per annum; dedicated to the work on the Board. The integral parts of special permits for current composition of the supervisory • the weighted average effective interest subsoil use. board meets the requirement on gender rate under financial liabilities was diversity. Key financial results of the holding reduced from 14.3% to 12.0%, despite company in 2016: the fact that loan rates for Ukrainian Independent directors made statements companies increased both in the on their independence to the nomination • for the first time in the last 5 years, domestic and foreign financial markets. committee for appointment of officers of Naftogaz made a net profit amounting strategically important enterprises at their to UAH 26.5 billion and positive net appointment confirming that they are fully cash flow from operating activities of Structure of the board and its performance. This will benefit the budget compliant with the independence criteria UAH 36.0 billion; committees and the public. established by said rules of procedure. Appointment and contracting • based on the operating results in 2016, Renewed statements are in the annual Most of the issues dealt with during the company will pay dividends of According to the Resolution of the Ministry report submitted to the general shareholder 2016 by the supervisory board involved UAH 13.3 billion (50% of income 2016) of Economic Development and Trade of meeting and publicized on its official resolving past challenges, implementing to the sole shareholder (the state) and Ukraine dated 25 March 2016 No. 504, the website1. the corporate governance reform of advance income tax of UAH 2.4 billion; supervisory board has a composition of five Naftogaz, and establishing the foundations On 11 May 2016, independent directors members, three of which are independent for improved management systems going • for the first time since 2006, the were contracted by the company to directors. All board member appointments forward. We look forward to starting a new company did not receive direct perform their board functions on the are for a period of four years. path focusing on future strategy and the support from the state in the form basis of service agreements. According internal controls of Naftogaz group to add of compensation for the difference The individual members of the to the provisions of the service value to the business and the people of in prices through recapitalization at supervisory board have been appointed agreements of all independent directors, Ukraine. the expense of obtained government by series of orders of the Ministry of the fee for performance of their board bonds; Economic Development and Trade of functions (including compensation It should be noted that successful Ukraine (further-MERTU) and the entire for expenses) are payable for the delivery of this approach will require the • the company paid UAH 16.3 billion to the composition of the board has been period starting from 25 March 2016. government to implement the legislative budget, which is 4% more than planned; confirmed on 21 April 2016 by the Order of Mr. Demchyshyn entered into a similar and regulatory changes described in the • two times during the year (in January MERTU No. 725. All of the board members service agreement with the company Corporate Governance Action Plan (the and July-September 2016), imported have been elected by the nomination on 22 September 2016. The fees for CGAP). At the time of publication, these natural gas was purchased using committee for appointment of officers of 1 http://www.naftogaz.com/files/official_ changes had not been implemented. an EBRD USD 300 million revolving strategically important enterprises at the documents/Statement-(Declaration-of- credit line which was received by the Ministry of Economic Development and independence).pdf Business overview of the company: operational and the government adoption of the Law of financial performance Supervisory board Supervisory board in 2016 Ukraine “On amending certain legislative Key results of the company’s operational The Naftogaz supervisory board was acts of Ukraine on management of state performance in 2016: established on 21 April 2016 in accordance and communal property” dated 2 June 2016 • transit of natural gas through Ukraine with new legislation. The aim was to No. 1405-VIII. of 82.2 bcm was reached, a volume assist the government and company The main thrust of the new corporate 22.5% more than in 2015 (67.1 bcm). management in implementing best governance system for state-owned The volume of transit and the cost international practices in terms of enterprises lies in minimizing political of transit services in 2016 were the governance. The supervisory board influence on their activity. The changes aim highest in the last three years; participated jointly with the management Chairperson Deputy chairman, Independent director Independent director Board member to decrease conflicts of interests between in developing the company’s strategy and • Naftogaz satisfied demand for Kovaliv Yulia Ihorivna independent director Proctor Charles Dr. Richards Marcus Demshyshyn the government policy development and preparing it for the submission to the imported natural gas with the help of Warwick Paul Cyril Richard Faraday Trevor Volodymyr economic feasibility in the managerial government. suppliers in the European market; Vasyliovych decision-making process on the company’s The Naftogaz supervisory board is the first activities while improving the efficiency • 8.2 bcm of imported natural gas example of corporate governance reform and transparency of their activities and (almost two times lower than in 2015) 12 13 12 of state-owned enterprises initiated by eliminating corruption to achieve better was purchased from 15 European 13 ANNUAL HOW WE WORK REPORT 2016

Supervisory board Attendance of the supervisory audit ethics nomination and of supervisory board, and the board group preparing recommendations and In addition to this, the board elected board meetings in 2016 (both regu- committee1 committee1 remuneration anticipates that a similar commitment will proposals to the draft decisions of the a chief compliance officer, risk lar and extraordinary) committee1 be required going forward. Cabinet of Ministers of Ukraine on the management officer and chief audit sale of objects of state property subject executive to establish compliance and Kovaliv Yulia Ihorivna 9/10 (with partial presence during 6/6 5/6 5/6 In addition, supervisory board members to privatization (Ukrainian government risk management while restructuring meetings on 13-15 July 2016 due to a contributed additional time to individual consulting and advisory body engaged in existing internal audit functions in business trip and committee obligations outside of formal advising on Odessa Port Plant privatization). compliance with best international meeting periods as well as ongoing work 8-11 November 2016 and 5-9 practices. December 2016) programs for the development of the company’s revised strategy, planning, and Board priorities During 2016, the supervisory board Warwick Paul Cyril 9/10 5/6 6/6 6/6 performance management framework on In the absence of approved ownership extensively worked with key subsidiaries Richards Marcus Trevor 10/10 6/6 6/6 6/6 an individual or collective basis. policy from the shareholder, the priorities of the group to review and comment on Proctor Charles Richard Faraday 9/10 (with partial presence during 6/6 6/6 5/6 of the supervisory board in 2016 were to drafted financial and investment plans for The formation of all three committees meeting on 13-15 July 2016) engage with setting up the strategy of the 2017. The aim was to improve operational was followed by the adoption of company, developing and implementing a efficiency within the companies of the Demchyshyn Volodymyr Vasyliovych 10/10 6/6 6/6 6/6 regulations on each of the committees in system of internal control and a system group and boost the quality of business September 2016. The supervisory board of delegation of authorities, launching the planning. 1 Total number of meetings excludes the first supervisory board meeting held on 11-13 May 2016 which resolved to establish the audit committee, the ethics committee, decided that committees should convene internal audit function, and collaboration and the nomination and remuneration committee at each regular board meeting to pre- In the period from May to December 2016, with the executive board and key discuss matters to be considered on the the supervisory board passed 40 resolutions subsidiaries of the group on drafting agenda of the board meeting. on the matters within its competence financial and investment plans for 2017. performance of his board functions the liability of these officers after their as required by the law or by the former Proceedings of the board and its To reflect the company’s important social (including compensation for expenses) appointment. The supervisory board and the executive charter of Naftogaz that was in effect in committees role, an HSE committee was established at are payable for the period starting from board focused on the development of the 2016. Six of these forty resolutions related Appointments within the supervisory According to the requirements of the the beginning of 2017. 21 April 2016. optimal operational model of Naftogaz to the transfer of issues to the agendas of board company’s charter, the supervisory and its group of companies and on subsequent meetings, but all transferred The service agreement with Mrs. Kovaliv board meets as needed with a minimum The first supervisory board meeting was Conflict of interest implementation of the CGAP adopted by issues were ultimately resolved. The board Yulia Ihorivna was concluded in 2016 and established of at least once every three held on 11-13 May 2016. During this first Members of the supervisory board are the government in 2015. By the end of voted on 34 resolutions during 2016. no remuneration for performance of months. meeting, the board members elected: required to disclose any potential conflicts 2016, the vast majority of actions required her duties in this board was paid by the The board also took an active role in Starting in May 2016, the supervisory of interest with the items of the agenda. by the CGAP on the part of the company company, as the shareholder had not • Kovaliv Yulia Ihorivna as the developing amendments to Naftogaz board held ten meetings, including three and the board were complete, whilst approved contractual conditions for her. chairperson of the supervisory board During extraordinary supervisory board charter. A new version was adopted extraordinary meetings at the request of performance of pending actions were and Warwick Paul Cyril as the deputy meetings held on 26 July and 12 August 2016, by the Cabinet of Ministers of Ukraine Compensation for performance of board the executive board. rescheduled due to delays in performance chair; agenda items on the approval of interested on 14 December 2016. In particular, duties under these service agreements of Phase II of the CGAP on the side of the The supervisory board met in August 2016 transactions – agreements for natural gas this charter was amended with new are established by the orders of MERTU • Richards Marcus Trevor as the chair of government. for a working session taking into account supply for July and August 2016 between provisions on the delegation of powers to (in their capacity as the shareholder of the ethics committee; that the approved board’s calendar did the company and Odesa Port Plant were All of the required decisions regarding the board resolving staffing and financial the company during 2016) at the level • Proctor Charles Richard Faraday as not include a regular board meeting notified of a conflict by the chair of the the operations of the board, committees matters pertaining to the key subsidiaries of gross EUR 215 thousand annually for the chair of the audit committee; and in August, and during the reporting supervisory board as during that time, the and corporate secretariat were of the group, approval of their financial independent directors and 75% of that year visited production facilities of chair has been a member of the working adopted during the reporting year. and investment plans, and establishment amount for Mr. Demchyshyn Volodymyr • Warwick Paul Cyril as the chair of Ukrgazvydobuvannya in Poltava region and of new financial limitations for approval Vasyliovych2. The supervisory board the nomination and remuneration the control room of Ukrtransgaz in Kyiv. of the company’s transactions on gas members are also entitled to expenses committee. The majority of board members have twice trading, supplies and other transactions. incurred during their performance All of the board members were as much time dedicated to the work of the The board focused on: of board functions as established appointed to the composition of each board comparing to the time commitment • development, jointly with the executive board, of robust strategy for Naftogaz and by the provisions of their individual Shareholder and external committee. required by the rules of procedure the group in the light of emerging opportunities and the assets of the current busi‑ agreements. communication ness based on sound commercial principles and recognition of the company’s public In 2016, the supervisory board established In total, during 2016 the company service obligations underpinned by forward projections on health, safety and the en‑ Remuneration of the individual members of the TOTAL, UAH the practice of regular communication incurred approx. UAH 20 070 thousand vironment, financial and operating performance, and risk management requirements supervisory board for the year 2016 with the government by holding joint in expenses for the operations of 1 Warwick Paul Cyril 5 218 222.28 • implementation of the spirit and intent of the CGAP to align corporate governance meetings with the Vice Prime Minister and the supervisory board. This amount and the relationship with the shareholder in line with accepted OECD principles for other representatives of the sole company includes UAH 15 302 in service fees and 2 Richards Marcus Trevor 5 579 700.40 state owned enterprises, to allow the company to operate as an ethical and com‑ shareholder. compensation of expenses incurred by 3 Proctor Charles Richard Faraday 5 229 498.52 mercial concern, meeting its public service obligations and foreign direct financial board members during performance of The board regularly met with 4 Demshyshyn Volodymyr Vasyliovych 2 935 826.25 support; and their duties, as well as D&O insurance representatives of international financial procured by the company to insure 5 Kovaliv Yulia Ihorivna 106 470.58 • initiating design and execution of a consistent enterprise management framework organizations as the company’s lenders, TOTAL 19 069 718.03 (system of internal financial control) across Naftogaz group to ensure that effective and took an active part in cooperation with 2 Order of MERTU dated 12 April 2016 No. 675 as controls are in place to drive health, safety and the environment, operational and professional external advisors engaged by amended by the Order of MERTU dated 29 April In December 2016, UAH 999 543.51 was paid for the directors’ liability insurance, which covers liability of persons financial performance of the company and Naftogaz group consistent with interna‑ the company to develop Naftogaz group 2016 No. 773 for independent directors; and Order appointed to the positions of chairperson of the supervisory board, deputy chairperson of the supervisory tional best practice. strategy and implement a system of of MERTU dated 6 September 2016 No. 1476 for Mr. board or member of the supervisory board during the period of the insurance agreement. internal controls. 14Demchyshyn 15 14 15 ANNUAL HOW WE WORK REPORT 2016

Competence and proceedings of supervisory board committees and encourage their implementation as well as to deter preparing conclusions, recommendations, and proposals for unacceptable practices. the supervisory board in this area; Audit committee During 2016, the committee reviewed Naftogaz’s standalone and Naftogaz group’s consolidated financial statements as Key results in 2016 5) preparation and submission for review by the general Purpose of the committee approved by independent auditors. It met with the company’s shareholders meeting or the supervisory board (as In 2016, the committee focused on significant The audit committee was formed via a external auditors, independent of the executive board. It established by the charter) of proposals regarding the revision and update of the existing code of resolution of the supervisory board meeting reviewed the overall treasury management activities of the election or termination of the authorities of the chief corporate ethics of Naftogaz, on structuring the help line dated 11-13 May 2016 as a permanent company and approved a number of recommendations on executive officer and members of the executive board, other and whistleblowing functions with the aim of implementing consultative body accountable to the these matters. It considered proposals on restructuring the officers of the company nominated and dismissed by the principles of ethical behavior and creating a modern corporate supervisory board. internal audit function and development of internal audit supervisory board; culture within Naftogaz to operate as other leading national oil plan for 2017 to enable proper internal audit of Naftogaz and The purpose of the committee is to assist the supervisory & gas companies around the world. 6) forming proposals regarding criteria and systems of its group companies. As part of the overall Audit Program of board in overseeing the completeness and accuracy of assessment for the chief executive officer and members of Naftogaz, in December 2016 the committee initiated special financial statements, the effectiveness and reliability of the executive board, corporate secretary, risk management investigations of certain audit findings after being alerted Nomination and remuneration committee internal controls, the independence of both external and officer, chief audit executive, chief compliance officer, and by the company’s external auditors regarding suspicious Purpose of the committee internal audits, and adherence to the law and the Naftogaz anticorruption officer; operations within Ukrtransgaz. code of ethics. The nomination and remuneration 7) preliminary analysis of performance results of the chief committee was formed via a resolution of Key functions of the committee executive officer and members of the executive board, Ethics committee the supervisory board meeting dated 11-13 including in view of possible remuneration increases and the The regulations on audit committee of the Purpose of the committee May 2016 as a permanent consultative body application of other incentives. supervisory board define the following key tasks accountable to the supervisory board. Its main purpose The ethics committee was formed via a and functions of the committee: is to ensure preliminary review and detailed elaboration Key results in 2016 resolution of the supervisory board meeting of matters within the supervisory board authority in the 1) to organize and perform preliminary review dated 11-13 May 2016 as a permanent In 2016, the committee focused its work on sphere of nominations and remunerations. It aims to provide of matters included into the agendas of the consultative body accountable to the supervisory board with developing the nomination and succession recommendations to the supervisory board in the sphere committee and the supervisory board and related to the main purpose of assisting the board in the protection policies for both the company’s staff and the executive board, of human relations, including engaging qualified specialists finance, audit and risk management; of the company’s interests by evaluating and providing as well as on assisting the executive board to develop an in the sphere of management, and creating necessary recommendations and proposals. organizational structure for Naftogaz and its group following the 2) to organize and elaborate the drafting of conclusions, incentives for efficient activity. best international practices of leading oil & gas companies. proposals, recommendations, draft policies, strategies, Key functions of the committee Key functions of the committee rules of procedure, procedures, decisions related to Following commencement of its operations in 2016, the The regulations on ethics committee of the finance, audit and risk management, and their submission The regulations of the nomination and committee concluded that the Naftogaz HR processes and supervisory board define the following key tasks for supervisory board review; remuneration committee of the supervisory board procedures underpinning the work of the nomination and and functions of the committee: define the following key tasks and functions of this remuneration committee required a thorough transformation. 3) to organize and perform functions related to financial 1) implementation of the code of corporate ethics committee: This included implementation of an effective performance statements as detailed in regulations; for the company, including monitoring and resolving conflicts management system, fully developed succession plan and 1) assistance to the supervisory board in the drafting and 4) to organize and perform functions related to internal of interest, establishing specific rules and procedures for the remuneration schemes, including executive and staff bonuses. implementation of the succession strategy of the company’s controls and risk management as detailed in regulations; handling of third-party complaints related to ethics breaches This will be a multi-year project requiring external expert help management in order to ensure continuous work of the committed by the company’s officers and employees; and several continuous improvement, as has been the case in 5) to organize and perform functions related to the external executive board; most companies who excel in these areas. It is the intention of audit of the company as detailed in regulations; 2) application of the code of corporate ethics to ensure 2) establishment and implementation of nomination policies the committee to work with the management of the company ethical decision-making, compliance with the laws in 6) to organize and perform functions related to the internal and standards of the company on the selection of nominees to pursue this agenda throughout the group, including all the jurisdictions in which the company operates, as audit of the company as detailed in regulations; for positions in the executive board; subsidiaries. well as conformance with internal company standards; 7) to organize and perform functions related to the treasury establishment of reporting, investigation, and treatment of 3) defining principles of remuneration and the terms of Adoption and review of the regulations on arrangements of the company as detailed in regulations; violations; employment agreements of members of the executive board committees in order to create the necessary incentives for efficient work 8) to organize and perform other company responsibilities 3) setting a framework for the company’s risk policies, analysis The regulations on audit, ethics, and the implementing the company’s development strategy; including special investigations and the consideration of and review of the company’s rules, procedures and practice nomination and remuneration committees were adopted on fraud allegations. on ethics-related issues with a view to identifying possible 4) organization of drafting and processing policies, strategies, the basis of the requirement to revisit them after six months to breaches and assessing their effectiveness in meeting the rules of procedure, resolutions and other documents assess possible improvements. The board plans to address this Key results in 2016 company’s interests and needs; that regulate activity in the sphere of nominations and in 2017 within the framework of implementation of the system of In 2016, much of the work of this committee remunerations of the members of the executive board, internal controls within the company. 4) monitoring of the operating environment and best focused on establishing ongoing processes international practices (general and sector-specific) in terms and its capability to fulfil its duties. This has included the of corporate ethics, engagement with various stakeholders appointment of individuals to develop the internal audit and to assess the adequacy of current company policies; risk management functions of the company. The system of internal control project was launched in 2016 and is being 5) ensuring the appropriate level of accountability and undertaken with EY to provide a comprehensive review of transparency of the company; a number of elements of the audit committee’s functional 6) promotion of effective communication between the responsibilities including internal audit, enterprise company’s management and its staff with a view to risk management, financial control and investment reinforcing understanding of the company’s ethical values 16management. 17 16 17 ANNUAL REPORT 2016 TARGET CORPORATE GOVERNANCE STRUCTURE PEOPLE OF UKRAINE

ROLE OF THE STATE GOALS OF CORPORATE AS THE SHAREHOLDER GOVERNANCE REFORM

The State as the shareholder, represented by the To implement corporate governance structure Cabinet of Ministers of Ukraine, sets directions to compliant with the best world practices for state- the company owned companies INDEPENDENT NOMINATION CABINET OF MINISTERS COMMITTEE INDEPENDENT Set directions should be consistent with the REGULATORS state’s ownership policy where the government To elect supervisory board members with a INDEPENDENT explains to the people of Ukraine why it needs majority of independent directors Naftogaz in state ownership AUDITOR

The supervisory board is assigned with a broad Strategy of the company is based on the direc- mandate including approval of strategy, financial tions set up by the government and investment plans, election and termination of authorities of executive board members

To establish functional internal control systems SUPERVISORY The State guarantees prevention of political to include internal audit, compliance, financial meddling into activities of the company BOARD control, risk management, etc.

The State is an active and informed owner. Corporate governance is performed with due ac- To confirm the company’s status as a legal entity count for the specifics and needs of the company of private law in order to ensure that the company follows the directions set by the government ETHICS HSE NOMINATION AND AUDIT COMMITTEE COMMITTEE REMUNERATION COMMITTEE COMMITTEE The State establishes efficient corporate bodies, appoints highly qualified reputable professionals, To confirm the company’s title to the shares/ and delegates governance of the company to corporate rights of the legal entities whose them. In addition, an appropriate internal control shareholder is the company system is duly functioning in the company and an independent auditor is elected

The company, as well as other state-owned enterprises, will observe high standards of trans- Regulatory and ownership (shareholding) func- parency. In addition to obligatory disclosures, the tions should be separated company will be subject to the same high quality accounting, disclosure, compliance and auditing EXECUTIVE BODY standards as listed companies

18 19 18 19 ANNUAL REPORT 2016 CREATING VALUE: SIX CAPITALS 2016 data

Natural gas Crude oil and Natural gas Natural gas Crude oil Natural gas Crude oil re- MANUFACTURING production gas conden- storage transmission transportation sales and fining and gas HUMAN DEVELOPMENT SAFE WORKING QUALIFIED COMPETITIVE sate produc- and distribu- supply condensate AND SOCIAL CONDITIONS SPECIALISTS SALARY Naftogaz is a leading enter- tion tion processing Naftogaz is one of the biggest SECURITY FOR (HEALTH, SAFETY (IMPROVED THEIR prise in the oil and gas sector 64.5 employers in Ukraine. Naftogaz UAH billion 185.5 15.6 EMPLOYEES AND FIRE QUALIFICATION) and one of Ukraine’s biggest UAH billion UAH billion 0.2 group companies employ 74 765 71% higher companies. 9.4 265.4 UAH billion persons PREVENTION) compared with the industrial UAH billion 8.2 UAH billion sector of Ukraine See p. 104 for more details UAH billion UAH billion See p. 26 for more details 1.8 19 643 391.9 persons UAH million VALUE OF FIXED ASSETS BY SEGMENT

NATURAL Reserves Resources FINANCIAL NET ASSETS NET PROFIT NET OPERATIONAL CASH gas: gas: Naftogaz continuously works FLOW Naftogaz tries to minimize its to secure competitively priced funding and honors all 460 UAH billion 22.5 UAH billion environmental impact. 304.8 bcm 211.7 bcm obligations to its lenders 47.3 UAH billion oil: See p. 157 for more details See p. 108, 157 for more details oil and gas condensate:

47.2 million t 98.8 million t

Naftogaz estimates based on reserves appraised by Ryder Scott Company

INTELLECTUAL INTERNAL INTELLECTUAL CORPORATE RISK SOCIAL SOCIAL RESPONSIBLE RELATIONS WITH PRINCIPLES AND MANAGEMENT PROPERTY GOVERNANCE MANAGEMENT DEVELOPMENT CORPORATE STAKEHOLDERS PROCEDURES Intellectual capital is one of AND CONTROL SYSTEM IN LINE SYSTEM We realize social importance OF LOCAL CULTURE strategic assets of Naftogaz of our activity for the country’s group and our competitive SYSTEMS WITH THE OECD economy and Ukrainian public COMMUNITIES advantage. CORPORATE and believe that our activity in See p. 12 for more details GOVERNANCE the area of corporate social responsibility is our contribu- 55.8 PRINCIPLES tion to sustainable develop- UAH million ment of Ukraine.

20 See p. 42 for more details 21 20 21 ANNUAL HOW WE WORK REPORT 2016

EXECUTIVE BOARD Remuneration of the management During 2016, the management consisted on average of 4 executive board members and 6 directors (4 executive board members and 4 directors in 2015). Compensation to the management, which is part of other operating expense, included STRUCTURE salary and additional current bonuses and made up UAH 88 million in 2016 (UAH 7 million in 2015). Please find the Income declaration of chairman of the executive board Andriy Kobolyev for 2016 on the company’s website www.naftogaz.com in Corporate governance section. Remuneration paid to Naftogaz board members in 2016 AND REMUNERATION Members 01.01.2016-31.12.2016 Gross remuneration in 2016 as board member, UAH million Andriy Kobolyev 19.0 Yuriy Kolbushkin 10.2 Sergiy Konovets 11.1 Sergiy Pereloma 10.5 Total 50.8

Andriy Kobolyev Sergiy Konovets Chief executive officer (chairman of the executive board) since 25 March 2014 Chief financial officer (deputy chairman) since April 2014 Andriy began his career at the international audit and consulting group Sergiy is responsible for financial and economic management in Naftogaz. Sergiy PriceWaterhouseCoopers (PwC), where he specialized in issues of strategic has more than 20 years of professional experience in strategy development, management and corporate transformation. From 2002 to 2010 he worked business development, finance and audit with international companies. He at Naftogaz, rising from a chief specialist to adviser to the chairman. Some worked as audit partner for leading audit companies Deloitte and EY. Before time later, Andriy co-founded AYA Capital investment banking group where he his appointment to Naftogaz, Sergiy worked at international consultancy focused on debt and equity capital raising, debt restructuring and corporate Boston Consulting Group. He also worked in a business development and reorganizations of large enterprises and holdings. Andriy holds a master’s degree strategic planning function at international agriculture holding Bunge located in international economic relations with honors from the Institute of International in Switzerland. Sergiy holds an MBA degree from the International Institute for Relations at Kyiv Shevchenko National University. Management Development (IMD) in Lausanne, Switzerland.

Sergiy Pereloma Yuriy Kolbushkin First deputy chairman since August 2014 Member of the executive board since February 1999 Sergiy has more than 15 years experience in the oil and gas industry and Yuriy has worked at Naftogaz since the company was founded. He is responsible manages divisions responsible for transit and supply of natural gas, customs for taxation, pricing policy, budgeting and economic relations. Before moving to clearance, gas sales and gas balancing. He has extensive experience in oil and gas industry, he worked for 15 years in the Finance Ministry of Ukraine. finance, banking and insurance sectors. Sergiy graduated from the Institute of Yuriy graduated from the Kyiv Institute of National Economy, holds a doctoral International Relations at Kyiv Shevchenko National University. degree in economics and is a member (academic) of the Ukrainian Academy for Oil and Gas.

22 23 22 23 ANNUAL HOW WE WORK REPORT 2016

OTHER TOP EXECUTIVES

YURIY VITRENKO Сhief commercial officer of Naftogaz Group Yuriy is responsible for strategic development and reform of Naftogaz and for the diversification of gas supplies to Ukraine. He also supervises international business activity of the company as well as development of international cooperation and manages gas purchases in European gas markets. Yuriy worked for Naftogaz in 2002-2003 and 2005-2010 being responsible for

international bank loans and debt restructuring. He was an adviser to the VITALIY SHCHERBENKO Director for administrative activity and energy efficiency chairman of the board on permanent and freelance basis. Vitaliy is responsible for organizing and planning capital investment and non-core His career began in 1998 with the international audit and consulting group asset programs at Naftogaz group. He manages investment raising for projects PriceWaterhouseCoopers (PwC), where he advised major Ukrainian companies on on energy saving technologies, minimizing natural gas losses and consumption financial management. He has 9 years of experience in investment banking and and increasing the share of renewable energy sources. He is also responsible for finance in Ukraine and abroad. Yuriy worked for Merrill Lynch investment bank in procurement, coordinates personnel policy, social issues and logistic support. He London and was the senior vice-president and chief operational officer at Amstar has more than 20 years of experience in senior management positions. Vitaliy Europe international investment fund. He is a co-founder and partner AYA Capital studied Economics at Kyiv National Economic University. investment banking group and headed the company between 2010 and 2016. From April 2014 till June 2016 held the position of director of energy efficiency and In 2004 Yuriy graduated from the MBA program at the INSEAD Business School procurement (France, Singapore). He holds a master’s degree in International Business Management from Kyiv National Economic University, and is an Associate of the London Securities and Investment Institute (ASI). From April 2014 till June 2016 held the position of director for business development

ROMAN BILIAHA YAROSLAV TEKLYUK Procurement director of Naftogaz Group Director for legal affairs Roman is responsible for successful implementation of a single procurement Yaroslav is responsible for legal matters and government relations. He has policy and innovative procurement methods for Naftogaz and its group more than 15 years of professional experience in legal practice. Yaroslav has companies. In this role, he is focusing on the development and adoption of provided legal advice and represented corporate clients in banking, financial, common standards and regulations, specifically related to procurement in and telecommunications sectors. Prior to joining Naftogaz he spent eight years infrastructure projects. Roman has a total of more than 10 year’s procurement at Vasil Kisil and Partners, a leading Ukrainian law firm, including four years experience in senior positions within the oil and gas industry (mainly with TNK-BP, as a partner. Yaroslav has graduated in International Law from the Institute of one of the largest oil companies). He holds an engineering degree from Vinnitsa International Relations at Kyiv National Shevchenko University. National Technical University. From April 2014 till June 2016 held the position of director for legal affairs and From November 2015 till June 2016 held the position of director, procurement government relations centre of excellence

24 25 24 25 ANNUAL HOW WE WORK REPORT 2016

Naftogaz group personnel structure, 2016 Personnel Gender categories1 structure 493

8 466 22%

12 537

53 269 78%

Qualified and other workers men Professionals and specialists women Managers Technical staff 1 personnel categories according to the Ukrainian Occupational Classification

Age Number of staff structure by core operations PERSONNEL 2 055 18 893 A PROFESSIONAL AND EXPERIENCED TEAM IS THE MAIN ASSET OF NAFTOGAZ 32.6% GROUP, THE MAJOR FACTOR ALLOWING US TO ACHIEVE THE EXPECTED BUSINESS 43.3% RESULTS AND CREATE VALUE FOR SOCIETY. IN THE PAST TWO YEARS, WE HAVE 43 663 IMPLEMENTED THE BEST HR PRACTICES AND MADE ALL PROCESSES WITHIN THE 10 154 24.1% COMPANY AS TRANSPARENT AS POSSIBLE. AS A RESULT, WE MANAGED TO AT- TRACT THE BEST PROFESSIONALS WHO CONTRIBUTED TO THE TRANSFORMATION 35 to 50 years old gaz/oil extraction employees entitled to old-age gaz transportation benefits in 5 years of sooner other types of activities OF THE COMPANY INTO A MODERN, PROFITABLE AND TRANSPARENT BUSINESS under 35 years old pentioners

policy meets the provisions of the above staff (0.7%), and 53 269 skilled and other are those who will be entitled to retire Naftogaz group personnel acts. profile workers (71.3%). in 5 years or earlier, 3% (2 055) are old “We have a fair, balanced, transparent and performance- age pensioners, and the vast majority of Workflow in the companies is organized and oriented remuneration system. That is the main tool Today, the enterprises of the group 78% of group personnel are men employees are 35 to 50 years old (58%). labor relations are regulated based on the for attracting and retaining the best professionals with employ professionals who have (58 190 persons) and 22% are women following principles: the required skills, knowledge, competencies, and experiance with large international (16 575 persons). companies such as ArcelorMittal, Human rights policy • freedom of association and collective relevant values who will work efficiently to achieve results The total number of managers, pro‑ BCG, Chevron, ConocoPhillips, Deloitte, As an international company, we respect bargaining; in accordance with the company business strategy and Dragon Capital, ExxonMobil, EY, KPMG, fessionals, specialists of the group is and protect human rights in our coun‑ • adequate working conditions and terms of get fair compensation for that. Employee involvement McKinsey&Company, PwC, Shell and 21 003 persons, of which 20 680 persons, tries of operation. The company operates remuneration; and motivation for change within the company really others. or 98%, have university degrees (higher in accordance with the principles of the matters.” education, incomplete higher or basic • prohibition of discrimination based on Naftogaz is one of the largest employers Universal Declaration of Human Rights, higher education). 217 persons have sex, political affiliation, religion, ethnicity or Head of human resources in Ukraine. The enterprises of Naftogaz Conventions of the International Labor PhDs and 22 persons – academic titles. age, forced, sexual identity and of forced and social policy group employ 74 765 persons, including Organization (Convention No 29, 87, 98, and child labor. During 2016, the company Ivan Synyakov 8 466 managers (11%), 12 537 professio­ The personnel breakdown by age: 25% 100, 105, 111, 138, 182), the UN Global Com‑ 26 recorded no cases of discrimination. 27 26 nals and specialists (17%), 493 technical (18 893) are persons under 35, 14% (10 154) pact 1999. The company’s human rights 27 ANNUAL HOW WE WORK REPORT 2016

sustainable and efficient operations These include housing facilities, cul‑ The average monthly salary at the enterprises of Naftogaz group of the company and the oil and gas tural institutions, health care facilities Number of Naftogaz employees who improved their skills in 2016, industry depend on the climate in the compared to that i Ukraine’s industrial sector, 2014-2016, UAH and canteens, sports and recreation workplace, timely payment of wages, persons facilities etc. For the reporting period, creation of safe working conditions, their maintenance costs amounted to ensuring a decent standard of living, by the group enterprises 5 902 UAH 355.0 million, which is 28% more and secure social protection. 304 2016 than in 2015. 10 091 Therefore, despite the tough economic Under the collective agreement, the 865 and political conditions in the country, additional benefits and guarantees over the past year the enterprises of include expenditures on: 4 789 the company, within the available funds, 4 Ukrgazbudobuvannya Ukrtransgaz 2015 have performed the requirements of the • rehabilitation and recreation of 5 953 7 388 sectoral agreement and collective agree‑ employees and their families Ukrnafta Ukrtransnafta ments. They have taken measures to 9 092 • health insurance and/or compensa‑ Other enterprises of the group maintain guarantees, benefits, and com‑ Ukraine’s industrial sector (according tion for the treatment 3 988 to the State Statistics Service of Ukraine) pensation to the workers in the industry, 2014 enterprises of Naftogaz group and to protect the rights of personnel. • bonuses 6 597 Under the terms of the sector agree‑ • other financial assistance and 3 429 ment and the collective agreements, benefits (financial assistance at 0 2000 4000 6000 8000 10000 12000 the enterprises and trade unions of the birth, and to low‑income and large company arranged rehabilitation and families, benefits to pensioners and recreation activities for the employees veterans, etc.) and their families and pensioners. The company guarantees that the As of 1 January 2017, the enterprises of Non‑financial incentives include corpo‑ legitimate rights of employees are in no the company had no wage arrears. The During the reporting period, health rate awards (honors and certificates). by staff categories way violated. The company continuously management of Naftogaz is monitoring resort vouchers were provided to more The company also encourages its analyzes risks that could potentially lead the timely payment of wages to the than 8 000 employees, which is two employees by providing opportunities to violations of the rights of employees employees of the company. thousand more than in 2015 and in‑ to study and improve their skills. and makes every effort to prevent them. cludes more than 8 000 children, which 3 320 The remuneration system of the com‑ is the same as last year. The total Social partnership in labor managers4 pany is updated in accordance with the cost of their recreation amounted to Remuneration for staff management professionals best international practices based on a UAH 95.6 million. That is 11% more than The enterprises of the group base their qualified and other workers Naftogaz has a fair and transparent grading approach. The system is in line in the same period of 2015. remuneration system in place in compli‑ with the company business strategy, social partnership on the following 3 117 ance with the standards and safeguards and provides for external and internal The company also provides funds and principles: maintains social infrastructure facilities required by law of Ukraine, together with equity. • equality; 13 206 general and sector agreements. owned by company enterprises and Social security of employees which are used not only by the compa‑ • respect and consideration for the During 2016, the average salary of regular ny employees, but also by the residents interests of the parties; employees in Naftogaz group increased The management of the company of the towns where enterprises and • compliance by the parties and by 37% compared to 2015. and its enterprises realizes that the affiliates are located.

Number of young professionals that graduated in the past three years working by assignment Expenditures of Naftogaz group enterprises on social security of workers in 2016, UAH million of universities and colleges in enterprises of the group (as of 31 December 2016), persons by accreditation level by the group enterprises by positions of educational institution by expense categories by group enterprises 4 2 16 8.5 73 130.9 2 355.4 maintenance4 of social facilities 155.2 Ukrgazbudobuvannya 71 522.0 118 17.6 healthcare Ukrtransgaz 551.9 financial assistance Ukrnafta 129 rehabilitation of employees and their families Ukrtransnafta 180 194 284.5 bonuses Other enterprises of the group other benefits and types of social privileges 606.7 14 and guarantees 92.6 372.6 Ukrtransgaz managers 1st and 2nd accreditation levels 476.9 provision of housing Ukrtransnafta professionals, specialists 3rd and 4th accreditation levels Ukrgazbudobuvannya workers Ukrnafta Other enterprises of the group 28 29 28 29 ANNUAL HOW WE WORK REPORT 2016

ments of ISO 9001, ISO 14001, ISO 50001, OHSAS 18001 (ISO 45001) and SA 8000. In 2016, 19 643 employees were trained compared to 17 428 employees in 2015. They are mostly technical staff and 2016 skilled workers (13 206). 2 235 employees gained new qualifications (trained, re‑ results trained, trained in related occupations). In 2016, 219 employees attended English courses.

Working with students and recent graduates • Implementation of the first phase of the grade-based wage sys‑ Working with talented young people is tem project. It is correlation of wages with job levels, which aims one of the top priorities of Naftogaz, to optimize the payroll management and increase the investment which makes consistent steps to ensure attractiveness and competitiveness of the company on the labor stable annual recruitment and to attract market. the best generation Y professionals. In • Optimization of the company organizational structure as a part this regard, Naftogaz closely cooper‑ the new management pattern and business efficiency improve‑ ates with top universities. The students ment project. of Ivano‑Frankivsk National Technical • Introduction of health insurance for company employees. University of Oil and Gas, Poltava National Technical University, Drohobych Oil and Gas College, and other universities and educational centers have the opportunity to study under a dual system where students receive theoretical knowledge will be arranged to train specialists for pany objectives, strategy, results of at their universities or colleges and at Ukrgazvydobuvannya, state‑owned enter‑ the company, enterprises and individ‑ the same time gain practical skills at the prises and public service. ual employees. A feedback mechanism enterprises of the group. The students is to be introduced through dedicated are fully immersed in the production en‑ Major tasks for 2017 channels and surveys, which would enable us to engage employees in the vironment with the specifications, plans, The company has established its major planning of the company operations weekly reports, quality control. They learn tasks in personnel management for 2017: how to work as a team. and their involvement in adjusting the 1. Completion of the implementation company processes. During these apprenticeships, each stu‑ of a grade‑based wage system (at 3. Establishment of Naftogaz unified dent gets his/her coach – an employee all levels) for all categories of staff system of knowledge management, their representatives of laws and ments apply to all employees of the sibilities of its business units and their of the business unit, who helps them to and target‑oriented assessment, leadership and talent development at regulations; group enterprises, including temporary proposals. It focuses on the develop‑ learn a profession, to adapt to the new management systems. This would link the Corporate University. The objective or part‑time employees. ment and improvement of professional environment, and to get the idea of the the remuneration pattern to business • contractual regulation of social and is business development through a skills and knowledge. workflow. objectives (performances, achieve‑ labor relations; single set of measures to develop key Professional development of ment of objectives), create conditions In addition, the company has cor‑ With a successful apprenticeship, skills, competencies and managerial • need to achieve mutually acceptable employees for building a consistent remuneration porate training programs on quality, students of blue‑collar occupations tend capacity of Naftogaz group staff. compromises when negotiating the Naftogaz is implementing policies and benefit policy in line with interna‑ environment, energy saving and social to get a job offer at the enterprises of terms of the collective agreement; aimed at improving professional tional standards and best practices, 4. Establishment of the Ukrainian em‑ responsibility as part of the imple‑ the group after they graduate. skills and the development of human and create a common understanding ployer association as the authorized • freedom of choice when discussing mentation of integrated management resources. The company staff training The enterprises of the group willingly of the meaning and contribution of body to represent and protect the matters related to labor; system in accordance with the require‑ plan is designed based on the respon‑ employ graduates and are committed to each employee in achieving the stra‑ rights and interests of employers of • adoption of voluntary commitments invest in their development and training tegic objectives of the company. the industry in economic, social, labor, by the parties. and to facilitate their successful career. employment and other areas, includ‑ 2. Construction of an efficient inter‑ Learning at work is the main but not the ing their relations with other parties to 99% of the employees of Naftogaz nal communications system within optional part of the learning process. the social dialogue and the conclusion group are trade union members. Joint “Recently we’ve welcomed a lot of young people to the company. Naftogaz group. The communications of the sectoral agreement. meetings of the employer’s bodies and The wage is very decent. We still have vacancies, but my advice On 16 June 2016, Ukrgazvydobuvannya system will include a set of channels trade unions are held twice a year to is – do not ignore any opportunities. Because in addition to the and Professional Government Initiative and tools to communicate with differ‑ 5. Adoption of Naftogaz group’s unified discuss the implementation of sectoral knowledge and desire to work in a prestigious company, one signed a memorandum of cooperation ent target groups. An integrated sys‑ personnel policy which will specify agreements. must gain the necessary experience.” in order to attract qualified candidates. tem will operate on a permanent basis single standards, principles and rules With organizational support provided by under unified standards that will allow for HR management and relationships The provisions of collective Chief geologist of Ukrgazvydobuvannya Mykhailo Machuzhak the Professional Government Initiative, every employee to receive prompt and between employees and the company 30agreements and sectoral agree‑ 31 30 short‑term internships in the company accurate information about the com‑ at all levels and enterprises. 31 ANNUAL HOW WE WORK REPORT 2016

Naftogaz group health and safety policy “Occupational safety, including adherence to traffic regulations The employees of Naftogaz group operate sophisticated equipment and by the employees of our en- perform a large number of hazardous terprises, depends on safety works. The company is committed to awareness of managers at all preventing employee exposure to acci‑ levels. The situation in this area dents and occupational health risks. will improve. Our priority is to The occupational health and safety maintain an active dialogue strategy of Naftogaz group determines with each other.” its policy, objectives, goals, key princi‑ Director for safety, ples and areas for creation of proper environmental and industrial and safe working conditions, prevention of accidents, occupational health risks, security of Naftogaz traffic accidents and accidents at work. Vitaliy Zayets The safety and health of workers is an integral part of the social responsi‑ bilities of the company. The desire to maintain a safe working environment not only requires the implementation of The company, realizing its full respon‑ the relevant economic policies, but also sibility for the health and safety of protects fundamental human rights. workers employed at its oil and gas production facilities, is guided by the applicable principles of European law and the best international practices.

The objectives of the compa- Reducing workplace injuries. ny in the field of occupational Analysis of health and safety health and safety are to reduce indicators the number of: Naftogaz takes consistent actions to - industrial injuries and disabil- reduce occupational injuries within the group of companies. ity days due to accidents at work In 2016, 24 accidents occurred at the - workplace deaths as a result enterprises of the group (in 2015 – 22), including three accidents involving of sudden health deteriora- groups of employees (in 2015 – 2). tion due to existing diseases In total, 27 employees were injured - accidents involving company (in 2015 – 24). vehicles The last three years have seen a re‑ - occupational health risks and duction in the number of victims of fa‑ accidents at work tal work injuries: in 2014, eight workers

Loss of time due to workplace accidents, workdays

700 677 2015 600 2016 523 500 NAFTOGAZ GROUP, RECOGNIZING ITS RESPONSIBIL- 400 357 351 300 229 179 181 ITY FOR THE SAFETY OF LIFE AND HEALTH OF ITS 200 101 106 EMPLOYEES, CONSIDERS LABOR PROTECTION A MA- 100 65 JOR PART OF OVERALL CORPORATE GOVERNANCE 0 Ukrtransgaz Ukrgaz- Ukrnafta Ukrtransnafta Others vydobuvannya

32 AND SAFETY HEALTH 33 32 33 ANNUAL HOW WE WORK REPORT 2016

Number of workplace injuries at Naftogaz group enterprises were fatally injured. In 2015 the figure was five workers, and in 2016, two Analysis of accidents by types of causes, 2014-2016 in 2014–2016 workers. The deaths in 2016 occurred Number of accidents due to road accidents. 0 5 10 15 20 25 1 1 1 1 1 3 5 2 2014 3 5 6 3 1 18 To control working conditions at the 1 7 1 1 Accident frequency rates of Naftogaz with those workplace, annual hazard identification 2 1 2 2 1 10 of2015 other industries5 and5 Ukraine national8 average3 1 rate 22 and accident risk assessment mea‑ 2014 2 2015 2016 1.2 1.22 sures are in place at Naftogaz. Based 2 3 2016 5 5 11 3 22 4 1.1 on the findings of these assessments, 1.0 2 Number of injured workers, persons 2015 a general register of hazards and risk 4 5 3 2016 assessment is maintained and regular‑ 3 3 5 20140.8 3 5 11 3 1 23 ly reviewed. 0.6 Explosion involving tank truck (7/4 F) Fall of an injured person (5/1 F) Traffic accident (10/2 F) 5 2015 6 5 8 4 0.591 24 In 2016, loss of time due to workplace Fall of an injured person (5/1 F) Traffic accident (4/1 F) Fall of an injured person (5) 0.5 Intentional injury inflicted by other person (4/1 F) Injuries caused by moving objects (3/2 F) Injuries caused by moving objects (3) 0.4 accidents fell by 13% to 1 292 workdays, 2016 7 6 11 3 0.39 0.4227 Traffic accident (2/1 F) Intentional injury inflicted by another person (3) Intentional injury inflicted by another person (3) 0.35 compared to 1 477 workdays in 2015. 0 0.3 5 10 15 20 25 30 Injuries caused by moving objects (2) Fall of equipment (2) Contact with animals (dog bite) (1) 0.2 Number of victims of fatal work injuries, persons Traffic accident in ATO zone (1 F) Toxic substance (2) Poor health (1) Accident frequency rate at Naftogaz Transportation fire (1) Landslide (1 F) Gas dynamic phenomena (2) 0.0 Fall of equipment (1) Transfer of technology or vehicles (1) Injuries caused by objects reacting under pressure (1) 2014 group enterprises in 2016 is 0.350 (in 3 Naftogaz5 Metallurgical Chemical Ukraine 8 Other (3) Fall of equipment (1) group industry industry 2015 – 0.323), fatal accident frequency 1 2015Accident1 frequency2 1 1 rate (fatal accident) is calculated using the formula: 5 rate1 in 2018 is 51.68 (in 2015 – 77.74). 23 accidents including 8 fatalities 24 accidents including 5 fatalities 27 accidents including 2 fatalities Accident frequency rate = N * 1 000 / Av, *F – fatal accidents *F – fatal accidents *F – fatal accidents where N = the number of the reported workplace accidents with one or more days injury for the reporting 2016 1 1 2 period; Findings of labor protection Av = theUkrtransgaz0 average number5 of listed 10employeesUkrnafta for15 the reporting20 period. 25 Ukrnaftogazkomplekt30 inspections in 2016 The accidentUkrgazvydobuvannya frequency rate is calculated perUkrtransnafta 1 000 listed employees. Naftogaz 2 According to the State Labor Service of Ukraine The group enterprises prompt‑ Causes of injuries and accidents, 2014-2016 ly consider and analyze cases of 1 Fatal accident frequency rates of Naftogaz with occupational injuries and take 2 2 Втрати8 часу в зв’язку з нещасними випадками, those in other industries and Ukrainian national average rate necessary preventive measures. In 3 1 2 4 1 1 пов’язаними7 з виробництвом, людино-дні 2016, the occupational safety and 2 5 6.97 700 6.8 677 2015 health divisions and standing com‑ 6 6.4 7 2016 missions at the enterprises of the 6 600 5.74 5 5 523 2014 2015 2016 2015 рік group conducted 12 210 inspections 13 500 2016 рік 4 4.08 (in 2015 – 10 240). Based on indentified 18 3.82 violations 2 034 workers were deprived 4003 357 351 3.39 3 2.59 of a bonus, 177 were rebuked, and one 10 2 300 229 employee was dismissed. 1 179 181 200 The main types of violations in labor 0 101 106 organizational technical physiological other 100 Naftogaz Metallurgical Chemical65 Ukraine safety included incorrect workplace group industry industry layout, violations in recording oper‑ 0 1 Fatal accident frequency rate (fatal accident) is calculated using the formula: AccidentУкртрансгаз frequency ratesУкргаз-1 of NaftogazУкрнафта withУкрнранснафта those Інші* ational labor safety documentation, Fatal accident frequency rateвидобування = N * 10 000 / Av, performance of work without personal ofwhere other N = the industries number of reported2 and workplace Ukraine fatal accidentsnational for the average reporting period; rate 2 Av = the average number of listed employees for the reporting period. protective gear (when available), lack The 1.2fatal accident frequency rate is calculated1.22 per 10 000 listed employees. of instructions on safety in the work‑ company OPIC conducted a technical Investments into labor safety include and Ukrtransnafta UAH 8.24 million 2 According to the State Labor Service of Ukraine 1.1 place. A bulldozer driver was dismissed audit of selected underground gas not only the cost of compliance with for the purchase of modern certified 1.0 2015 for being drunk at work. storages of Lvivtransgaz, Prykarpat‑ mandatory legal requirements, but also personal protective gear. 2016 0.8 transgaz and Ukrtransgaz. targeted corporate programs focused In addition, during 2016 the authorities of on reducing injuries. Labor safety and industrial 0.6 the State Labor Service of Ukraine con‑ The enterprises of the group received 0.59 ducted 117 inspections of group enter‑ informative notes and instructions on All employees of the enterprises working security activities in 2016 0.5 0.4 0.42 prises (69 inspections in 2015) and fined labor safety organization, prevention under an employment agreement In 2016, the company continued sys‑ 0.35 0.39 0.3 68 employees (182 employees in 2015). of workplace accidents, and creating (contract) are insured against workplace temic activities to improve labor safety 0.2 proper and safe working conditions. accidents and occupational diseases. In at its enterprises. Operational and financial perfor‑ accordance with regulations, they receive 0.0 mance audits were performed at Terrorist threats and measures to Naftogaz Metallurgical Chemical Ukraine Investments in labor safety personal and collective protection gear group industry industry a number of the group enterprises reduce possible negative effects 1 (including that against radiation and Accident frequency rate (fatal accident) is calculated using the formula: and their affiliates, structural and In 2016, investments into the labor safety Accident frequency rate = N * 1 000 / Av, chemical impacts of potential accidents). In 2016, the enterprises of the group production units, including Ukrtrans‑ and health of the employees increased where N = the number of the reported workplace accidents with one or more days injury for the reporting implemented the following measures: period; gaz, Ukrgazvydobuvannya, Ukrtrans‑ by 12.5% and amounted to UAH 155.9 mil‑ In 2016, Ukrnafta spent UAH 25.89 mil‑ Av = the average number of listed employees for the reporting period. The accident frequency rate is calculated per 1 000 listed employees. nafta, Ukrspetstransgaz, Ukravtogaz. lion compared to UAH 136.4 million in the lion, Ukrtransgaz UAH 17.06 million, ‑ according to the requirements of 2 According to the State Labor Service of Ukraine A representative of the US insurance previous year. Ukrgazvydobuvannya UAH 13.33 million, antiterrorist centre of the Secu‑ 34 35 34 35 Fatal accident frequency rates1 of Naftogaz with 2 2 those8 in other industries and Ukrainian national average rate

7 6.8 6.97 6.4 2015 6 2016 5.74 5

4 4.08 3.82 3 3.39 2.59 2

1

0 Naftogaz Metallurgical Chemical Ukraine group industry industry 1 Fatal accident frequency rate (fatal accident) is calculated using the formula: Fatal accident frequency rate = N * 10 000 / Av, where N = the number of reported workplace fatal accidents for the reporting period; Av = the average number of listed employees for the reporting period. The fatal accident frequency rate is calculated per 10 000 listed employees. 2 According to the State Labor Service of Ukraine ANNUAL HOW WE WORK REPORT 2016

rity Service of Ukraine (SSU ATC) anti‑terrorism security passports Structure of investments Investments in labor safety, UAH million prepared for 102 facilities; in labor safety in 2016, 80

‑ the SSU ATC coordination UAH million Investments70 in labor safety, UAH million 61.3 61.6 groups carried out 18 special 1.1 80 2015 60 54.7 2016 tests to check the anti‑terrorist 70 5.7 50 61.3 46.8 61.6 protection of critical facilities of 2 6.9 2015 60 54.7 2016 the group. Following the find‑ 21 40 50 46.8 ings of the tests, the enterprises 30 26.4 64.8 21.0 of the group took measures to 9.5 40 strengthen the protection of the 20 30 26.4 10.8 10 5.3 facilities and eliminate the short‑ 22.9 21.0 2.1 2.3 20 comings; 0 18.3 10.8 10 Ukrtransgaz Ukrgazvydobuvannya Ukrnafta Ukrtransnafta5.3 Other ‑ Naftogaz security department 2.1 2.3 officers conducted 12 on‑site 2.8 0 0.7 Ukrtransgaz Ukrgazvydobuvannya Ukrnafta Ukrtransnafta Other inspections to check the security of 0.4 Investments in labor safety activities by the enterprises 90 critical facilities of group compa‑ of the group as a % of their payroll in 2016 Investments in labor safety activities by the enterprises nies; Providing personal protective gear to Naftogazobslugovuvannya 3.4 of the group as a % of their payroll in 2016 ‑ the emergency communication employees (64.8) Ukrnafta 3.1 charts and personnel evacuation Other measures (18.3) NaftogazobslugovuvannyaUkrtransgaz 2.7 3.4 plans in case of sudden crisis at‑ UkrtransnaftaUkrnafta 2.7 3.1 Providing labor safety regulation tacks caused by terrorist have been Ukrtransgaz 2.5 2.7 documents to employees (0.7) Ukrspetstransgaz improved; UkrgazvydobuvannyaUkrtransnafta 1.6 2.7 Operations of labor protection offices (0.4) ‑ in the reporting period special UkrspetstransgazUkravtogaz 0.8 2.5 meetings, trainings and practical Purchase of first aid kits (2.8) Ukrgazvydobuvannya 0.0 0.5 1.0 1.61.5 2.0 2.5 3.0 3.5 Ukravtogaz 0.8 exercises on anti‑terrorist mea‑ Modifications of fixed assets to bring sures were held at the facilities to the Fire Safety Rules in Ukraine 0.0 0.5 1.0 1.5 2.0 2.5 3.0 3.5 Fire safety measures in the them into line with labor protection of the group enterprises in Iva‑ and Naftogaz­ Fire Management Sys‑ requirements (22.9) no‑Frankivsk, Sumy, Odesa, Zakar‑ group enterprises tem. The total number of fire safety pattia, Lviv, Ternopil, Volyn, Poltava Fire prevention measures in the managers in 2016 was 225, including Providing special food to employees (9.5) regions. enterprises of the group are subject 101 full‑time professionals and 114 per‑ Elimination and minimization of dangerous Expenditures of Naftogaz group enterprises on working garments sons that also perform some addition‑ and harmful impacts on employees (21.0) and other personal protective gear in 2016, UAH million al functions. In 2016, in the enterprises Labor safety trainings (6.9) Prevention of workplace injuries of the group there were 212 fire Ukrnafta 25.9 technical committees and 397 fire Medical examinations of employees (5.7) brigades with 3 424 members. The Assessment of workplaces (1.1) Ukrtransgaz 17.1 persons responsible for fire prevention are designated, the relevant regula‑ Ukrgazvydobuvannya 13.3 tions and instruction are developed, Inspections Person regular training is held and fire safety The facilities of the group enterpris‑ Ukrtransnafta 8.2 conducted dismissed awareness is checked. es are protected by 26 fire‑rescue 0 5 10 15 20 25 30 units of the State Emergency Service 12 210 1 During 2016, fire safety managers of Ukraine on a contract basis. They carried out 5 819 inspections of fire are equipped with 89 fire engines. safety conditions of company facilities The manning strength of the units is 2 034 177 and found 25 134 violations, of which Persons 966 people. Persons 21 548 were remedied. 159 disciplinary by short circuit in vehicles. The tions related to the environmental and rebuked deprived of bonus punishments were imposed for viola‑ 2 782 facilities of the group enterprises direct material damage amounted to social liabilities of the company. 68 117 tions of fire safety rules. are equipped with an automatic fire UAH 182.5 thousand. As one of the steps to attract funding alarm, 805 are equipped with automatic The State Emergency Service of from the European Bank for Recon‑ extinguishing systems. In total, there are Ukraine conducted 706 inspections at Cooperation between Naftogaz struction and Development (EBRD), 234 designated departmental fire trucks company enterprises, which resulted and the EBRD in the field of Naftogaz board approved the Environ‑ (of which 121 are on twenty‑four‑hour in 5 528 proposed fire prevention mea‑ labor protection mental and Social Action Plan, which alert), one fire boat, 96 water motor sures, of which 3 200 were implement‑ At the end of 2015, Naftogaz began provides for the development, imple‑ Persons fined by the State Labor Work safety pumps, including 36 drawn motor ed. Administrative punishments were cooperation with the EBRD. Under the mentation and certification of labor Service for violation inspections conducted pumps, and 1 033 fire reservoirs. of work safety rules imposed on 192 persons for violations terms of the Loan Agreement, the Bank safety management system based on of fire safety rules. During 2016, at the enterprises of the allocated funds for the purchase of the requirements of the relevant inter‑ 36 group there were two fires caused gas and laid down a number of condi‑ national standard (OHSAS 18001). 37 36 37 ANNUAL HOW WE WORK REPORT 2016

Training on labor safety and requirements of ISO 9001, ISO 14001, together with the working group on prises of the group in 2016‑2018. ISO 50001, OHSAS 18001 (ISO 45001) labor protection. This includes rep‑ industrial security 4. Measures to implement the relevant and SA 8000 and received the relevant resentatives of Naftogaz group, the In 2016, Naftogaz group spent UAH 236 million оn fire To improve the competence of employ‑ best practices and international certificates. Trade Union of Oil and Gas Industry ees, we organize labor safety training standards ISO 39001:2012 Road prevention measures, of which: of Ukraine, the Federation of Mining and implement the methodology for In June 2016, the health and safety, traffic safety (RTS) management Employers of Ukraine, international assessing knowledge and skills of our environmental and industrial security systems ‑ Requirements with guid‑ experts, and auditors on labor protec‑ staff. department held a training workshop ance for use. tion. The company’s plans in the field on labor protection management for During 2016, the employees of the of health and safety in 2017 include: 5. Preparation of the companies of the managers and employees of the health and safety, environmental and the group for the autumn‑winter structural business units of the com‑ 1. Implementation and certification industrial security department were 2017/2018. pany who are responsible for identi‑ of a safety management system UAH million trained on the following topics: Risk fying hazards and assessing risks of in accordance with OHSAS 18001 6. Development of a corporate 128 management methods and tools modernization of fire safety equipment accidents. Eighty employees attended (ISO 45001) Occupational Health and program dubbed “Changing Minds” in labor safety, Development and the event. Safety Management Systems. designed to implement best implementation of risk management international practices to enhance systems, Audit and certification of The company has a corporate training 2. Development of new regulations on occupational safety. management systems, Risk man‑ program in labor safety and indus‑ health and safety management at agement tools and methods in labor trial security in place, which includes the enterprises of the group based safety management systems, and lectures. on the international standard OHSAS Current and expected risks at oil and gas facilities: Audit of the integrated labor protec‑ 18001: 2007 (ISO 45001) Occupational UAH thousand tion management system. In addition, Plans for 2017 Health and Safety Management ‑ deliberate damage to or destruction 32 research and development activities they were instructed in the integrated Systems. of the main and industrial oil, gas The strategy of the company in the management system development and condensate pipelines with a field of occupational health and safety 3. Implementation of an Action Plan to methodology and management system view to steal hydrocarbons, partic‑ is determined by company leadership improve road safety at the enter‑ implementation according to the ularly those transmitted through the territory of Ukraine to European consumers; ‑ inability to perform the necessary UAH million repair and maintenance work on oil 2.6 and gas facilities in the area of the implementation of resolutions of the State Emergency Service of anti‑terrorist operation (some areas Ukraine 2016: of Donetsk and Luhansk regions); ‑ oil spills at the sites of oil pro‑ results duction and transportation, in particular due to illegal taps in the pipelines; IN THE FIELD OF OCCUPATIONAL SAFETY ‑ risks associated with natural disas‑ • crisis response algorithm and the mechanism UAH million ters (floods, landslides, forest fires, 22.7 to inform the central Ukrainian authorities and IN THE FIELD OF LABOR PROTECTION earthquakes, etc.), war, terrorist maintenance of fire detection and extinguishing systems, purchase of the European Energy Community in case of • risk-oriented approach to labor safety man‑ acts, and proximity to potentially fire extinguishers emergency and crisis situations in the oil and agement introduced in order to decrease the dangerous objects; number of occupational injuries; gas sector of Ukraine developed; ‑ failure to perform timely repair of • Naftogaz Health and Safety Policy; • the enterprises of the group prepared for trouble-free and uninterrupted work in the compressor equipment, control • Hazard Identification and Accident Risk Assess‑ autumn and winter period of 2016-2017, selected systems, refueling, pollution control, ment Methodology approved, company hazards enterprises of the group inspected for their fire safety. identified and risks assessed, register of haz‑ readiness to operating in autumn and winter ards in the workplace prepared and approved; UAH million period and their capacity to perform diagnosis, protection of company 65 facilities by the fire units of the State • Naftogaz Health and Safety Policy Objectives, current and major repairs of main gas and oil In 2016, out of 474 recorded Emergency Service on a contract basis Program and Action Plan approved; pipelines; offences against the • the Action Plan to improve road safety in the • gas supply reliability issues for some Ukrainian property of the group: enterprises of the group for 2016-2018 ap‑ settlements resolved (Henichesk, Kherson • 226 illegal taps in the main proved; region; Vovchansk, Kharkiv region; Avdiivka, Do‑ and industrial oil, gas and • the basic requirements of the standard netsk region (ATO zone); Butkiv, Ivano-Frankivsk condensate pipelines; PAS 1010:2011 Guidelines for the Management of region; Hupalivka, Dmuhaylivka, Chernechchyna, Psychosocial Risks in the Workplace introduced. Musiienkove, Dnipropetrovsk region). • 115 cases of damage to processing equipment UAH 18 million other fire prevention measures 38 39 38 39 ANNUAL HOW WE WORK REPORT 2016

As part of a cooperation agreement in Lviv region, to create new jobs, and with the Kharkiv Regional State to attract investments and increase Administration, the company provid‑ tax payments is through the allocation ed aid to schools and hospitals. This and exploration of new fields in the included major repairs of the roof of region. the infectious disease department In 2016, as part of a cooperation of Blyzniuky Central District Hospital, agreement with the Lviv Regional reconstruction of a school canteen in State Administration, Ukrgazvydobu‑ Zolochiv village, and an overhaul of the vannya provided UAH 5 million for the infectious department of Krasnokutsk development of social infrastructure Central District Hospital. in residential areas of Lviv region. A pilot social facilities heating rehabil‑ Another subsidiary of the company – itation project has been completed in Ukrnafta – invested UAH 11.8 million Vovchansk district. This includes tech‑ in 2016 into the improvement of local nical upgrade of the heating system infrastructure. In particular, the com‑ in a geriatric accommodation facility pany provided UAH 1.6 million to fund (solid fuel boiler installed), technical road repairs in Boryslav. upgrade of a school heating system, overhaul of the heating system (inde‑ In addition, Ukrnafta is a sponsor of pendent boilers installed) and major Naftovyk football club, which plays in repair of the facades of buildings the Ukrainian second division. using energy efficient technologies in LOCAL COMMUNITY the village of Chervonyi Donets. Charity initiatives The company paid funded the com‑ Since the end of 2014, the employees pletion of the Hangar sports complex of Naftogaz have collected UAH 14.2 for the residents of Pervomaiskyi. The million to support Ukrainian military construction began in 2012. However, units in the combat zone and to pro‑ due to lack of funding, the work was vide health facilities with the equip‑ DEVELOPMENT suspended in 2014. The complex in‑ ment for the rehabilitation of people cludes volleyball, football and basket‑ affected by hostilities in the ATO zone. ball facilities, and several gyms. In 2016, aid provided to the Ukrainian In 2016, as a part of cooperation with military units engaged in hostilities IN OUR ACTIVITY, WE TRY TO TAKE INTO ACCOUNT THE INTERESTS OF the Poltava Regional State Adminis‑ in the ATO zone amounted to UAH 4.6 tration, Ukrgazvydobuvannya spent million, or 53% of the total amount of LOCAL COMMUNITIES, REALIZING THAT THIS FORM OF PARTNERSHIP IS UAH 9.5 million on socially significant aid received. projects aimed at developing environ‑ This aid is for frontline military units. MUTUALLY BENEFICIAL FOR BOTH PARTIES mental culture. For example, in 2016, They include Kyivska Rus unit, Donbas a new well was drilled and a water supply was built for the village of Sencha (Lokhvytsia district, Poltava re‑ The enterprises of Naftogaz group Ukraine related to transferring rent in order to create a favorable environ‑ in the areas of its activity in Kharkiv gion) which provided the residents of “We want local communities share the principles of the UN Global for use of subsoil for the purposes of ment for the development of both ter‑ region. the village with a stable water supply to feel that we help develop Compact and choose the path of oil, natural gas and gas condensate ritories and businesses. The company and quality drinking water. The funds allocated by Ukrgazvydobu‑ sustainable business, personnel and extraction”, which stipulates paying 5% helps local communities to solve the their infrastructure, and this vannya were spent on local infrastruc‑ Cooperation between gas producing society development. of the royalty to the budgets of local problems of obsolete infrastructure, practice will continue. We ture. This included the reconstruction companies and communities is crucial communities where mineral resources to provide gas supply, to overhaul also look forward to working The enterprises of the group carefully of the well No 5 at the central water for the development of the western are extracted. municipal facilities and roads, and to study the needs of local communities intake facility in Barvinkove town, oil and gas area, including Lviv region, closely with local authori- develop sports and culture. and actively participate in the devel‑ some sections of the water conduit in because 85% of the gas from local ties, experts, scholars and opment of infrastructure, education, Community development In 2016, Ukrgazvydobuvannya trans‑ the Chuhuiiv town, workover of well No fields has already been extracted. communities to increase gas social projects culture and sport in the regions they ferred UAH 44 million for the develop‑ 3 which is part of the water supply to Some deposits are 96% exhausted but production in the western are present. The social activities of a modern ment of infrastructure in areas where Pechenihy town, and reconstruction of still in use. Any potential increase in region and will work togeth- company are one of the main sources it is present. This allowed the local a high pressure gas pipeline from the the resources (proven gas reserves) To solve complex problems, we er in order to enhance the of reputation at the local level. authorities to address social issues village of Velykyi Burluk to the boiler in the region barely exceeds current engage in social investment and and improve the quality of life. unit of Prykolotne oil extraction plant volumes of production, while the stan‑ energy independence of our seek to build partnerships with local Naftogaz is actively involved in the de‑ in Velykyi Burluk district. The company dards of developed countries require country.” communities. In 2016, we supported velopment of regions where it is pres‑ Most of the funds – UAH 20 million – also funded the construction of gas the explored reserves to be 3-5 times Oleg Prokhorenko, the adoption of the Law of Ukraine “On ent and provides them with financial was spent on infrastructure improve‑ supply infrastructure in villages of the size of the current extraction. The Amendments to the Budget Code of assistance to address social problems ment and the repair of social facilities Ukrgazvydobuvannya CEO 40 Kharkiv region. only way to increase gas production 41 40 41 ANNUAL HOW WE WORK REPORT 2016

UKRGAZVYDOBUVANNYA: COMMUNITY DEVELOPMENT SOCIAL PROGRAMS IN 2016, UAH’000 lected funds. This included new and Major repair of roads Major renovation of the Reconstruction of powerful equipment for surgery and Poltava RSA infectious disease the canteen in Reconstruction of Kharkiv RSA 1 065 department of Krasnokutsk secondary school 500 mm water physiotherapy, diagnostic equipment, Reconstruction Central District Hospital No. 3 pipeline and modern massage tables. These 9 449 of water supply 900 18 706 Reconstruction of street water supply networks 1 000 1 116 Re-equipment of the heating system supplies significantly improved the networks in Sencha vil. Reconstruction Overhaul of electric wiring at the Major renovation of the in Vilchansk secondary school 484 of a road sports camp and purchase of centerthe center for for quality of examination and treatment 1 364 sports equipment administrative services Major repair of roads 150 1 598 available. Doctors are now properly Provision of gas Re-equipment of the heating system 170 Reconstruction 626 supply 569 of roads in Vovchansk geriatric home equipped to provide care for the 230 613 1 502 Ukrainian military. Construction Reconstruction of roads Liutivka vil. Hadiach district and beautification of the distribution pipeline Lokhvytsia district Zolochiv The hospitals the company closely Overhaul of the water K. Hanivka vil. 631 Sencha vil. 80 well and reconstruction Vilcha cooperates with include Zhytomyr, of the water pipeline V.Burluk Karabazivka vil. Bila Tserkva, and Irpin military hospi‑ Bilsk vil. Myrhorod district 1 349 Pechenihy Krasnokutsk tals, the Veterans Centers in Pere‑ Reconstruction Kotelva district iaslav-Khmelnytskyi and Cherkasy, of the heating supply Poltava region Chuhuiv Voinivka vil. system in Bilsk school Valky as well as Chernivtsi and Vinnytsia Bairak vil. Myloradove vil. 600 Poltava district Kharkiv region regional hospitals for war veterans. Karlivka Balakliia Kolomatske vil. district In December 2016, Naftogaz support‑ Reshetylivka district Pervomaiskyi ed the cross-fit competition among Chervonyi Donets Overhaul of water well and Mashivka ATO participants called “Games of reconstruction of the water district pipelinep ipeline Heroes”. This is a nationwide competi‑ Clothing and protective kits for military men 1 350 tion for wounded soldiers and people High-pressu Construction of public Barvinkove re gas with disabilities. The objective of the lighting in Abramivka and pipeline Nova Pavlivka villages games is the psychological and sports Total amount: Reconstruction of roads Blyzniuky 1 205 Major renovation rehabilitation of our heroes and the 118 Reconstruction of well No. 5 at the Public lighting and of residential 1 337 central water intake social adaptation of persons with buildings UAH 4.6 million Purchasing profiled metal construction pipes for construction of the of the chapel 2 642 disabilities along with the promotion sports ground 500 190 Overhaul of water of sports among youth and socially 36 Subvention to Construction of the well No. 3 the district sports and health vulnerable people. budget for center 219 Body protection EQUIPMENT Major repair of roads energy saving 3 708 Major renovation of soft roofing on In 2017, Naftogaz employees contin‑ measures residential buildings 420 Major renovation of the roof of ued to donate money from their own PROTECTIVE BODY PROTECTIVE BAGS, the infectious disease Overhaul of the heating Illumination400 1 000 ARMOR (WINTER MASKS CARTRIDGE CARRIERS, department of Blyzniuky Overhaul of the heating system salaries to support the needs of the system and boiler for the sports Central District Hospital AND SUMMER) PACK, 205 ground 500 army and hospitals. 586 Major renovation of facades BELT, 50 CAPS WINTER ETC Lviv RSA Construction of water-filling 600 In 2016, Ukrtransnafta signed 20 facilities at Krakovets border Construction GLOVES of public lighting motor vehicles over to the Ministry checkpoint Beautification of the 5 000 170 188 territory of the Military of Defense of Ukraine. These vehicles Medical Center of the will be used to equip the units of the Reconstruction of the Holy Western Region battalion (special operations forces), T-SHIRTS SPECIAL Eucharist Temple (Greek Catholic 330 Armed Forces of Ukraine involved in Church) Krakovets the reconnaissance platoon of Kyivska EQUIPMENT Major renovation of 11 ATO hostilities. Military units will re‑ 300 Rus battalion, General Kulchytskyi THERMAL BOOTS Kupychvolia vil. Shevchenka St (residential ceive cars, trucks, a tractor, a trailer, WEAPON Construction of the basketball court Chernyliava vil. building) battalion, the military unit of Mariu‑ UNDERWEAR 603 300 a bus, minibuses and repair shops. All CLEANING Yavoriv pol tactical group, the third separate KIT Major renovation Major renovation of the vehicles have been reconditioned and JACKETS TACTICAL Rohizno vil. special operations regiment from of the Community Hall Lviv community hall fully equipped. GLOVES 576 391 Kropyvnytskyi, special operations SPRAY OIL Bibrka Overhaul of the heating system military units from Khmelnytskyi and Ukrtransgaz also provides financial HATS Hanachivka vil. in the community hall FOR WEAPON Lviv region Lypivka vil. Volodymyr-Volynskyi, and others. support to the military units engaged Major renovation 100 in the ATO. In 2016 the cost of the MAINTENANCE of the Сommunity Hall Novosilky-Oparski vil. Purchased goods include individual Mala Horozhanna vil. equipment, radio stations, appliances 80 Rolyv Overhaul of public means of protection for soldiers, Major renovation of Kolodruby vil. lighting and protective kit purchased by the Uniatychi vil Turka district community Drohobych special advanced equipment (head‑ hall “Prosvita” 100 company amounted to UAH 12.7 million. Ulychne phones, glasses), special purpose MEDICAL EQUIPMENT 300 Turka Overhaul of the heating system In addition, Ukrtransgaz converted Dashava clothing and footwear, radio commu‑ Overhaul of public in the nursery school Severodonetsk airport for use by the for Mariupol mobile hospital and Ukrainian War Veterans Medical lighting nications equipment, spare parts for 100 Armed Forces of Ukraine. The airport and Social Rehabilitation Center in the city of Pereyaslav-Khmelnytsky 106 Sianky vil. trucks, communications equipment, Construction of public lighting is forty kilometers away from the con‑ in Ivana Franka St video surveillance systems, and opti‑ Total amount: Renovation of the roof on building No. 2 of the tact line. The company also granted language department of Drohobych Ivan 296 Major renovation of the hip roof on the cal instruments. UAH 4.1 million Franko State Pedagogical University permission to use Yalta recreation residential building 300 84 The aid provided to hospitals and facility (Donetsk region) which will Major renovation of Ivan Franko Reconstruction other health care facilities amounted later be signed over to the Ministry of MONITOR PATIENT BEDSIDE SUCTION TWO SECTION FUNCTIONAL community hall of public lighting to UAH 4.1 million or 47% of the col‑ Interior Affairs of Ukraine. DEFIBRILLATOR MONITOR APPARATUS HOSPITAL BED 42 600 77 43 42 43 ANNUAL HOW WE WORK REPORT 2016

306.8 thousand t in reference fuel Fuel and energy consumption by Naftogaz enterprises (214.8 thousand t in oil equivalent), or UAH 1.6 billion in monetary terms. in 2010–2016 8 Total fuel and energy consumption (right scale) 10 Natural gas savings amounted to Fuel and energy savings 7.1 240.1 mcm and electricity savings 7.0 (compared to planned targets) (left scale) ENERGY EFFICIENCY 7 totaled 25.6 million kWh. Actual energy 7.6% savings exceeded the target by 8 90.8 tcm in reference fuel, including 6 7.1% 5.4 NAFTOGAZ PRIORITIES TO PROTECT THE ENVIRONMENT ARE MAINTAINING natural gas by 68.9 mcm. 6.1% 5.1 5 5.7% 4.7 6 HIGH ENVIRONMENTAL STANDARDS, RATIONAL USE OF FUEL AND ENERGY The introduction of a 6 MW condensing 4.5 power plant (CPP) into operation RESOURCES, ENERGY EFFICIENCY, AND THE INTRODUCTION OF ENERGY 4 3.7 % in Shebelynka gas condensate 5.3% 5.3% 4 and oil processing enterprise million t of reference fuel MANAGEMENT SYSTEMS BY THE ENTERPRISES OF THE GROUP 3 (Ukrgazvydobuvannya) resulted in 4.1% significant reduction in thermal energy 2 consumption. The CPP uses waste heat 2 of flue gas from gas fractionation units 1 for technological needs and producing electricity in a steam turbine for its 0 0 own needs. 2010 2011 2012 2013 2014 2015 2016 Implementation of energy Use of fuel and energy for production and technological purposes, % management system at the 0.6 0.1 enterprises of the group 8 3 In 2016, Naftogaz began to implement 3 22.6 an energy management system (EnMS) to streamline energy efficiency by types by enterprises management procedures in accordance of fuel of the group with the energy efficiency requirements and energy 57.4 of ISO 50001. 19.3 During 2016, an energy audit was 86 performed at the enterprises of the companies, energy efficiency policies and objectives were drafted, and an natural gas Ukrtransgaz electricity Ukrgavydobuvannya EnMS implementation plan for 2017- heat energy Ukrnafta 2020 developed. other types of fuel and energy Ukrtransnafta Other enterprises of the group Monitoring of natural gas consumption by different groups of households households. The proposals would help meetings to promote and implement In order to analyze the actual to optimize the cost of budgetary funds proposals to improve the procedure use of natural gas by households, allocated as subsidies to vulnerable for granting subsidies and encourage the company has monitored the households for partial coverage of the consumers to reduce consumption consumption of natural gas during the cost of natural gas used: of natural gas. The meetings were heating season 2015-2016 via use in attended by advisers to the Prime • improve the procedure for granting different social groups. Minister of Ukraine, adviser to the subsidies for natural gas; Deputy Prime Minister, and the In addition, to determine the maximum • pay back to the budget the amount representatives of the EBRD, IFC, amount of natural gas used for (2.6 million t in oil equivalent1), for their - oil (gas condensate) – of overpaid subsidies; and EU, along with experts and The group’s energy different purposes by customers with technical needs including: 127.2 thousand t; representatives of various NGOs. consumption structure no heating sources other than natural • optimize standard natural gas Naftogaz experts joined working groups Natural gas dominates (almost 86%) - natural gas – 2.5 bcm; - other types of energy resources gas, the company, together with gas consumption rates; on subsidy monetization. the fuel and energy resources (FER) (boiler and furnace fuel) – distribution organizations, conducted - electricity – 1.2 billion kWh; • gradual shift to full monetization of consumed by the enterprises of the 363.7 thousand t in reference fuel. monthly on-site inspections to check Implementation of the company’s subsidies; group. - thermal energy – 657.5 thousand the use of gas consumption. proposals will improve the efficiency As a result of the energy efficiency Gcal; • encourage vulnerable households to of natural gas use, reduce the need In 2016, the enterprises of the group program for 2015-2020 and energy Based on the results of this analysis, adopt efficient use of natural gas. for natural gas and for subventions used 3.7 million t of reference fuel 1 1 thousand t in reference fuel = 0.7 thousand t in conservation programs implemented the company provided its proposals from the state budget for subsidies, 44 oil equivalent by subsidiaries, in 2016 Naftogaz saved to improve the use of natural gas by The company initiated and conducted 45 44 45 ANNUAL HOW WE WORK REPORT 2016

geothermal energy in the depleted oil and gas wells. Benefits from implementation and further sanctification of EnMS

Targets for 2017 Direct benefits • continuous improvement of energy efficiency, decrease in energy input • Promote company proposals to for products (services), increased competitiveness allow households to use the unused • improving operation and maintenance procedures part of their energy subsidies for • control of energy consumption energy saving measures. • reduction of environmental impact • Continue implementation of the • image and investment attractiveness energy efficiency program. In 2017, • energy management best practices in place and compliance with as a result of implementation of international standards the energy efficiency program, the enterprises of the company Indirect benefits plan to save 148 thousand t in • involvement of the whole team in energy efficiency activities reference fuel (100.7 thousand t in • training on energy issues oil equivalent). • expansion of external communications in the field of energy management • Continue implementation of energy • improvement of relations with energy and equipment suppliers management systems according to • reduced risks and costs the requirements of ISO 50001. • compatibility with other management system standards

Fuel and energy savings, in 2014-2016 and create the conditions for the direction of released funds to increase Major efforts that enabled the produced by a gas turbine • construction of bottom water 200.1 hydrocarbon production in Ukraine. Total (thousand t enterprises of the group to save power plant for heating instead previous discharge unit; in reference fuel) 252.2 306.8 Implementation of innovative energy 240.1 mcm of gas: of boilers; • optimization of indoor efficiency projects • introduction of defective • identification and elimination illumination of production 151.7 pipeline sections repair facilities; of gas waste by sealing Natural gas (mcm) 192.9 In 2016, Ukrtransgaz worked with the technology without emptying • use of UTDU-2500 recovery 240.1 Institute of Engineering Thermophysics the section; technological equipment of UGS, pressure reducing power plant and the National Academy of Sciences CS; 86.8 • maximum gas evacuation from which, due to the energy of of Ukraine to develop a basic Heat energy (million Gcal) 108.8 the pipeline before repair works • maintenance of boilers and gas while expanding in the 106.0 solar power plant scheme for the start; their operation in accordance turbine of a pressure-reduce simultaneous production of electricity • construction of waste heat valve, allows for additional 23.5 with technology cards etc. 2014 and cooling at transmission system utilization facilities; temperature reduction for Electricity (million KWh) 24.9 2015 facilities. 2016 • introduction of modern greater hydrocarbons extraction 25.6 A total of 25.6 million kWh of As of the date of this report, the electronic ignition systems for and electricity in the power 1.1 electricity was saved due to: Other types of energy solar power plant pilot project has GMK-10 gas compressors; generator for internal needs; (thousand t in reference fuel 1.3 • construction boosting • modernization of anode bed of • use of UTDU-2500 recovery (thousand t in reference fuel) 1.3 been launched. The power plant can generate almost 400 thousand KWh compressor station to collect gas pipeline cathodic protection pressure reducing power plant 0 50 100 150 200 250 300 350 of electricity per year to satisfy the low-pressure petroleum gas; units; for recovery of compressed gas office and industrial site needs of • reconstruction of gas disposal • implementation of energy throttling energy at GDS-7 in Ukrgaztehzvyazok branch facility. systems at oil and gas efficient light sources for Dnipro city; Fuel and energy savings, thousand t in reference fuel collecting facilitates; • bringing unloaded power 1.0 outdoor lighting of pump The power plant consists of 1 140 solar • construction of a closed oil transformers out of operation; 10.0 stations and tank farms, and panels with 260 watts of nominal treatment system; • reasonable use of gas cooling 37.5 for internal illumination of 79.2 power each; they are installed on the • utilization of gas from fans (APO), antifreeze and roof of the production facility and condensate and oil industrial and office space; turbine lubricants; cover 1 850 sq. m. This object is unique by the group decontamination; • introduction of reactive power • energy saving measures; by programs in the Kyiv region. Ukrtransgaz plans to enterprises • upgrading gas pumping unites compensation systems with • pumping oil stations in oil scale up this practice and to equip its Total: to improve unit efficiency; automatic control of power pipeline sections in optimal Total: 306.8 production facilities with solar panels. 306.8 • reducing radial gaps in the flow factor; mode, using the most efficient 227.6 In addition, Naftogaz has developed a section of ТВТ and ТНТ of GRK- units; 258.3 • implementation of frequency 10 units, which increases the • reduced electricity consumption number of recycling projects designed control devices and soft to transform combustion heat at efficiency of the unit; for pumping oil as a result of starting of induction motors; compressor stations (CS) and boosting • reducing radial gaps in the flow timely cleaning of the main oil Ukrtransgaz Naftogaz energy efficiency • introduction of highly efficient Ukrgazbydobuvannya program for 2015-2020 compressor stations (BCS), the energy section of OK using special pipelines from paraffin deposits Ukrnafta Sectoral energy saving screw pumps for the extraction Ukrtransnafta program implemented by of overpressure at gas transportation mastics; using modern highly efficient the enterprises of the group system (GTS) facilities and the • recycling of exhaust gas of viscous oil; devices. 46 47 46 47 ANNUAL HOW WE WORK REPORT 2016

Naftogaz applies a comprehensive approach to reduce its direct For more details on the and indirect negative impacts on environmental policy of the the environment. The approach company, please see encompasses all areas of impact www.naftogaz.com ECOLOGY AND including: • air protection; • protection of water resources; in July 2016 a representative of the department of health and safety, • land protection and waste disposal; environmental and industrial security ENVIRONMENTAL • protection of biodiversity; was included to the tender committee. • energy and resource saving. In May 2016, the company approved a special questionnaire for procurement Environmental safety participants to identify the profile management system of their environmental and social In the environmental area, the company policies. It is posted on the website of PROTECTION is guided by its Charter, Code of the company www.naftogaz.com. The Corporate Ethics, the requirements enterprises of the group have already of Ukrainian law, and international begun using it in their procurement directives, conventions and standards. processes. In 2016, the company approved a new The internal Naftogaz regulation version of its environmental policy that establishing the procedure for meets the requirements of ISO 14001 cooperation between the different and determines the company’s structural units of the company when operating principles and commitments purchasing goods and services is in the field of environmental protection. currently in the phase of finalization and approval. This includes a The company has in place and mechanism to evaluate whether consistently implements its the supplier complies with the comprehensive environmental environmental and social requirements protection action plan for 2015-2020. of the company and those of the Naftogaz pays particular attention Ukrainian legislation in the field of to the social and environmental environmental protection. aspects of the procurements made by the company. To monitor how Key results of 2016 suppliers meet the health safety • operating costs and capital investments and environmental requirements, of Naftogaz group enterprises spent on

The main principles of Naftogaz environmental policy are: • leadership and responsibility; • sustainability; • efficient environmental management; • priority of preventive measures; • raising environmental awareness and culture; • information accessibility and communications transparency.

ENVIRONMENTAL SAFETY AND PROTECTION ARE Cooperation with international financial institutions In cooperation with international financial institutions, the company AMONG THE PRIORITIES OF NAFTOGAZ GROUP. IN has committed to approximate its standards to the principles of EBRD environmental and social policy. In 2016, the EBRD monitored ITS OPERATIONS, THE COMPANY IS GUIDED BY THE implementation of new reporting, transparency, environmental and PRINCIPLES OF THE EUROPEAN ENVIRONMENTAL social responsibility standards at Naftogaz. In May 2016, OPIC Corporation, USA, conducted a technical audit of the LAW AND THE BEST RELEVANT GLOBAL PRACTICES western underground gas storage complex and provided a clean audit 48 opinion with regard to Naftogaz safety and environmental impact. 49 48 49 ANNUAL HOW WE WORK REPORT 2016

In 2016, the company signed 2016: the stages of the environmental management system an agreement with a research Capital expenses on and investments Environmental taxes paid by Naftogaz group implementation: organization to review and update in environmental protection by Naftogaz group enterprises in 2014-2016, the current SOU 74.2-20077720-034: • Diagnosis of production processes and the current management enterprises in 2014-2016, UAH million UAH million system in place at Naftogaz including: 2009 “Protection of the environment. • analysis of company operations, organizational structure and Decontamination of soils and management functions; water from oil and petrochemicals. 100 80 72.8 83.7 • identification of strengths and weaknesses in the fields of Regulations” to set more stringent 75.3 80 ecology, safety, energy saving, social responsibility and quality environmental requirements for the 66.7 60 enterprises of the oil and gas complex. management; 60 • analysis and assessment of compliance of the actual performance 35.6 Cooperation with the 40 30.4 of the company with ISO 9001, ISO 14001, ISO 50001, OHSAS 18001 stakeholders on environmental 40 (ISO 45001) and SA 8000. issues 20 • Training employees in the methodology for establishing an integrated 20 management system and implementation of management systems Any activity by the company and any project that significantly impacts the 0 0 according to the requirements of ISO 9001, ISO 14001, ISO 50001, 2014 2015 2016 2014 2015 2016 environment and community life are OHSAS 18001 (ISO 45001) and SA 8000. *The decrease in the amount of environmental tax in 2015 compared to 2014 is due to the abolition since 01.01.2015 of the effluent tax • Company policies, the objectives of the management system and subject to internal agreement under on mobile sources of pollution. process maps are developed; and process-related risks are identified. the existing procedure for interaction with stakeholders. Development of any In 2016, within the framework of Air emissions of pollutants by Naftogaz group companies in 2016, project includes development of the cooperation with stakeholders, the relevant stakeholder interaction plan thousand t environmental protection amounted to an environmental management system company signed a memorandum of to be adhered to by the enterprises of UAH 83.7 million; according to ISO 14001. understanding and cooperation with Enterprises of the Carbon Sulfur di- Emissions Emis- Total emis- the group. the Ukrainian NGO Living Planet. The group monoxide oxide (SO ) of nitrogen sions of sions of • energy efficiency measures resulted Development of the new management 2 For example, in 2016 parties held a joint workshop and emissions and other com- non-meth- pollutants in savings of fuel and energy system standard (MSS – Ukr. SOU) in Ukrgazvydobuvannya, as part developed a training program for (СО) sulfur pounds ane (excluding resources of UAH 1.15 billion; oil transportation of intensification of natural gas company employees and established com- (NОx) volatile СО2) • new version of environmental policy In 2016, Ukrtransnafta developed its extraction through hydraulic fracturing, the joint activities agenda. pounds (excluding organic

approved; standard SOU 49.5-31570412-045:2016 held meetings with the public, the emissions N2O) com- “Oil pipelines. Calculation of the amount media, and representatives of local Financing environmental pounds • the environmental measures of oil for industrial and technological authorities in order to properly inform activities stipulated by the loan agreement Ukrtransgaz 6.6 0.001 7.9 0.4 49.3 needs. Methodology”, which is effective stakeholders about the potential In 2016, the total current expenses with the EBRD are implemented, Ukrnafta 6.8 0.2 3.0 4.6 18.9 since 29.09.2016. According to the environmental and social impacts of and capital investments incurred a comprehensive analysis of all established standard, the oil in the the planned works. by the Naftogaz group related to Ukrgazvydobuvannya 4.1 0.2 2.8 1.4 17.4 aspects of the environmental impact oil pipelines is categorized either as environmental protection amounted Ukrtransnafta 0.008 0.002 0.005 1.9 2.0 of the company’s operations is The enterprises of the group are “oil for industrial and technological to UAH 83.7 million, including: Ukravtogaz 0.001 - 0.001 0.001 0.8 done, measures to improve waste actively involved in the implementation needs” or as “commercial oil trade UAH 5.6 million of capital investments management and water use are of infrastructure and social projects Ukrspetstransgaz - - 0.0002 0.005 0.005 balance.” This approach allowed for (which is about 7% of the total developed. to address the urgent problems Kirovogradgaz 0.002 - 0.001 0.0002 0.004 the reclassification of Urals oil in the expenditure for environmental of the communities affected by Implementation of international Odesa-Kremenchuk section of the protection), UAH 78.1 million of current TOTAL 17.5 0.4 13.7 8.3 88.4 the company’s production activity standards pipeline from “fixed assets” to “stocks”, expenses (93%). (for more details see community its displacement from the section and The company has committed itself to development section). Of the total capital investment on the replacement with Azeri Light oil. Air emissions of greenhouse gases by Naftogaz group enterprises in the implementation and certification of respective measures, UAH 1.2 million 2016, thousand t was spent on wastewater treatment, Environmental Environmental tax, Recycled materials Payments UAH 11.9 thousand on waste Enterprises of the group Carbon Methane Nitric Green-

protection UAH million sales revenue, for environmental management, UAH 4.4 million on dioxide (SO2) (СН4) oxide (N2O) house gas expenses, UAH million UAH million services, UAH million protection and rehabilitation of soil, emissions emissions emissions emissions, groundwater and surface water СО -equiva- 0.1 1.0 2 0.4 0.01 0.01 0.4 0.2 sources. The cost of major repairs lent 0.6 0.3 of sewerage and reverse water Ukrtransgaz 2 783.0 34.2 0.13 3 541.5 8.4 6.7 19.5 purification totaled UAH 0.6 million. 21.9 7.6 12.7 Ukrnafta 1 240.0 3.6 0.01 1 318.7 Of current expenditures on the Ukrgazvydobuvannya 579.5 8.5 0.015 762.7 35.3 respective measures, UAH 6.8 million 83.7 35.6 52.8 175.3 (about 9% of total current Ukrtransnafta 2.1 0.09 - 4.0 19.1 expenditures) was spent on air Other enterprises of the 1.4 0.8 - 18.2 8.6 119.4 protection, UAH 39.1 million (50%) on group 52.5 33.0 reverse water cleaning, 6.4 million (8%) TOTAL 4 606.0 47.2 0.155 5 645.0 on waste management, UAH 18.4 million 50 Ukrtransgaz Ukrnafta Ukrgazvydobuvannya Ukrtransnafta Ukravtogaz Ukrspetstransgaz 51 50 51 ANNUAL HOW WE WORK REPORT 2016

increased greenhouse gas emissions by (about 24%) on protection and same time, penalties for violation of The total emission of pollutants into the 2.3% due to increased volume of natural Water consumption by Naftogaz group enterprises in 2011-2016, rehabilitation of soil, groundwater environmental regulations in 2016 made atmosphere from stationary sources of gas transportation by Ukrtransgaz by thousand cubic meters and surface water, UAH 7.4 million only UAH 96.5 thousand. the group’s facilities in 2016 was about 14.5%. (9%) on other areas (e.g., reduction of 88.4 thousand t, which is 19% less than in 2011 2012 2013 2014 2015 2016 % 2016 Air protection noise and vibration, radiation safety, 2015. As part of the implementation of com- biodiversity, research and conservation Air pollution caused by operating Directive 2010/75/EC, in 2016 the pared Equipment upgrade and repair projects in nature protection areas, etc.). activities of the group enterprises in company and Ukrtransgaz monitored to 2015 resulted in a decrease in leakages, 2016 did not exceed the quantities emissions of SO , NO and dust through Total water used, 7 165.6 6 825.51 6 104.45 7 532.56 7 017.2 6352.2 -9.5 In addition, the company paid losses and the use of natural gas for 2 x set in the permits and regulations all its combustion units with a rated UAH 175.3 million for environmental internal needs, leading to a decrease in including: for emission limits, as proven by heat output of at least 50MW. A list of services. Environmental tax in 2016 air pollution in 2016 compared to 2015. Ukrtransgaz 1 081.6 932.8 842.4 780.7 708.6 680.3 -4.0 inspections carried out by the state amounted to UAH 35.6 million. At the the units was submitted to the Ministry environmental authorities. However, in 2016 the group enterprises of Energy and Coal Industry of Ukraine Ukrnafta 3 950.8 3 709.9 3 876.1 3 712.3 3 081.7 3 361.3 9.1 to be included in the order of the Ukrgazvydobuvannya 1855 1926 1 178.8 2 716.4 2 229.2 2 131.5 -4.4 Ministry of Environment that sets the Ukrtransnafta 278.2 256.81 2 07.15 323.158 171.99 179.1 4.1 technological standards of permissible emissions of pollutants by thermal power plants with a rated heat output Naftogaz waste structure by hazard class, 2014-2016, Total emissions of pollutants (excluding carbon Emissions of carbon dioxide (CO2) dioxide) by Naftogaz group enterprises by Naftogaz group enterprises in 2014-2016, of at least 50 MW. thousand t in 2014-2016, thousand t thousand t The company’s contribution to the 2014 2015 2016 fight against climate change Total waste generated at Naftogaz 137.3 102.5 85.4 4 606 group enterprises, including: 200 5000 4 555 The company is actively involved in 162.7 3 983 Including: 4000 the process of adapting national 150 regulations to EU standards in hazard class І 0.1 0.1 0.1 109.3 3000 the framework of the Association hazard class ІІ 0.2 0.9 0.3 100 88.4 Agreement between Ukraine and the EU 2000 in the field of environmental protection, hazard class ІІІ 10.9 8.0 5.9 50 including the implementation of hazard class ІV 126.1 93.5 79.1 1000 Directive 2003/87/EC on establishing a 0 0 scheme for greenhouse gas emissions. 2014 2015 2016 2014 2015 2016 underground water intake; 0.6 mcm • Ukrgazvydobuvannya: 32.6 mcm Given the importance of the issue, (8%) of municipal water supply, 0.1 mcm Emissions of nitrogen oxides (NO ) by Naftogaz Emissions of methane by Naftogaz group • Ukrspetstransgaz: 37.7 tcm x Naftogaz is actively involved in activities (2%) of associated formation water group enterprises in 2014-2016, thousand t enterprises in 2014-2016, thousand t aimed at implementation of Directive and 3.8 tcm (about 1%) of waste Naftogaz group enterprises monitored 14.8 2003/87/EC initiated by the Ministry of 15 13.7 150 water. Water intake was mainly for soil, groundwater and surface water 12.6 120.1 Environment and Natural Resources technological purposes, drinking, and near hazardous facilities (sludge 12 120 and the Chamber of Commerce of the sanitary needs of employees. ponds, barns, septic tanks, etc.). This Ukraine. monitoring data is submitted to the 9 90 Total effluent disposal in 2016 amounted relevant government authorities and 71.1 In addition, the company requested the to 8.5 mcm, among them transfer to other stakeholders. 6 60 47.2 Ministry of Environment and Natural other water users (municipal, and Resources of Ukraine and the Chamber other wastewater utilities) amounted The associated stratum water that 3 30 of Commerce of Ukraine to consider to 1.1 mcm, dumping into surface is extracted with hydrocarbons is

0 0 the possibility of including Naftogaz sources after cleaning - 0.3 mcm, fields pumped back into underground 2014 2015 2016 2014 2015 2016 in international technical assistance of filtration - 0.3 mcm, underground horizons through injection wells to Emissions of carbon monoxide (CO) by Emissions of non-methane volatile organic programs. Further implementation of horizons - 6.6 mcm, sewage treatment maintain reservoir pressure or to Naftogaz group enterprises in 2014-2016, compounds by Naftogaz group enterprises carbon credits trade at the enterprises plants - 0.1 mcm, cesspools- 31.1 tcm, absorbing wells via individual projects thousand t in 2014-2016, thousand t of the company requires approval via holding evaporation pond - 4.5 tcm. as required by the applicable laws. the relevant legislation. During 2016, Ukrgazvydobuvannya 20 17.9 10 Biiological wastewater treatment plants 17.5 8.4 8.2 8.3 production facilities pumped 0.1 mcm 15.9 Rational use of water accounted for 0.4 mcm of reverse (waste) 8 and Ukrnafta – 6.6 mcm of associated 15 resources water, physical-chemical treatment stratum water in the subsoil. Using facilities for 11.4 tcm, mechanical 6 In 2016, the volume of actual use this method significantly reduces the 10 treatment facilities for 56.3 tcm. of water by company enterprises negative impact on surface water and 4 decreased by 9.5% over the previous The enterprises of the group used groundwater. It partially restores the 5 2 year and amounted to 6.35 mcm water in water reverse and recycling natural conditions of the subsoil and from a total water intake of 7.6 mcm: systems as follows: preserves farmland. 0 0 5.4 mcm from surface water sources 2014 2015 2016 2014 2015 2016 • Ukrnafta: 51.5 mcm In 2016, Ukrnafta resumed bunding well accounting for about 71% of the total reservoirs (total 203 pcs.) and assessed 52 volume of water; 1.4 mcm (18%) for the • Ukrtransgaz: 35.2 mcm 53 52 53 ANNUAL HOW WE WORK REPORT 2016

sites, in the process of oil and gas Personnel are trained, tested and hazardous under the Basel Convention. the group’s repair services conduct Waste management in Naftogaz group enterprises, 2014-2016, transportation, processing, storage updated on current regulations on a regular air and ground examination of Prior to signing any hazardous waste thousand t etc. regular basis. the pipelines. disposal contract, the company 2014 2015 2016 For the purposes of drilling waste Oil and gas extracting enterprises carries out an assessment of the The enterprises of the group have Total accumulated waste 137.3 102.5 85.4 disposal, the enterprises of the produce naturally-occurring materials supplier for availability of licenses and developed measures to respond the group use drilling fluids regeneration (NOM) or according to the international relevant facilities and equipment for threats and emergence of technogenic Waste removed at the facilities of the 47.4 4.5 0.00005 technologies and drilling wastewater classification NORM (naturally- processing and disposal of hazardous and/or natural disasters. This includes enterprises treatment technologies. During 2016, occurring radioactive materials). Pump waste. Ukrtransgaz tenders for employee evacuation plans for a Waste disposed of and recycled 122.2 51.3 49.3 the enterprises of the company and compressor tubes, pipelines, suppliers of natural gas for industrial specific period in case of technogenic disposed of 43.9 thousand t of drilling equipment and sludge fragments etc. and technological needs include an and/or natural disasters. Emergency Waste supplied to specialized disposal 86.3 60.9 38.1 waste. are temporarily stored in specially assessment of bidder environmental localization and liquidation plans are companies equipped areas of Ukrnafta and and social policies. approved by the regional authorities of In addition, oil pollution of soil has been Ukrgazvydobuvannya. These areas are the State Emergency Service of Ukraine eliminated in places of emergency the state of 106 flow strings of oil and inoperative or waste lead batteries, secured and provided with physical Environmental culture under the established procedure. using modern microbiological injection wells. In addition, the company and accumulators. All hazard class protection. The accumulated materials In the spring of 2016, Naftogaz joined Potentially dangerous objects and biodestructing sorbents. eliminated and recultivated seven oil, I waste is supplied to specialized are transferred under contract to Go Green movement and announced high-risk objects are recorded and land and other barns and tanks. enterprises for further environmentally In their production activities, the specialized companies of the UkrDO the introduction of the Green Office monitored. sound recycling on a contractual enterprises of the group use dangerous Corporation “Radon” that have the concept to reduce the company’s In 2016, Ukrtransgaz assessed the The reported incidents and basis. In addition, waste batteries and chemicals, including in gas and gas necessary permits and are licensed negative impact on the environment biological resources of the water emergencies with environmental fluorescent lamp collection points are condensate extraction and processing for storage, further utilization or and improve natural resource bodies used for intake or discharge of consequences are recorded and open at many enterprises of the group technology, namely methanol, glycol, disposal in their own facilities (in management. water in the course of business. Such transmitted in accordance with the and in its headquarters. acids, odorants, and liquid technical Chornobyl Exclusion Zone and Kharkiv studies were also carried out as part of Every year, the employees of the notification procedure approved by the ammonia. city). Specially equipped certified the reconstruction of Urengoy-Pomary- The most common class II waste is company are engaged in cleaning their company. vehicles owned by these companies Uzhhorod main gas pipeline. These waste oil and grease (the group has In addition, precursors (hydrochloric cities and villages, industrial sites and transport the materials in accordance activities could have had a negative accumulated 42.1 t) and rechargeable and sulfuric acid, acetone, toluene, surrounding areas, planting trees and Plans for 2017 with radiation safety requirements. impact on biodiversity of local flora batteries (15.5 t). The most common potassium permanganate) are used at participating in the annual nationwide The company has developed a set of All storage sites and vehicles have and fauna. The company conducted an class II waste at Naftogaz enterprises some facilities. All enterprises that use event Clean Environment. environmental objectives and specific sanitary passports. assessment and continues to monitor is processed petroleum products and precursors have appropriate permits, measures to achieve these goals. One the situation. Specifically, in 2016 a oil sludge – 3 060.2 t. and the facilities are provided with The company performs no cross-border Emergency prevention and of the objectives is reducing water

detailed assessment of biodiversity physical protection. transportation of waste. The company mitigation consumption by the enterprises of the Some enterprises have received the in the affected swamp and forest does not import or export waste that is To prevent and eliminate emergencies, group compared to the previous year appropriate permits and equipment The enterprises of the group that use area was carried out near Lokhvytsia designed to dispose of hazardous dangerous chemicals and poisonous town, in the vicinity of the Hrebinky- waste at their own facilities. In 2016, substances obtained the relevant Sofiivka section of the pipeline (km Ukrnafta disposed of 5.4 thousand tons permits for substance transportation. 3 488.36-3 519.87). Based on these of oil sludge generated in the past Plants and equipment that use findings, the center of ecological expert using special plants for processing hazardous chemical substances are NAFTOGAZ GREEN OFFICE: analysis (Ministry of Environment) oil sludge, waste oil, and oil-resistant assembled and installed in compliance developed recommendations, mitigation OUR ACHIEVEMENTS emulsions. with the relevant design documents measures, and offered a positive expert and commissioned by the authorized planted opinion. If all the recommendations and The hazard class IV includes the committees. mitigation measures are implemented, following main types of waste: repair of the Urengoy-Pomary-Uzhhorod These enterprises have been certified • drilling sludge (cuttings, drilled main gas pipeline will not have any and categorized as extra high hazard mud and drilling waste water) – collected 530 kg negative impact on biodiversity. objects. They have public indemnity 9 trees 42 664.6 t; of waste paper saved insurance for harm that may be caused 4 165 trees 3 056 shrubs Waste management • ferrous scrap – 6 200.7 t; by fires and accidents at high hazard For the last three years, the total waste objects or at facilities whose economic • mixed municipal waste – 9 794.8 t; at the enterprises of the group has activities could lead to environmental been steadily decreasing. In 2016, total • worked out and damaged tires – and sanitary-epidemiological waste was 85.4 thousand t, which is 750.2 t; emergencies. Most enterprises have 1 115 hа 2 354.3 hа of lawns 441 cleaned 16.7% less than in the previous year. voluntary fire brigades in place. 40 kg of batteries 50 hectares made • construction waste – 547.0 t; collected of land avoided unauthorized Over 90% of production waste at These enterprises have developed, contamination garbage • vehicles and conveyor, written-off as the enterprises of the company is approved and put in place instructions dumps eliminated scrap – 648.0 t; hazard class IV waste, i.e. the low-risk on how to work with hazardous CONSUMPTION COMPARED TO 2015 category. A very small part of total • agricultural production waste chemical substances. Dedicated staff (May-December): waste (about 0.15%) are hazard class (different) 256.3 t and other responsible for chemical hazardous WATER 1 182 CUBIC M LESS ” ELECTRICITY REDUCED I substances (extremely dangerous). waste generated mainly at substances registration and handling monthly rate BY 53 400 KWH ” These include spent fluorescent lamps, construction, drilling, production have been designated by special order. for 500 persons lighting for 250 apartments for one month 54 55 54 55 ANNUAL HOW WE WORK REPORT 2016

by 5% due to the rational use of water • rational use of natural resources, • upgrading industrial sites, sanitary resources in accordance with established including water, land and mineral protection, and recreational areas; standards and consumption limits. resources in accordance with • supporting initiatives of local Ukrtransgaz, as the enterprise with the established limits and permits; authorities and the public to largest share of emissions into the air in • separate storage of waste by type, promote the improvement of the the company, has set itself the goal of according to issued permits and environment; reducing such emissions by 3% in 2017. approved limits on waste generation WHERE WE • increase employee legal awareness Ukrtransnafta plans to complete and disposal, calculated based on of environmental protection and the reconstruction and modernization the norms for each types of waste; rational use of natural resources. of waste water treatment at OPS • improvement of environmental Kurovychi, LPS Skole, OPS Zhulyn in 2017. management system, implementation ARE NOW Ukrnafta’s objective is reducing of modern energy and resource environmental risks and social tension saving technologies, and energy For more details about the caused by gas-polluted air in Boryslav town. efficient production systems designed Naftogaz Green Rules, see to stabilize or reduce negative In addition, the objectives of the group www.naftogaz.com environmental impact; enterprises in 2017 are as follows:

56 57 56 57 ANNUAL REPORT 2016 TIMELINE 2016 2017 JANUARY FEBRUARY MARCH APRIL MAY JUNE JULY AUGUST SEPTEMBER OCTOBER NOVEMBER DECEMBER JANUARY FEBRUARY MARCH APRIL MAY

GAS MARKET REFORM

The Regulator Naftogaz proposed to Naftogaz proposed Naftogaz invited CMU approved the The government The Law on the The Regulator introduced entry-exit change the procedure an action plan for market participants Unbundling Plan established a new Regulator was approved entry- tariffs for cross- for forming insurance complete unbundling to discuss the draft TSO approved exit tariffs for border points reserves of gas by of the TSO new Gas transmission internal points in suppliers System Code Ukraine CMU established a single price for Naftogaz special gas for households duties will continue consistent with to April 2018 import parity

SECURITY OF SUPPLY (diversification of imports and integration with the EU market)

Naftogaz contracted Naftogaz refused to Ukraine implemented Ukrtransgaz and Signing of natural One year since Naftogaz joined Naftogaz filed Naftogaz, 1.7 bcm of gas register Gazprom’s modern European Polish Gaz-System gas transportation Ukraine last the European an appeal to the Ukrtransgaz, from five European balancing gas as practices at GTS prepared a and storage imported gas from Federation of European Court of Snam and suppliers according purchased by Ukraine connection points feasibility study agreements Russia Energy Traders Justice to cancel Eustream signed to procurement that are not blocked for Interconnector between (EFET) the decision of a Memorandum procedures under an by Gazprom construction between Ukrtransgaz and the European of Understanding EBRD loan the two countries Engie (France) Commission on the aimed at with total length of OPAL gas pipeline cooperation Naftogaz official 99.3 km opportunities complaint against in Ukraine’s gas Nord Stream II transmission was submitted network to the European Commission

OPERATIONAL EFFICIENCY

Selection of Naftogaz sent a Naftogaz published The supervisory board Naftogaz repaid funds For the first time, Ukrgaz- Internal control Naftogaz was In Stockholm, Signing of a credit Data published Ukrgaz- Ukraine passed In 2016, Naftogaz candidates for formal notification audited financial of Naftogaz was fully raised under EBRD Naftogaz held an vydobuvannya system reform acknowledged as hearings were facility agreement on all Naftogaz vydobuvannya winter with gas for the first time the positions of the investment statements of the formed loan in December open reverse auction and Naftogaz began, including: the best bidder completed of USD 500 million contracts worth moved to the reserves above in the last five of independent dispute over group company as an through January to purchase gas topped the list - internal audit; in the ProZorro between Naftogaz under guarantee more than production of forecast years, posted members of the assets in Crimea individual legal entity from domestic gas of the largest - compliance; system by the and Gazprom over from the World UAH 1 million on the Euro 5 gasoline a net profit of supervisory board of for 2015 The first meeting of producers taxpayers in Ukraine - risk-management; number of bids a contract for gas Bank e-portal for the use Changes in UAH 26.5 billion. Naftogaz began the supervisory board for Q1 2016 - financial control and amount of supplies to Ukraine of public funds Ukrtransgaz board Ukraine managed to of Naftogaz took savings In Stockholm, Following the release Titan-2 crane place Naftogaz and hearings were Naftogaz received results of vessel from seizure in its subsidiaries completed the first fifteen 2016, Naftogaz the Gulf of Mexico initiated arbitration between Naftogaz letters of credit intends to pay proceedings and Gazprom over totaling more than above against Russia transit contract EUR 220 million UAH 15 billion claiming for under a loan in dividends reimbursement of agreement with Citi and advance USD 2.6 billion for Bank and Deutsche profit tax to the assets stolen in Bank government Crimeа

NATURAL GAS INDEPENDENCE (gas productionand energy efficiency)

Naftogaz submitted China Development Ukrgaz- Ukrgaz- Ukrgaz- Ukrtransgaz to the Ministry Bank extended vydobuvannya vydobuvannya vydobuvannya put launched a solar of Economic the period of the conducted the launched an into operation the power station Development and availability of credit first successful ambitious program first gas well since of 400 thousand Trade of Ukraine to the amount of hydraulic of investment in 1991 with a daily pro- kilowatts (MEDT) four USD 3.65 billion for fracturing (HF) drilling valued at duction of 1 mcm investment proposals Naftogaz for energy operations USD 3 billion by to be financed by a projects to 25 2020 USD 3.65 billion credit December 2017 facility from China Development Bank

58 59 58 59 ANNUAL WHERE WE ARE NOW REPORT 2016

Dynamics of real GDP in Ukraine and developing Dynamics of the iMoRe index as a barometer countries, 2013-2016, % of the pace of reforms in 2015-2016 6 4.6 3.0 4.3 3.8 4.1 iMoRe MACROECONOMIC 4 2.4 2.9 2.5 2 2.3 0.2 2.1 0 2.0 0.0 ENVIRONMENT -2 1.5 -4 Other developing countries 1.0 -6 European developing -8 -6.6 -9.8 countries 0.5 Ukraine -10 0.0 2013 2014 2015 2016 January 2015 September 2015 June 2016 March 2017 Source: IMF, UN, State Statistics Service of Ukraine Source: Vox Ukraine

Sentiments of economic agents and their Dynamics of inflation in Ukraine in 2015-2016 dynamics in 2015-2016 (% year-on-year) 60 1.50 80 2016 70 2015

55 1.35 60

50

50 1.20 40 During 2016, Ukraine’s economy grew macroeconomic parameters such as: between regulated and market prices 30 by 2.3%, posting a 4.8% recovery in Q4 (as of and of 2016 – almost by 1.5 1.00 • relatively high inflation (although 2016 on a year-on-year basis. However, times) encouraged hidden subsidizing 45 1.05 20 within the NBU target range); Consumer sentiment index (left scale) this recovery is not enough to offset of consumers and reduced incentives Ratio of economic expectations to the assessment 10 of the current situation (right scale) the decline in economic activity during • exchange rate volatility; to increase energy efficiency. 0.90 the years 2013-2015 when the economy 40January 2015 September 2015 February 2016 March 2017 0January June September December • high credit risks; Ukraine’s credit rating during 2016 shrank by 14% (equivalent to a 3.7% Source: GfK, calculations of Naftogaz Source: State Statistics Service of Ukraine did not change significantly. Ratings average annual economic decline). • high cost and low availability of agencies such as Moody`s and S&P By comparison, the economies of capital. Dynamics of the Ukrainian currency exchange confirmed credit rating on the same Eastern European countries during the Credit rating Moody`s S&P Fitch In 2016, inflation was 12.4% on a level, but in November 2016, Fitch raised rate in 2015-2016 (UAH/ USD) same period grew by 7.8% (an average 30 year-on-year basis, showing a Ukraine’s long-term credit rating to B- 2016 annual growth rate of 1.9%), while 2015 Short-term in national B slight increase at the end of the and short-term credit rating to B. the economies of other developing currency year. Compared to 2015, the rate countries grew by 17.9% (4.2% average The sovereign premium for default of inflation slowed down but it 25 annual growth). risk for Ukraine (credit spread) was in foreign B B remained rather high (by comparison, relatively stable showing a slight currency Experts attribute this result to the EU harmonized inflation index downward trend. During 2016, it objective factors and the slow pace of stood at 1.7% for the same period). Long-term in national Caa3 B- B- fluctuated within the range of 6.0-7.5%, 20 reforms in the country, while pointing Administratively regulated prices currency which is on average 2 times higher out the tendency towards slowing continued to drive inflation dynamics than the risk premium for all other down reforms. For example, the significantly. in foreign Caa3 B- B- developing countries. High risk further dynamics of the iMoRe index (which 15 currency During 2016, the hryvnia exchange rate limits the possibility of raising capital January June September December characterizes the pace of reforms), Source: NBU fluctuated mainly within the range of for Ukraine’s economy. The high cost with a few exceptions, is not only USD 25-28, showing a general trend of capital is holding back the revival of below the level which corresponds Dynamics of risk premium in Ukraine Dynamics of interest rates for short-term toward devaluation, which was over economic activity in the country. to the “satisfactory” pace of reforms for 2016-2017 business loans in the Ukrainian national 13% in 2016. The pricing of natural 800 (2 points), but also shows a clear trend Given high inflation and risks, in 2016 the Sovereign premium default risk for Ukraine currency for 2015-2016 (%) gas is particularly sensitive to such (for ten-year Eurobonds) toward falling to zero. cost of credit also remained objectively high 30 2016 fluctuations. This is important both 2015 even though it declined compared to 2015. At Likewise, consumer sentiment indices (1) in terms of purchases of gas the end of 2016, commercial banks offered 700 25 show similar results reflecting both partially satisfied by imports, and short and long-term loans in the national a decrease in the positive balance (2) in the context of its sale, where currency at approximately 18% and 23% per of consumer sentiment and reduced as a result of devaluation, the gap 20 annum, respectively. In the case of foreign optimism about future expectations between regulated prices for natural 600 currency loans, the average loan interest regarding the situation in the current gas enjoyed by some categories 15 rate was around 7% and 9% for short-term period. of consumers (these prices have and long-term loans, respectively. remained unchanged since May The negative impact of a slowdown 500 10 2016) and natural gas market prices 7% and 9% for short-term and long- April 2016 August 2016 December 2016 March 2017 January June September December in economic reforms in the country Source: FRB, Thomson Reuters Source: NBU 60 widened. The significant difference term loans, respectively. 61 60 to some extent affects other 61 ANNUAL WHERE WE ARE NOW REPORT 2016 UKRAINE IN THE EUROPEAN GAS MARKET bcm

31.0

TOTAL 24.9 UGS Ukraine has the largest 17.9 CAPACITY 14.4 bcm, 2016 UGS 12.9 (source: GIE) in Europe 9.0 Conversion ratio: 10.46 TWh = 1 bcm. 6.4 BP Statistics 4.9 3.6 3.4 3.4 3.1 3.1 1.2 0.8 0.6 0.5 0.5 Ukraine Germany Italy Netherlands France Austria Hungary United Kingdom Czech Republic Slovakia Poland Spain Romania Denmark Belgium Bulgaria Croatia Serbia

GAS PRODUCTION 1 858.0 IN EUROPE 674.0 Gas production in 2016, 603.0 93.0 207.0 40.0 45.0 31.0 bcm 110.0 (source: Eurostat) Proven reserves 4.5 as of the end of 2015, 9.9 7.6 5.8 5.8 20.1 43.0 bcm 48.1 Italy Denmark (source: BP) 120.4 Germany Poland Romania United Kingdom

49.8 Netherlands Ukraine Ukraine # 1 Norway Ukraine Ukraine in Russian gas transit # 3 # 4 in proven in gas production Ukraine Ukraine 24.7 24.8 gas reserves # 14 # 7 GAS CONSUMPTION 17.9 in gas imports in gas consumption IN EUROPE 11.5 11.1

6.1 5.5 4.5 4.2 3.7 3.2 Consumption of gas 1.5 2.7 1.8 2.5 0.0 0.0 0.0 0.5 bought from Gazprom 0.0 0.0 0.0 0.0 0.0 0.0 0.1 group in 2016, bcm Germany United Kingdom Italy Turkey France Netherlands Ukraine Spain Poland Belgium Romania Hungary Austria Czech Republic Norway Portugal Ireland Slovakia Greece Denmark Bulgaria Croatia Finland Sweden Slovenia Luxembourg Macedonia 89.1 81.5 70.9 46.5 43.2 39.5 33.2 28.8 19.1 17.0 11.4 9.7 8.7 8.5 6.1 5.2 5.1 4.7 4.1 3.2 3.1 2.7 2.5 0.9 0.9 0.8 0.2 Consumption of gas 0.0 0.0 from other sources 0.8 0.1 1.0 1.4 1.4 0.9 0.4 in 2016, bcm 2.6 2.7 4.2 4.0 5.2 5.1 (sources: Eurostat, 6.1 8.0 Gazprom Export, 9.9 Naftogaz estimates) 17.0

21.7

28.8 31.7 35.3 33.2 39,3

46.2

63.6 62 63 62 63 ANNUAL WHERE WE ARE NOW REPORT 2016 UKRAINE’S GAS BALANCE 2016, bcm

8.2 Naftogaz 14.6 Ukrgazvydobuvannya Private importers from Europe 1.3 Ukrnafta 2.9 2.0 UGS: net injection 4.2 Other

The volume of gas stored in UGS PRODUCTION IMPORTS UGS as at 31 December 2016 12.0 20.1 11.1 33.2 33.2 SOURCES OF GAS GAS USAGE

17.6 9.9 3.6

HOUSEHOLDS INDUSTRY OPERATING NEEDS

14.0 The volume of gas stored in UGS as at 31 December 2015 0.1 Other 1.0 Gas distribution networks

5.7 DHCs 0.5 Ukrgazvydobuvannya DHC: companies generating heat for households, public sector and other institutions for households 0.3 Ukrnafta UGS: underground gas storage 1.7 Ukrtransgaz 11.9 Households (direct use) 2.0 DHCs for public sector and industrial consumers

64 65 64 65 ANNUAL REPORT 1 2016 1 other Naftogaz group companies UKRAINE’S GAS MARKET 2016 infrastructure that should be unbundled from trading functions bcm according to the EU Third Energy Package is marked with an orange line

GAS GAS GAS UNDERGROUND WHOLESALE GAS SUPPLY PRODUCTION2, 3 IMPORTS TRANSMISSION6,7 GAS STORAGE TRADE 4, 5 DISTRIBUTION6 TO LOCAL CONSUMERS 8

10,4 10.4 27.6 22.4 4.2 2.9 8,2 28,0 8.2 14.7 15.9 21.7 0.4 9.7 111.5 Naftogaz owns 25% + 1 share or less in The maximum volume some oblgazes, except for of gas in storage facilities Kirovohradgaz where Naftogaz owns at the start of the heating 51% of shares. season in October 2016 Operating needs of oblgazes account- ed for additional 1.0 bcm

3.0 to Moldova 79.2 to Europe 27.0 to distribution networks in Ukraine 2.3 to end users in Ukraine Potential – 31.0 bcm

1.0 11.1 10% Naftogaz from Europe

90% 0.9 8.9 Joint ventures with Other UGV as a minority owner The structure of natural 0.7 gas suppliers to the industry, UGV for its own and bcm production needs 13.0 UGV for households 82.2 17.6 6.8 Transit For households, including DHСs for households, 1.3 DHCs for households industry, public sector Ukrnafta and religious organizations 1.1 For industry, public sector 1.8 and religious organizations 1.2 Operating needs of Ukrtransgaz and 29.3 For DHCs for industry, public sector distribution system operators Transmission and religious organizations 1.8 within Ukraine Operating needs of Ukrtransgas TOTAL BY SEGMENTS and distribution system operators 1.0 bcm For industry 111.5 20.1 32.1 28.0 32.1 11.1 14.7

SOURCES INFRASTRUCTURE TRADING INFRASTRUCTURE TRADING

1. Data on Crimea, Sevastopol and the uncontrolled territories are not available 5. Excluding 0.02 bcm of unallocated gas volumes. Excluding the possible volume of the secondary market 2. Naftogaz group regained control over Ukrnafta as of 22 July 2015 and from that date accounts the company’s performance in its financial statements 6. Infrastructure that should be unbundled from trading functions according to the EU Third Energy Package 3. 1 bcm of gas own used for operating needs or as new material for LNG production 7. Excluding 1.0 bcm of gas transmitted by Ukrnafta, UGV and private companies 66 4. Additional 1.7 bcm of gas used by Ukrtransgaz for its own operating needs 8. Including 4.1 bcm of gas supplied to end users directly through trunk gas pipelines and gas networks of gas production companies 67 66 67 ANNUAL WHERE WE ARE NOW REPORT 2016

imports of Russian gas to Europe Current European gas market reached a record high2 of 178.3 bcm, situation while imports from Norway stayed at the In 2016, gas demand in Europe same level as in 20153 – at 108 bcm. increased. This demand rise was due The main reason for rising imports to higher prices for alternative energy from the Russian Federation was that sources (coal)1. Domestic gas production Russian gas prices were attractive for in the EU stood at a record low of European customers under long-term 132.9 bcm (according to Eurostat), as contracts with Gazprom as a sharp drop the government of the Netherlands in prices for oil and oil derivatives in tightened gas production restrictions 2015 and early 2016 (which are mainly at the Groningen field from 27 bcm linked to the price of Russian gas) was to 24 bcm. Against this background, fully reflected in the contract price as 1 Given that coal prices were higher than gas prices, in early as 2016. This allowed European 2016 there was a partial shift from coal to gas in North- importers to increase imports from West Europe. The use of coal in the UK for electricity 2 http://www.gazpromexport.ru/en/statistics/ generation decreased mainly due to constant exposure 3 https://www.statoil.com/content/dam/statoil/ on the price for coal, as well as due to decommissioning documents/annual-reports/2016/statoil-2016- of a number of coal power plants. annualreport-20-F.pdf.pdf p. 16

The relative dynamics of energy prices since early 2016 (price as of January 1, 2016 is equal to 100%) 200

Gas price at TTF hub (USD)/MWt·h Brent price, USD/bbl Coal price (AP12), USD/t

150

%

100

50 01.16 02.16 03.16 04.16 05.16 06.16 07.16 08.16 09.16 10.16 11.16 12.16 Source: Thomson Reuters Eikon

The relative dynamics of gas prices in different markets since early 2016 (price as of 1 January 2016 is equal to 100%) 200

Gas price at TTF hub (USD)/MWt·h Gas price at NBP hub (USD)/terminal Gas price at NCG hub (USD)/MWt·h Gas price at Henry hub (USD)/MMBTU

150

%

100

50 01.16 02.16 03.16 04.16 05.16 06.16 07.16 08.16 09.16 10.16 11.16 12.16 68 Source: Thomson Reuters Eikon 69

68 MARKET GAS 69 ANNUAL WHERE WE ARE NOW REPORT 2016

Gas transit to European late December, Gazprom continued to Volumes of Ukrainian transit will depend on the development Daily volume of transit via OPAL gas pipeline markets transport gas in January as it booked (through Greifswald entry point), mcm/d capacities for the next month (‘month of new Russian pipelines which provide alternatives to 100 EC decision to expand Gazprom access ahead’) in December. The chart below the Ukrainian route The EC decision and subsequent auctions for sale of additional OPAL gas pipeline to OPAL gas pipeline capacities increased its workload since December 2016 shows that OPAL’s utilization capacity SCENARIOS FOR TRANSIT VOLUMES IN 2017 2020, BCM Another event that shook the Eastern significantly dropped on 1 February 2017 NORD STREAM II PIPELINE 80 Baseline expectations European gas market in Q4 2016 as the February auction for the sale of the management Construction with delay Construction on schedule was the decision of the European of additional capacities could not be 6 84 82 84 82 60 Commission regarding conditions for conducted due to injunctive relief . 74 74

access to OPAL gas pipeline capacity. 55-65 Finally, in February 2017, Naftogaz On 28 October 2016, the European 40 appealed to the High Court of the Commission de facto permitted If pipeline provides export European Court of Justice with a 9 Gazprom to increase the share it uses in exclusively to Turkey 5-15 request for involvement in the case 2015 OPAL’s capacity from 50% to 80%. After 20 2016 upon a claim filed by PGNiG ST 2017 Nord Stream If pipeline provides export additional capacity auctions, flow of gas 84 84 stoppage to Turkey and South 82 82 appealing the EC decision. 74 74 through the OPAL gas pipeline began to East European Countries10 0 grow in the second half of December Naftogaz sent this request for January March May July September November 35-45 February April June August October December 2016 and peaked in January 2017 (an involvement, after having grounded it PIPELINE STREAM TURKISH Source: оfficial site OPAL average of about 95-100 mcm/d). by the previous practice of the court and indicating the potential negative 0 For Ukraine, the EC decision means The number of private importers of natural gas to Ukraine consequences of the EC decision for the a decline in volumes of Russian gas 9 Reduced transit in 2020 through replacing transportation volumes to Turkey at the end of each calendar year company. First of all, it poses a threat 10 Exports to the countries of South East ern Europe depends on the new infrastructure development in the region 35 transit and a reduction in Ukraine’s 35 to the security of natural gas supplies transit revenue. If Gazprom obtains Source: Expectations of outside consultants and Company management to Ukraine after the termination of gas 30 access to an additional 30% of OPAL flows from Poland, a deterioration of capacity, transit through Ukrainian 25 the Naftogaz competitive position, an territory is expected to shrink by 10- Commission to cancel the decision of Nord Stream pipeline. The aggregate 18 unexpected change in the regulatory 20 11 bcm/y, and Ukraine’s transit revenue 28 October 2016. capacity of the two branches of and market environment of the will fall by more than USD 300 million North Stream 2 will be 55-60 bcm/y. company. Adoption of the decision without 15 (estimate based on the ‘old contract In addition, Nord Stream capacity consultation with Ukraine violates tariff’). Involving Naftogaz in the case enables expansion was announced to 60 bcm. 10 Article 274 of the Association Agreement 5 the Ukrainian company to submit As a result, the total design capacity of On 4 December 2016, PGNiG Supply & between the EU and Ukraine, and 5 additional arguments in the case and Nord Stream and Nord Stream 2 will be Trading Company (PGNiG ST) filed a the EU’s commitment under the receive access to case files. 110-120 bcm/y. 0 2014 2015 2016 lawsuit to stop the implementation Energy Charter Treaty and the Energy Source: Ukrtransgaz data of the EC decision. The company Naftogaz request for leave to intervene Community Treaty, since it strengthens In addition to the decrease in challenged this decision because it was in the case initiated by PGNiG ST the dominant position of Gazprom and volumes of transit through Ukraine, made in excess of authority, violated the is being considered by the court associated companies. construction of Nord Stream 2 principles of legal certainty, protection according to the procedure. threatens the energy security of the the east during the downturn in the oil late 2016 - early 2017, European gas Russia’s alternative pipeline projects of legitimate expectations and EU, strengthens Russia’s position market and reduce imports from other prices rose sharply, but then gradually In addition to the request for proportionality, is inconsistent with the Further implementation of the Nord in Europe, and is contrary to the sources4. fell. The factors that contributed to involvement in the case as a third party, principles of EU policy, and violates the Stream 2 construction project, a new principles of the Energy Community. such a temporary peak include low on 27 March Naftogaz filed a lawsuit Russian gas prices were more attractive Association Agreement between the EU export gas pipeline running from Russia, gas stocks in gas storage facilities in in the High Court of the European The Turkish Stream project that will than LNG prices, while in 2016 volumes and Ukraine. In addition, the company would have a negative impact. Northwestern Europe and the failure Court of Justice against the European run through the Black Sea and Turkey of LNG supply to the global market argues that in making this decision, of the UK’s largest Rough gas storage Nord Stream 2 is a new export pipeline to Greece and have two branches with increased by 7.5% but were lower than Article 36 of Directive 2009/73/EC to facility5. 6 http://www.platts.ru/latest-news/natural-gas/ from Russia to Europe via the Baltic total capacity of 31.5 bcm/y threatens expected. The main consumers of LNG exclude new gas infrastructure from london/outlook-2017-european-gas-supply-demand- Sea through Germany in the Greifswald to stop transit through Ukraine to the were China, India and the Middle East, Technical problems at the storage the scope of certain requirements to-remain-26631430 district near to the exit point of the south. which offset the decline in imports from facility had a significant impact on the of the Third Energy Package was Japan and Latin America. dynamics of gas prices throughout incorrectly applied. 2016 and raised concerns about future The price for gas in Q4 was higher In late December, the European Court supplies. According to the latest data than previous periods due to seasonal suspended the EC decision to expand Dynamics of Russian natural gas volume sent via Ukraine and volumes of transit from Centrica Storage Limited operator, factors, in particular due to the Gazprom access to the OPAL pipeline. via Nord Stream, bcm/year the gas storage facility will resume decrease in temperatures below the The courts are currently checking on operations from May 2018. This factor 2008 2009 2010 2011 2012 2013 2014 2015 2016 long-term normal temperature, and the legality of the decision. Resolution will lead to higher gas prices in the UK subsequent increase in gas demand. was expected by the end of January, Transit through Ukraine 119.6 95.8 98.6 104.2 84.3 86.1 62.2 67.1 82.2 during heating season 2017-2018. After a sharp temperature drop in but as of March 2017, the decision (Nafrogaz data, taking into account gas transit by had not yet been rendered. However, RosUkrEnergo AG) 4 http://en.pgnig.pl/documents/18252/1757433/ 5 Rough is the only gas storage facility in the UK despite the fact that the decision Transit via Nord Stream І (IEA web-site data) - - - 0.7 11.3 23.5 34.0 37.7 43.7 Consolidated+annual+report_GKPGNiG_2016. used for seasonal gas storage. It accounts for to expand access was suspended in Additional: Russian gas volumes sent via Ukraine to European consumers rose in 2016 as a result of increase of Russian gas exports to Europe. 70pdf/70fb36d6-4879-48aa-a323-f7e2d3a5fbd1 ст.161 about 70% of the UK’s current gas storage capacity. 71 70 71 ANNUAL WHERE WE ARE NOW REPORT 2016

NORD STREAM 2: • Industrial gas consumers in Central, Eastern • By redrawing the European gas flows map, and Southern Europe will become less Russia will be able to offer gas discounts The key to Russian dominance and potential competitive compared to their German in CEE and SEE in exchange for political Nord Stream 2 and Turkish Stream – two main alternatives for Russia abuses on the European gas market counterparts, because the gas price in the concessions, gaining a tool to influence EU enabling it to terminate transit through Ukraine beginning in 2020 Background region will include additional transmission decisions. costs. • Nord Stream 2 (NS2) is a gas pipeline project • Through NS2, Russia’s will have leverage in GAS TRANSPORTATION ROUTES PROJECTIONS FOR TRANSIT VOLUMES THROUGH 7 8 developed by Russia’s Gazprom in the Baltic Energy security concerns: relations with Germany. Germany will be a FROM RUSSIA TO EUROPE UKRAINE IN 2020 , BCM Sea. It is aimed to double the capacity of host country of the key gas transit route Existing pipelines Europe Turkey • The redirection of gas flows may lead to gas Nord Stream (NS), the existing underwater to other EU member states. Russia has Potential new projects shortages in Central, Southern and Eastern pipeline connecting Russia and Germany, from made pressure on transit countries through Expected Russian Europe (CEE and SEE) due to existing gas 55 billion cubic meters (bcm) to 110-115 bcm consumer countries more than once. exports to Europe transmission capacity bottlenecks within the 140-150 a year (German annual demand), starting EU. • Furthermore, NS2 and its German section from 2019. NORD STREAM 2 Contracted volumes will be indirectly owned by Russia, which • Northern and Western Europe will become 55-60 bcm from Russia 25 • In 2015, Gazprom reached a deal with poses the risk that the key gas transmission more dependent on Russian gas. to Turkey five Western European companies (BASF, infrastructure may be used for non- Alternative E.ON, ENGIE, OMV and Shell) to jointly • The EU will be dependent on the offshore NS commercial purposes. routes to ~85 develop the project. In 2016, following a and NS2 for Russian gas deliveries. Unlike the EU Applicable legal regime dispute: “a legal void” decision of the Polish antitrust regulator, in the case with traditional onshore routes, Via Blue the Western companies pulled out of the an emergency event could cause a halt of • There is a dispute between the project’s Stream 15 partnership. the entire 1200 km underwater pipeline for supporters and opponents over whether EU YAMAL 39 bcm several weeks. law is applicable to NS2. If EU energy and NORD STREAM Residual volume • In 2017, Gazprom announced the partners through Ukraine antitrust regulations are fully applied, the 55 bcm THROUGH UKRAINE 55-65 10 would still contribute financing to the project. • The failure of even one of the four pipelines (excluding project is not likely to be built. 146 bcm will have detrimental effects on the EU new projects) • Gazprom says it is ready to develop and TURKISH STREAM BLUE STREAM The aggregate capacity security of gas supply. • The pipeline passes the territory of four EU 32 bcm 16 bcm Pipeline capacity finance the USD 10.3 billion project alone. of new pipelines may member states: Finland, Sweden, Denmark within the framework 80-90 stop transit through Security concerns: of new projects • Russia currently accounts for approximately and Germany. A formal clearance on Ukraine after 2020

30% of gas imports to the EU and 60% of • To avoid the inevitable supply interruption environmental issues is required from each 7 Including Turkey, but excluding Finland, Baltic countries and Belarus imports to Germany. risks, Russia, as the owner of the pipelines country for the project to proceed. 8 Provided that Yamal-Europe, Nord Stream and Blue Stream are running at 90% of their capacity Source: Naftogaz, expectations of external consultants, PJSC Gazprom, official reports in the press and the gas they transmit, may want to • The launch of the NS2 will further strengthen • Germany and Gazprom insist that the project increase its military presence in the Baltic Sea Russia’s dominant role in the EU gas market is a purely commercial deal that should only to safeguard this key gas delivery route. This and raises a number of competition, energy be governed by German law in its onshore may potentially result in tensions among NATO security, geopolitical and security issues. part and that no European law is applicable to Ukraine-Poland interconnector opinion with regard to the design sufficient to meet the country’s needs. members over security vs. gas supply issues. There is no economic reasoning behind this the offshore section. documentation. Ukrtransgaz will In 2016, gas imports decreased by In order to increase gas imports to project. The expected tariffs for the Ukrainian Environmental concerns: finance the project and has already 32% compared to the previous year, • Denmark and Sweden have asked the Ukraine from Europe through Poland route in 2020 will be significantly (up to four signed a design work contract. or from 16.4 bcm to 11.1 bcm. 10 years • Unlike in the case of the Nord Stream, the European Commission for a formal and enable storage of European gas times) lower than expected tariffs of NS2 ago, Ukraine imported as much as NS2 does not have an inherent Union interest. clarification on whether the EU law should be in Ukraine’s underground gas facilities, Currently, the joint Open Season after its construction. 5 times more gas than now. The The project constitutes excessive and fully applied to NS2. Ukrtransgaz continues to work actively procedure for shifting to the new decrease in gas imports reduces the Outcomes objectively unnecessary gas infrastructure on construction of a Ukraine-Poland interconnector capacity on both the • In its reply to the request of the Nordic negative impact on Ukraine’s balance of whose function could be easily performed interconnector. The project would Polish and Ukrainian sides is under Competition concerns: countries, quoted by media, the EC confirmed payments and GDP. by already existing onshore facilities. In the enable the creation of the East development. Ukrtransgaz is interested that the rules for applying EU law, including • NS2 will not connect the EU to new sources same time, construction and operation of NS2 European gas hub and the pumping of in holding consultations with gas The drop in Naftogaz’s share in the Third Energy Package, to gas pipelines of gas and will lead to a redirection of will inevitably affect the living conditions of up to 8 bcm/y of gas from Poland to market participants. The Ukrainian and imports in favor of private importers built along the sea bottom are unclear. The Russian gas flows from existing sources. This animal and plant species and put the marine Ukraine, and up to 7 bcm/y of gas from Polish sections of the interconnector and industrial consumers is a crucial commission also noted that NS2 should not redirection will result in a concentration of environment at risk. Realization of this project Ukraine to the EU. are expected to be constructed shift. Last year, independent importers be built and operated solely under the law of Russian gas flows in the Nord Streams. would unjustifiably shift the balance between simultaneously and ready by mid-2020. brought 2.6 times more gas than in Russia or in a legal void. The interconnector is part of the North- economic, private interests of the project 2015 (2.9 bcm versus 1.1 bcm). The • Existing pipelines carrying gas from the East South Gas Corridor, which will connect promoter and environmental, public interests • The European Commission has requested a Natural gas imports to Ukraine number of private importers in Ukraine through Ukraine and Poland can become less the LNG terminal in Svynoustyi with in favor of the former. mandate from member states to negotiate doubled and exceeded three dozen. sustainable because of the reduced load. Central and Western Europe. Currently, In 2016, Ukraine did not import gas from with Russia over objections to NS2. The Geopolitical concerns: the maximum capacity of gas supplies the Russian Federation. By eliminating In 2016, Naftogaz imported 8.2 bcm of • NS2 will create an overcapacity for Russian Commission is reported to have a view that from Poland to Ukraine is 1.5 bcm/y. gas dependence on Russia, Naftogaz gas from the European market, which gas delivery in Germany, undermining the • NS2 is an instrument of Russia’s “divide and key principles of the European energy law and other Ukrainian importers now is 1 bcm (11%) less than in the previous feasibility of LNG deliveries. Given stable conquer” strategy. CEE and SEE countries should be applied to the project, including the The Ukraine-Poland Interconnector have access to other sources of gas year. Total gas imports by Naftogaz forecasted gas demand in the EU, Russia is are already highly dependent on Russian offshore section is included in the ENTSOG Ten-Year and can choose from several dozen decreased by 47% compared to 2015. likely to win the share of the Netherlands, gas. Having concentrated gas supply in its Development Plan for 2015-2025 and • In April 2017, Denmark announced its plans suppliers. The joint efforts of numerous In the reporting period, Naftogaz the UK and Norway gas suppliers (as their Nord Streams, Russia will expand its control on the list of the Energy Community to amend its national legislation so that the participants helped to organize gas cooperated with 15 suppliers. None of production declines), which will strengthen of or influence on both the infrastructure projects of mutual interest (PMI). In project could also be blocked on security or supplies to Ukraine exclusively from these companies had more than 30% of Gazprom’s dominant role. bottlenecks and gas supply to Europe. addition, on 4 March 2016, the State geopolitical grounds. the European route in quantities the total gas imports of the company. 72 Expertise Service delivered a positive 73 72 73 ANNUAL WHERE WE ARE NOW REPORT 2016

Value of imported gas vs How much was saved in Q2-Q4 2016 "take-or-pay" claim in 2016

2016 take-or-pay claim as alleged 1.78 5.32 1 Q4 2016 0.74 by Gazprom, USD billion 1.00

1.78 Q3 2016 0.50 USD 4.1 bn if compared to 0.61 Value of gas imported 1.24 Naftogaz' imports by Naftogaz, USD billion 1.76 Q2 2016 0.06 2016 take-or-pay claim as alleged by Gazprom1, USD billion USD 3.7 bn if Value of gas imported by Naftogaz, USD billion Value of gas imported compared to all Value of gas imported by all companies2, USD billion by all companies2, USD billion 1.67 imports to Ukraine Q1 2016 0.40 0.52 0.0 0.5 1.0 1.5 2.0 0 1 2 3 4 5 6 Sources: Naftogaz, State Statistics Service of Ukraine 1 based on flat distribution of Gazprom's alleged claim based on number of days by quarters 2 data from State Statistics Service of Ukraine

Thanks to reverse gas supplies from the EU Naftogaz efforts in the diversification of attracting contractors for hydraulic instead of satisfying Gazprom’s ungrounded Ukraine’s gas supply routes and sources fracturing operations. The company also “take-or-pay” demands (dismissed by the therefore resulted in axing the imported announced a tender for drilling 90 wells Arbitration Tribunal’s separate award) in Q2- gas costs by more than 4 times during 2017-2019. Q4 2016, Naftogaz saved over USD 4 billion. compared with the assumed ones. However, due to financial problems In January 2017, Gazprom sent Naftogaz Natural gas including a tax debt, Ukrnafta Dynamics of aggregate natural gas usage in Ukraine, an invoice of more than USD 5.3 billion for usage in Ukraine Natural gas production in experienced a rapid decrease in natural 2010-2016 (bcm) April-December 2016, while Naftogaz paid Ukraine In 2016, natural gas usage in Ukraine gas production. By the end of 2016, its 60 only USD 1.24 billion for the gas imported decreased by 2% compared to 2015, 1,22 Based on the results for 2016, annual output result was 1.3 bcm, which is 14% 59.3 within the said period, which is 4.3 times falling to 33.2 bcm against 33.8 bcm 57.7 54.8 gas production was 20.1 bcm, which or 205 mcm less than the previous year. less. According to Naftogaz estimates, in 2015. is 0.5% more than the previous year The company is no longer the second 50.4 if Naftogaz had paid Gazprom as much 50 (19,9 bcm). Ukrgazvydobuvannya largest gas production company in In 2016, total final consumption as it wanted, Ukraine’s GDP would have increased gas production by 77 mcm Ukraine. of natural gas was 88.6% of its fallen by more than 2% instead of a 0,59 to 14.6 bcm, which made up 73% of aggregate usage. The remaining gas 42.2 2.3% growth. It also would be logical to Private companies increased production natural gas production in Ukraine in (3.8 bcm and 3.5 bcm in 2016 and 40 expect a considerable negative effect on to 4.2 bcm, or 5.5% compared to 2015, 0,42 2016. Last year, the company announced 2015, respectively) was used to meet 0,35 the current account of the balance of significantly slowing down production implementation of several ambitious industrial and technological needs, 33.2 payments, currency exchange rate and growth compared to previous years 33.8 investment projects covering the including transit, transportation budget deficit. (when growth amounted to +15-24% 30 purchase of new drilling equipment and and distribution of natural gas and 2010 2011 2012 2013 2014 2015 2016 y-o-y). This lowest growth rate for production of liquefied natural gas. Source: Naftogaz the private segment over the past six Current account balance of Ukraine and imported gas price, years was due to lower investment Minor declines in gas usage are Частка Нафтогазу у ринкових сегментах, що підпадають and operational activity over the past associated primarily with increased Dynamics of natural gas usage by industrial consumers USD million (верхня частина) та не підпадають (нижня частина) під дію Current account balance of Ukaine two years. This situation was caused consumption by regulated market (% to previous year) 15 000 Imported gas price by several factors: firstly, a record segments. In particular, in 2016 Положення про покладення спеціальних обов’язків, 2015-2016 роки 10 collapse in market prices for gas households used 11.9 bcm of gas, 10 000 1,22 (consistent with import parity), and which is 0.6 bcm more than in 2015 5 secondly, high rates of rental payments (+5%). 5 000 for hydrocarbon extraction in the period 0 2015 2016 Lower volumes of natural gas used 2014-20157. 0 in 2016 compared to 2015 were due, -5

in particular, to lower natural gas -10 -5 000 100% 100% consumption by industrial consumers production sector (against the background of some -15 chemical industry 7 However, 2016 began with a return to rates of rental -10 000 recovery in industrial production) by gas usage for industrial purposes payment for gas extraction for private companies to -20 metallurgical industry 11.4% (to 9.7 bcm against 11.0 bcm in production of construction materials the previous level observed two years earlier: from 39% 31% -15 000 2015). Given that growth was observed -25 55% to 29% for mining to a depth of 5000 m and in the sectors that are traditionally from 29% to 14% in production from wells deeper -20 000 energy-intensive and large gas volumes -30 20152014 2015 20162016 2012 2013 2014 2015 2016 5000 m. From the beginning of 2017, rental rates for Sources: NBU, State Statistics Service of Ukraine used, it may be indicative of some Source: Naftogaz, State Statistics Service of Ukraine 74 Ukrgazvydobuvannya were reduced to a similar level. 61% 69% 75 74 75 Fluctuations in natural gas usage by consumer categories

in 2016, bcm НАК Нафтогаз України Інші

35 33.4* 33.2

+0.58 30 -1.24 +0.19 +0.23

25

20 домогосподарства, бюджетні установи та релігійні організації 15 промислові споживачі ТКЕ виробничо-технологічні потреби 10

5

0 2015 households, budgetary industrial district industrial and 2016 institutions and consumers heating technological religious organizations companies needs Source: Naftogaz *Excluding the ATO area and unallocated volumes

Dynamics in the difference between market and regulated (in the framework of PSO) prices for natural gas, % 200 1,22

150

100

50

0 12.15 01.16 02.16 03.16 04.16 05.16 06.16 07.16 08.16 09.16 10.16 11.16 12.16 01.17 02.17 03.17 04.17

Source: Thomson Reuters, Naftogaz Dynamics of natural gas usage by industrial consumers (% to previous year)

10 1,22 5

0

-5

-10

production sector -15 chemical industry gas usage for industrial purposes -20 metallurgical industry ANNUAL production of construction materials REPORT -25 WHERE WE ARE NOW 2016 -30 2014 2015 2016 Source: Naftogaz, State Statistics Service of Ukraine

Fluctuations in natural gas usage by consumer categories reduction in the energy intensity of industrial production or its conversion in 2016, bcm to alternative energy sources. 35 33.4* 33.2 Much of these natural gas supplies +0.58 -1.24 +0.19 +0.23 involved meeting the direct needs 30 of the households, district heating companies (DHC) and religious 25 organizations by Naftogaz at state-

20 regulated prices in line with its домогосподарства, бюджетні установи та релігійні організації public service obligations (PSO). In 15 промислові споживачі 2016, these categories of consumers ТКЕ increased natural gas usage, and виробничо-технологічні потреби 10 this increase was only partly due to low temperatures during the heating 5 season. Households remained the main consumer of natural gas, with 0 2015 households, budgetary industrial district industrial and 2016 17.6 bcm used to cover their needs institutions and consumers heating technological (including gas consumption by DHC religious organizations companies needs producing heat for the households). Source: Naftogaz *Excluding the ATO area and unallocated volumes The inert state regulation of natural gas prices for consumers in the Dynamics in the difference between market and regulated context of PSO caused some delay in the regulated prices established (in the framework of PSO) prices for natural gas, % in spring 2016 as import parity 200 1,22 price from the current level of its market equivalent - this resulted in a noticeable price differential, 150 which at the end of 2016 had reached 40%. This situation creates tthe risk of structural imbalances in the 100 economy and capital misallocation. For example, selling natural gas at a price significantly below the market 50 level limits investments in exploration for new oil and gas deposits (to the amount of the price difference) and

0 impedes increasing extraction to 12.15 01.16 02.16 03.16 04.16 05.16 06.16 07.16 08.16 09.16 10.16 11.16 12.16 01.17 02.17 03.17 04.17 overcome Ukraine’s dependence on Source: Thomson Reuters, Naftogaz energy imports.

Main factors of fluctuations in natural gas supplies to meet direct needs of households (left) and dhc for household needs (right) in 2016, mcm To meet household needs in 2016, explained by temperature factors, in to meet household needs, including +309.9 +184.7 +99.3 11 879 17.6 bcm was used against 17.2 bcm particular мcolder winters in the north. through energy saving projects. 12000 11 283 7000 in 2015, including 11.9 bcm used by +171 0 -309.4 The main factors determining natural According to independent experts, 6000 5 882 5 774 households directly for their own needs 10000 gas consumption by households were potential reduction in natural gas usage (cooking, hot water and heating) and 5000 lower temperature during the heating through energy efficiency enhancements 8000 5.7 bcm by heat generating companies months of 2016 (especially in November and energy saving programs is seriously 4000 providing services to households. and December) and the upward revision restricted by the current system of 6000 Regionally, there are very noticeable 3000 of gas usege rates by households that subsidies. This system needs to improve geographical differences in volumes 4000 are not equipped with gas meters (see to preserve the motivation to save energy 2000 of gas usage by households - the CMU Regulation No.203 of 23.03.2016). and engage in efficient use of natural northern and western regions of 2000 1000 The combined effect of other factors gas. Monetization is one the main areas Ukraine increased volumes of natural (including changes in consumer contributing to the efficiency of subsidy 0 0 gas consumption (excluding Kyiv region 2015 weather increase other 2015 weather increase other behavior when using gas to meet their programs, with the inclusion of effective 2016 2016 and the city of Kyiv), while the southern factor in consumption factors factor in consumption factors own needs) led to a slight decrease mechanisms aimed at motivating the and eastern regions reduced them rates rates in overall natural gas consumption prudent use of natural gas. 76 (except Luhansk region). This could be 77 76 77 ANNUAL WHERE WE ARE NOW REPORT 2016 Natural gas consumption by households in 2016 and change compared to 2015 (bcm/% y-o-y) OIL AND PETROLEUM VOLYN 0.28/13% CHERNIHIV RIVNE 0.36/43% 0.31/21% SUMY 0.42/17% KYIV ZHYTOMYR PRODUCT MARKET 0.18/0% LVIV 0.40/9% 0.85/13% KYIV REGION TERNOPIL POLTAVA 0.97/1% 0.44/8% 0.68/11% LUHANSK KHMELNYTSKYI KHARKIV CHERKASY 0.27/8% 0.45/14% 0.79/2% 0.45/12% ZAKARPATTIA ІVANO-FRANKIVSK VINNYTSIA 0.41/5% 0.52/17% 0.55/12% KIROVOHRAD CHERNIVTSI DNIPROPETROVSK DONETSK 0.27/-13% 0.28/5% 1.02/-2% 0.47/-19%

ODESA MYKOLAIV ZAPORIZHZHIA 0.52/-5% 0.31/-1% 0.41/0%

KHERSON increased volumes of gas consumption 0.26/-4% no significant change in consumption (+/- 2%) reduced gas consumption Global oil market 80 Uncontrolled territory AR CRIMEA Brent oil prices, 2015-2016, USD/bbl N/A 2016 witnessed the lowest crude oil prices 70 *Excluding temporarily uncontrollable territories in Luhansk and Donetsk regions for the past 12 years, with the average Source: Naftogaz 61.9 Brent oil price at an average of USD 44 per 60 53.9 barrel. Moreover, the price of oil throughout 50.5 50 49.3 2016 was quite volatile, fluctuating in the 45.6 45.9 Current programs are insufficient to adequately overcome low energy 43.8 range of USD 26 to USD 55 per barrel. 40 efficiency in Ukraine In autumn 2016, representatives from OPEC 33.9 30 Key energy efficiency initiatives Energy efficiency programs in Ukraine members resolved during several meetings

to reduce volumes of oil production to curb 20 Gas saving1 Investments Реальний вплив на oversupply in the market. OPEC member Initiatives bcm USD billion Programs Status економію countries seek to achieve a stable trend 10 Launched in 2015, towards strengthening global oil prices More efficient/ 0 covered more than through the transition from ‘sustainable DHC alternative ~1.1 2 “Warm 150 thousand mining to ‘supply‑and‑demand balance’ Q1 2015 Q2 2015 Q3 2015 Q4 2015 Q1 2016 Q2 2016 Q3 2016 Q4 2016 boilers Energy Efficiency credits” Source: S&P Global Platts households Programs can policies. More efficient/ ensure savings in Individual alternative ~3.0 4 household bills up Launched According to the World Bank and OPEC, oil boilers in May 2016 demand in 2016 grew by 1.3 million barrels Global oil demand and supply balance, million barrels per day boilers to USD 2.5 billion IQ Energy and accelerate per day to 94.5 million barrels per day. OECD 97 Modernization market Transpor- 2 countries have demonstrated significant tation and of gas pipelines ~0.7 transformations ~50% coverage growth, adding 0.37 million barrels per day. 96 distribution The current of households China and India faced continued growth, status is Installation Meters with with heat meters 95 characterized by of meters each adding 0.29 million barrels per day. thermoregulation ~0.8 2 Multi- insufficient OPEC is expecting in 2017 the level of 94 updates of energy demand to grow by 1.16 million barrels per storied Pending since efficiency buildings Energy 2017 day more and reach 95.6 million barrels 93 Thermo- problems in ~3.4 16 Efficiency per day. modernization Ukraine Fund 92 In 2016, the demand and supply balance Family Thermo-- 91 ~5.5 10 Pending since of oil stocks was not reached in the global homes modernization Programs 2017 market. If the parties to the agreement to supply oil demand for ТЕК cut oil production manage to execute it, 90 ~12 Total Висока this should decrease the negative balance 89 36 in 2017 and reduce global commercial 2013 2014 2015 2016 Низька reserves. Source: OPEC monthly oil market report; World Bank Group (Commodity Markets Outlook) 781 2015 as a base year 79 78 79 ANNUAL WHERE WE ARE NOW REPORT 2016

According to the OPEC Secretariat and the to the global oil price change trend. In EU-16 refineries capacity utilization level and Brent oil U.S. Energy Information Administration, particular, the increase in oil prices in Global oil demand and supply balance and oil price refinery margin EU-16 refineries capacity utilization level (left scale) 10 commercial oil reserves in OECD countries the period of January through December 91 Brent oil refinery margin, NW Europe (righte scale) 2.0 120 have been declining steadily since summer 2016 amounted to about 75% (from 2016, while their level remained higher than USD 31 to USD 54 per barrel), while at the 9 the average over the last five years. High same time, increase in petroleum product 89 1.5 90 levels of reserves are maintained in the consumer prices in the EU amounted to 6% 8 United States alone, where they exceeded the for gasoline and about 13% for diesel fuel. average of the past five years by about 30%. % 7 1.0 60 In late 2016, the oil storage facilities filling Oil and condensate extraction in 87 USD per barrel USD 6 USD/barrels level in Europe fell below the 2015 level, while Ukraine oil reserves in Japan fell to a multi‑year low. 0.5 30 million barrels/day The decline in oil prices in 2014‑2015 caused 5 by excess supply probably reached its critical 85 The European market for oil and point in 2016. The US ‘Shale Revolution’, which 0.0 4 0 petroleum products became possible only under a new era of Brent oil price (right scale) Demand and supply balance (left scale) The European oil refining capacity is about ‘expensive’ oil, has borne fruit in the form of 83 3 Q1 2015 Q2 2015 Q3 2015 Q4 2015 Q1 2016 Q2 2016 Q3 2016 Q4 2016 -0,5 -30 16% of the global capacity. According to the additional, excessive volumes of oil in the 2013 2014 2015 2016 European Petroleum Refiners Association market and gradual technology development Source: OPEC monthly oil market report (2014-2016); International Energy Agency (IEA), Global Refining Margin Indicator Source: S&P Global Platts, OPEC monthly oil market report; World Bank Group (Commodity Markets Outlook) (AISBL), refinery capacity utilization in that led to a reduction in oil extraction costs. Europe in the period 2007 through 2015 fell At the same time, lower prices caused from 87% to 78%. In the period between by excess supply meant the fields with Brent oil price and EU-16 refineries capacity utilization 2007 and 2014, about 17 refineries stopped high extraction costs could not survive. EU-16 refineries capacity utilization (righte scale) Scenarios of events operations (mainly in Italy, France and the 65 92 Moreover, rapid decline in oil prices led to oil Brent oil price (left scale) UK), and at the beginning of 2015 there in the global oil market companies rolling back investment programs were 83 refineries operating in Europe. for the development of new fields. Among the main reasons for lower 55 Demand OPEC Unconventional Other The decline in global oil prices has had some oil (UO) capacity utilization of European refineries 88 impact on Naftogaz Group companies – are the reduced demand for petroleum Ukrnafta and Ukrgazvydobuvannya. Given products, evolution of demand (lower 45 %

the low level of investment in drilling of new per barrel USD petroleum consumption in favor of diesel RAPID RECOVERY wells and overhauls in previous periods Rapid growth in global OPEC members are UO production is Production growth rate fuel consumption), rising share of energy against the backdrop of natural decline in 84 GDP (more than 3.2% cutting production to growing against price is returning to the costs in refinery operating expenses with fields productivity, the fall of global oil prices per year) support prices increase weighted average simultaneous reduction of oil refining 35 Growth in demand at and significant tax burden in 2016, Ukrnafta 1.0% per year margins. This leads to increased refinery reduced oil and condensate extraction by sensitivity to changes in the cost of oil and 10%, and Ukrgazvydobuvannya by 5%. In petroleum products. 25 80 SLOW RECOVERY addition, volumes of oil and condensate Q1 2015 Q2 2015 Q3 2015 Q4 2015 Q1 2016 Q2 2016 Q3 2016 Q4 2016 In 2015 and 2016, European refineries production by private companies in Ukraine Global GDP growth of Investments in UO production Production decline rate Source: Fuels Europe dataroom; OPEC monthly oil market report (2014-2016) 2.8% due to production are at the growth is slowing in the existing elds is capacity utilization somewhat improved were reduced by 15%. slowdown of the level of growing down and remains accelerating due to higher refining margins at refineries. Chinese economy. market demand stable since 2020 This trend can be explained primarily by According to IEA/KBC Monthly Global Weak growth in the delayed response of the legislative Global oil price and petroleum products' consumer prices in EU demand (0.5% per Indicator Refining Margins, the average oil year) authorities to changing market conditions refining margins at the refineries in the A-95 gasoline prices (left scale) and, therefore, insufficiently flexible taxation 1500 Northwestern Europe were approximately diesel fuel prices (left scale) 100 of hydrocarbon producers in Ukraine ‑ Brent oil prices (right scale) UNDERINVESTMENT USD 3.6/bbl in 2014, but already in 2015 and rental rates were reduced only in January 2016 they were USD 7.3 and USD 4.3/bbl, Global GDP growth of Restrictions of UO production High price levels 20171. As a result, at a high taxation level in 86 2.8% due to production output by growth rates are increase investments in respectively. Refining margins decreased slowdown of the OPEC increase lagging behind price new projects 2016 extracting companies were forced to in 2016 compared to 2015 due to increased 1300 Chinese economy. possible price spikes increases operate under conditions of underfunded Weak growth in global refinery capacity utilization levels. 72 demand (0.5% per development programs. In future, in view year) The decline in European refineries capacity of the lower tax burden on hydrocarbon utilization levels compared to 2015 was production operations in Ukraine, volumes USD/bbl

Euro/1000 liters Euro/1000 58 OVERSUPPLY due to increase in diesel fuel imports of drilling and hydrocarbon production, 1100

Global GDP growth of OPEC member UO production Low level of full-life from Russia, the United States, and Asia. including oil and gas condensate, are 2.8% due to production at highest increases due to new cycle costs for new However, the European refineries capacity expected to grow. 44 slowdown of the possile levels with a technology and projects due to utilization level in 2016 was still significantly Chinese economy lack of agreements to reduction of technical and economic (0.5% per year) cut production production costs factors higher than in 2014. 1 As from 1 January 2017, the rental rate for oil and gas 900 condensate extraction decreased from 45% to 29% of 30 In 2016, the consumer price change trend 01.16 02.16 03.16 04.16 05.16 06.16 07.16 08.16 09.16 10.16 11.16 12.16 the commodity value for deposits above 5000 meters Source: S&P Global Platts; weekly energy bulletin of the European Commission Source: Scenarios evaluation by external consultants and Naftogaz for petroleum products corresponded 80 and from 21% to 14% for deposits below 5000 meters. 81 80 81 ANNUAL WHERE WE ARE NOW REPORT 2016

Oil and condensate extraction in Ukraine, thousand t Oil and condensate sales by Ukrnafta, 2015-2016

3000 Other 302 65 Ukrnafta selling price estimates, USD/barrel Naftogaz group Platts Urals price, USD/barrel (monthly average) 308 2500 60 280 55 236 2000 50

45 1500 2 674 2 421 40 2 183 1000 2 003 35

30 500

25 0 20 2013 2014 2015 2016 03.15 06.15 09.15 12.15 03.16 06.16 09.16 12.16 Source: Naftogaz, Ministry of Energy and Coal Industry of Ukraine Source: UICE, S&P Global Platts, own calculations Oil sales in Ukraine refining, which in turn led to an increase in the share of petroleum product imports. Dynamics of oil extraction in/imports to Ukraine, Ukrnafta and Ukrgazvydobuvannya 2005-2016 account for approximately 90% of oil and According to data from the State Fiscal import, million tons/year gas condensate extraction in Ukraine Service of Ukraine for 2016, the total volume Ukraine's petroleum product market balance, 2016, million t 15 14.6 extraction, million tons/year (about 68% and 22%, respectively). of imports into Ukraine under the UCG FEA 12 8.5 11.0 Ukrgazvydobuvannya is refining oil and gas (Ukrainian Classification of Goods of Foreign 12 condensate at its own production facilities. Economic Activity) 2710 (oil and petroleum 10 10.7 Ukrnafta is selling domestically produced oil products) amounted to 7.4 million tons, 9.8 and gas condensate exclusively at auctions while exports of petroleum products was 8 9 in accordance with Article 41 of the law 233.6 thousand tons. 7.8 7.2 ‘On Oil and Gas’ and the procedure for 6.6 The all‑Ukrainian capacity of oil refineries 6 organizing and holding exchange auctions 6 5.7 is about 40 million tons of oil per year, for sale of domestically produced crude oil, or almost four times the demand for 4 gas condensate and LNG, approved by the 2.7 4.4 4.5 4.5 4.3 petroleum products in Ukraine. Despite 3 4.0 3.6 Cabinet of Ministers of Ukraine Regulation 2 3.4 3.3 2.2 sufficient refinery capacity in Ukraine, 3.0 2.7 No. 570 of 16.10.14. 2.4 refinery capacity utilization is very -0.2 0.8 0 1.5 0.2 0.2 0.5 0 Today, crude oil in Ukraine is refined by low (approximately 7%). Today, only Kremenchug refinery only, at volumes Kremenchuck and Shebelinskiy refineries 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 -2 Source: Naftogaz, Ministry of Energy and Coal Industry of Ukraine, EIR Center, State Fiscal Service of Ukraine of about 2.1 million tons per year – this carry out refining of mainly domestically Export Production Import Balance is mainly domestically produced oil and produced hydrocarbons to the extent of gas condensate. The other five domestic about 2.7 million tons of hydrocarbons Source: State Fiscal Service of Ukraine, NefteRynok, Oilnews, own calculations Structure of oil and condensate extraction in 2016 by companies, % refineries do not process oil and it is (2016). unlikely that they will resume their In only 10 years, Ukraine underwent a operations in the short‑term. transformation from a country with Motor fuel market balance in Ukraine, 2016, % 22 According to the rules of procedure and surplus refinery capacity and oil exporting approved auction scheme, starting prices country to a country that is more than 80% 2 Naftogazvydobuvannya for domestically produced oil sales are dependent on petroleum products imports. 2 Natural resources usually calculated based on the Platts In 2015‑2016, Kremenchuck oil refinery 11 Crude Oil Marketwire publications on the 2 Poltava Petroleum Company (PPC) refined oil from Ukrainian oil fields 1 mean prices of actual agreements on Ukrnaftoburinnya together with CPC Blend oil and gas Production Esco-Pivnich Urals oil sale (UralsMediterranean and 1 condensate imports. Beginning in Q1 2016, 18 Import 68 3 Other UralsRotterdam quotations). the refinery produces Euro 5 diesel 82 fuel. According to the calculations and Oil refining and refined petroleum information available from public sources, Ukrnafta product market in Ukraine Ukrgazvydobuvannya Ukrtatnafta refined at Kremenchuck Other The internal Ukrainian market is oil refinery about 2.1 million tons of

Source: Naftogaz, Ministry of Energy and Coal Industry of Ukraine, NefteRynok insufficiently saturated with domestically raw materials and produced about refined petroleum products due to falling 540 thousand tons of motor gasoline and 82 domestic hydrocarbons extraction and 590 thousand tons of diesel fuel. Source: Naftogaz, NefteRynok, Oilnews, own calculations 83 82 83 ANNUAL WHERE WE ARE NOW REPORT 2016

Global oil price and petroleum products' consumer prices in Ukraine Given that Ukraine is currently an IMPORTANT import‑dependent country, the price of A-95 gasoline prices (left scale) petroleum products on the domestic 25 000 Diesel fuel prices (left scale) 100 market is formed on the basis of price Brent oil prices (right scale) REGULATORY quotations in the main European hubs of Southern and Northwestern Europe. 86 As a result, an upward consumer price 22 000 change trend has also been observed in CHANGES IN 2016 72 the Ukrainian market: the price of gasoline increased by 20% and diesel fuel prices

USD/bbl rose by approximately 22%. The larger

UAH/1000 l with VAT 58 increase in prices of petroleum products 19 000 on the domestic market of Ukraine is primarily associated with the decrease in 44 the exchange rate of the hryvnia against foreign currencies and the greater share

16 000 30 of raw materials (petroleum product) in the 01.16 02.16 03.16 04.16 05.16 06.16 07.16 08.16 09.16 10.16 11.16 12.16 final selling price. Source: S&P Global Platts; UPECO

Wholesale prices for motor petrol in Ukraine and Europe Wholesale diesel fuel prices in Ukraine and Europe (without taxes and fees) (without taxes and fees) Ukrainian gas production goals include to improve production business activities in the mining industry; 600 600 development concept sharing agreements (PSA) as a tool of increased drilling works and production public and private cooperation (regulation volume in the short‑ and medium‑term. Ukraine’s mineral resources offer No 3027) and to increase transparency However, the government rejected the 500 significant potential for the increase in the extractive industry (regulation No initiative and approved lower rates for oil 500 in natural gas production both in the 4840). production instead. short‑ and medium‑term from already 400 discovered fields (924 bcm – balance At the end of the year, the first steps to In the current regulatory environment,

400 sheet reserves) and in the long‑term. The implement the concept were proposed Ukraine compares poorly with other A-95 gasoline price estimates, USD/t Diesel fuel price estimates, USD/t hub gasoline price, Northwestern Europe, USD/t 300 Hub diesel fuel price, Northwestern Europe, USD/t intensity of natural gas production is very to the government – draft regulation No Eastern European countries in terms of low compared to other countries. Based 5132 “On amendments to the Tax Code of attractiveness for international capital on its current natural gas consumption Ukraine”, which included introducing an aimed at hydrocarbons production. 300 200 01.16 02.16 03.16 04.16 05.16 06.16 07.16 08.16 09.16 10.16 11.16 12.16 01.16 02.16 03.16 04.16 05.16 06.16 07.16 08.16 09.16 10.16 11.16 12.16 levels, Ukraine has proven reserves incentive tax by reducing royalty for gas Source: weekly energy bulletin of the European Commission; UPECO; own calculations Source: weekly energy bulletin of the European Commission; UPECO; own calculations for more than 20 years (compared to production from new wells drilled after Tariffs for UGS services 10‑15 years for comparable countries). 1 January 2017 to 12%. In June 2016, as part of natural gas Ukraine’s oil and petroleum product Adoption of the Ukrainian Gas Production The potential benefits of this innovation market reforms, the National Energy and Development Concept by the Cabinet include increased investment attractiveness Utilities Regulatory Commission (NEURC) market balance for 2016, million t of Ministers of Ukraine in December of Ukraine as a country with significant approved methodology for determining 2016 is an important event for the natural resources; improved investment and and calculating tariffs for natural gas IMPORT1 sector. According to this document, gas Diesel and gasoline 6.6 85% production in Ukraine is expected to Belarusian Oil Company 2.1 32% OIL IMPORTS WOG 1.0 32% Average tax burden on hydrocarbon production from different 1, 2 increase to 28 bcm by 2020 as a result of ОККО 0.4 6% TOTAL 0.5 WHOLESALES Western Oil and Gas the favorable environment in the industry depths and using different technologies (%) Diesel and gasoline 5.3 98% Company 0.3 5% LPG 0.1 2% and an expected increase in investment. 40 Other 2.8 44% 38 Countries importing TOTAL 5.4 LPG 1.1 15% The implementation of the program OIL EXTRACTION TOTAL 7.7 would enable Ukraine to completely stop 35 30 Ukrnafta 1.5 68% RETAIL importing gas, and even start exporting it 30 Ukrgazvydobuvannya 0.5 22% Diesel and gasoline 2.8 67% DTEK 0.05 2% in the future. ОККО 0.5 18% 25 Geo-Alliance 0.04 2% WOG 0.4 15% 23 Poltava Oil and Gas Company 0.04 2% REFINING Ukrnafta 0.4 14% The list of activities to implement the 21 Other 0.09 4% Diesel and gasoline 1.5 53% Privat 0.4 14% 20 TOTAL 2.2 concept shows that the government has Ukrtatnafta 1.2 80% BRSM 0.1 5% Ukrgazvydobuvannya 0.3 20% AMIC 0.1 4% planned to balance the tax burden on 15 LPG 0.3 11% Other 0.7 30% 13 Ukrnafta 0.2 50% LPG 1.3 31% gas production by adoption the incentive Ukrgazvydobuvannya 0.2 50% CNG 0.1 2% royalty. It also aims to decentralize tax 10 CNG 0.1 3% TOTAL 4.2 Total motor fuel 1.9 revenues from oil and gas industry for the 5 Other 0.9 33% TOTAL 2.8 benefit of local budgets, while improving and simplifying authorization processes 0 1 excluding other petroleum products that are closely related to oil and gas Texas Alberta Ukraine Poland Romania 2 including corporate sales (USA) (Canada) Sources: Naftogaz, Ministry of Energy and Coal Industry of Ukraine, State Fiscal Service of Ukraine, State Statistic Service of Ukraine, Oilnews, NefteRynok, own calculations production (regulation No 3096). Other Source: Naftogaz assessment 84 85 84 85 ANNUAL WHERE WE ARE NOW REPORT 2016

storage (injection/withdrawal) for the to regional gas distribution systems (gas For the entry points, the rate is USD 12.47/ transmission, on the other hand, shall Naftogaz corporate governance management, state controls reduction/ storage facilities that operate in a regulated distribution network (GDN) operator), tariffs tcm; the exit tariff is different for different be independent in making decisions reform plan simplification, establishing risk‑oriented access regime (i.e. regulated tariff for UGS are different for the virtual exit point to exit points, the average tariff is USD 30.35/ on the management of such entities. internal controls, systematization and In 2014, the company launched its corporate services). The methodology focuses on the different distribution systems, ranging from tcm. However, Gazprom refuses to comply These requirements shall provide for the unification of business processes, and governance reform to bring it into line with “cost plus” principle and provides UGS fees UAH 76.9/tcm per day to UAH 192.25/tcm with the requirements of Ukrainian law exclusive right of a government authority data exchange among Naftogaz group OECD corporate governance principles. In depending on the distributed capacity. per day. and fails to pay the new tariffs for gas to manage state corporate rights in enterprises. 2016, a financial control, risk management transportation services. Demands to respect of PJSC Magistralni Gazoprovody Currently, this methodology is being finalized The approved tariffs are effective from and compliance function was established, The Vice Prime Minister of Ukraine remedy this situation are included in Ukrainy (Ukrainian main pipelines) by the NEURC working group as part of 1 April 2017. However, after the NEURC while the existing internal audit function Volodymyr Kistion supervises Naftogaz the Naftogaz lawsuit against Gazprom in (paragraph 5 of the Plan – responsible tariff calculations by type of services that meeting on 10 April 2017, a decision was was updated. To ensure the work of the corporate governance reform and Stockholm. A decision is expected in 2017. agencies: Ministry of Economic the UGS operator can provide according to taken to hold further consultations with the supervisory board committees, an internal heads a working group that includes Development, Ministry of Energy and the Storage Facilities Code (annual/monthly public and the government to improve the controls project was initiated which aims the representatives of all stakeholders. Coal Industry of Ukraine). capacity or individual service) and natural proposed monthly fee mechanism. The company restructuring to optimize Naftogaz group business gas allocation for each customer in a virtual process Accordingly, the previous decisions of the point of entry to/exit from storage facilities. In the reporting period, the Company NEURC on tariffs for the points of exit The new tariffs for UGS services have not Restructuring Plan was adopted (Resolution from the main pipelines and entry into the been calculated yet using this methodology of the Cabinet of Ministers of Ukraine dated distribution networks were canceled. New and the old tariffs are applicable (general 01.07.16 No 496). To implement the plan, In 2016, the introduction of the new natural gas market model continued. A number of laws were adopted aiming tariffs for entering the GDS for the gas tariff for gas storage is UAH 112/tcm). an action plan on corporate governance to harmonize the legislation of Ukraine with European market rules and the Law of Ukraine “On the natural gas producing companies were not canceled, of the transmission system operator was The working group is expected to amend and from 1 April 2017, gas transportation market”, including: approved; PJSC Magistralni Gazoprovody the methodology in such a way that the tariffs paid by the end consumers of gas, Ukrainy (Ukrainian main pipelines) was newly established rates for storage, on effective since 1 January 2017 (close to The law on regulators The impact of changes on market functioning incorporated, its article of association was the one hand, would at least cover the the new tariffs for the points of exit from approved; and the Ministry of Energy and The law on regulators Positive development for the market marginal cost for UGS provider, and on the the main pipeline and entry into the gas Coal Industry of Ukraine was authorized to The Law of Ukraine “On the National Commission for state regulation Regulator operation mechanism and standards are clearly other, would make Ukrainian UGS facilities distribution networks) are applicable. create and register the newly established in energy and utilities”) of 22.09.16 No 1540-VIII established legal determined. commercially attractive for gas traders The new tariffs for GTS entry and exit points company. (Resolution of the Cabinet of framework for the regulator operations; including European companies. are calculated using the methodology Ministers of Ukraine dated 16.11.16 No 837). Introduction of backhaul Positive development for the market approved by the NEURC as far back as in However, the Company Restructuring The provisions of the adopted Law of Ukraine “On amendments to Elimination, through customs clearance regulation, of the barriers Tariffs for point of entry to/exit September 2015, which was designed to Plan activities are often implemented the Customs Code of Ukraine to create conditions for a new model to natural gas substitution (backhaul) transactions which are an from Ukrainian UGS facilities cover the cost of the GTS transit section with delays, in particular with regard of the natural gas market” of 04.02.2016 No 994-VIII are aimed at the important tool to increase the capacity of interstate gas transmission approved by the end of 2019 (before the current to development and submission for introduction of backhaul in Ukraine. systems, market liquidity and the energy security of such Pursuant to the Law of Ukraine “On the contract between Gazprom and Naftogaz consideration of the regulations concerning: transactions. In addition, the ability to carry out backhaul operations Natural Gas Market”, on 28 March 2017, expires). Given Gazprom’s repeated public (with natural gas substitutes) is a requirement of EU legislation to the the NEURC approved Ukrtransgaz tariffs declarations of their intention to stop using • transferring power‑generating state GTS operator. for natural gas transportation services Ukrainian GTS after 2019, and the active companies and the authority to manage Improvement of secondary legislation Positive development for the market to Ukrainian consumers for entry and promotion of alternative pipeline projects the state corporate rights in their The secondary legislation governing the relationship between the Сlarified provisions of the above regulations aimed at convergence exit points calculated using the new that would allow Russia to abandon the charter capital from the of Ministry of subjects of the natural gas market, including the Gas Transmission with European regulations on the natural gas market. methodology. The methodology was Ukrainian route, a significant reduction in Energy and Coal Industry of Ukraine to System Code, the Gas Distribution System Code, the Natural Gas developed based on the experience of economic benefits is expected from the another government authority, which is Supply Rules and other bylaws is improved. EU countries and adopted by the NEURC Ukrainian GTS by 2020. This was the reason an essential precondition for unbundling in September 2015 (after public discussion for the reduced estimated useful lives of (paragraph 4 of the plan – responsible Decentralization of royalty Positive development for the market by the market players since April 2015). the assets when calculating the tariffs. agencies: Ministry of Economic As a step towards reforming the extracting sector, the Law of Ukraine Improved cooperation and sound grounds for establishing According to the methodology, the tariffs Development, Ministry of Energy and of 20.12.16 No 1793-VIII is adopted which requires 5% of royalty for use constructive relations between oil and gas companies and local Taking the above‑mentioned dynamics for natural gas transmission for entry Coal Industry of Ukraine); of subsoil for the purposes of oil, natural gas and gas condensate authorities and communities. into consideration, and according to the points and exit points are determined as extraction to be steered to local budgets in the areas of extraction. However, it should be noted that the decision to reallocate tax NEURC methodology, accelerated transit • determining procedures and conditions the cost of delivery in the planning period to However, the law is only effective from 1 January 2018. revenues shall be taken in a way that would balance funding the assets depreciation was applied. Tariffs for concession of the property that is the customer of the ordered volume in tcm needs of the local authorities and communities with funding the are expected to significantly decline after used for natural gas transmission and (or energy units) per time unit in the points needs of state budget. These are covered by the proceeds of rent 2019, including tariffs for domestic gas storage (injection, withdrawal) and is not of entry to the GTS and in the points of exit payments for use of subsoil for the purpose of oil, natural gas and transmission, which would allow Ukraine subject to privatization (paragraph 5 of from the GTS. gas condensate extraction, namely household benefits and housing to compete with other gas transmission the Plan – responsible agencies: Ministry subsidies and subventions for repayment of the difference in tariffs. The commission approved two tariffs routes and offer attractive gas transmission of Economic Development, Ministry of for entry points: UAH 296.8/tcm per conditions both from east to west and from Energy and Coal Industry of Ukraine); Decrease in royalty for oil production Positive development for the market day for entry points for gas extracting west to south to Russian and European gas The Tax Code of Ukraine (Law of Ukraine of 20.12.16 №1791-VIII) is due to lower royalty rates for oil extraction, oil production companies • establishing requirements according to companies, and UAH 0/tcm per day for suppliers. amended to reduce royalty for oil production. For example, the royalty will save money and increase investment, which in turn will help to which the government authorities that the UGS entry points. The tariffs for exit for oil deposits up to 5000 meters deep is reduced from 45% to 29% increase production and develop new deposits. Unfortunately, the It should also be noted that since January manage the entities engaged in natural point for consumers who are directly of the output value, and for deposits below 5000 meters – from 21% parliament left the old the parliament rates for gas condensate 2016, new tariffs are effective for the points gas and/or electricity production and/ connected to the gas main pipelines set to 14%. unchanged and did not support the proposal of oil and gas companies of entry to and exit from the Ukrainian gas or supply on one hand, and the entities by the commission are UAH 322.1/tcm per to introduce a royalty rate of 12% for new wells to stimulate new transmission system at the state border. engaged in natural gas or electricity drilling as soon as in 2017. 86day. For 43 virtual exit points out of GTS 87 86 87 ANNUAL WHERE WE ARE NOW REPORT 2016

Regulatory changes The impact of changes on the company Regulatory changes The impact of changes on the company Reducing safety stock requirements Approval of economically justified tariffs for domestic routes of oil Positive development for the company (if the methodology is Neutral development for the company The Law of Ukraine “On amendments to Article 12 of the Law of The company considers the current safety stock mechanism as being transportation amended) Ukraine” On the natural gas market” of 22.09.2016 No VIII-1541 is behind the development of the gas market, particularly after the Oil transportation services in Ukraine are provided to consumers The draft resolution of the NEURC “On approval of the procedure for adopted. Its provisions establish the gas safety stock at no more than introduction of the Law of Ukraine “On the natural gas market”, and under tariffs approved by the NEURC. The rates established in 2007 calculating tariffs for oil and oil products transportation through 10% of the volume of natural gas supply to consumers planned for the recommends a change in mechanism. remained unchanged until June 2015. Even after an increase in 2015, the the main pipelines” is designed to improve the oil (oil product) next month and the percentage shall be determined annually by the The company believes that in line with best EU practice, the suppliers rates do not cover the costs of oil transportation and corresponding transportation tariff methodology for oil (oil product) transportation decision of the government (the resolution of the Cabinet of Ministers of gas to protected customers should be solely responsible for route maintenance. The methodology for calculating tariffs for oil companies, which will allow: of Ukraine of 16.11.16 No 860 established the natural gas safety stock at creating and maintaining the gas safety stock (except for the gas transportation to consumers in Ukraine used by the NEURC is effective - when the tariffs are calculated, to allocate costs by operational zero level for 2016 and 2017). supplied under special commitments). The volume of required safety since 1999 and contains a number of fundamental flaws that do not segments – oil (oil product) transit and oil transportation for Ukrainian stock should be determined by the Ministry of Energy and Coal based allow for efficient tariff policy in oil transportation within the country. consumers; on analysis of the existing risks of gas supply failure. In 2016, Ukrtransnafta developed and submitted an updated tariff - to avoid reallocating the costs from domestic routes to transit calculation methodology. At the time of this report, the draft has not yet routes based on turnover; Distribution of funds paid by heat consumers to DHC Positive development for the company been adopted and is at the stage of public discussion. - to determine the actual costs and tariffs for domestic routes, The resolution of the Cabinet of Ministers of Ukraine “On amendments The updated funds distribution algorithm resulted in the following calculate the tariffs based on actual costs for each route, and to the Resolution of Cabinet of Ministers of Ukraine of 18 June 2014 No positive developments in 2016: increase their efficiency, and to clearly define the procedures for 217” dated 18.12.15 No 1086 is adopted. The resolution introduced a new - improvement of DHC settlements for consumed natural gas establishing tariffs for oil (oil product) transportation services through mechanism for distribution of funds received from heat consumers supplied by the company; pipelines. onto the special DHC accounts (i.e. the procedure for funds - compliance with the requirements of the IMF Memorandum of A balanced tariff policy which would cover economically justified distribution has been changed fundamentally in order to ensure a Economic and Financial Policies with regard to adjusting coefficient costs while ensuring competitive prices for services compared to fair and transparent funds distribution mechanism, and in order to restoration; other transport modes is one of the key factors to ensure the long- balance the interests of all counterparts of the settlements - this list - guaranteed revenues to DHC accounts to finance labor costs, term reliable operation of the oil pipelines to satisfy the needs of changed due to the Law of Ukraine “On the natural gas market”). contributions for compulsory social insurance, and payment of taxes Ukrainian consumers. and fees; - taking into account the benefits and subsidies; Other regulatory changes - introduction of incentives for timely payment of natural gas bills; Subsidy mechanism improved Positive development for the company - guaranteed revenues for new natural gas market players. The Resolution of the Cabinet of Ministers of Ukraine “On The current household benefits and subsidies funding mechanism After just three months of the updated funds distribution algorithm, amendments to the procedure for transferring certain subsidies is improved. The sources of funding now include revenues from revenues to the company’s accounts increased by UAH 1.1 billion. from the state budget to the local budgets for provision of benefits, Naftogaz and Ukrtransgaz, value added tax, allowing for the proper The restoration of the adjusting coefficient within the funds subsidies and compensations” dated 10.03.2016 No 165 is adopted. performance of the social budget program as well as guaranteed distribution mechanism is the main advancement introduced by The joint order of the Ministry of Energy and Coal Industry of Ukraine settlement of accounts receivable of the heat and gas supply resolution No 1086. The coefficient prevents evasion of timely and and the Ministry of Finance of Ukraine “On amendments to the companies for the heat and gas provided to the households and full payments by the DHC. The amendments in the regulations made Procedure for paying natural gas, heat and electricity bills” dated sustainable financing of their expenditures. to reduce the amount of settlements between the DHC and the 16.03.2016 No 174/369 is registered with the Ministry of Justice on company or direct avoidance of the payments would be beneficial 22.03.2016 Ref. 420/28550. for the DHC only for a short period, since any decrease in payments by the DCH in a certain period, due to the adjusting coefficient, would District Heating Company (DHC) payment discipline relaxed Negative development for the company result in an increase in payments to the company in the subsequent The Law “On the measures designed to settle the debts of heat supply As of March 2017, the Executive Service of Ukraine is in the process periods. and heat-generating companies as well as district water supply of enforcing 2 776 rulings to recover debts to the company totaling and water treatment companies for consumed energy” of 11.03.2016 UAH 21.7 billion. No1730-VIII is adopted which provides for the introduction of a Part 3, Article 7 of the Law No 1730 states that no penalties (fines), Following the introduction of Resolution №1086, the company has repeatedly observed attempts by the DHC and certain executive authorities number of instruments to settle the relationship between the energy inflation charges, and annual interest shall be charged on the debt for to restore the old settlement mechanism and to amend the law in a way that would enable evasion of payments for the natural gas purchased market players, including: natural gas used for heat and electricity production and the provision from Naftogaz. - moratorium on enforcement proceedings and enforcement of court of district heating and hot water supply services which had been Despite the fact that Naftogaz has repeatedly prevented attempts by enterprises and certain executive bodies to make significant changes rulings concerning DHC debts to the company for natural gas; repaid before the Law became effective. Already accrued penalties to the funds allocation procedure that would lead to a significant decline in the transfer of funds to the company, the separate accounts - ban on charging penalty, inflation charges, and interest for (fines), inflation charges, and annual interest shall be written off on mechanism changed three times in 2016 alone. This allowed for an increase in the share of funds allocated to DHC and a reduction in payments the improper fulfillment of the terms of contracts by company the date the law came into effect. At the same time, according to to Naftogaz. counterparts; paragraph 16, Part 1, Article 39 of the Law of Ukraine “On Enforcement - writing-off DHC outstanding penalties, inflation charges, and interest Proceedings” the write-off of the above debts automatically results in with no sources to cover the losses incurred by the company. cancellation of enforcement proceedings. The provisions of the law could potentially be applied to the 2 160 enforcement proceedings to recover debts totaling UAH 17 billion, of which: - UAH 11.0 billion is to be restructured for a 5-year period; - UAH 5.9 billion (UAH 3.6 million since the enactment of the law; UAH 2.3 billion subject to full implementation by heat generating and district heating companies of the debt restructuring agreement) is to be written off. In addition, enactment of the Law No 1730, in particular Article 7, resulted in an increased number of cases in the courts. 88 89 88 89 ANNUAL WHERE WE ARE NOW REPORT 2016

supplier in the household natural gas standards of European markets, sales segment, which would restrain Separating functions of the safe and effective use of Ukraine’s FIRST RESULTS OF GAS MARKET REFORM price increases imposed by the transmission system operator GTS, as well as transparent and Over the past three years, Naftogaz In April‑May 2016, a single price level throughout Ukraine. These companies dominant supplier; (TSO) non‑discriminatory access to this has been actively involved in promoting for natural gas as a commodity was are de facto monopolies operating on Today Ukraine’s TSO is Ukrtransgaz. As network for third parties in accordance 2. make changes to secondary legislation reforms in the energy sector. The introduced for both households and preferential terms in the household gas a member of the Energy Community, with the applicable laws. As part of the in order to implement EU network military conflict in Eastern Ukraine has district heating company entities (DHCs), supply segment and are not exposed Ukraine has assumed responsibility to memorandum, participating companies codes, including daily balancing that exacerbated the issue of the country’s which produce thermal energy for to competition. Naftogaz cannot enter unbundle the TSO management function in will make a joint assessment about the will facilitate the emergence of new energy independence, which can only be households, at parity with imported gas the retail market and compete with accordance with EU energy legislation, in possibilities of using and upgrading the market participants and European achieved through drastic and sometimes prices. monopolistic oblgazzbuts since the Cabinet particular the Third Energy Package, having gas transmission network of Ukraine companies, including in the end‑use painful reforms. of Ministers of Ukraine has specifically chosen the strictest ownership unbundling in order to ensure its efficiency and In July 2016, the Cabinet of Ministers domestic consumers segment; obligated it to sell household gas to model (FOU). competitiveness. The year 2016 was significant for of Ukraine, together with the Energy oblgazzbuts. 3. develop and implement mechanisms evaluating the effectiveness of the gas Community Secretariat, the EBRD and The TSO unbundling process must take for settling the debts of thermal power market reform. A competitive market other international partners of Ukraine The situation is complicated by the fact into account the economic interests of Naftogaz сorporate governance companies for consumed natural environment has yet to be established, but approved a plan for the unbundling of the that the majority of gas distribution Ukraine. The transfer of assets to the reform gas and for ensuring their payment some changes have occurred both in the gas transmission network operator. Full networks and regional gas supply new TSO is expected to begin following In October 2015, the Cabinet of Ministers discipline, which will be acceptable at Naftogaz group and in the gas sector as implementation of this plan will result in companies are jointly owned by a the decision of the Stockholm arbitration supported a proposal to approve the the initial stage after liberalization of a whole. establishing a truly independent operator dominant business group. Effective court. Naftogaz corporate governance action natural gas prices; that will meet European standards of unbundling of operators of gas distribution plan (hereinafter – NCGAP), which Starting from 1 January 2016, all gas The effective separation the TSO’s duties efficiency and professionalism. networks is crucial for further market 4. introduce an effective mechanism provides for amendments to certain transmission rates have been set by the from Naftogaz is a prerequisite for opening and expansion. governing relations between natural Ukrainian laws and regulations. regulator. For cross‑border points, rates In September 2016, the Verkhovna Rada of establishing a free and competitive gas gas wholesalers and gas supply were set based on the RAB (regulatory Ukraine adopted the law “On the National The Energy Community Secretariat market. This process should include efforts Naftogaz became the first state‑owned companies which will ensure the asset base) methodology, which is Commission for state regulation in the expressed surprise at the situation in to attract a qualified international partner, company to implement OECD latter’s payment discipline; universally recognized and used to energy and utility services sectors.” the household gas supply segment. which will help Ukraine gain necessary standards of corporate governance. determine justifiable tariffs for natural The law was a significant step forward, Naftogaz is ready to compete with regional 5. improve the mechanism of granting experience, good governance standards, Implementation of the NCGAP will ensure monopolies’ services in Energy Community creating basic preconditions for the gas supply companies and to supply direct subsidies to encourage energy and leading European practices and effective and transparent management countries. The transition to RAB‑based establishment of an independent market natural gas to households bypassing efficiency and transparency of competences. and independent supervision of the tariffs was expected to be complete in regulator. Undoubtedly, implementation of intermediaries. In April 2017, the company charging subsidies through partial company’s activities. As part of the In general, cooperation with a leading April 2017. this law will be another necessary step in submitted proposals to the government. monetization of saved costs, taking reform, a system of effective internal Western operator should improve the this direction. into account the seasonality of controls which will significantly limit In April 2016, a supervisory board was set At the time of publication of this report, no operational efficiency of Ukraine’s TSO consumption, gradual reduction opportunities for corruption, will be up. This independent body assumed a Despite these isolated achievements, secondary legislation, notably the Network (including through prompt detection of of social norms, and raising of the introduced at all company levels. number of duties previously performed 2016 saw a slowdown of natural gas Code (the Gas Transmission Network of possible fraud and corruption prevention) compulsory payment with due regard by the government. At the same time, the market reform. Market experts also point Ukraine Code which establishes the “rules and strengthen the credibility of the Unfortunately, in 2016 very important for real income growth, etc; supervisory board still lacks sufficiently out that there is a significant risk of of the game” in the market) that meets Ukrainian gas market with European gas changes to the laws of Ukraine aimed broad authority and responsibilities to curtailing Ukraine’s natural gas market the EU standard network codes and the 6. provide high‑quality and timely companies, governments, institutions, at the implementation of this plan control the company’s board activities. As reform and returning to past problems, requirements of the Third Energy Package, implementation of the Law of Ukraine etc. This should facilitate the transfer were not adopted. In addition, the envisaged by the corporate governance including threats to energy security and including the Directive 2009/73 / EU “On the National Commission for of gas transfer points from PJSC unconditional implementation of action plan, starting from April 2017, a the welfare of citizens. “Concerning common rules for the natural state regulation in the energy and “Gazprom” to European customers on measures provided by the NCGAP is a targeted charter was expected to come gas internal market” and EU Regulation public utilities sectors” No. 1540‑VIII of the Ukraine‑Russia border and the key obligation and precondition which Corporate governance reform and into force to grant to the supervisory 715/2009 “On conditions for access to 09.22.2016, notably the provision on the preservation of Ukraine’s transit country will allow Naftogaz to retain access efforts to separate the duties of the TSO board powers recommended by the OECD. natural gas transmission networks” had rotation of regulator members; status. to EBRD financing for purchases of (“unbundling”) are very much behind the Political interference in the Company’s been adopted. Ukrtransgaz is drafting natural gas from European suppliers. schedule set out in approved government 7. by means of continuous and timely On 10 April 2017, Naftogaz Ukrtransgaz, activities was reduced, leading to greater appropriate changes to legislation. Failure to fulfill the NCGAP may result plans. implementation of measures envisaged Snam S.p.A. (Italy) and Eustream a.s. confidence from international lenders in a requirement to repay its debt by the approved Naftogaz corporate (Slovakia) signed a memorandum of and partners. Due to internal audit, risk At the same time, the current status could to the EBRD prior to the scheduled Final liberalization of natural gas governance plan, ensure effective state understanding for joint evaluation of management, compliance and transparent be used as a launch‑pad to restart natural date and may put at risk not only the prices control over company activities in a possibilities of cooperation in the use procurement, Naftogaz obtained effective gas market reform, including decisive country’s energy security but also In April 2018, full liberalization of natural civilized manner; and development of Ukraine’s gas safeguards against undesirable effects. steps aimed at solving fundamental the implementation of planned gas gas prices is expected. Should the market transmission system. The document was problems of the market. 8. during the designated initial phase, sector reforms. Likewise, reform of The unprecedented openness of, and price of gas available for Ukraine be higher signed in the presence of the Minister of to continue using current accounts corporate governance systems of market pricing in, the unregulated than the regulated price, it is necessary, Energy and Coal Industry of Ukraine, EU with a special regime for transfer of state‑owned enterprises is also a segment made it possible to Creation of a competitive within the shortest time possible, to create Commissioner for Energy and Climate funds received as payment for natural precondition for gaining access to de‑monopolize imports and the wholesale wholesale and retail natural gas appropriate conditions to reduce social Action and the Minister of Economic gas from the population and thermal other support programs available to segment of the natural gas market. As a market tensions and ensure the irreversibility Development of Italy. power companies; Ukraine. Accordingly, delays or poor result, the number and percentage share of necessary market reforms, including Naftogaz sells domestic and imported Among other things, the document implementation of agreed reform of private companies are steadily growing. efforts to: 9. conduct information campaigns gas to designated regional gas supply aims to ensure the long‑term stability plans create significant risks for the For example, the percentage share of through the media, round tables, etc., companies (oblgazzbuts) for further 1. create conditions conducive to the of natural gas transmission through country’s cooperation with international private importers in total gas imports has to brief retail consumers about the delivery to all residential consumers emergence of at least one alternative Ukraine’s territory according to the financial institutions, including the IMF. 90increased from 7% in 2015 to 26% in 2016. possibility to change their gas supplier. 91 90 91 ANNUAL REPORT 2016 UNBUNDLING

Restructuring scheme with the approved CURRENT STRUCTURE STRUCTURE AFTER Unbundling Plan UNBUNDLING

CMU* MECI** WESTERN CMU* MECI** 100% PARTNER 100% Naftogaz Naftogaz 100%

100% “Issues regarding ownership and/or operation of UGS UTG and gas production facilities, including all related legis‑ UTG lative and corporate reforms, shall be considered sep‑ Transfer of assets and resources arately from the TSO unbundling and must not hamper UGS TSO New TSO the procedures needed for unbundling.” Energy Community Secretariat, conditional approval, 06.05.2016 operator TSO UGS operator Decisions on restructuring will before the Stockholm award: gradual be made based on comprehen‑ transfer of functions, primarily those that Supervisory board with a majority of sive analysis of options for the are new for the market independent directors most efficient use of UGS facil‑ after the Stockholm award: full transfer ities. The project is launched in of gas transmission assets and functions cooperation with the European Hires professional managers to the new TSO according to management Commission decision

WHY ESTABLISH A NEW TSO? KEY ASPECTS OF THE UNBUNDLING MODEL CHOSEN FOR THE TSO Establishing a new company will create a TSO that would attract international partners. This will provide new opportunities to create an effective natural gas market in Ukraine, to counter the threat posed by Nord Stream 2 and similar projects, and to maximize the value of state-owned assets

FULL OWNERSHIP UNBUNDLING (FOU) THE MECI MANAGING THE STATE’S SHARE IN MGU A WESTERN PARTNER MAY BE ENGAGED IN GTS UKRTRANSGAZ AS TSO NEW TSO JSC OPERATIONS UGS assets generate loss in both Ukraine and Europe as well as non- Only core assets that are used for gas transmission and create clear Although the best practice is when a TSO owns MECI is a shareholder of MGU JSC but it cannot The law offers the possibility to engage a partner assets, the following exception can be made: a TSO control energy generation/supply companies. For from a member state of the Energy Community or core assets of doubtful or even negative value for the shareholder value for the shareholder and customers has rights that are close to ownership with full example, the MECI cannot be a shareholder of the U.S. in GTS operations Vague management structure complicating and slowing down the The Corporate Governance Action Plan stipulates the creation from division of control over the operator and producer/ Ukrhidroenerho or Enerhoatom introduction of an effective corporate governance system according to scratch of an effective system that would be in line with OECD supplier among different agencies OECD principles corporate governance principles. This will help avoid the old system’s resistance “Historical problems” of Ukrtransgaz, including disputes with Ukrnafta and Ukrgaz-Energo over 11.7 bcm and 7.7 bcm of gas respectively No historical problems TRODUCING A CORPORATE GOVERNANCE SYSTEM UGS RESTRUCTURING IS NOT PART OF THE ESTABLISHING THE NEW TSO Overstaffing – tenfold more compared with some European peers The number of staff needed for efficient and secure performance of ACCORDING TO OECD PRINCIPLES UNBUNDLING The TSO’s independence should be secured by a Restructuring/handing over of UGS facilities should Establishing a transparent and efficient company TSO functions High risk of due diligence failure highly professional supervisory board composed be considered separately and based on the results without the burden of UTG’s historical problems Clean and transparent company mostly of independent members and with a system of thorough analysis of the most effective usage and attractive to a Western partner of effective internal controls

92 93 92 *CMU – Cabinet of Ministers of Ukraine 93 **MECI – Ministry of Energy and Coal Industry of Ukraine ANNUAL WHERE WE ARE NOW REPORT 2016

Technical and operational delivery

Health, safety and The operations of Naftogaz and its subsidiaries involve significant health, safety and environmen‑ environment tal hazards. The processes and chemicals used in extraction and production methods, as well as the transport and storage of gas and oil, may heighten the potential for a major incident and mul‑ tiple fatalities, environmental hazards, and loss of business assets/operations. Outdated equip‑ ment and production technology and poor operational practices may lead to increased risk levels. Mitigation measures include training, introducing modern methods of operations, diagnostics, reconstruction and modernization of existing facilities.

Subsurface Subsurface risks are inherent in the upstream oil and gas business and result in uncertainty about the levels of hydrocarbons that are present in exploration and production licenced areas. This problem is exacerbated in Ukraine by the relatively low quality of geological information available and out of date equipment and technologies of Ukrgazvydobuvannya and Ukrnafta. These risks may lead to lower volumes of gas extracted and/or increased expenses for drilling and production, that in turn leads to a deterioration of one of the key strategic goals of Naftogaz to preserve and increase exploration and production abilities. The group continuously cooperates with Ukrainian research and technical institutes to improve the quality of geological exploration. Ukrgazvydobuvannya has begun intensive upgrading of its equipment to reduce costs and improve the efficiency of drilling and gas extraction.

MAIN RISKS Investment program Lack of access to capital, together with weak internal capability and supply chains can create Following the approval of a new Naftogaz The second phase of the initial risk basis, as well as in response to specific execution challenges to the successful delivery of both ongoing maintenance activity and the growth invest‑ Charter in Cabinet of Ministers of Ukraine assessment will result in a compre‑ risk events. ments planned for the Naftogaz group. resolution No. 1002, an independent risk hensive initial risk assessment report The key identified risks that can cause Due to insufficient liquidity, Naftogaz group is considering various ways of raising funds for invest‑ management service was established at for Naftogaz group. Going forward, serious adverse effects on production ment projects, including by borrowing on international financial markets. Naftogaz in May 2016, and first com‑ Naftogaz group risk assessment will performance, cash flows, and the group’s menced its operations in November 2016. take place on a quarterly and annual financial position are described below. The purpose of the office is to ensure that an effective risk management pro‑ Markets cess and controls are in place to achieve the current and future strategic goals of Improving efficiency of procurement tractors and avoid comflict of interest Domestic market On 1 October 2015, the Government of Ukraine approved imposition of Public Service Obligations Naftogaz and its subsidiaries. is a key priority of group personnel, regulations (PSO) on natural gas market participants, including Naftogaz, to ensure general public interests The new formulated risk management To make procurement process more - improve competitiveness of pro‑ in the functioning of the gas market until 1 April 2017. On 22 March 2017, these PSO measures were framework and related regulatory docu‑ transparent and unified for the whole curement process, focus on direct given further effect until April 2018. ments (Risk Management Policy, Risk Man‑ group, Naftogaz has adopted new contracts, minimise relations with Inter alia, Naftogaz was obliged to supply, at regulated prices, directly to district heating com‑ agement Methodology, Risk Management group procurement policy in 2017. As intermediaries to reach more cost ef‑ panies and through regional suppliers to households, jointly representing over 50% and 60% of Rules) are based on the International Stan‑ part of design of upgraded procure‑ ficient price quotes from contractors, domestic consumption in 2016 and 2017 respectively. dards (ISO/IEC 31010:2009 Risk manage‑ ment process, the Group plans the ment – Risk assessment techniques, ISO following steps: - implement analytical tools, including In the absence of the approved compensation mechanism for selling at regulated prices, Naftogaz 31000:2009 Risk management – Principles system analysis of markets and price is forced to cross subsidize losses from regulated segments (such as district heating) with profits - strengthen internal control pro‑ and guidelines) and best risk management benchmarking, creating databases from other activities. cedures in respect of purchases practices with the involvement of interna‑ of contractors, prices and types of Moreover, by selling gas to counterparties with a financially unsustainable business model, such through introducing compliance and tional consultants and experts. works, as well as improve system of as district heating companies (DHC) and regional supply companies, Naftogaz bears high credit risk management functions, and electronic document flow, risks. As of 31 December 2016, the total DHC debts to Naftogaz had reached over UAH 28.3 billion In February 2017, an initial risk assess‑ strengthening finance control func‑ and the total debt of regional supply companies had reached UAH 21.9 billion. The inability to ment began at Naftogaz group based tion at the group level, - improve dialogue with market collect these debts represents a fundamental risk to Naftogaz. Without appropriate government on this revised methodology. The first players and build long-term trans‑ - implement category management action, this will seriously threaten the continued liquidity and sustainability of the company. phase of the assessment ended in parent and trustful relations with at the group entities, and create stan‑ March 2017 and identified the material contractors. In order to improve the effectiveness of the Ukrainian gas market, Naftogaz initiates discussion of dard procurement strategies, risks inherent in the Naftogaz group. a number of amendments to regulations designed to reduce the risk of outstanding imbalances Naftogaz takes all possible steps aim‑ This built on previous risk manage‑ - introduce comprehensive risk for the GTS operator, facilitate operations of network users, and ensure the fairness of the GTS ing to get quick wins in procurement ment activities conducted within the control procedures in respect of con‑ operator’s actions to balance and reduce the financial burden on the suppliers. process already in 2017. company. 94 95 94 95 ANNUAL WHERE WE ARE NOW REPORT 2016

Seasonal liquidity The group’s activity is seasonal: volumes of natural gas and transmission services sold during the Corporate structure and development heating season comprise ca. 70% of annual volumes. During this peak period, the cash flow for sold goods and services significantly increases. In contrast, the summer period represents a peri‑ TSO unbundling In July 2016, the government of Ukraine approved an Unbundling Plan to separate natural gas transmission from od of low sales volumes and high gas purchases to prepare for winter demand. Because of these production and supply, as required by the EU Third Energy Package and the Law of Ukraine “On the natural gas cash inflows and outflows, additional financial resources are required to finance the injection of market”. Good faith implementation of this plan is one of the crucial components of gas market liberalization natural gas into underground gas storage (UGS). and its further integration into the EU natural gas market. The group tries to attract additional loan proceeds on international financial markets at lower As of the date of this report, there are significant delays and lack of compliance with respect to the plan’s interest rates to cover for the cost of pumping natural gas to underground gas storage. implementation. There is a tangible risk that the observed deviation from the approved unbundling concept will prevent the establishment of an important, professional and highly efficient gas transmission systems operator Launch of Turkish There are two gas pipeline projects in progress today with the expected launch in 2019 that would allow gas fully compliant with the requirements of EU energy legislation. In addition, the situation may not allow engage‑ Stream and Nord transportation from Russia to EU countries and Turkey while bypassing Ukraine: ment of a reputable Western partner to operate the gas transmission system. Stream 2 1. The Turkish Stream project signed on 10 October 2016 between the governments of Russia and Turkey This may lead to a situation where the operator will not be capable of securing non-discriminatory third party assumes gas transmission capacity of 31.5 bcm per year. access and gain the trust of network users both in Ukraine and abroad. This would directly endanger gas 2. The Nord Stream 2 project signed in 2015 assumes gas transmission capacity of 55 bcm per year. market reform. Project implementation may lead to the all loss of Naftogaz income from gas transit from Russia to EU coun‑ tries and Turkey starting from 2019. Total gas transit income of Naftogaz amounted to almost UAH 60 billion in Possible separation of Naftogaz’s strategy anticipates an integrated approach through which each of the component 2016. Ukrgazvydobuvannya parts of the company can benefit from the combined skills and balance sheet of Naftogaz group. In order to diversify the consumers of the natural gas transportation and storage services, Naftogaz facilitates Naftogaz is committed to contribute to the energy independence of Ukraine, inter alia, through the organization of a single East European gas hub. The company also promotes the creation of integrated exploiting the benefits of large scale as well as the synergy arising from both vertical and horizontal infrastructure and commercial gas space between Ukraine, Poland, Slovakia, Hungary and Romania. integration. In the event that Ukrgazvydobuvannya is separated from Naftogaz group, there will be material risks Macroeconomics that the investment program and associated gas production growth will not be delivered. Moreover, Naftogaz will likely be bearing additional costs and risks for selling gas to fulfil public service obliga‑ tions imposed by the Ukrainian government. Foreign exchange Naftogaz group carries out its operations in Ukraine and its dependence on the foreign exchange risk is due mainly to the need to purchase natural gas from foreign suppliers whose proposals are denominated in EUR or Naftogaz communicates at all levels within the group to identify, assess, and minimize potential USD. The Naftogaz group debt in foreign currency on 31 December 2016 amounted to USD 2.1 billion. disagreements among its subsidiaries. In addition, the management draws shareholder attention to Naftogaz’s ability to hedge the risk in the local market is limited due to the nature of the Ukrainian hedging the issue. market in particular: 1) foreign exchange forwards market volume cannot meet the needs of the company and activity in the mar‑ Situation in Eastern Ukraine and Crimea ket may cause significant fluctuations of the national currency; 2) limitations of the legal and regulatory framework. Conducting ATO in the The hostilities in the eastern regions of Ukraine (ATO area) impair the capability of Naftogaz group Since the Law of Ukraine “On the natural gas market” entered into force on 1 October 2015, the company has east of Ukraine companies to sustain critical operations, provide essential products and services, and causes the independently established prices for industrial and commercial consumers that are not subject to PSO. companie to incur additional operating costs. Naftogaz continuously monitors the Ukrainian currency market and, depending on the market conditions, decides on the foreign currency to maintain its bank account balances (with due regard to the regulations of The consequences In March 2014, the illegal authorities of the occupied Crimea decided to nationalize the property of the National Bank of Ukraine on the issue). of the annexation of Chornomornaftogaz, which subsequently became a part of the authorized capital of the illegally es‑ Crimea by Russia tablished company Crimean Republican Enterprise (CRE) “Chernomorneftegaz”. Prior to the occupa‑ tion of Crimea by the Russian Federation, Chornomornaftogaz performed the full range of activities, Local economic environ- Any increase of foreign exchange rates together with the local inflationary environment have the potential to from search and exploration of new deposits to hydrocarbon extraction, processing and delivery to ment seriously impact on the population’s purchasing power and the ability of customers to pay prices for consumed end users. gas which are in line with import costs. In August 2014, Chornomornaftogaz was re‑registered in Kyiv. Currently, the company controls the Depending on the stabilization of the economic and political situation in the country, growing GDP, and gov‑ Strilkove gas field located in Arabat Spit near Strilkove village, Genichesk district, Kherson region. ernment actions increasing household purchasing power, Naftogaz would be able to shift to a market-based The company provides gas to the households of Henichesk district, and is involved in gathering approach to pricing and thus reduce the impact of risk. evidence of Russian aggression. The continued existence of Chornomornaftogaz as a legal entity after the illegal seizure by Russia Corporate governance reform of Naftogaz assets in the Crimea was one of the key objectives of the company in 2016. Naftogaz managed to avoid the bankruptcy of this subsidiary and to promote development of national draft Corporate Governance Non‑delivery of the CGAP approved by the government on 5 December 2015 will result in an outdated and regulation on the stabilization of its operations. Action Plan (CGAP) ineffective system of governance at Naftogaz. Whilst good progress has been made in implementing the Despite the fact that Crimea is under Russian occupation and the substantiated force majeure implementation company’s obligations under this plan, the implementation of an effective governance system consistent with event, lenders still lodge suits against Chornomornaftogaz, which paralyzes its operations. As of international standards requires active steps from the government in compliance with the CGAP. December 2016, Chornomornaftogaz stood defendant in 105 lawsuits with total claims of UAH 550 In addition to its impact on corporate governance, the delay in the CGAP implementation creates a significant million. Chornomornaftogaz is a debtor under 50 enforcement proceedings initiated by external risk for the liquidity of Naftogaz through the potential impact on IFI loans totaling around USD 800 million. creditors and totaling about UAH 292 million, of which 33 resulted in funds and property freezing To mitigate this risk, the company has repeatedly raised the issue of implementation of efficient corporate orders. At the same time, 95% of the total Chornomornaftogaz payables (over UAH 12 billion) are governance with the government. attributed to Naftogaz. 96 97 96 97 ANNUAL WHERE WE ARE NOW REPORT 2016

On 18 May 2017, the Verkhovna Rada of Ukraine adopted the draft law “On amendments to Ukrainian legislation to stabilize Chornomornaftogaz SJSC in the context of the temporary occupation of Ukraine’s territory”. The document stipulates the following: • debt payment moratorium till 1 January 2019 • suspension of enforcement proceedings and cancelation of all previous cash and property seizures • extension of special permits in the occupied territory of the Crimea until the end of the temporary occupation Litigation Arbitrations regarding Gas supply and transit arbitrations were initiated by Naftogaz in the Arbitration Institute of the contracts with Gaz- Stockholm Chamber of Commerce following unsuccessful efforts to reach agreement with Gazprom prom at the Arbitra- via negotiations. Gazprom launched counter claims in response to the Naftogaz claims. tion Institute of the Naftogaz retroactive monetary claims amount to USD 18.0 billion and USD 12.3 billion for sales and Stockholm Chamber of transit cases respectively. Gazprom retroactive monetary claims total around USD 47.1 billion and Commerce USD 7 billion for transit (all figures as of 29 May 2017 including interest, penalties and fines). Whilst Naftogaz representatives and legal advisors believe in the strength of their cases, as with all arbitration cases, there is a risk of an adverse finding in either case. An adverse ruling could nega‑ tively affect Naftogaz financial operations and business as well as the gas market reform in Ukraine. The Stockholm Arbitration Tribunal rejected on 31 May 2017 Gazprom’s “take-or-pay” claim and satis‑ fied Naftogaz claim to make the contract price market-reflective. Furthermore, the tribunal has lifted the ban on gas re-export, which was part of the contract.

Risk of a claim for Satisfying the claim requirements of Naftogaz against Gazprom at the Arbitration Institute of the early repayment of a Stockholm Chamber of Commerce concerning transfer of rights and obligations to the Contract on loan from Gazprom- volumes and terms of transit of natural gas through the territory of Ukraine for the period from bank JSC 2009 until 2019 No. TKGU dated 19 January 2009 to MAHISTRALNI GAZOPROVODY UKRAINY PJSC, may lead to a situation where Gazprombank JSC will have the right to demand early full repayment of the loan provided to Naftogaz in 2012, including accrued interest on the loan and penalties. As of 31 December 2016, loan liabilities of Naftogaz to Gazprombank JSC were USD 835.3 million, to be repaid by the end of June 2018.

Naftogaz and Gazprom at SCC Summary of claims and counterclaims as at 29 May 20171

AMOUNT OF RETROSPECTIVE WHAT WE COMPENSATION, CLAIMED BY PARTIES AND ARBITRATION USD 30.3 billion USD 47.1 billion SUPPLY USD 18.0 billion SUPPLY USD 47.1 billion

More than USD 14.1 billion related USD 34.5 billion related to take-or-pay5 to retroactive compensation for clause for 2012-2014 and 3Q 2015, 2-4Q 2016 excessive payments from 20 May 2011 till Oct 2015 USD 2.2 billion related to disputed price of HAVE Penalties and interest gas supplied in 4Q 2013 and 2Q 2014 Other claims2 Estimated penalties and interest TRANSIT USD 12.3 billion TRANSIT USD 0.007 billion

Related to underdeliveries and underpayment Related to 5 mcm of Gazprom’s balancing for transit services for 2009-20163 gas formed in 2014 ACHIEVED Other claims4 SCC considers two separate cases related to:

- mutual claims filed in June 2014. A. Supply Contract B. Transit Contract - Naftogaz claim filed in October Oral hearings finished in October 2016, decision 2014. Oral hearings finished in December 2016, decision expected in 2Q 2017 expected in 2017

1 Claim amounts include all monetary claims, penalties and interest 4 Other claims of Naftogaz, i.a.: amending/replacing invalid or ineffective provisions of the transit contract based on 2 Other claims of Naftogaz, i.a.: amending/replacing invalid or ineffective and unreasonable provisions in the supply European competition or related energy law (based on cost reflective tariffs and capacity booking principle), applying contract (annual gas volumes, “take-or-pay” provisions, destination clause, unilateral suspension rights and a mandatory the 3rd Energy Package to Russian gas transmission across Ukraine (incl. the provision of shipper code pairs) sales clause in favor of Gazprom) 5 Dismissed by the Arbitration Tribunal’s separate award 3 including calculated claim for underpayment damages incurred after 31 July 2016, which Naftogaz will revert to shortly prior to the award 98 99 98 99 OPERATING REVENUES AND ASSETS 2016, UAH billion Operating revenues Assets 262.1 704.6 15.6 11.5 Oil and gas condensate Oil and gas condensate production production

Upstream 63.5 82.8 52.0 67.2 Gas production Gas production

18.4 Crude oil transportation 3.4 Crude oil transportation 77.7 1.0 Gas transmission Gas storage

6.2 Balancing services 11.5 Domestic Midstream 82.1 186.2 283.8 Gas storage 488.4 Gas transmission

60.0 International

15.8 99.8 Refining crude oil Wholesale and retail and gas condensate gas trading

0.5 Public sector 17.1 76.4 7.1 DHCs for other consumers Refining crude oil Wholesale and retail and gas condensate gas trading 18.9 DHCs for households Downstream 115.6 23.2 Industry 93.5

50.1 Retail suppliers to households

0.9 -69.4 39.9 Non-core assets Adjustment for inter-group Other transactions (elimination)

100 101 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

Indicator 2016 2015 2014 CAGR Main group results Sales revenue of the group, UAH million 192 764 130 267 80 713 54.5% Gross profit (loss), UAH million 70 960 8 457 (7 307) Net profit (loss), UAH million 22 532 (35 062) (88 433) Capital investment, UAH million 9 695 6 523 3 672 62.5% Assets, UAH million 704 589 660 895 506 620 17.9% Working capital, UAH million 63 676 33 707 15 796 100.8% Equity, UAH million 459 108 438 475 349 298 14.6% Loans, UAH million 70 844 71 764 61 261 7.5% Net cash inflow from operating activities, UAH million 47 305 1 695 (58 912) Net cash inflow from investing activities, UAH million (5 238) (4 656) (4 325) 10.0% Net cash inflow from financing activities, UAH million (30 567) 8 329 64 411 Rate of return on financial result2 11.7% -26.9% -109.6% ROE 4.9% -8.0% -25.3% ROA 3.2% -5.3% -17.5% Liquidity coverage ratio 106.2% 98.1% 74.9% 19.1% Total loans/equity ratio 15.4% 16.4% 17.5% -6.2% Results of the natural gas, gas condensate and crude oil segment (Upstream) Gross production of natural gas, mcm 15 904 16 030 15 120 2.6% Gross production of crude oil and gas condensate, thousand t 1 619 1 695 121 265.1% Sales of own natural gas, mcm 13 165 13 111 13 412 -0.9% Sales of oil and condensate, thousand t 1 479 649 - Sales revenue1, UAH million 63 485 27 460 7 794 185.4% Financial result2, UAH million 8 532 878 (4 405) Capital investment, UAH million 6 509 4 196 2 598 58.3% Assets, UAH million 82 800 94 477 48 263 31.0% ROA 10% 1% -7% Results of the natural gas, gas condensate and crude oil segment (Midstream) Natural gas transit volumes, mcm 82 200 67 080 62 197 15.0% Volumes of natural gas transmitted to consumers in Ukraine, 29 591 30 400 38 122 -11.9% mcm Crude oil transportation volumes, thousand t 15 228 16 760 16 863 -5.0% Sales revenue1, UAH million 82 148 54 817 27 615 72.5% SUMMARY Financial result2, UAH million 26 257 20 660 5 577 117.0% Capital investment, UAH million 2 490 1 365 443 137.1% Assets, UAH million 488 420 488 097 405 899 9.7% ROA 5% 4% 1% Results of the natural gas and refinery products segment (Downstream) Sales of natural gas pursuant to imposed special obligations, 18 164 17 159 22 140 -9.4% mcm OF ANNUAL Sales of natural gas at non-regulated prices to other consumers 4 447 6 171 9 080 -30.0% (including sales to group companies), mcm Sales of refinery products, thousand t 782 379 359 47.6% Sales of LNG, mcm 332 271 181 35.4% Sales of compressed natural gas (to automobile CNG filling 49 65 97 -29.2% stations), mcm Sales revenue1, UAH million 115 582 73 524 58 481 40.6% RESULTS Financial result2, UAH million (1 752) (50 190) (79 216) -85.1% Capital investment, UAH million 148 505 368 -36.6% Assets, UAH million 93 535 46 947 33 354 67.5% ROA -2% -107% -238% Other activities Sales income1, UAH million 944 1 814 448 45.1% Financial result2, UAH million (725) (2 194) (274) 62.7% Capital investment, UAH million 548 457 263 44.4% “For the first time in the last 5 years, the group has made a profit Assets , UAH million 4 391 13 670 10 968 -36.7% and did not receive funding from the state budget. Starting from 1 2016, Naftogaz has transformed from the state budget recipient into including sales to other segments 2 the group assesses performance indicators of the operating segments based on the size of net operating profit/(loss) before tax its donor, becoming the biggest taxpayer in Ukraine.” Chief financial officer Sergiy Konovets 102 103 102 103 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

USD 3 billion of its liabilities in foreign “On natural gas market.” The company’s currency. specialists participated in developing the new NEURC methodologies to calculate tariffs Transparent buyer for natural gas storage in line with European legislation. OPERATIONAL New procurement methodology allowed the Naftogaz group to save UAH 1.5 billion The new tariff for gas storage is based on in 2016 compared to the expected price of the value of the booked capacity, expressed purchases. For each purchase, whether it is in units of energy/cubic meter per time carried out through Prozorro or two‑stage unit. Furthermore, the calculation uses bidding, detailed analytical materials are coefficients that take into account the space EFFICIENCY created. Subsequently, the document is of gas storage facility booked for a year or used as a benchmark for repeat purchases. a month along with individual services and As a result, we can trace the dynamics the services provided on an occasional basis. of quotations and keep statistics of the With the new gas storage tariff, we expect tender participants and winners. To prevent our storage segment to become profitable. dubious companies participating in tenders, Naftogaz introduced stringent qualification Collection of receivables requirements. Priority is now given to In 2016, total gas settlement by all categories producing companies and their authorized of consumers made 76%, which is 21% less dealers. Before each tender, procurement compared with 2015. Gross trade accounts specialists study the market and send receivable increased by 24.5%. The debt invitations to producing companies. By for gas consumed under PSO grew due to eliminating the collateral value mechanism, lower gas payments by consumers who do the group removed the artificial barrier that not receive utility subsidies as well as to the previously discouraged many potential bidders shortage of subsidy funds: actual subsidy and was used to manipulate bidding. expenses exceeded the budget target. As of The new methodology is an effective 31 December 2016, the debt for subsidized instrument to control not only price but gas supplies to households and DHCs was also quality. The group reserves the right UAH 21.8 billion. If the subsidies had been to perform incoming inspection and funded in full, gas payments would have technical audit of the provider at any stage reached 90%, which is not much different of procurement, i.e. Naftogaz or its affiliate from the historical data. representatives may pay a visit to any Significant accounts receivable generated counterparty and check availability of the by consumers under Naftogaz PSO remains required production facilities, warehouses an urgent challenge to the group’s liquidity etc. All enterprises of the group set up special management. conflict committees to resolve any issues related to the counterparties and bidders. Non‑core assets Naftogaz also established a working In 2016, a single database of non‑core assets commission for below‑threshold of Naftogaz group enterprises was created. procurement to obtain greater savings on successfully repaid its credit debt of confirmed the company’s credit rating According to the restrictions imposed by purchases that are not in the scope of the Net contributor to the state budget Reliable borrower over UAH 70.8 billion, including about in foreign and local currency for the Article 7 of the law “On Pipeline Transport”, law On public procurement. For the first time since 2006, the company In 2016, Naftogaz confirmed its reputation UAH 43.5 billion in foreign currency. period from 25 May 2015 to 24 May transfer of the management of property that received no direct support from the state as a reliable borrower both on domestic During the reporting period there were 2016 at CCC. is not used in transmission through main as compensation for the difference in and foreign markets. Twice during the year, no cases of delayed or incomplete Changes in pricing policy pipelines or in storage in underground storage prices for gas through recapitalization with in January and July–September, imported implementation of commitments. Efficient participant of stock and Since 1 May 2016, the price of natural gas facilities to other entities is prohibited. treasury bonds. Based on its 2016 financial gas was paid for using an EBRD revolving Despite the rising cost of borrowing supplied to residential customers and for currency markets Said property (fixed assets) can be sold upon results, Naftogaz group will pay the state credit line of USD 300 million, obtained under for Ukrainian companies on domestic heating and hot water supply services In 2016, Naftogaz extended its bond terms the agreement with the Cabinet of Ministers UAH 14.7 billion of dividends and UAH state guarantees at the end of 2015. In the and international financial markets, to households provided by heat energy amounting to UAH 4.8 billion at 10% per of Ukraine. Company experts submitted to 2 billion in income tax. Naftogaz Group reporting period, Naftogaz signed revolving Naftogaz was able to reduce the producers became equal to the price of annum (the cheapest borrowing in local the Cabinet of Ministers of Ukraine more than remains the largest taxpayer in Ukraine: credit line agreements with Citibank and weighted average effective interest imported gas. 79% of Naftogaz sales of gas currency) and was an active player in 10 packages of documents for the disposal in 2016 the group of companies paid the Deutsche Bank for EUR 478 million under rate on financial liabilities from 13.5% in 2016 were to the above categories of the stock market. Gains from securities of non‑core facilities at market prices on a budget UAH 74 billion – 1.5 times more World Bank guarantees for purchasing to 12.1%. In 2016, Naftogaz fulfilled debt customers. The change in the price resulted transactions amounted to UAH 110.6 million. competitive basis. The ownership of non‑core than in 2015. For the first time in the last natural gas. The cost of the credit line does service obligations of UAH 49.2 billion, in additional state budget revenues, which assets is being transformed in compliance 5 years, Naftogaz has received a net profit not exceed 3.5% per annum. and attracted more than UAH 42.0 billion Due to efficient liquidity management and are used to pay housing subsidies. with the law. In 2016, the group took measures of UAH 22.5 billion and posted a positive net of borrowing. use of credit lines, the company did not Despite seasonal cash gaps that led Naftogaz is actively involved in the to decrease the maintenance costs of cash flow from operating activities of UAH put pressure on the Ukrainian currency to a lack of liquidity, the company On 22 April 2016, Fitch Ratings (London) development and improvement of secondary non‑core assets. Funding was provided for 10447.3 billion. market, despite repayment of more than 105 104 legislation necessary to implement the law socially important non‑core assets. 105 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

The group is the largest group of companies in Ukraine in terms of oil and gas reserves. According to a valuation1 performed by Ryder Scott and by DeGolyer and MacNaughton, the Naftogaz group’s reserves of natural gas ANALYSIS (proved & probable) in Ukraine are 304.9 bcm and of oil and gas condensate (proved & probable) are 47.2 million t.

1 According to PRSM (Petroleum Resources Management System) classification.м OF NATURAL GAS AND Natural gas reserves of Naftogaz group in Ukraine2 Natural gas, mcm Oil, thousand t Gas condensate, thousand t

577 7 211 4 310 444 12 161 104 OIL PRODUCTION SEGMENT VOLYN REGION CHERNIHIV REGION 1 651

SUMY REGION 190 560

85 690 9 694 2 172 5 572 2 304 1 243 26 LVIV REGION RESULTS (UPSTREAM) 3 772 KHARKIV REGION 7 269 969 2 11 939 POLTAVA REGION

12 LUHANSK REGION IVANO†FRANKIVSK REGION 1 961 38 530 181 70 CHERNIVTSI REGION DNIPROPETROVSK REGION 28 DONETSK REGION

2 TOTAL2 Ukrgazvydobuvannya’s reserves as of 31.12.2016, Ukrnafta’s reserves as of 01.07.2016 Ukrnafta’s reserves do not include production between 01.07.2016 and 31.12.2016: 719 thousand t of oil and 304 441 39 171 6 878 645 mcm of natural gas

NATURAL GAS PRODUCTION SEGMENT on the territory of the Arab Republic of Egypt, which was signed between Naftogaz, the Arab Republic of Egypt and the Main results Egyptian General Petroleum Corporation (EGPC). The project is In 2016, Naftogaz group produced about 80% of all natural gas implemented by the joint venture Petrosannan Company, set produced in Ukraine. The clear leader in natural gas production up by Naftogaz and EGPC with equal shares in the authorized among the Ukrainian companies is Ukrgazvydobuvannya, with a 73% capital. share in the total production in Ukraine, followed by Ukrnafta, with a In Ukraine, natural gas is mostly produced in the Poltava, Kharkiv, 7% share. Sumy, Dnipropetrovsk, Lviv, and Zakarpattya regions. Exploration Nearly 0.5% of the group’s production is generated by works are carried out mainly in the Carpathians and the Dnipro- activities within the concession agreement carried out Donets region. The geographical breakdown of natural gas production by Ukrgazvydobuvannya in Ukraine in 2016, mcm

36 28 SUMY REGION

VOLYN REGION

5 449 7 938 527

LVIV REGION

POLTAVA REGION 53 138 KHARKIV REGION

LUHANSK REGION IVANO‰FRANKIVSK REGION 432

1 DNIPROPETROVSK REGION CHERNIVTSI REGION 3

DONETSK REGION

106 107 106 107 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

In 2016, the production of natural gas under the concession The group’s natural gas, oil and gas condensate reserves as of 31.12.2016 Gross production of natural gas, mcm agreement in Egypt declined due to a gradual fall in the production capacity of gas condensate wells and delays in Natural Oil and gas Natural gas Oil and gas 20000 Ukrgazvydobuvannya CAGR the construction of gas compressor units. gas, condensate, (million barrels of condensate 4 Ukrnafta -2.6% bcm million t oil equivalent) (million barrels) Concession Agreement in Egypt5 Sales volumes of natural gas increased by 0.4% in 2016 16 104 15 973 compared to 2015 due to increased natural gas production of Naftogaz 16 851 15000 Ukrgazvydobuvannya. During 2014-2016, Ukrgazvydobuvannya proven developed 0.33 0.10 1.95 0.73 0.5% carried out the sale of the entire volume of commercial proven undeveloped 0.00 0.23 0.00 1.67 natural gas produced by Naftogaz. According to the Law of Ukraine “On the natural gas market”, the Cabinet of probable 0.16 1.56 0.95 11.36 14 527 14 605 10000 Ministers of Ukraine approved the “Regulation on imposing Reserves as of 31.12.2016 0.49 1.89 2.90 13.76 15 114 special obligations on the subjects of the natural gas Resources as of 01.01.2016 40.39 2.01 238.99 14.60 market” (Regulation)7, under which Ukrgazvydobuvannya 5000 was determined as a subject of the natural gas market Ukrgazvydobuvannya -13.5% charged with a special obligation to sell the entire volume of

proven developed 255.70 3.52 1 513.02 25.63 -7.9% Naftogaz’s commercial gas to form a natural gas resource 1 737 1 503 1 300 74 68 for domestic consumers and producers of thermal energy proven undeveloped 11.13 0.18 65.86 1.31 0 2014 2015 2016 for domestic consumers. The sales procedure and the probable 23.91 0.59 141.48 4.30 4 In order to correctly display the trend in production the production volumes of natural gas price are determined by this Regulation. production of hydrocarbons in 2015-2016 27.67 0.92 163.73 6.67 Ukrnafta are given for the entire period of 2014-2015. 5 The amount includes compensation and revenue of Naftogaz (see p. 124 of Gas produced by Ukrnafta is used for ammonia production increase in hydrocarbons reserves in 2015-2016 8.14 0.37 48.14 2.71 the description of Project Egypt). According to the project, gross production of (see section “Crude oil and gas condensate processing natural gas amounts to 192 mcm in 2015 and 178 mcm in 2016. Reserves as of 31.12.2016 271.21 3.75 1 604.77 27.27 and trade in petroleum products”). The sale of natural gas produced by Ukrnafta is carried out exclusively through Resources as of 01.01.2016 152.37 11.46 In 2016, the volume of natural gas production decreased company joint activities. Ukrnafta by 0.9% compared to 2015, due to a decline in Ukrnafta Natural gas produced under the concession agreement is production, which resulted from a high level of depleted and proven developed 14.52 14.48 85.89 105.39 sold by the Egyptian General Petroleum Corporation (EGPC). hard-to-recover reserves as most of the fields are at the final The terms of the concession agreement provide for the proven undeveloped 7.50 9.66 44.38 70.31 stage of their operation. Ukrnafta lacks new special permits following distribution of production: probable 10.72 16.28 63.46 118.50 for subsoil use and its operating and exploration drilling has contracted. Therefore, the growth in its hydrocarbon reserves • 25% of the hydrocarbons extracted and accumulated production of hydrocarbons in 2015-2016 0.65 0.72 3.82 5.23 is limited. from all production areas are quarterly directed to Reserves as of 31.12.2016 32.10 39.69 189.91 288.97 Naftogaz to compensate it for all costs of exploration Ukrgazvydobuvannya, on the other hand, increased and development (the compensation part); Resources as of 01.01.2016 18.84 84.95 production in 2016, due to the implementation of a number of Egypt organizational and technological measures such as increasing • 75% of the hydrocarbons extracted and accumulated the extent of development drilling, optimizing the process of from all production areas are distributed depending on proven developed 0.30 0.47 1.75 3.41 field development, increasing the number of intensification production volumes. The Naftogaz share ranges from 15% proven undeveloped 0.12 0.35 0.69 2.57 efforts, including hydraulic fracturing, use of coiled tubing to 19% (the revenue part). technology, etc. In 2016, Ukrgazvydobuvannya managed to stop probable 0.18 0.31 1.09 2.26 The difference in the volumes of production and sales of the decline in gas production and began a steady build-up. production of hydrocarbons in 2015-2016 0.37 0.63 2.19 4.60 natural gas is the gas volume used by producing companies Reserves as of 31.12.2016 0.23 0.50 1.35 3.64 Gross sales of natural gas, mcm for in-process losses and expenses together with internal needs as well as gas volumes produced within the Resources as 01.01.2016 0.06 0.36 0.38 2.63 18000 Ukrgazvydobuvannya Ukrnafta CAGR framework of cooperation agreements. Concession Agreement in Egypt6 Group -0.7% The group’s revenue generated by the natural gas 15000 proven developed 270.84 18.57 1 602.62 135.15 production segment includes proceeds from natural gas 13 412 13 185 13 233 proven undeveloped 18.81 10.38 111.33 75.56 sales and proceeds from the provision of services in natural 12000 gas production. The segment’s total revenue increased by probable 35.16 19.06 208.07 138.76 1.4% 145% in 2016 compared to 2015, mainly due to an increase production of hydrocarbons in 2015-2016 28.31 1.64 167.54 11.91 9000 in the sale price and sales volume of natural gas produced by Ukrgazvydobuvannya. The increase in price for own- increase in hydrocarbons reserves in 2015-2016 8.36 0.87 49.49 6.35 12 820 13 003 6000 13 412 produced gas, bringing it to the level of import price parity, Total reserves as of 31.12.2016 304.87 47.24 1 803.95 343.91 occurred within the reform of the gas market. As a result, 3 the price of gas sold by Ukrgazvydobuvannya increased Resources as of 01.01.2016 211.7 98.8 1 252.4 719.1 -44.5% 3000 from UAH 1 590/tcm excluding VAT, to UAH 4 849/tcm 3 Group resources do not include 197.0 bcm of gas and 17.2 million t of oil located in the temporarily annexed territory of Chornomornaftogaz (92.3 bcm of gas) and -7.9% excluding VAT)8 as of 1 May 2016. Naftogaz (36.2 bcm of gas and 2.0 million t of oil) and Naftogaz resources located in the ATO zone (68.6 bcm of gas and 15.2 million t of oil) 0 291 74 161 68 Oil/condensate volumes are converted to barrel using a factor of 7.28 bbl per 1 t 7 Cabinet of Ministers of Ukraine Regulation No. 758 (as amended) of 01 October 2015. Natural gas volumes are converted to oil equivalent using a factor of 169 cubic metres per 1 bbl 2014 2015 2016 8 Amendments to the Regulation on imposing special obligations No. 315 as of 27 April Source: Report as of 31 Dec 2014 on estimation of Naftogaz proven, probable and possible hydrocarbon reserves (SPE-PRMS) by Ryder Scott Company. Report as of 1 6 The volume of sale of the profit share of Naftogaz. 108Jul 2016 on estimation Ukrnafta reserves and revenue and contingent resources of certain deposits by DeGolyer and MacNaughton. 2016 109 108 109 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

The reduction in gas volumes sold by Ukrnafta had a negative In 2016, the natural gas production segment showed a profit impact on the segment’s revenues, which led to a decrease in of UAH 15 298 million, which is almost 7 times higher than the revenue generated by the segment by UAH 1 027 million, and 2015 result. the lowering of the gas sales by Ukrnafta by UAH 406 million. The growth in prices and sales volumes of natural gas (Ukrnafta’s revenue for 2015 was included after the regain of produced by Ukrgazvydobuvannya improved the segment control, i.e. from 22 July 2015 to 31 December 2015. If Ukrnafta’s result by UAH 30 809 million. At the same time, the increase figures were included in the consolidated financial statements in selling prices and the corresponding increase in subsoil of the group for the entire 2015, then revenue decrease would royalty charges reduced the segment result by UAH 15 281 amount to UAH 1 984 million.) million. Revenue from natural gas sales, UAH million As of 1 April 2016, subsoil royalty charges for gas decreased from 70% to 50% of the gas selling price. However, due to CAGR 60000 163.8% increase in the gas selling price for Ukrgazvydobuvannya in 52 007 2016, the subsoil royalty charges for 1 tcm increased by 118% Ukrgazvydobuvannya compared to 2015 (from UAH 1 113/tcm to UAH 2 424.5/tcm). 50000 Ukrnafta Concession Agreement in Egypt The growth in depreciation charges because of the including sales to other segments 40000 within the group revaluation of fixed assets as of 12 December 2015 also reduced the segment result by UAH 2 624 million.

30000 171,4% 51 064 Impact on segment results, UAH million 21 198 35000 30 725 (15 281)

20000 30000

25000 18 816 -62,1% 10000 7 474 20000 (2 624) -7,1% 175 15 298 15000 2 307 75 874 69 0 2014 2015 2016 10000 4 685 16 362 49 020 5000 2 218 83 0 2015 Growth Growth Growth Growth Other 2016 CRUDE OIL AND GAS CONDENSATE PRODUCTION SEGMENT condensate production. The company directs produced Weighted average price of gas sold by in sales in sales in rental in depreciation volume price payment charges oil and gas condensate into the production of refinery In 2016, the Naftogaz group produced about 90% of all Ukrgazvydobuvannya to form a natural gas resource products using its own production facilities. The results of for domestic consumers and producers of heat for oil and gas condensate in Ukraine. The group’s leading 2218 the production and sale of Ukrgazvydobuvannya’s refinery domestic consumers enterprise for oil and gas condensate production is Assets products are shown in the segments of crude oil and gas Ukrnafta, with a 68% share of Ukraine’s total production. Price, Price, USD condensate processing and trade in petroleum products. In 2016, the group’s assets in the natural gas production Ukrgazvydobuvannya ranks second in Ukraine in terms of UAH segment decreased by 12.9% compared to 2015. About 11% production of oil and gas condensate with a share of more Gross production of oil and gas condensate, From 01 January 2014 till 31 December 349 of the entire decrease was due to a reduction in the value than 21%. 2014 of fixed assets compared to 2015, and a reduction in the thousand t In Ukraine, the production of oil and gas condensate is CAGR Average in 2014 349 29.38 amount of tax prepayments by 1.3%. A change in the book carried out by group companies in the fields located in the Ukrgazvydobuvannya -8.3% From 01 January 2015 till 31 March 2015 349 value of fixed assets mostly took place due to increase in Ukrnafta9 Poltava, Chernihiv, Sumy, Kharkiv, Dnipropetrovsk, Lviv, Ivano- 3000 Concession Agreement in Egypt10 accumulated depreciation. From 1 April 2015 till 31 December 2015 1 590 Frankivsk and Chernivtsi regions. 2 523 Average in 2015 1 276 58.43 The segment’s ROA increased by 20% in 2016 compared with 2500 The group also receives about 3% of oil which it produces 2 305 2015. The increase was mostly due to significant improvement 533 -5,7% 2 121 From 1 January 2016 till 30 April 2016 1 590 in the territory of the Arab Republic of Egypt under the 511 in the segment’s financial results arising from the growth in 482 From 1 May 2016 till 31 December 2016 4 849 concession agreement. 2000 selling prices and lower assets value in 2016 caused by the Average in 2016 3 770 147.55 -9,1% increase in accumulated depreciation. Main results 1500 Segment results, UAH million The results for 2016 of the segment of oil and gas 1 888 Assets Assets, UAH million condensate production show a general downward trend 1000 1 671 3% ROA 1 518 20000 589.7% 80000 in output. In general, the production of oil and condensate 23% 70000 decreased by 7.5% within the group, due to a decrease in 500 -1,5% 15000 15 298 60000 -9% the condensate content at the major gas condensate fields 50000 102 123 121 10000 under development and water flooding at existing wells. 0 40000 77 112 67 173 2014 2015 2016 The largest reduction in oil and condensate production, 5000 30000 44 839 reaching 9.1%, was registered by Ukrnafta due to the 9 2 218 20000 In order to correctly display the trend in production the production volumes of 0 natural depletion of wells and insufficient investment in Ukrnafta are given for the entire period of 2014-2016. 10000 (3 861) maintenance, modernization of equipment, and drilling. 10 The amount includes compensation and revenue of Naftogaz. According to the -5000 0 project, gross production of crude oil amounts to 263 mcm in 2014, 319 mcm in 2014 2015 2016 2014 2015 2016 Ukrgazvydobuvannya also suffered a decline in oil and 2015, and 313 mcm in 2016. 110 111 110 111 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

associated with the production of oil as well as compulsory 2017, which set the subsoil royalty charges for oil at a rate payments and subsoil royalty charges for oil. of 29% for the extraction of oil from reservoirs that are fully or partially lie at a depth of up to 5 000 meters, and 14% The deficit of working capital and actions of the previous for the extraction of oil from a depth of more than 5 000 management of Ukrnafta resulted in the accumulation of meters. However, the subsoil royalties for the extraction of tax debt and penalties in 2015-2016 (losses due to penalties gas condensate have not been changed. It remains at 45% amounted to UAH 2,798 million in 2016). for volumes extracted from reservoirs lying at a depth of up Furthermore, impairment charges made in provision for to 5000 meters and 21% for volumes extracted from a depth doubtful receivables, which accrued to the amount of UAH of more than 5000 meters. 6 610 million in 2014-2015, also contributed to the formation Assets of the segment loss in 2016. Accounts receivable had been mostly generated by Ukrnafta before Naftogaz regained In 2016, the group’s assets in the crude oil and gas control over the company. Ukrnafta and Naftogaz have condensate production segment decreased by 10% limited ability to collect these accounts receivable. compared to 2015. The main reason for the overall decrease was the reduction in trade receivables by 41% compared to In addition, high rates of subsoil royalties charges (charged at a 2015 due to the accrual of allowance for doubtful debts. rate of 45% for volumes extracted from reservoirs that fully or partially lie at a depth of up to 5 000 meters and 21% for volumes The segment’s ROA decreased by 36% in 2016 compared extracted from a depth of more than 5 000 meters) negatively with 2015. The decrease was due to the impaired financial affected the group’s ability to profit from this segment. results arising from lower oil sales revenue caused by drop in global oil prices. Meanwhile, the decrease in trade At the end of 2016, the Tax Code was amended regarding receivables as a result of accrual of impairment provision the level of subsoil royalties for oil, effective as of 1 January (see above) had positive impact on ROA.

Assets, UAH million Assets Impact on segment results, UAH million ROA 20000 -8% 7 494 (2 278) -43% 6000 5000 (6 610) 15000 4000 17 365 15 627 3000 2000 10000 Sales volumes of oil and gas condensate have increased by 1000 (1 340) (6 766) 0 Revenue from the sale of oil and gas condensate, -1000 120% compared to 2015 due to the inclusion of Ukrnafta’s 8% -2000 (2 798) 5000 indicators in the consolidated results starting 22 July 2015. If UAH million CAGR -3000 Ukrnafta’s figures were consolidated starting from 1 January -4000 498.9% -5000 (1 234) 3 424 2015, the decrease in sales for the segment of crude oil and 12000 Ukrnafta 11 478 -6000 0 Concession Agreement in Egypt -7000 condensate production would amount to 4.1%. 10000 -8000 2014 2015 2016 2015 Growth Decrease Provision for Provisions changes +/- 2016 88.5% in sales in sales doubtful for fines other 8000 volume price receivables and penalties Sales of oil and gas condensate, thousand t 6 262 2218 6000 1 888 11 143

2000 CAGR 11 4000 Ukrnafta 545.7% 5 912 Concession Agreement in Egypt12 1 522 2000 -6,1% 1500 320 0 350 329 1 888 2014 2015 2016 1000 1 671 127,9% 693 1 479 In the oil and gas condensate production segment, the 500 group suffered loss in 2016, which was five times higher 649 -2,3% than in 2015. The segment’s unprofitability is primarily 37 0 44 43 explained by the drop in the global oil prices from a level of 2014 2015 2016 533 about USD 98 per barrel on average in 2014, to USD 34 per 11 Ukrnafta’s figures included in the consolidated data starting from 22 July 2015 barrel at the beginning of 2016. and amount to 649 thousand t or UAH 5 912 million 12 The volume of sale of the profit share of Naftogaz The average price of oil sold by Ukrnafta in 2016 amounted to UAH 7 592.9 per ton excluding VAT, or UAH 1 043.0 per In 2016, revenue generated by the crude oil and gas barrel (equivalent to USD 40.82), which is by UAH 1 577 or condensate production segment increased by 83.3%, 21% less than the average price in 2015 (UAH 9 113 per ton compared to 2015 due to the inclusion of Ukrnafta’s excluding VAT or UAH 1 252 per barrel (equivalent to USD indicators in the consolidated financial statements from the 57.3). date of control regain. If Ukrnafta’s figures were included for the whole of 2015, the group’s revenue would decrease The significant drop in oil prices led to a reduction in by 16.6% as the result of a reduction in oil selling price by Ukrnafta’s revenue and a deficit in cash flow from the 12.2% and in production volumes by 4.2%. operating activity needed to cover production costs 112 113 112 113 ANNUAL REPORT 2016 HOW GAS IS PRODUCED EXPLORATION, PRODUCTION AND PROCESSING OF GAS

РЕМОНТНИЙ ЦЕХ

1. GEOLOGICAL EXPLORATION Geological studies are conducted to identify areas where there may be new deposits. 8. GAS TRANSMISSION Seismic studies account for as much as 90% 2. EXPLORATORY DRILLING of the geological exploration budget. Gas is transmitted from the produc‑ On average, only one in three exploratory wells tion site to consumers through gas finds a new deposit. The cost of an exploratory trunk pipelines. well is between USD 2-3 million but sometimes it may cost more than USD 10 million.

NON PURIFIED GAS COMPENSATOR PURIFIED GAS

MARKETABLE GAS НЕОЧИЩЕНИЙ ГАЗ LOW TEMPERATURE CONDENSATE SEPARATOR ОЧИЩЕНИЙ ГАЗ SEISMIC ВОДА VIBRATORS ОЧИЩЕНА ВОДА

КОНДЕНСАТ EXPLORATORY COMPLEX GAS WELL TREATMENT ОЧИЩЕННЯ CONDENSATE PLANT (CGTP) ВОДИ STABILIZER

GAS DRYER

3. PRODUCTION DRILLING GAS Production wells are drilled to SEPARATION develop an explored field. The cost of a well depends on its depth and ranges from USD 2-3 million to USD 10 million. WELL DRILLING WORKOVER PRODUCTION SITE WELL 4. WELL REPAIR COILED Wells are regularly checked and TUBING UNIT repaired to ensure uninterrupted and accident-free production.

BOOSTER 5. PRODUCTION ENHANCEMENT COMPRESSOR STATIONS 6.DEVELOPMENT OF THE FIELD 7. GAS TREATMENT Booster compressor stations (BCS) The final products of the mix‑ maintain the pressure necessary for A mixture of gases (methane, ethane, pro‑ ture processed by a complex production at the final stage of field pane, etc.), gas condensate, stratum water gas treatment plant (CGTP) development. Most of the fields in and other mineral impurities comes to the are dry natural gas and gas Ukraine are significantly depleted. surface through a well. Subsequently, this mixture is purified and separated. condensate. 114 115 114 115 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

International experts confirm the feasibility of the company’s 20/20 strategy objectives

20.1 20 Costs till 2020, Eect PRODUCTION, bcm USD billion 2016-2020, bcm

18.3 55 producing wells, 138 assessed wells, New 1.6 6.0 elds 200 explored wells 16.2 First well in operation in 2017 Up to 270 wells will be drilled by 2020 15.2 Existing (up to 30% wells will be completed 1.4 7.0 using HF). 14.7 elds UKRGAZVYDOBUVANNYA 15 14.5 25% were drilled using outsourcing Intensi cation 250 HF (wells) by 2020 (extensive 0.2 5.9 subcontractor support is required) In 2016, Ukrgazvydobuvannya succeeded Ukrgazvydobuvannya recommissioned its program for 2017 and began developing an 60 mini-compressors will be installed in ending the negative downward trend in hydrofrac fleet, which took six months. The investment management model based on Pressure 0.1 2.6 8 new Booster Compressor Stations optimization will be built and 7 Booster Compressor Ukrainian gas production. Based on the company repaired equipment, recruited an economic feasibility assessment. Stations will be upgraded Well results of 2016, the most powerful gas a team of qualified specialists from East 10 0.1 Over 1000 workovers by 2020 (including Until 2020, the company plans to invest USD 5.1 up to 200 workovers using outsourcing) producing company produced 14.60 bcm, European countries, and used additional downtime 3 billion for purchasing and modernizing which is 0.5% more than the previous equipment to carry out operations in Basic drilling lathes as well as hiring external 14 Organic expenses for maintaining year’s result (14.53 bcm). In addition, accordance with best international level13 0.5 58.0 the existing infrastructure service companies to drill 90 wells during Ukrgazvydobuvannya increased the growth practices. 2017-2019 and to carry out appropriate of its gas reserves by an estimated 7 5 TOTAL In September 2016, the first successful works at gas fields. 3.9 84.5 bcm, reaching a total figure of 276 bcm fracturing operations were carried out. of proven gas reserves at 140 gas fields. The program involves purchasing 30 new Some wells produced around 50 tcm of Ukrgazvydobuvannya accounts for 73% of drilling lathes (by 2020), upgrading 32 13 gas a day. Once the wells are cleaned, UGV nancial plan total gas production in Ukraine. available lathes (in 2016-2018) and drilling 14 Basic level within the range of +-5% of Ryder Scott estimates they will produce about 80-100 tcm a day, Notes: correction factors for drilling at established elds are 0.25, 0.25, 0.3, 0.3 around 660 new wells (in 2016 – 71 wells, in 0 and 0.5 for 2016 – 2020, respectively. Over the last three years, the meterage which would allow for an increase in annual Source: UGV, McKinsey and international experts. 2017 – 88 wells, in 2018 – 131 wells, in 2019 – 2015 2016 2017 2018 2019 2020 drilled by UkrburGaz, Ukraine’s largest production volume of 30-36 mcm from a 166 wells and in 2020 – 201 wells). drilling company, which is part of single well in the future. Ukrgazvydobuvannya, has been increasing. Ukrgazvydobuvannya is planning to attract In 2016, Ukrgazvydobuvannya developed and In 2015-2016, this increase stood at 3.6% and foreign contractors to perform a significant overhaul of wells and coil-tubing operations, approved its investment concept for 2016- 14.7%, respectively. Absolute figures for this volume of work including a complete hydraulic fracturing operations, boring, and 2020. The company finalized its investment “The corporate governance reform enabled us to create a period were 173.1 thousand meters and 198.4 seismic and geophysics tasks. powerful managerial team, improve staff selection, launch thousand meters, although the company did In terms of increased gas production, the not reach the 2013 volume (201.2 thousand Meterage drilled by Ukrgazvydobuvannya 2000-2016 enhancement, overhaul and re-equipment programs as well application of coil-tubing technology has meters). and projected volumes for 2017-2020, thousand meters as to start increasing our production”. brought Ukraine an additional 87 mcm of 1000 Oleg Prokhorenko, CEO Ukrgazvydobuvannya Given the dynamics of recent years, gas. By the end of 2017, it is expected to Ukrgazvydobuvannya intends to increase result in another 366 mcm of gas. drilling by 24% to 240 thousand meters 800 In 2016, coil-tubing and hydraulic in 2017. Drilling rates will increase due Ukrburgaz fracturing fleets were repaired and put In 2016 Ukrgazvydobuvannya increased its engineering works to modernization of the fleet of lathes, EDS (External drilling subcontractor) into operation. The Company began purchases of new rigs and use of • Meterage drilled increased by 25 thousand meters to 198 thousand 600 upgrading its own fleet of drilling lathes contractor lathes. The replacement and meters (+ 14% compared to 2015); while tenders for 100 HF operations were upgrading of drilling rigs is long overdue. The • 70 new wells were built (+ 11% compared to 2015); conducted (the winners were Tacrom and average service life of Ukrgazvydobuvannya • 13 new licenses were obtained (for the first time in recent years); 400 Byelarusnyeft). The practice of outsourcing drilling rigs is 23 years. • 9coil-tubing complexes (zero in 2015); drilling services was initiated, opening • 233 complete overhauls of wells and 120 coil-tubing operations were In 2016, Ukrgazvydobuvannya announced the market for international companies. carried out; the implementation of several large- 200 A drilling fleet development strategy • More than 7 bcm of reserves and more than 11 bcm of resources scale investment projects. These include was developed and a center of drilling were generated; purchasing new drilling equipment and competence was set up and manned by • 1 new booster compressor station was built and construction of 4 recruiting contractors to perform hydraulic 0 specialists from international companies. new booster compressor stations is nearing completion. The key 2011 2017 2012 2014 2013 2015 2016 2019 2001 2010 2018 2007 2002 2004 2003 2020 2005 2006 2009 fracturing (HF). 2000 2008 Additionally, restrictions on gas extraction elements of ground infrastructure were repaired; at Shebelynskyi field were lifted and During 2016, after a three-year break Source: Ukrgazvydobuvannya • a 3D field modeling program was launched. 116 efforts got underway to modernize DTS 117 116 117 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

Problems and solutions The company failed to achieve all its goals in 2016. By way of illustration, In greater detail, the company plans for 2017 Ukrgazvydobuvannya began an in specific areas are as follows intensification program, but due to political and corruption-motivated interference in the company’s activities, full implementation of the program stalled. Furthermore, 2016 INTENSIFICATION AND GROUND saw the termination of three agreements GEOLOGY INCREASE OF WORKING INFRASTRUCTURE on joint activities. For various reasons, DRILLING TIME OF WELLS work was not completed as planned, so (METERAGE DRILLED OF NEARLY 400 (3D-SEISMIC SURVEY OF 17 FIELDS (IMPLEMENTATION OF A LARGE-SCALE (CONSTRUCTION OF THE FIRST STAGE OF in 2017 the company intends to continue THOUSAND METERS, INCLUDING 150 (MORE THAN 1.5 THOUSAND SQUARE PROGRAM OF HYDRAULIC FRACTURING CHERVONODONETSKA BOOSTER THOUSAND METERS AS A RESULT OF METERS), CONSTRUCTION OF OPERATIONS, PURCHASE OF MACHINES COMPRESSOR STATION, MODERNIZATION terminating contracts. ATTRACTING EDS (EXTERNAL DRILLING HYDRODYNAMIC MODELS OF KEY FIELDS, FOR WORKOVER OF WELLS, OR CONSTRUCTION OF 10 BOOSTER SUBCONTRACTORS), MODERNIZATION OF CONSTRUCTION OF A RESERVOIR IMPLEMENTATION OF 250+ KRS COMPRESSOR STATIONS, IMPLEMENTATION Due to red tape, the process of granting 17 DRILLING LATHES OF ITS OWN FLEET, MANAGEMENT FUNCTION, PROCUREMENT OPERATIONS USING INTERNAL RESOURCES OF A COMPREHENSIVE PROGRAM OF CONDUCTING OF TENDERS FOR THE OF HARDWARE AND SOFTWARE FOR AND INVOLVING EXTERNAL CONTRACTORS, AUTOMATION OF WELLS AND THE licenses for new areas is very time- PURCHASE OF 30 NEW DRILLING LATHES, MODELING AND INTERPRETING GEO-DATA, INTRODUCTION OF PERFORATIONS (FOR PROGRAM OF INSTALLATION OF MINI PROCUREMENT OF DRILLING SERVICES FOR AND UPGRADING OF GEOPHYSICAL TRANSITION TO NEW HORIZONS AND COMPRESSORS TO OPTIMIZE PRESSURE). and to build gas dehydration installations. Ukrgazvydobuvannya sales service launched consuming, which affects the speed of ITS OWN FLEET AND FOR AN EXTERNAL FUNCTION) DEVELOPMENT) FOR DEPRESSIONS). CONTRACTOR – DRILLING, BORINGS Framework contracts were entered into for open tenders and direct contracts for implementation of the company’s strategy. SOLUTIONS, CEMENTATION, ETC.) the maintenance of compressor units and, export of petroleum products, an “e-queue” In the early stages of gas production, gas- above all, solar turbines. function, and sales via stock exchange producing companies face obstacles from electronic auctions. difficulties with the legal registration of land. The Ukrgazvydobuvannya Development 70% of the land base in Ukraine is farmland Program will be of great significance for The strategy allowed the company and therefore, without changing the Ukrgazvydobuvannya has initiated several for geophysical studies and works in wells of geophysical works at market prices. Ukraine’s entire oil and gas market. The to gradually decrease the hub price status of this land, it is impossible to work measures to deregulate the oil and gas for oil and gas”, which was published by The situation is even worse if one takes liberalization of the market will open up the discounts the company received, while legally. Unfortunately, the initial stages of industry. Naftogaz and approved in the mid-2000s. into account the outdated capacities country’s investment potential and will help gradually increasing export prices for exploration and drilling works are not always This features prices set when the UAH/ of Ukrgazpromgeofizyka branches that to attract foreign investments and mining Ukrgazvydobuvannya. It also helped the In the area of natural gas production, a successful. It would therefore be unwise USD exchange rate was 5 to 1 have become are currently undergoing upgrades. This industry technologies. company enter into direct relationships with number of regulatory documents remain in to transfer farmland to a different usage economically outdated. This results in hinders the development of the industry global giant Vitol Group. force even though they have long become In 2016, Ukrgazvydobuvannya significantly category at the early stages. The growth of a situation where Ukrgazvydobuvannya since contractors are reluctant to update obsolete and are hindering the development increased the competence of its geological The reform of the procurement system domestic gas production is one of Ukraine’s cannot contract third-party contractors or import equipment. As a result, existing of the industry. One example is the “pricelist functions. A reservoirs management and the Ukrgazvydobuvannya product sales strategic goals. Today, the complexity of land state geophysical enterprises such as competence initiative was created, software system allowed the company to attract acquisition “costs” Ukraine about 1 bcm of Ukrgeofizyka and Poltava Geophysical Works and hardware systems for reservoir world-class companies which can supply unextracted gas per year, which has to be Urgent legislative problems related to Ukrgazvydobuvannya and possible Department are slowly dying. modeling such as Petrel, Eclipse and Techlog high quality equipment and services directly. imported rather than produced in Ukraine. solutions Ukrgazvydobuvannya came up with a were installed, a 3D seismic survey was In 2016, Ukrgazvydobuvannya began to do To create a favorable legal and regulatory proposal for the Cabinet of Ministers launched, and efforts got underway to Problems Possible solutions its accounting and reporting according to ecosystem, Ukraine needs to adopt modern to cancel this “Pricelist”. This will help create geological models of large fields. In 1. Considerable land allocation time - Deregulation of the oil and gas IFRS international standards, which helps policies for developing oil and gas fields. the company create a new market for addition, a geological and technical audit of periods (up to 2 years) industry - adoption of Bill No. 3096 to reflect the company’s financial position The country requires a comprehensive and geophysical services. This will attract all wells was launched and issuance of new 2. Downtime of drilling rigs due - Simplification of the land accurately. updated Code of Mineral Resources. It must investment, significantly increase the special permits was resumed. During 2016, to lack of authorization for allocation procedure conduct an effective fiscal policy, ensure the volume of geophysical works, and increase a new division was created (UGV-Service), removal of fertile soil - loss of - Allocation of state-owned land Industry reforms presence of modern players and services in the speed and efficiency of operations. which is responsible for both intensification 43 million cubic meters in 2015 plots for drilling purposes the oil and gas market, and work to ensure and repairs. Furthermore, a Drilling In 2016, the aggregated effect of - Removal of the ban on changing fair evaluation of reserves in accordance Company plans for 2017 Supervising Office was set up. comprehensive reforms and the the purpose of private agricultural with international standards. transformation of business processes in land Key Ukrgazvydobuvannya tasks in 2017: Ukrgazvydobuvannya reached an estimated In 2016, Ukrgazvydobuvannya applied for 36 Economic impact Delays in the issuance of special Decentralization of rent - 1. Increase gas production by 400-600 USD 4.1 billion. This figure includes savings licenses for new areas. 18 positive decisions Ukrgazvydobuvannya became the number permits (especially problematic enactment of the provisions of Bill mcm to 15-15.2 bcm. due to transparent and competitive were issued (13 licenses were granted). one taxpayer in Ukraine, paying UAH is the approval of issued special No. 3038 on the transfer of 5% of procurement (about USD 2 billion), increased 2. Launch a full-scale program for 38.6 billion to the budget of Ukraine in The key issues to be addressed immediately permits by regional councils) rent to local budgets revenues resulting from the transition to intensifying production (including HF) 2016 (about 5% of the state budget). In include: competitive sales of processed products Because of joint activity Support for further termination of addition, it managed to avoid a credit line 3. Receive 49 licenses for new areas and upgrading to Euro standards 4 and 5 - introduction of a favorable and agreements in 2016, the company contracts on joint activities default and to return UAH 380 million. (UAH 866 million), increased productivity of competitive fiscal regime for greenfield sustained a loss 369 million cubic 4. Launch a full-scale program of Previously borrowed loans were paid off at works (drilling, repairs), early commissioning projects meters. development of drilling capacities a significant discount and the company’s of new wells, the positive effect of (upgrading of its own drilling fleet, current accounts were transferred to state- - ensuring of transparent competitions for Outdated rules, mechanisms and Development of an updated Code restructuring of loans, improved fiscal engaging international drilling owned banks. new licenses rules for mining that do not meet of Mineral Resources and adoption discipline, and review of agreements of modern realities of the revised rules governing field contractors, etc.) To make its sales as competitive as previous periods with non-market terms - completion of natural gas market development 5. Fully implement the capital investment possible and to attract the largest and conditions, etc. reforms program for 2017 118number of international traders possible, 119 118 119 ANNUAL REPORT 2016

UGV FIELDS that produced over 300 mcm of gas in 2016, bcm (more than 2/3 of total production) 2.2

106.0 86% EASTERN OIL AND GAS REGION Production in 2016, bcm 0.9 0.8 12.5 82% Remaining reserves as of 31 December 20162, bcm 10.6 56% % extracted from reserves Licensed fields 0.4 Fissure (Dnipro-Donets Rift) 0.8 81%

SUMY REGION

Kulychyha oil, gas WESTERN OIL 0.3 and condensate field 4.5 31% 0.9 AND GAS REGION 0.4 15.8 95% Tymofiivka oil,gas 4.3 81% 0.9 and condensate field 0.3 18.9 75% 0.3 1.0 93% Yablunivka oil, gas 6.5 70% and condensate field1 Yuliivka gas Komyshnia gas 0.8 and condensate 1 0.07 and condensate field 7.9 field Kotelva gas 62% 0.6 KHARKIV REGION 2.4 76% and condensate field1 0.4 11.7 86% Berezivske gas 8.2 75% 0.08 1 Svydnytsia gas field 0.3 and condensate field 2.4 87% LVIV REGION 2.7 93% Khidnovychi gas field 0.3 3.1 88% POLTAVA REGION ЛУГАНСЬКА Mashivka gas ОБЛАСТЬ 0.06 and condensate field Western Khrestyshche gas Medvedivka Melyhivka gas 1.7 64% and condensate field 0.08 gas and and 0.5 99% condensate condensate Letnia gas field field Yefremivka gas Shebelynka gas and condensate field and condensate field Kehychivka gas and condensate field and condensate field Bilche-Volytsia gas field Kobzivka gas and condensate field

0.13 1.1 97% IVANO FRANKIVSK ZAKARPATTIA REGION REGION Bytkiv-Babche oil, gas and condensate field DNIPROPETROVSK REGION CHERNIVTSI DONETSK REGION REGION 1Gas deposits deeper than 5000 m 2 120 Naftogaz estimates based on reserves calculated by Ryder Scott Company121 120 121 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

accruals. As a result, as of December 31, tons of oil with gas condensate and was organized in mid-November in Ohtyrka 2016 the company’s tax debt increased by 135 million cubic meters of gas per year). and Dolyna by company employees and UAH 3.1 billion to UAH 13.2 billion. In total, Ukrnafta has 82 special permits for representatives of the electronic platform extraction of hydrocarbons. zakupki.prom.ua. The accumulated tax debt and accrued security for possible fines and penalties are Ukrnafta also plans to reform its drilling far too high, impeding the company’s ability Transformation of structure and units. The project involves upgrading to upgrade its capacities and grow. business processes the fleet of drilling lathes, optimizing the In 2016, Ukrnafta began restructuring management structure and business In view of the above, at the beginning of 2016, its operational management systems. processes, increasing productivity, and the company’s board suggested conducting A critical element of this transformation is eliminating the duplication of functions. a company out-of-court recovery. Such fundamental reform of the Ukrnafta supply financial rehabilitation mechanisms require Ukrnafta has 46 drilling lathes, most of management system. To perform this task UKRNAFTA approval by lenders for the restructuring which are obsolete and have unsatisfactory with maximum efficiency, Ukrnafta invited and payment of debts. It could enable the mobility indicators. 60% of rigs have been in Crown Agents Company, which is a global company to make investments and to service for over 20 years. The company plans expert in institutional development and grow its business. The board of Ukrnafta to purchase or rent 2 new drilling rigs and to supply management, to join a two-month is currently engaged in a broad-based upgrade 7 existing drilling lathes. Technical Ukrnafta, one of the largest oil and gas barrel of oil was USD 40 in 2016 compared to of the company’s own cash flow, while urgent pilot consulting project. dialogue and is looking for ways to resolve modernization and organizational measures companies in the country, is engaged in the USD 53 in 2015. operational costs and investments accounted this problem. The project’s main objective is to analyze will allow the company to drill up to 20 wells exploration, production, sale, and processing for 26%. Labor remuneration constituted Due to a decline in production and lower ongoing processes and the potential for per year. of hydrocarbon gas. The company also 16% and payments for petroleum products to oil prices, net income for 2016 fell to reform of the supply management system, owns a chain of refueling stations and meet the needs of the network of refueling Investments The reform project involves setting UAH 22.6 billion compared to UAH 28.8 billion and to begin reorganizing procurement provides oil-field services in Ukraine. The stations during the first four months of In 2016, capital investments stood at up a single structural unit, which will in 2015. functions in all fields of Ukrnafta activities. company consists of six production units, 2016 until changes were made in the retail UAH 510 million, reaching a record low level bring together Okhtyrske, Prylutske three exploration and drilling units, three gas segment procedure amounted to 12%. for the past 10 years. This downgraded the These recommendations will be based and Prykarpatske drilling operations processing plants, research and support Rent payments and tax debt company’s output forecast for 2017. on best practices of similar projects departments. Apart from technological The company failed to pay off its tax units, and 537 refueling stations. In 2016, In 2016, the nominal rate of rent for oil and implemented both internationally and within modernization and optimization of the debts to the state budget and to minority To update the company’s estimates of Ukrnafta employed 25,117 people. condensate production was 45% for wells Ukraine in the private and public sectors. management system, the plan includes shareholders. Although in 2015 Ukrnafta its balance sheet assets and to identify up to 5 thousand meters deep and 21%, for The project is being supported by the UK bringing staffing levels into line with current fully complied with its obligations regarding investment priorities, the company revalued deeper wells. Because of tax law specifics, government through the Good Governance and future production needs. Employees will Production results in 2016 dividend payments for the period from 2011 its assets as of 31 December 2016. As a the base for charging rent payments Fund managed by DFID (Department for be offered employment in the company’s In 2016, Ukrnafta reduced the volume of through 2014 to its majority shareholder result, the company’s assets increased by exceeded the actual selling price of oil and International Development of Great Britain) other structural units. They will be offered production of oil and condensate by 9.2%, having transferred to the state budget UAH 1.6 billion. In addition, the company condensate. As a result, according to the and PwC. the chance to receive professional retraining as well as curtailing its gas output by UAH 2.41 billion, no dividends were paid in 2016. reassessed its hydrocarbon stocks as of 2016 results, the effective rate of rent for the or to voluntarily leave the company with 13.4%. Production cuts resulted from the 31 December 2016 with the participation As part of the study, Crown Agents experts company was 47%. Constrained by the need to finance appropriate compensation. natural depletion of wells and insufficient of the professional valuator DeGolyer and conducted an audit and submitted their urgent production problems, difficulties investments in maintenance and Despite a limited cash flow, in 2016 Ukrnafta MacNaughton (USA). recommendations in such areas as in recovering payments from its business modernization of equipment and drilling paid UAH 8.1 billion in taxes, which exceeds the supply chain strategy and planning, Plans for 2017 partners, and increased stocks of petroleum operations. Due to a critical shortage the 2015 figure (i.e. UAH 5.3 billion) by 52.8%. information and IT systems (ERP – resource In 2017, Ukrnafta plans to increase its products, the Company failed to pay all tax Problem with obtaining special of financial resources, drilling volumes In general, tax payments accounted for 45% permits planning), procurement processes, investment program by up to UAH 2.5 billion decreased by 89% compared to 2010 figures. organization and staffing, as well as the by reinvesting all funds received from a 2017 will be the year that 9 licenses will storage and transportation of materials. decrease in oil rent to 29%. However, despite the difficult situation Average production of oil with condensate, thousand tons per day expire for Ukrnafta plots which produce with oil prices and limited investment, the about 20% of annual oil output. These include A reformed procurement function should Most investments will be directed toward company managed to stabilize production at 6 Anastasievske, Rybalske, Artyuhivske, South- support the short-term business goal, that drilling and production to maintain and 2015 actual a level that exceeds the natural production 2016 actual Panasivske, Lypovodolynske and Korzhivske is, the intensification of oil production at upgrade key production systems, including decline. First and foremost, this was made 2016 planned fields located in the Sumy region, as well existing wells, and the long-term goal of the replacement of worn-out pipes, an forecast (rate of decline in 2015) possible due to a series of technical as Koziyivske and Kachalovske located in doubling the company’s output over the next overhaul of wells, and increasing return 5 measures aimed at intensifying production Kharkiv region and Zavodivske in Lviv region. 10 years. on existing wells by installing ECN, the use at existing wells. of waterflooding operations, and other Derzhheonadra refuses to prolong the The updating of the procurement system is methods of intensification of production. In In addition, production figures were licenses due to Ukrnafta’s tax debt. In one of the top 10 transformation projects addition, the company intends to increase adversely affected by production stoppages 4 August 2016, the agency issued an order designed to reform Ukrnafta. its investments in the retail sector and IT at the Bytkiv-Babchenskyi and Lelyakivskyi to terminate three special permits in In mid-October 2016, the Company joined the systems. fields where two joint ventures with Ukrnafta connection with the Ukrnafta rent debt. Oil ProZorro system. From 14-28 November 2016, are active. In Q1 2017, production at these production at Lelyakivskt field stopped in These investments are crucial in order to Ukrnafta regional units filed e-procurement fields was resumed. 3 May 2016 and at Bytkiv-Babchenske, in July meet basic production and work safety applications with the ProZorro system worth 2015. targets and to ensure the accident-free The company conducted operations despite more than USD 2.9 million. Ukrnafta trained operation of equipment. However, the low oil prices, particularly at the beginning of Suspension of 14 special permits initiated procurement specialists from its structural investment program will depend on the year. The price situation improved by the 2 by Derzhheonadra will result in a decline in units based in Poltava, Sumy, Chernihiv, Lviv arrangements regarding the tax arrears 01.15 11.15 11.16 12.15 12.16 07.15 10.15 07.16 01.16 10.16 02.15 04.15 03.15 05.15 02.16 04.16 03.16 09.15 05.16 06.15 08.15 06.16 09.16 end of the year, but the average price for a 08.16 hydrocarbon production (i.e. 285 thousand and Ivano-Frankivsk regions. This training 122 repayment mechanism. 123 122 Джерело: Укргазвидобування 123 00X_PULL OUT MAP_Front_EGYPT_2015.qxp_Layout 1 02/03/15 17:23 Page C

EGYPT 2015 CONCESSIONS AND LICENCES

CONCESSIONS/LICENCES 167 213 245 282 327 Baltim East (267 square kilometres) North Matruh Disouq (500 square kilometres) West Sitra (17 square kilometres) North Gamasa O˜shore Block 0 (Baltim North, (798 square kilometres) RWE Dea (OP, 50 percent) Sitra Petroleum Company (281 square kilometres) Abu Madi (197 square kilometres) North East 1 and 2, South) Shell Egypt (OP, 100 percent) LEBANON EGPC (50 percent) (OP, 100 percent) (Block 1a and 1b) Petrobel Belayim Petroleum Mediterranean Gas Company Awarded: November 2012 SYRIA Awarded: May 2011 Shell Egypt (0 percent*) BG Egypt (OP, 100 percent) Company (OP, 100 percent) (OP, 100 percent) Expires: November 2015 Expires: May 2031 Awarded: November 2012 Awarded: April 2009 Awarded: July 1977 Awarded: January 1996 Expires: November 2032 Expired/Renewal: April 2012 Expired/Renewal: December 2013 Expires: January 2016 214 248 350 283 329 Ghazalat (45.8 square kilometres) Shushan (153 kilometres squared) 1 168 Apache Oil Egypt (OP, 67 percent) Alam El Shawish West North Damietta O˜shore (A and B) 349 GENERAL PETROLEUM COMPANY Sinopec (33 percent) (296 square kilometres) (1,604 square kilometres) (a and b) El Gelf El Kebeir Concession El Temsah (175 square kilometres) HBS International Egypt 2015 BIDDING ROUND Alam Al Shawish Petroleum BP Egypt (OP, 33.33 percent) Ganoub El Wadi Holding Petroleum PetroTemsah Petroleum Company Awarded: May 2005 (OP, 100 percent) 334 No. Namemk 2 Expired/Renewal: May 2014 Company (OP, 100 percent) Shell Egypt (33.33 percent) Company (OP, 100 percent) Awarded: July 2011 335 Awarded: February 2009 Petronas Carigali Overseas IEOC (0 percent*) Expires: July 2036 A Sudr 63 249 Expires: February 2029 (33.33 percent) 8/75/127 Awarded: March 1996 Mediterranean Sea B Matarma 7 West Kanayis Awarded: February 2010 El Qaraa (186 square kilometres) Expires: March 2026 215 348 C Asl 25 (1,524 square kilometres) 284 Expired/Renewal: February 2013 Nile Delta Oil Company East Beni Suief 336 Apache Oil Egypt (OP, 67 percent) Alam El Shawish East (OP, 100 percent) 172 (7,625 square kilometres) Sinopec (33 percent) (165 square kilometres) 330 International Egyptian Oil Company North Alexandria GANOUB EL WADI HOLDING PETROLEUM COMPANY Awarded: May 2005 Naftogaz Ukrainy (OP, 100 percent) South Idko Onshore Apache Oil Egypt (OP, 33.5 percent) 2014 BIDDING ROUND (IEOC) (0 percent*) (274 square kilometres) Dana Petroleum (50 percent) Expired/Renewal: May 2014 Awarded: December 2006 (1,575 square kilometres) Awarded: January 1991 BP Egypt (OP, 30 percent) 333 No. Namemk 2 Expired/Renewal: December 2013 Petroceltic International Sinopec (16.5 percent) (OP, 75 percent) Expires: January 2021 Egyptian General Petroleum Awarded: June 1996 250 ANNUAL Corporation (EGPC) (50 percent) 1 West Gabal El Zeit (reverse) 132 North Tarek (311 square kilometres) 285 Edison International (25 percent) Expired/Renewal: June 2012 329 Abu Sannan Awarded: January 2014 28/29/112/139 RWE Dea (20 percent) WHAT WE HAVE ACHIEVED 2 Southeast Ras El Ush (reverse) 68 Apache Oil EgyptREPORT (OP, 67 percent) 202 198 277 (1,130 square kilometres) Expires: January 2017 Merged Khalda Operating Leases Awarded: April 2003 332 West Bank 3 Sinopec (33 percent) 2016 264 Northeast Geisum (reverse) 257 216 199 Kuwait Energy (OP, 50 percent) Khalda Petroleum Company Expires: April 2023 4 North Magawish (reverse) 194 Awarded: May 2005 Badr El Din-1 (107 square kilometres) 240 Expired/Renewal: May 2014 Dover Investments (28 percent) 331 (OP, 100 percent) 5 Northwest Shadwan (reverse) 286 181 Badr El Din Petroleum Company 228 Beach Petroleum (22 percent) South Desouq Onshore (OP, 100 percent) 268 6 Northwest Sea Bird (reverse) 191 252 Awarded: June 2006 (1,275 square kilometres) 41 Qarun (80 square kilometres) 244 168 Expired/Renewal: June 2012 Sea Dragon Energy (OP, 100 percent) Meleiha (654 square kilometres) Apache (OP, 100 percent) Awarded: January 1983 7 North Al Baraka 11,680 East Kanayes (72 square kilometres) Expired/Renewal: January 2013 322 8/75/127 267 8 South Al Baraka (a, b and c) 10,900 IEOC (OP, 50 percent) Awarded: April 2013 [East A, East B] Awarded: August 1995 302 172 286 Agiba Petroleum Company Expires: August 2015 167/191 239 9 Southeast Qena 15,745 EGPC (50 percent) 207 166 Alamein – Yidma 332 (OP, 100 percent) 217 327 10 Kharit 14,270 Awarded: March 2012 South Ghazalat A, B and C 289 201 265 Expired/Renewal: March 2032 (582 square kilometres) North El Arish O˜shore – Block 6 Awarded: August 1986 182 213 347 194 El Hamra Oil Company (2,980 square kilometres) (1,883 square kilometres) 266 0 269 264 Gaza Strip Expires: August 2016 West Abu El Gharadig 140 Exploration lease (OP, 100 percent) Dana Gas Egypt (OP, 100 percent) TransGlobe Egypt (OP, 100 percent) 131 228 245 253 (50.8 square kilometres) 250 Development lease Awarded: November 1963 Awarded: April 2013 45 Raml Petroleum Company Awarded: November 2013 162 El Fayum (1920 square kilometres) Expires: August 2030 Expires: April 2017 Expires: November 2016 195 Restricted area (El Fayum West) West Razzak (OP, 100 percent) 138 281 Merlon Petroleum El Fayum Agiba Petroleum Company Awarded: December 1996 225 Bidding area 287 333 101/137 195 248 212 Company (OP, 100 percent) (OP, 100 percent) Expires: December 2016 218 248 132 287 Alexandria 149 Alamein – Yidma North El Arish O˜shore East Ras Qattara 195 249 Maritime border Awarded: July 2004 (582 square kilometres) (2,980 square kilometres) Awarded: December 1989 259 204 146 235 234 ISRAEL Expires: July 2016 Expires: December 2019 191 (4,326 square kilometres) National border Apache (OP, 100 percent) Edison International Petroshahd (OP, 0 percent*) 286 330 104 Awarded: 2013 (OP, 100 percent) Baltim (84.4 square kilometres) 41/208 225 346 Disputed border 254 Sipetrol (50.5 percent) 270 345 311 Awarded: April 2013 51 IEOC (OP, 50 percent) 252 106 340 278 National capital West Wadi El Rayan 1, 2 and 3 East Alamein (100 square kilometres) EGPC (50 percent) Kuwait Energy (49.5 percent) 299 289 Expires: April 2017 259 195 City (4,200 square kilometres) North El Amyria

Alamein Petroleum Company Awarded: March 2013 Awarded: 2004 344 45 Petro Fayoum Company (1,000 square kilometres) 334 (OP, 100 percent) Expired/Renewal: March 2029 Expires: 2024 343 51 (OP, 100 percent) 342 331 RWE Dea (OP, 100 percent) Shorouk O˜shore Awarded: February 1984 230 Sinai Awarded: October 2009 Awarded: July 2006 (3,765 square kilometres) Expired/Renewal: February 2014 194 219 133 214 300 Expires: January 2033 195 220 301 Expires: July 2015 IEOC (OP, 100 percent) El Manzala O¢shore North Alam El Shawish 216 JORDAN Awarded: April 2013 52/89/123 (630 square kilometres) (2,164 square kilometres) 206 318 255 261 182 206 Cairo 290 Sitra (322 square kilometres) BG Egypt (OP, 50 percent) Shell Egypt (OP, 100 percent) 195 344 54/88/123 218 Komombo (50 square kilometres) South Siwa 335 Sitra Petroleum Company Dana Petroleum (50 percent) Awarded: November 2012 220 181 3033 Dana Gas Egypt (OP, 25 percent) (25,000 square kilometres) North Tennin O˜shore 101/137 EGPC (50 percent) (OP, 100 percent) Awarded: July 2005 Expires: November 2015 219 206 205 Al Thani Corp Ltd (OP, 100 percent) (5,195 square kilometres) (a and b) Shell Egypt (0 percent*) Expired/Renewal: July 2013 254 Sea Dragon Energy (25 percent) Awarded: January 2007 BP Egypt (OP, 100 percent) 231 A Awarded: December 1985 220 341 283 B Awarded: December 2007 Expired/Renewal: December 2013 Awarded: April 2013 Expires: December 2015 195 South Dabaa 217 344 Expires: December 2027 Khalda (980 square kilometres) 54/88/123 291 336 (204 square kilometres) 217 253 54/88/123 Khalda Petroleum (OP, 100 percent) (1, 2, 3, 7, 9, 10) C INVESTMENT PROJECTS IN259 EGYPT West Komombo North El Max O˜shore 253 Badr El Din (107 square kilometres) Awarded: April 1981 282 285 West Kalabsha (23,640 square kilometres) (4,680 square kilometres) (a and b) South Dabaa Petroleum Company 52/89/123 (298 square kilometres) (A, B and C) Badr El-Din Petroleum Expires: November 2016 (OP, 100 percent) 104 205 Energean Egypt (OP, 70 percent) BP Egypt (OP, 100 percent) (OP, 100 percent) In total, 9,986 million barrels South WadiKhalda El PeMahareethtroleum (OP, 100 (SWM)percent) blocksKarl Thomson Energy (20 percent) Awarded: April 2013 Awarded: February 1999 241 205 Awarded: November 2008 Awarded: January 1983 198 280 Exploration, infrastructureSee reverse side for details. Groundstar Resources (10 percent) Expires: February 2019 319 215 Expires: November 2028 Expires: January 2013, September East Delta Deep Marine (1,362 million t) of commercial oil with located in the Eastern Desert of Egypt.Awar ded: September 17 2006 338 28/29/112/139 development and production 2017 (365 square kilometres) gas condensate and 14,864 billion The project is at the stage of geologicalExpired/Renewal: September 17, West Dakhla 1 225 of oil and gas in the Alam El 261 2014 (15,368 square kilometres) Deep Marine (OP, 100 percent) East Yidma cubic feet (420 mcm) of gas have exploration.Siwa (6,320 square kilometres) Dana Petroleum (OP, 100 percent) 101/137 Awarded: October 2007 (4,326 square kilometres) Shawish East area, Western Apache Oil Egypt (OP 33.5 percent) 299 Awarded: December 2013 West Qarun (46.2 square kilometres) Expires: October 2027 INA-Industria Nafte 304304 been produced since the beginning Tharwa Petroleum (50 percent) South Alamein Expires: December 2017 Oasis Petroleum Company (OP, 100 percent) Desert Sinopec (16.5 percent) (1,423 square kilometres) (A and C) 215 of exploitation of reservoirs in the Goals for 2017 (OP, 100 percent) 199 Renegotiated: 2012 Awarded: June 2004 TransGlobe Egypt –Cepsa 339 Sahara Petroleum (0 percent*) Ras El Barr (184 square kilometres) Approved: October 2013 Concessions In 2006, Naftogaz, the Arab Republic of concession area. Expired/Renewal: June 2012 (OP, 100 percent) West Dakhla 2 Awarded: July 1993 (Seth) Gulff of Aqaba The main goals for 2017 are the of Naftogaz Egypt (ARE) and the Egyptian General SAUDI ARABIA Awarded: April 2007 (15,322 square kilometres) Expired/Renewal: July 2013 Pharaonic Petroleum Company 228 stabilization264 of oil production basedExpi red/Renewal: April 2014 Dana Petroleum (OP, 100 percent) (OP, 100 percent) North Idku A and B Petroleum Corporation (EGPC) signed South Wadi El Mahareeth and Theqah (1,760 square kilometres) Awarded: December 2013 106 BP (0 percent*) (300 square kilometres) on the mechanical(North & North Weoperationst) of 300 Expires: December 2017 Concessions a concession agreement for the Wadi El Mahareeth investment IEOC (OP, 50 percent) East Badr El Din South Razzak Awarded: July 1997 North Idku Petroleum Company wells and construction of oil and gas (355 square kilometres) Expires: July 2017 290 of Naftogaz exploration and exploitation of oil and projects Tharwa Petroleum (50 percent) (82.5 square kilometres) 340 Khalda Petroleum (OP, 100 percent) (OP, 100 percent) infrastructureAwarded: to July improve 2004 business Apache Oil Egypt (OP, 67 percent) Northwest Gindi Awarded: July 1975 201 Awarded: November 2005 gas in the Alam El Shawish East area, Expired/Renewal: July 2012 Sinopec (33 percent) (1,955 square kilometres) Expires: November 2025 (Zakordonnaftogaz) Investment projects are underway performance. In addition, the company Expires: December 2024 Rosetta – North East, South West, LIBYA Western Desert, which was the first Awarded: April 2006 Edison International West (295 square kilometres) pursuant to concession agreements faces the265 following objectives in 2017:Expired/Renewal: April 2014 (OP, 100 percent) 131 Rashid Petroleum Company 230 step towards practical implementation Burullus O˜shore Awarded: September 2014 Obaiyed West (OP, 100 percent) North Ras Qattara on the exploration and further (400 square kilometres) 301 (18 square kilometres) of the company’s investment projects ‑ To completeBP Egypt ( OPthe, 100 interpretation percent) ofEast 2D Ghazalat 341 (555 square kilometres) BG Group (0 percent*) development of hydrocarbon reservoirs, (366 square kilometres) Northwest Sitra Obaiyed Petroleum Company Awarded: July 1997 Apache Oil Egypt (OP, 23.45 percent) in Egypt. seismicAw arprospectingded: June 2005 data; IPR TransOil (15 percent) HurghadaHurghada signed on 7 February 2012 between the Expired/Renewal: June 2014 Vegas Oil & Gas (OP, 50 percent) (1,946 square kilometres) (OP, 100 percent) Expires: July 2017 Transglobe Egypt (50 percent) Transglobe (OP, 100 percent) Awarded: November 1994 Sinopec (11.55 percent) EGPC (50 percent) Legend Pursuant to one of the projects, Arab Republic of Egypt, Ganoub El-Wadi ‑ To identify266 the most promising North Petroleum (0 percent*) Awarded: September 2013 Expired/Renewal: January 2015 202 West Burullus O˜shore Awarded: June 2007 Expires: September 2020 West Delta Deep Marine Awarded: July 2007 Concessions/Licenses: commercial production of hydrocarbons Holding Petroleum Company (GANOPE) sites and locations of 4 wells in theExpire d/Renewal: October 2014 Expires: July 2027 (800 square kilometres) 132 (1,676 square kilometres) Exploration lease began in 2010, which led to the and Zakordonnaftogaz, a subsidiary concessionGaz de Fr anceblocks; Exploration Egypt – 342 Matruh (900 square kilometres) Burullus Gas (OP, 100 percent) 326 Development lease GDF Suez (OP, 50 percent) 302 Southwest Meleiha Khalda Petroleum (OP, 100 percent) Awarded: February 1999 231 setting‑up of Petrosannan Company, a of Naftogaz. These agreements relate West Obayed (910 square kilometres) (2,058 square kilometres) Restricted area ‑ To constructDana Petroleum 4 wells (50 pe rc(2ent) wells in each Awarded: November 1994 Expires: June 2027 North Bahariya East and West joint venture that provides operational to the Wadi El Mahareeth (WM) and Awarded: September 2005 Vegas Oil & Gas (OP, 70 percent) Eni (OP, 100 percent) Expires: December 2022 (119 square kilometres) Bidding area block).Expired/Renewal: September 2013 Hellenic Petroleum (30 percent) Awarded: September 2014 204 North Bahariya Petroleum Company management of the project under the Awarded: June 2007 133 Ras El Hekma (22 square kilometres) (OP, 100 percent) annual work program approved by the 267 Expired/Renewal: June 2014 343 Ras Qattara Khalda Petroleum (OP, 100 percent) Sahara Petroleum (0 percent*) EGYPTEgypt El Burg O˜shore Southwest Alamein (331 square kilometres) Awarded: January 2002 Awarded: August 2005 shareholders (NaftogazRed and Se EGPC).a (1,000 square kilometres) 303 (2,888 square kilometres) Ras Qattara Petroleum Company Expired/Renewal: January 2022 Expires: August 2025 (O˜shore 1 and O˜shore 2) East Lagia (2,989 square kilometres) HBS International (OP, 100 percent) (OP, 100 percent) In 2016, two appraisal wells were drilled Fulfillment of concession conditions in 2016 BG Egypt (OP, 70 percent) Vegas Oil & Gas (OP, 100 percent) Awarded: November 2014 IEOC (0 percent*) 205 234 - 2D seismic prospecting and data processing (3,100Petronas linear Carigali Ov km)erseas are Awarded: November 2012 7 for additional exploration of reservoirs (30 percent) Expires: November 2015 344 Awarded: January 1993 East Bahariya El Qantara (3.5 square kilometres) 9 North Ghazalat Expired/Renewal: June 2027 (37.8 square kilometres) Qantara Petroleum Company Dakhla Oasis in the concession area, as a result of complete; Awarded: July 2005 Luxor Expired/Renewal: July 2013 304 (25 square kilometres) Qarun Petroleum (OP, 100 percent) (OP, 100 percent) - The study of the low-velocity layer by means of the uphole drilling Block 12 El Qa’a Plain HBS International Egypt 138 Apache (0 percent*) Awarded: June 2003 which new oil deposits were discovered. 268 (1,824 square kilometres) (OP, 100 percent) Umbaraka (420 square kilometres) Awarded: June 2003 Expires: June 2023 Accordingly, crude oil production was method is complete (16 uphole wells were drilled: 7 wells for the WM (Block 1 and 2) Awarded: July 2011 Khalda Petroleum (OP, 100 percent) Expires: June 2023 block and 9 wells for the SWM block); North El Burg O˜shore Dana Petroleum (OP, 27.5 percent) Expires: July 2036 Awarded: December 1963 235 increased by 56 thousand barrels (617 square kilometres) Petroceltic International Expired/Renewal: December 2013 206 - Interpretation of 2D seismic prospecting dataBP has Egypt started. (OP, 50 percent) El Mansoura (7.6 thousand t) compared to 2015, and IEOC (50 percent) (37.5 percent) 345 Northeast Abu El Gharadig (2,175 square kilometres) Beach Energy (25 percent) North El Salhiya Onshore 140 (161 square kilometres) commercial production of oil and gas Awarded: June 2005 Awarded: November 2012 (1,527 square kilometres) Petroceltic (OP, 100 percent) Factors that impede the implementation of foreignExpire projectsd/Renewal: June 2012 Ras Kanayis (208 square kilometres) Tiba Petroleum Company Awarded: June 2013 Expires: November 2016 Dana Gas Egypt (OP, 100 percent) 339 338 condensate reached 2.3 million barrels - Untimely and incomplete funding of works by the Egyptian side Awarded: September 2014 (A and B) (OP, 100 percent) Expired/Renewal: June 2033 269 Khalda Oil Company Awarded: April 2004 255 (313 thousand t) in 2016. because of a currency crisis in the country; 311 Expires: September 2021 West El Manzala North El Maghara (OP, 100 percent) Expires: April 2024 239 (527 square kilometres) Awarded: December 1992 - Overdue accounts payable accrued by Petrosannan Company and (2,334 square kilometres) 346 North Bardawil By the end of 2016, 49 wells were Dana Gas Egypt (OP, 100 percent) National Petroleum Company North El Mahala Onshore Expired/Renewal: December 2012 207 (13 square kilometres) possible punitive sanctions on the part of contractors;Awarded: June 2005 North East Obayed drilled in the concession area thanks (OP, 100 percent) (1,028 kilometres) Petrobardawil Petroleum Company Kharga Oasis Expired/Renewal: June 2012 Awarded: July 2007 Total E&P Egypte (OP, 100 percent) 146 (801 square kilometres) (OP, 100 percent) to Naftogaz investment, 38 of which - A lengthy procedure of approval with the Egyptian authorities, the Burg El Arab (80 square kilometres) Shell Egypt (OP, 100 percent) 10 Expired/Renewal: July 2013 Awarded: September 2014 Awarded: March 2006 revealed oil and gas accumulations. Egyptian armed forces and GANOUB. 270 (North and South) Awarded: November 2012 Expires: March 2026 West El Qantara 318 347 Burg El Arab Petroleum Expires: November 2015 124 (421 square kilometres) 125 Aswan Hallif (17.9 square kilometres) El Matariya Onshore (OP, 100 percent) 240 124 Dana Gas Egypt (OP, 100 percent) HBS International125 Egypt (1,028 square kilometres) Awarded: December 1996 208 West Mediterranean Deep Water Awarded: June 2005 (OP, 100 percent) BP (OP, 50 percent) Expires: December 2016 Meleiha Deep Drilling (210 square kilometres) 8 Expired/Renewal: June 2012 Awarded: April 2007 Dana Gas Egypt (50 percent) (654 square kilometres) Expired/Renewal: April 2013 Awarded: September 2014 BP Egypt (OP, 40 percent) 277 149 IEOC (OP, 76 percent) EGPC (50 percent) Expires: September 2021 East Delta (North and South) Lukoil (24 percent) North Tineh O˜shore RWE Dea (10 percent) 319 (79.8 square kilometres) Awarded: August 1986 (2,400 square kilometres) East Abu Sennan 348 Petrodelta Company Expires: August 2016 Awarded: October 2007 BP Egypt (OP, 100 percent) (640 square kilometres) North Port Fouad O˜shore Expires: October 2027 291 Awarded: November 2009 (OP, 100 percent) 0 25 50 100 Tharwa Petroleum (OP, 100 percent) (3,397 square kilometres) Awarded: October 1994 210 Expired/Renewal: November 2012 Awarded: April 2007 Edison International (OP, 50 percent) Expires: June 2026 Wadi El Mahareeth 241 Expired/Renewal: April 2013 Petroceltic (50 percent) (11,427 square kilometres) El Diyur (15 square kilometres) Kilometres 278 Awarded: September 2014 162 Naftogaz Ukrainy (OP, 100 percent) Diyur Petroleum (OP, 100 percent) 1 South East El Mansoura 322 Port Said North Awarded: February 2012 Awarded: July 2005 (2,175 square kilometres) Abu Qir (West, North Abu Qir) 349 (950 square kilometres) Expires: July 2025 Melrose Petroleum (OP, 100 percent) (300 square kilometres) Karawan O˜shore Awarded: June 2005 Abu Qir Petroleum Company (4,565 square kilometres) PetroSaid Petroleum Company 211 Expired/Renewal: June 2014 (OP, 100 Percent) Wadi El Mahareeth South 241 (OP, 100 percent) Eni (OP, 50 percent) El Diyur (14,115 square kilometres) Edison International (0 percent*) BP (50 percent) IEOC (0 percent*) (9,316 square kilometres) 280 Awarded: February 1974 Awarded: January 2015 Awarded: February 1994 Naftogaz Ukrainy (OP, 100 percent) IPR Group (OP, 100 percent) Awarded: May 2000 North El Diyur (12 square kilometres) Expires: January 15 2029 Expires: February 2014 Awarded: February 2012 Diyur Petroleum (OP, 100 percent) 350 Expires: May 2020 Awarded: February 2006 326 North Leil O˜shore 166 212 Expires: February 2026 El Ghazaliyat – Block 11 (5,105 square kilometres) O¢shore North Sinai North Alamein (West Mediterranean 244 (7,137 square kilometres) Eni (OP, 100 percent) (371 square kilometres) Sea Block 1) (20 square kilometres) West Baltim O¢shore 281 RAK Gas (OP, 20 percent) Awarded: January 2015 North Sinai Petroleum Company Khalda Petroleum Company (804 square kilometres) East Obaiyed (244 square kilometres) Arabiyya Lel Istithmaraat (OP, 100 percent) (OP, 100 percent) IEOC (OP, 100 percent) IEOC (OP, 100 percent) (80 percent) *Participating in a joint venture that Awarded: April 1998 Awarded: September 1998 Awarded: June 2004 SUDAN Awarded: February 2005 Awarded: June 2009 forms the operating company. Expires: April 2018 Expires: September 2018 Expired/Renewal: June 2013 Expired/Renewal: February 2014 Expires: December 2015 Source: EGPC, Egypt Oil & Gas © 2015 The Oil & Gas Year Ltd., The Oil & Gas Year Egypt 2015. All rights reserved. ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

NATURAL GAS TRANSPORTATION AND DISTRIBUTION 2015, and is the result of an increase in the volume of transit of natural gas through the territory of Ukraine via the The main component of Ukraine’s gas transmission system is GAS, OIL AND contract with Gazprom. the network of gas trunk pipelines and branch pipelines owned by Ukrtransgaz, which is a single technological complex that operates in continuous operating mode. The total length of gas pipelines operated by Ukrtransgaz is 38.55 thousand km, including Natural gas volumes transmitted, -5,7% GAS CONDENSATE 22.16 thousand km of trunk lines and 16.39 thousand km of branch mcm (29) Gas volumes transiting Ukraine CAGR -4,8% pipelines. As of 31 December 2016, the number of gas distribution Gas volumes transmitted to consumers CAGR 15 in Ukraine 6% stations was 1 455. The company’s fleet of gas compressor plants 150000 Natural gas volumes transmitted through consists of 702 units located at 72 compressor stations. cross-border points (transmission capacity at the entry points) 120000 11 079 TRANSPORTATION Gas volumes that enter the gas transmission system of Ukraine -2.7% 29 591 are measured by gas metering stations. The infrastructure 90000 38 122 30 400 facilities are equipped with modern high-precision automatic 22.5% meters and automatic instruments for determining the 60000 physicochemical properties of natural gas. 82 200 AND STORAGE 30000 62 197 67 080 Main results 0 2014 2015 2016 The total volume of natural gas transported in 2016 equaled 15 CAGR calculation does not include transmition through cross-border points (MIDSTREAM) 111 791 mcm, which is by 14.7% greater than the figure for Ukraine decreases the use of natural gas, Gas transmission through Ukrainian territory bcm to European countries in 2013-2016, bcm 50 -13.5% 100 -27.8% 22.5% -20.3% 44,1 -2.7% 40 80 86.1 7.9% 82.2 38.1

30 60 67.1 62.2 30.4 29.6

20 40

10 20

0 0 2013 2014 2015 2016 2013 2014 2015 2016

In 2016, the volume of natural gas transit increased by 22.5% service). Customers who ordered transportation services pay compared to 2015 and reached 82 200 mcm. The main reason the operator of the gas transmission system the cost of the for the increase in the volume of natural gas transit through the services received. territory of Ukraine was the shutdown of the Nord Stream gas The system balancing service includes: pipeline for technical repairs in August 2016 and higher demand in the EU. • commercial balancing – activity of the gas transmission system operator which consists of identifying and adjusting In 2016, the volume of natural gas transportation for consumers the imbalance that arises from the difference between the in Ukraine decreased by 2.7% compared to the previous year, volumes of natural gas entering through the entry points and as a result of a decrease in the consumption of natural gas by the volumes of natural gas exiting through the exit points in industrial consumers. the context of the customers who ordered transportation Since early 2016, Ukrtransgaz has been providing two new services, whereas such activity is carried out on the basis of types of services: balancing service (physical balancing and data received through the allocation procedure; and commercial balancing) and transmission capacity distribution • physical balancing – measures taken by the operator of service (cross-border points). the gas transmission system to ensure the integrity of the Pursuant to the Code of the gas transmission system, system, namely the necessary ratio between natural gas Ukrtransgaz provides the customer with one or several volumes that have physically entered through entry points components of natural gas transportation services (capacity and natural gas volumes that have physically been removed distribution order, natural gas transportation order, balancing through exit points. 126 127 126 127 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

Revenue of the natural gas transportation During 2016, revenues from commercial balancing services Assets, UAH million Assets The financial result of the natural ROA and distribution segment, UAH million CAGR,% amounted to UAH 6 242 million. In the meantime, as 350000 gas transportation and distribution segment, 7% 9% 79% of 31 December 2016, accounts receivable for services 300000 3% 80000 2357.3% 77 733 UAH million CAGR,% provided for balancing natural gas volumes amounted to 30000 250000 6 242 88% UAH 6 653 million, of which UAH 1 914 million was repaid 70000 3 564 25000 23.6% during January-March 2017. Repayment of debts was carried 200000 -15.5% 239 745 283 797 7 941 out through execution and delivery of protocol resolutions 150000 289 244 60000 20000 pursuant to the decisions of the Cabinet of Ministers of 100000 49 995 1 888 254 15000 Ukraine19.At present, the group is in the process of claiming 50000 26 207 50000 21 200 and related works for the recovery of debts for balancing 9 400 48.7% 10000 0 40000 services which accrued during 2016. To balance the system, 5000 Ukrtransgaz used 936 mcm, which was more than three times 2014 2015 2016 59 986 7 448 30000 24 228 0 greater than initially planned. the segment’s financial results due to the transit growth 2014 2015 2016 and lower assets value in 2016 caused by the increase in 20000 7 397 40 341 Assets The financial result of the natural gas transportation and accumulated depreciation. distribution segment increased by 23.6% in 2016 compared to 2015. The value of assets in the natural gas transportation and 10000 16 831 NATURAL GAS STORAGE distribution segment decreased by 2% in 2016 compared to Due to the increase in transit volumes and the devaluation 0 2015. The greatest impact on the change was made by a drop Ukrtransgaz manages one of the largest gas storage networks 2014 2015 2016 of the hryvnia against the US dollar in 2016, the results of the in the fixed assets value in 2016 compared to 2015, which was in Europe. It is an important integral technological part of the 57 112 2 624 natural gas transportation and distribution segment increased due to an increase in depreciation charges. Ukrainian gas transmission system. Today 12 storage facilities Natural gas transit services by UAH 13 704 million. At the same time, the increase in the Gas transportation services for consumers in Ukraine are in operation, two of which are based on water-bearing price of natural gas for production and technological needs This change was partially offset by an increase in trade Transmission capacity distribution services (cross-border points) structures. The rest are based on depleted gas fields. The Balancing services negatively affected the segment’s results in 2016, reducing it by receivables in 2016 owing to the inclusion of accounts total capacity of the gas storage facilities is about 31 bcm. including sales to other segments within the group UAH 8 193 million. Furthermore, as of 1 January 2016, natural gas receivable for balancing services to the natural gas transportation services by cross-border gas pipelines are subject transportation and distribution segment in 2016. The storage facilities are multi-purpose objects. They are used Despite the decrease in the volume of natural gas transmitted for to VAT at a rate of 20%. Concurrently, the rental payment for the to ensure the smooth and efficient delivery of natural gas to Ukrainian consumers, on the whole the revenue of the natural gas The segment’s ROA improved by 2% in 2016 compared transit of gas through the territory of Ukraine was cancelled, consumers, reliable gas transit through Ukraine to the EU, and transmission and distribution segment increased by 55.5% in 2016 with 2015. ROA was equally influenced by the increase in which resulted in an increase in the overall segment costs in 2016 to serve as long-term gas emergency reserves. compared to 2015, through the provision of new types of services and and reduced the segment result by UAH 8 289 million. 19 Cabinet of Ministers Resolution No. 20 “On Approving the Procedure for Transferring an increase in the price and volumes of natural gas transit, along with Some Subventions from the State Budget to Local Budgets for Granting Benefits, The group provides gas storage services in its storage UAH to USD devaluation, as the transit tariff is calculated in USD. facilities to both gas suppliers and consumers. Impact on segment results, UAH million Subsidies and Compensations”, dated 11 January 2005. Analysis of sales revenue of the natural gas transportation and distribution segment Movement of gas in storage facilities in 2016 9 806 (8 193) 45000 6 242 77 733 Free capacity (annual average) 80000 (8 289) 3 564 36000 10 591 10 592 Design capacity 70000 (4 051) 60000 7 340 27000 2 030 26 207 3 113 2767 Volume stored (annual average) 49 995 21 200 50000 310 18000 Pumped in 40000 214 96 820 11539 5511 OLYSHIVSKE Withdrawn 30000 17050 0.0% 9000 20000 575 1500 925 0 10000 2015 Increase Devaluation Revenue Increase Increase Provision for Other 2016 BILCHE VOLYTSKO UHORSKE 571 919 18 CHERVONOPARTYZANSKE 275 in volume of hryvnia from in expenses in VAT impairment 31.9% 453 against new on gas for of trading 9.7% 0 17 2015 Growth Devaluation Revenue from the Revenue 2016 US dollar services technological accounts 206 1026 1124 103 needs receivable 1941 2150 608 in volume of hryvnia new service from new arising from 1714 1920 1300 700 against USD (gas transmission balancing gas balancing DASHAVSKE 881 419 through ervice OPARSKE 13.1% 201 499 420 7.8% cross-border points) 301 1019 SOLOHIVSKE 275 145 1438 KEHYCHIVSKE Starting from 1 October 2015, Ukrtransgaz, as the operator 586 3.1% 747 KRASNOPOPIVSKE 5.3% 1.7% Revenue from the provision of services for the transit of natural gas of the gas transmission system, is responsible for adjusting 1495 1900 405 185 1094 2300 1206 328 increased by 48.7% compared to 2015, mainly due to an increase in the system’s imbalance that arises from the difference UHERSKE 1000 150 4.3% BOHORODCHANSKE 476 the volume of natural gas transit (+UAH 9 093 million), devaluation of between the volumes of natural gas entering through the 524 400 331 15.2% the hryvnia against the USD (+UAH 10 552 million). entry points and the volumes of natural gas drawn at the PROLETARSKE 224 176 816 7.9% VERHUNSKE exit points in the context of the customers who ordered 0.0% Revenue from the provision of gas transportation services for transportation services carried out on the basis of data 424 Ukrainian consumers in 2016 decreased by 15.5%, which was the result received through the allocation procedure. of a decrease in the volume of gas transported for consumers in Ukraine (-UAH 250 million) and changes in gas supply conditions for Ukrainian consumers (-UAH 1 209 million)16.

16 Prior to 2016, Naftogaz sold natural gas as a commodity, taking into account the 17 Revenue from the balancing service and the transportation service by gas natural gas transportation services by gas distribution pipelines, pursuant to the Law distribution pipelines (transmission capacity at entry points) of Ukraine “On the Natural Gas Market” and the Gas Transportation System Code. 18 Change in taxation of transit services (VAT and cancellation of royalty) In 2016, the revenue from natural gas transportation services by gas distribution 128pipelines was received by regional gas distribution companies. 129 128 129 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

Main results Financial results of gas storage segment, CAGR,% The volume of natural gas pumped into underground gas storage UAH million -27.3% facilities in 2016 compared to 2015 decreased by 32.8% because the 0 amount of natural gas stored in the facilities was sufficient for the heating season 2016-2017 (at the beginning of the heating season the -500 inventories totaled 14 718 mcm). (1 578) The volume of gas withdrawn from the underground storage facilities -1000 (2 176) during 2016 was larger than in 2015 by 20.4% because of the early (2 986) -27.5% -1500 beginning of the heating season in 2016-2017: active withdrawal of gas from the underground storage facilities began on 12 October -2000 2016, compared to 30 October 2015 in the previous heating season.

-2500 UGS injection/withdrawal, mcm -3000 2014 2015 2016 Gas injected into Gas withdrawal The losses of the segment decreased in 2016 compared to 2015 by UGS CAGR,% from UGS CAGR,% UAH 598 million, mainly due to changes in provisions for possible -19.2% -17.3% liabilities to storage users of the gas storage facilities. 6 388 2016 8 393 -32.8% 20.4% The negative segment result is evidence of the currently 9 503 2015 6 968 economically unfeasible tariffs for natural gas storage. In the future, the group expects to transfer to RAB tariff calculation methodology 9 776 2014 12 271 for gas storage that will ensure fair returns from the regulatory asset base and improve the segment result. Assets Total revenues from sales of natural gas storage services decreased The total value of assets in the natural gas storage segment in 2016 compared to 2015 by 36.4% as a consequence of the decrease increased in 2016 compared to 2015 by 2.9%. This change was in the volume of natural gas pumped into underground gas storage driven by an increase in the cost of cushion gas as a result facilities. This resulted in reduced segment revenue by UAH 566 of revaluation as of 31 December 2016. million. The segment’s ROA insignificantly changed in 2016 compared with 2015 (+ 0.4%). Negative ROA was mainly explained by low tariffs on storage. Revenues from storage of natural gas segment, Assets, UAH million Assets ROA UAH million CAGR,% 250000 2000 -16.9% -1% -1% 200000 1500 -2% -36.4% 150000 180 935 186 209 1000 146 195 100000 1 430 500 1 553

987 50000 0 2014 2015 2016 0 1 092 1 152 926

including sales to other segments within the group 2014 2015 2016

130 131 130 131 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

(excluding VAT) from 1 January to 31 March of compressor stations involved in Gas underground storage 2016 and from 1 April reduced this rate to transmitting gas towards Turkey. It management UAH 219. At the GTS entry points located could not have been used for other Given the fact that Ukraine stopped gas on the state border of Ukraine, the rate is compressor stations. imports from Russia in November 2015, USD 12.47 (excluding VAT). Given the agreement between Russia and the year 2016 was the first when Ukraine The tariff for pumping, storage, and Turkey on the Turkish Stream project, did not use Russian gas while preparing withdrawal of gas has remained at the which aims to replace Russian gas for the heating season, instead refilling its level of 2013 and is UAH 112 per 1,000 cubic transit through Ukraine to Turkey, this underground storage facilities with gas meters without VAT. investment was deemed inappropriate. acquired in reverse flow from Europe. As The Naftogaz recommendation to the a result, the country started the heating Board of Ukrtransgaz is to purchase season with gas reserves of 14.7 bcm, Cancellation of the purchase universal equipment and related works which is about 2 bcm less than in the of equipment for compressor for the reconstruction of compressor previous two years. station reconstruction in 2016 stations that transmit gas in different Because of the risks posed buy the This sparked expressions of “concern” directions and avoid becoming dependent implementation of the Turkish Stream from the Russian side regarding on equipment produced by specific project, at the end of 2016 the board “insufficient gas levels in” of Ukrainian manufacturer. of Naftogaz rejected to agree on the underground storage facilities. However, purchase by Ukrtransgaz of equipment due to proper planning and forecasting, and works from JSC Sumy Machine Targets for 2017: Naftogaz managed to pass the heating Building Research and Production • increase the company’s efficiency and season while ensuring the security and Association for the reconstruction transparency and integrate into the continuity of gas supplies to Ukrainian of compressor stations Ananiev, European Network of Transmission consumers and uninterrupted gas Zadneprovski and Pivdennobuzka. The System Operators for Gas (ENTSOG); transit to European countries. During cost of this equipment was estimated at the 2016-17 heating season, 6.7 bcm • implement energy saving technologies more than UAH 4 billion. The equipment of natural gas was withdrawn from under the energy efficiency program Ukrtransgaz was going to purchase storage facilities, which is 21% less than for 2017 and the energy resources was based on a feasibility study and the same period the previous year. saving plan for 2017. was intended for reconstruction In the first quarter of 2017, 3.9 bcm of natural gas was withdrawn from the UGS, which is 1.6 bcm less than the previous year and can be attributed to increased gas imports from EU countries. Since March 2017, natural gas supplies are rising at the storage facilities with more than 150 mcm 2016 accumulated by early April. According to the Naftogaz Restructuring Plan, the UGS are subject to results comprehensive analysis with the assistance of international experts that will include legal, economic and technical evaluation to determine the most efficient operational management model. Based on the results of this analysis, an action plan will be developed • procurement is ProZorro platform based; and submitted to the Secretariat of the • smooth operation of gas transmission infrastructure in areas UKRTRANSGAZ Energy Community to ensure efficient close to the conflict zone in eastern Ukraine (Avdiyivka and operation and management. According to Mariupol) ensured; the restructuring plan, it is scheduled for • modernization of Ukrainian GTS is underway as well as construction Ukrtransgaz transports gas through 146 bcm per year towards the EU and Eustream a. s. (Slovakia), FGSZ (Hungary), completion by July 2017. of Ukraine – Poland interconnector; pipelines to consumers in Ukraine, the Turkey. JSC “Moldovagaz” (Moldova), SNTGN • favorable conditions for European traders on Ukrainian gas EU, the Balkan countries and Turkey. Transgaz S.A. Medias (Romania), OJSC To ensure safe natural gas transmission Tariffs for the transportation of market are being created; The Ukrainian gas transmission system “Gazprom” (Russian Federation), OJSC to Ukrainian and European consumers, gas to Ukrainian consumers (GTS) is one of the most reliable and “Gazprom Transgaz Belarus” (Belarus), • capacity of corridors for gas transmission to Slovakia and Hungary Ukrtransgaz cooperates with GTS The National Energy and Utilities powerful in Europe. Its input capacity E.ON (Germany), RWE (Germany), Engie increased to 42.5 and 16.8 mcm per day respectively. operators in neighboring countries and Regulatory Commission set tariff rates for is 302.1 bcm per year, including 23 bcm (France), Net4Gas (Czech Republic), with major energy companies including transporting gas to Ukrainian consumers per year from the EU, and output Bulharhaz EAD (Bulgaria), DESFA (Greece), PGNiG (Poland), Gaz System SA (Poland), at UAH 236.7 per 1000 cubic meters 132capacity is 178.5 bcm per year, including Botas (Turkey) and others. 133 132 133 ANNUAL REPORT 2016

Capacity UKRAINE’S entry: 28.9 2009 2

2010 3.1 2011 3.5 Capacity GTS 2012 3.1 entry: 6.0 2016, bcm 2013 3.4 2009 5.4 Capacity 2014 2.6 BELARUS 2010 4.3 entry: 48.5 Capacity 2015 2.1 2011 4 2009 19.4 entry: 107.5 2016 0.0 2012 3.3 2010 24 2009 77.6 2013 2.8 RUSSIA 2011 24 2010 83.8 Capacity 2014 0.5 2012 21.1 2011 83 Kobryn 2015 2.4 2013 15.2 exit 5.0 entry: 1.5 2012 72.1 2016 0.0 2014 13.1 2.8 0 2009 2013 71 Capacity 2015 12.8 2010 3.4 0 Mozyr 2014 47.3 entry: 25.5 2016 16.5 2011 4 0 2015 46.4 Capacity 2009 8.6 2012 3.8 0 2016 57.0 Capacity 2010 11.1 entry: 13.0 2013 3.9 1 2009 0 POLAND Sudzha 2011 9.5 entry: 46.0 2014 3.5 0.9 2010 0.1 2009 8.1 2012 9.4 2015 3.7 0.1 2011 5.1 2010 3.7 2013 10.5 2016 4.5 1.0 2012 1 2011 4.4 2014 7.4 2013 1.3 Capacity 2012 4.4 2015 7.5 2014 0.9 exit 98.4 entry: 15.5 2013 5.7 2016 7.1 2015 0 2014 4 65.2 0 2016 0 2009 2015 3

2010 67.9 0.03 2016 1.6 2011 70.6 0

2012 0.8 Valuiky 51.8 Drozdovychi Serebrianka 2013 53.5 0 Pysarivka 2014 31.4 3.6

2015 37.8 9.7 Sokhranivka

2016 48.8 9.1 SLOVAKIA Uzhhorod

HUNGARY Berehove Oleksiivka ATO Capacity Tekove Capacity exit 32.5 entry: 3.3 Capacity Capacity 2009 0.8 exit 3.5 exit: 13.2 entry: 6.1 exit 4.5 Prokhorivka 2010 3.3 2009 7.9 0 3 2009 0.3 2009 2011 2.8 2010 7.1 0 3.2 2010 2012 0.3 2010 1.9 5.9 0 3.1 2011 2011 Platove 2013 0.7 2011 0.9 3.1 2012 2012 5.7 0 ROMANIA Capacity 2014 0.3 2012 1.1 2013 6.4 1.1 2.4 2013 2015 0.2 2013 entry: 6.0 2014 6.5 0.6 2.8 2014 2009 0.7 0.0 2014 2016 2015 5.9 0.5 2.9 2015 2010 0.9 0.0 2015 1.0 3.0 2016 1 2016 6.7 0.7 2016 2011 2012 0.7 MOLDOVA 2013 0.7 Capacity 2014 0.6 exit 26.8 2015 2016 16.6 2009

16.7 2010

19.9 2011

19.6 2012

Designed GTS Designed GTS 19.6 2013 137.7 134.4 exit capacity entry capacity 18 2014 Orlivka 122.8 118.0 114.2 16.7 2015 93.3 83.5 18.5 2016 81.8

Capacity exit: 32.5 entry: 3.3 Gas flow to Ukraine 2009 2010 2011 2012 2013 2014 2015 2016 Gas volume transmitted Gas volume transmitted on GTS exit on GTS entry Transit through Ukraine Gas metering stations 62.2 67.1 located close 84.3 86.1 82.2 to the border 95.8 98.6 134 104.2 135 134 Source: Ukrtransgaz, 2016 135 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

in response to low crude oil prices. In such circumstances, Revenues from the sale in the of crude CAGR,% Russian Urals oil was partially ousted by Middle East oil oil transportation segment, UAH million 32% due to both competitive pressure from the Middle Eastern 3 428 3 269 suppliers and the raw material diversification policy of oil 3500 92 77 4.5% refineries.

3000 In 2016, foreign partners voiced both positive and negative

19.8% signals that can affect Ukraine’s pipeline system capacity 2500 utilization volumes. On 1 July 2016, the Czech company 1 957 Unipetrol operating refineries in the Czech Republic extended 31 2000 long-term contracts with the Russian party to supply oil. 3 336 3 192 However, the most negative news was the signing of a 1500 framework agreement between UNIPETROL and the Croatian operator of the Jadranski Naftovod oil-trunk pipelines on 1000 1 926 cooperation and transportation of oil to the Czech Republic via the Adria oil pipeline, which is an alternative to traditional 500 supplies via the Druzhba and TAL-IKL pipelines.

0 The forced shutdown of most domestic refineries and 2014 2015 2016 underutilized capacity of Kremenchuck Refinery - the only 0 17 0 Oil transit through the territory of Ukraine one currently operating- prevent any significant increases in Oil transmission to Ukrainian refineries pipeline capacity to supply oil to Ukraine’s refineries. including sale to other segments within the group Oil supplies via pipelines to refineries in Ukraine decreased Change in segment revenues, UAH million from 22.9 million tons in 2003 to 1.4 million tons in 2016. In 458 3 428 2016, oil transportation volumes to refineries in Ukraine 3500 3 269 (299) declined by 12.5% or 200.8 thousand tons. 3000 The unresolved situation with the replacement of Urals oil in 2500 Odesa/Pivdennyi-Kremenchuk Refinery pipeline section directly 2000 Financial result of the crude oil transportation TRANSPORTATION 1500 1000 segment, UAH million 2000 500 CAGR,% 21% 0 2015 Decrease Devaluation 2016 in volume of the hryvnia -0.5% against the euro OF CRUDE OIL 1500 Russia is persistently doing away with intermediary transit The system of oil trunk lines of Ukraine includes 19 oil countries, and therefore oil transit through Ukraine has The volume of crude oil transportation, thousand t 1 628 pipelines with a diameter of up to 1 220 mm, with a total decreased dramatically in recent years. In 2002, Russia 1000 1 636 length of 3 506.6 km, oil pumping stations and the Pivdennyi 20000 Oil transit through the territory of Ukraine built Sukhodilna-Rodionivska oil pipeline (28 million tons/ Oil transmission to Ukrainian refineries CAGR,% oil terminal, tank farms, systems of power supply, corrosion 16 863 16 760 -8.8% -5% year), which directly linked two Russian oil pipelines, protection, remote control, engineering communications, 1 850 1 607 15 228 bypassing Ukraine: Samara-Lysychansk and Lysychansk– 1 115 firefighting facilities and erosion control structures. 15000 1 406 Tykhoretsk. In 2008, Russia finally decided to channel all its 500 oil flows bypassing transit countries, and in 2012 completed The entry capacity of the system is 114.5 million t per -12.5% construction of the Baltic Pipeline System (BPS-1 and BPS-2) year, while the exit capacity is 56.3 million t per year. The 10000 with a total capacity of 80 million tons per year. In addition, combined nominal capacity of the tank farms of the system 0 15 013 15 153 13 822 since 2004 the Caspian Pipeline Consortium has connected 2014 2015 2016 of oil trunk lines amounts to 1.083 tcm. 5000 oil fields of Kazakhstan and Russia with terminal operations The Pivdennyi oil terminal is designed for receiving, shipping, in Novorossiysk, bypassing Ukraine. Impact on segment results, UAH million and transporting oil through the oil trunk lines of Ukraine. 373 (150) These Russian efforts mean that in 2015 oil transit through 2000 (163) The capacity of the terminal is 14.5 million t per year, with 0 (68) 2014 2015 2016 Ukraine to three countries (Czech Republic, Hungary and 1 636 1 628 the possibility of expanding it to 45 million t per year. Tanker Slovakia) totaled only 15 million tons. Compared to 2015, 1500 deadweight is up to 150 000 tons with a maximal draft of and technological connectivity of the systems, the volume transportation volumes in 2016 decreased by 9.1%. This is 13.8 meters. Tank farm capacity is 200 tcm. of oil transit largely depends on the policy of the Russian primarily due to reduced oil transit volumes to Slovakia and 1000 Federation as a major supplier of oil to Central Europe and Main results the Czech Republic, where the overhaul of local oil refineries the main customer of oil transportation services through (OR) was performed in the first half of 2016. 500 Ukraine’s considerable oil-trunk pipeline system is not Ukraine. The strategic priorities of Russia in favor of currently used to capacity. developing its own pipeline and port facilities have led to a Another factor influencing oil transit volumes through 0 2015 Devaluation of Decrease Increase Other 2016 significant reduction of oil transit through the territory of Ukraine was increased competition and redistribution of the hryvnia against in volume in amortization The volume of oil transit through Ukraine in 2016 compared the euro and other foreign costs transit countries including Ukraine. the oil market between the major oil-producing countries exchange differences 136to 2015 decreased by 8.8%. Given the historical features 137 136 137 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

affected the use of the pipeline capacity towards Kremenchuk further increases up to 1.9 million tons per year. Ukrainian oil pipelines map Refinery in 2016. Under these circumstances, Kremenchuck To obtain approval for the transfer of Urals grade oil, which Refinery management opted for using more expensive railroad to previously occupied the Odesa‑Kremenchuk pipeline section, transport the imported oil from Odesa. from ‘fixed assets’ to ‘reserves’, and its replacement with Azeri Holovashivka Pleshchivka In March 2017, Urals oil was removed from the pipeline section Light oil to fill the specified pipeline section, Ukrtransnafta Hlynsko- and transported by railroad to Brody in order to refill the second developed a new standard (Standard of Ukrainian Companies) Rozbyshevska branch of Druzhba oil pipeline. This enabled transportation of in 2016. This allowed the company to distinguish between the Chyzhivka Hnidyntsi Azeri oil to Kremenchuk refinery. existing oil in the oil pipeline system and the ‘oil for industrial Novyny and technological needs’, and ‘oil inventory’. Brody Velykotsk Total net income from crude oil transportation services increased Drohobych Kurovychy Kremenchuk Lysychansk Pereshchepyne in 2016 compared to 2015 by UAH 159 million or 4.9%, mainly due Increasing tax and compulsory payments by 64% Boryslav Novoaidar Zhulyn to the devaluation of the hryvnia against the euro, which resulted Oriv Chykalivka Ukrtransnafta paid taxes and all compulsory payments totaling Dolyna in growth of revenue from sales of transport services by UAH 458 Kamyanohirka Luhanska UAH 2.2 billion in 2016, which is 64.3% more than in 2015 and Proletarska million, since the tariff for transit of oil is set in the euro. However, Karpaty represents the largest total since the establishment of the due to the decrease in sales, revenues decreased by UAH 299 Солочин company. Shyroke million. Stepova This significant increase in payments to the state budget Andriivka The financial result of the segment decreased in 2016 compared to is associated with a surcharge on income tax based on 2015 by 0.5%. Devaluation of the hryvnia against the euro fully offset Mykolayivska performance in 2015 (UAH 242.7 million), a significant increase existing oil pipelines Snihurivka the negative impact of the decline in oil transportation volumes and in this tax payment in 2016 (UAH 419.5 million) based on planned oil pipelines increased depreciation costs due to increased value of fixed assets Avgustivka Pivdennyi performance in Q1‑Q3, and payment of dividends based on oil refineries as a result of revaluation as of 31 December 2015. performance in 2015 to the amount of UAH 1.02 billion. existing oil pumping stations Assets Net profit of the company for 2016 amounted to UAH 1.5 billion, planned oil pumping stations The total value of the crude oil transportation segment increased which is 18.5% or UAH 237.7 million more than the planned target. slightly in 2016 compared to 2015 (+ 3%). The main change was due The efficiency of the company in the reporting period is to the change in the value of inventories and fixed assets. demonstrated by the 44.5% profitability of operations and EBITDA The segment’s ROA decreased insignificantly (- 0.3%) in 2016 margin of 57.2%. Return on assets was 6.8% and return on equity Europe, especially transportation of displaced from some broken sections of UAH 1.3 billion for tank storage services, compared with 2015. The change was mostly caused by the growth ‑ 8.4%. various grades of oil via Pivdenna oil‑trunk pipelines. Ukrtransnafta filed a counterclaim against in inventories and fixed assets value as a part of total assets. Druzhba pipeline. the above contractors for oil return Procurement system reform The cost of services provided under these Assets and the collection of fines for overdue Assets, UAH million Before joining the association in May contracts to Ukrtransnafta was estimated ROA In April 2016, the company joined the ProZorro public obligations amounting to UAH 872.9 million. 25000 and November 2016, Ukrtransnafta as many times greater than the market 6% procurement system. 9% 9% 20000 participated in IAOT meetings as a guest. value of oil storage in Ukraine. As of the date of the report, the litigation Ukrtransnafta introduced unified internal regulations that regarding the storage of process oil has Court rulings confirmed the Ukrtransnafta 15000 were developed using Naftogaz standards, namely the not finished. Storing process oil in the tank position, recognizing agreements with JSC 18 415 procedure for procurement of goods, works and services, farms of other enterprises 10000 19 959 SPC‑Galicia, JSC Neftekhimik Carpathians, 17 918 tender committee regulation, procurement monitoring The previous management of and JSC Ukrtatnafta as illegal and denying Key objectives for 2017 procedure, local conflict commission regulation, and the 5000 Ukrtransnafta signed a series of claims for the recovery of Ukrtransnafta 1. Increased transportation volumes to procedure for interaction of structural units in the purchase of economically unfavorable tank lease debts amounting to UAH 144.9 million. Ukrainian refineries 0 goods, works and services. agreements with JSC SPC‑Galicia, JSC In response to PJSC Ukrtatnafta, JSC In 2017, Ukrtransnafta is planning to 2014 2015 2016 A company order of 2016 approved guidelines for operation Neftekhimik Carpathians, and JSC SPC‑Galicia, and JSC Neftekhimik increase oil transportation to Ukrainian under standard contracts. As a result, 98% of transactions are Ukrtatnafta. In the period 2013‑2014, the Carpathians claims for the recovery refineries to 2.7 million tons (compared to now concluded through standard contracts. Performance‑based company used these agreements to UKRTRANSNAFTA of Ukrtransnafta debts amounting to 1.4 million tons in 2016). payment as the basic form of contract payment within store 388.5 thousand tons of process oil Transportation of oil via trunk pipelines is carried out by 10 calendar days was introduced. This can significantly reduce 2. Modernization of oil‑trunk pipelines Ukrtransnafta - a part of the Naftogaz Group. Ukrtransnafta risks and losses from delays or the poor performance of includes affiliates, such as the Druzhba oil-trunk pipelines, 2017 targets provide for overhaul works, contractual obligations by unscrupulous contractors, while also Prydniprovski oil-trunk pipelines, and PIVDENNYI oil-trunk pipelines. construction, reconstruction, technical preventing corruption risks in payment settlement. “Regardless of the overall crisis in the oil refining industry and inspection and maintenance to increase In 2016, Ukrtransnafta transited Russian Urals oil through Ukraine lower demand for oil transportation services, Ukrtransnafta can efficiency and ensure reliability of and transported domestically produced oil from production sites Joining the International Association of Oil boast its performance. In 2016, we managed to resume transpor- Ukrtransnafta oil pipelines. to refineries. At the beginning of 2017, Ukrtransnafta started Transporters (IAOT) tation through Odesa-Kremenchuk pipeline section, which had transporting Azeri Light oil to Kremenchuk refinery. 3. Approval of economically grounded In December 2016, Ukrtransnafta became a member of been out of service for five years. We also filled the first branch tariffs the International Association of Oil Transporters (IAOT)20. of Mozyr-Brody oil trunk pipeline, which had been mothballed for Contract for reviving Odesa‑Kremenchuk Refinery The company has developed and Membership in this organization will promote the priorities of three years. Ukrtransnafta’s last year performance looks encour- route in 2017 forwarded to NEURC a new draft tariff the Ukrainian oil transportation system in Central and Eastern In late 2016, Ukrtatnafta and Ukrtransnafta signed a contract aging in terms of oil transportation revival in Ukraine.” methodology for oil transportation via for transportation beginning in 2017 to Kremenchuk Refinery 20 IAOT currently unites eight members: MERO ČR, Transneft, Transpetrol, MOL, Ukrtransnafta CEO Mykola Havrylenko Ukraine’s main pipeline networks. 138of at least 1.3 million tons of Azeri Light grade oil per year, with Gomeltransneft Druzhba, KazTransOil, CNPC, CPC 139 138 139 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

Regulatory issues affecting Ukrtransnafta’s operation and possible solutions consequently have a positive Ukraine to the EU, with investments This draft law proposes punishment impact on the cost-effectiveness of amounting to UAH 169.5 million. with imprisonment for a term of 1. Abolition of rent payment for of the current technological process of effectively using fixed assets Ukrtransnafta operations. According to the Corporate three to eight years for damage oil transportation via oil-trunk and production features of the oil- that are not involved in the oil Governance Action Plan, the to or destruction of pipelines pipelines trunk pipeline system. transportation process. Article 7 3. Failure to implement capital company’s financial plan shall be and bypassing pipelines and their The Tax Code of Ukraine fixed rental Applying rent payment reduces of the Law of Ukraine ‘On Pipeline investment plan approved by the supervisory board. technologically related facilities, rates for oil transportation via trunk the competitiveness of the Transport’ prohibits the alienation The prohibition of all types of capital if these actions have led to the pipelines at the amount of USD 0.56 Ukrtransnafta pipeline system of assets of enterprises engaged investments as per the Cabinet of 4. Strengthening penalties for disruption of pipelines or created a per one ton. Additionally, this rent compared with companies offering in trunk pipeline transportation Ministers of Ukraine Regulation of 3 damage to oil pipelines danger to life. Earlier punishment is not actually associated with the alternative routes and ways of operations, the transfer of assets December 2012 (No.899) is currently Abusers illegally interfering in the for this offense was a fine of one utilization of underground of other oil transportation (e.g. by railway between balance sheet accounts, blocking some of the key activities operation of oil-trunk pipelines for hundred to a thousand times the natural resources, and does not transport) that do not have taxation concession, rent, lease, mortgage, of public sector enterprises, namely the purpose of stealing oil cause untaxed minimum income. depend on the value of the property mechanisms similar to rent. etc. Alienation of fixed assets that ensuring the reliable, safe and damage to state property and The same actions committed used in transportation. Therefore, It should be noted that in are not involved in oil transportation efficient use of state assets placed significant losses to Ukrtransnafta. repeatedly or by a group of persons it is problematic to determine international practice, especially in is permitted only with the approval at their disposal. Organized crime groups have years by prior collusion are punishable by an economically grounded rent European countries, rent payments of the Cabinet of Ministers. However, Over the last seven years, the final of experience in this criminal field, imprisonment of five to ten years. payment. for pipeline services are not applied. this authorization is a complex and version of the company’s financial including well-functioning sales The harshest punishment of ten Lack of correlation between rent size In 2016, Ukrtransnafta prepared lengthy procedure. plan was approved only twice, and and agent networks, excellent to twelve years in prison applies if and the taxpayer’s performance is a draft amendments to the Tax Code These legal constraints make it each time approval took place in the technical equipment, and their own the actions envisaged by parts one key drawback. The current procedure of Ukraine on abolishing rent for oil practically impossible to improve second half of the year. vehicles specially reequipped for oil or two of this article have caused requires rent payment even when the transportation via oil-trunk pipelines the operation of non-core assets, This lead to poor performance on transportation. deaths or led to accidents, fires, entity is operating at a loss. and agreed it with Naftogaz. This including hotels, catering, meat investment plans. In 2016, the total On 17 September 2015 at the significant pollution or other serious In its present form, rent for oil draft is under consideration by the products, leather goods, and volume of Ukrtransnafta capital initiative of Ukrtransnafta, a consequences. transportation is a tax that is included Ministry of Economic Development tailoring enterprises. The company investments amounted to UAH 385.4 group of MPs registered draft law On 26 November 2015, draft law in the cost of oil transportation and Trade of Ukraine. bears the cost of maintaining these million, which is 28% of the target No. 3129 ‘On amendments to the No. 3129 was adopted as a basis services. As such, it influences facilities while having no alternative sum. The main investment target in Criminal Code of Ukraine regarding (Regulation No.3129/P) and submitted Ukrtransnafta financial and business 2. Prohibition of alienation and ways of using these properties. the reporting period was the overhaul strengthening responsibilities for to the Law Enforcement Legislative operations. As a result, the cost of oil lease of Ukrtransnafta fixed assets Free non-core asset management repair of line sections of the Brody- damage to facilities of trunk or Support Committee. Adoption of transportation services is excessively Current legislation deprives would help attract investors, State Border pipeline, which is a part industrial oil, gas, condensate and the draft law has currently been high relative to the economic realities Ukrtransnafta of the possibility develop additional business, and of the main oil transit route across oil product pipelines.’ postponed for an indefinite term.

141 140 141 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

NATURAL GAS SALE AND SUPPLY generate heat for households, religious organizations. Starting from 23 December 2016, they also included an obligation to supply gas to ANALYSIS OF NATURAL GAS Breakdown by consumers DHCs to generate heat for the public sector institutions, as well as The Regulation of the Cabinet Ministers of Ukraine21 imposed special supplying natural gas to JSC “Odesa Port Plant” from 11 October 2016 public service obligations (PSO) on Naftogaz. They envisage procuring until 31 December 2016. domestic natural gas from Ukrgazvydobuvannya and selling natural For consumers not covered by the said regulation, imported natural SALE AND SUPPLY AND OIL gas to suppliers to households, religious organizations, and DHCs to gas is sold at prices determined independently by natural gas market participants who sell the gas to such consumers, including Naftogaz. 21 Regulation of the CMU #758 dated 01.10.15 “On approval of regulations on imposing special obligations on natural gas market participants to meet public interests in functioning of natural gas market (the transitional period relations)” PRODUCTS PROCESSING (as amended) for the period from 1 October 2015 to 31 March 2017 (inclusive)

Sales of natural gas at unregulated prices to other Sales of natural gas to perform special obligations (PSO) (DOWNSTREAM) customers Regional gas Regional gas distribution distribution DHCs to Industrial and DHCs to Odesa Port Industrial companies companies to public technological households Plant23 consumers to resell resell gas to sector22 needs to other households consumers

22 Since quarter IV of 2016 included in PSO 23 Since quarter IV of 2016 included in PSO

Main results Sales to consumers not covered by PSO decreased by 27.7% in 2016 compared to 2015. The main decrease occurred in Gas sales, mcm the category of industrial and other consumers accounting 35000 CAGR for 17.4% of total changes. In part, the decrease in gas sales 30000 -14.9% to industrial customers and gas consumed for technological

25000 -36.4% needs of gas distribution companies was due to the overall reduction in natural gas consumption in Ukraine, and partly 20000 because a change of supplier by such companies and, 15000 31 221 23 330 correspondingly, Naftogaz’ market share decline. The group 10000 22 610 share in total gas sales in Ukraine in 2016, including sales 5000 under the PSO, was nearly 70%. 0 In the unregulated segment of industrial consumers (excl. 2014 2015 2016 1 989 1 534 2 696 companies of the group), Naftogaz share amounted to approximately 10% of the total volumes sold. including sales to other segments within the group

Total sales of natural gas to consumers in Ukraine decreased Naftogaz share in gas supply in Ukraine by 3.1% mainly due to the decrease in sales to industrial enterprises in 2016 compared to 2015. Sales of natural gas to consumers under PSO increased by 5.9% in 2016 compared to 2015. The main sales gain occurred in gas distribution companies to resell gas to households – increase in this category is 3.5% of the total growth in sales under PSO. Gas 42 465 33 727 32 361 consumption by households increased due to the colder 74% 69% 70% winter season of 2015/2016 compared with the previous year. In addition, in Q4 2016, this category included gas sold to DHCs to produce heat for the public sector, which increased total 2014 2015 2016 sales under special obligations by 2%. Supply to Odesa Port Plant under PSO added 1% to total increase. в тому числі продаж іншим сегментам всередині групи 142 143 142 143 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

Gas supplied by Naftogaz, per consumer category, mcm Weighted average gas price by category, UAH/tcm, excluding VAT

2016 2015 2014 2015 2016 2016/2015 2016/2015 CAGR Sale pursuant to special obligations (PSO) 3 987 1 591 Gas sales volume 31 220 23 330 22 610 (720) -3.1% -14.9% Regional gas distribution companies to resell gas to households 4 215 1 800 DHCs to households 3 278 1 188 including gas sales to group entities 1 989 1 534 2 696 1 162 75.7% 16.4% DHCs to public sector 6 680 - Sales under PSO 22 140 17 159 18 147 988 5.8% 2.8% Odesa Port Plant 6 654 - Sales at unregulated prices to other customers 6 153 6 342 Regional gas distribution companies 15 075 11 298 11 879 581 5.1% 2.5% to resell gas to households Regional gas distribution companies to resell to other consumers 6 458 7 003 DHCs to other consumers 6 263 6 510 DHCs to households 7 065 5 861 5 758 (103) -1.8% -9.7% Industrial and other consumers including gas sales to group entities for technological and 6 123 6 253 own needs DHCs to public sector - - 338 338 - -

Odesa Port Plant - - 172 172 - - Revenue from sales of natural gas, UAH million 2014 2015 2016 2016/ 2016/ CAGR Sales at unregulated prices to other 9 080 6 171 4 463 (1 708) -27.7% -14.9% 2015 2015 customers Revenue 53 257 66 881 99 772 32 891 49.2% 36.9% Regional gas distribution companies 666 331 102 (229) -69.2% -44.5% including gas sales to group entities 7 764 9 616 16 712 7 096 73.8% 31.8% to resell to other consumers Sale pursuant to special obligations (PSO) 12 731 27 303 72 412 45 109 165.2% 138.5%

DHCs to other consumers 1 519 1 167 760 (407) -34.8% -29.2% Regional gas distribution companies to resell gas to 7 390 20 340 50 140 29 800 146.5% 160.5% households Industrial and other consumers, 6 895 4 673 3 601 (1 072) -22.9% -27.7% DHCs to households 5 341 6 963 18 871 11 908 171.0% 88.0% including sales of gas to group DHCs to public sector 2 255 2 255 companies for technological needs and own needs) Odesa Port Plant 1 146 1 146 Sales at unregulated prices to other customers 40 526 39 578 27 360 (11 772) -30.9% -16.9% Segment revenue, UAH million CAGR to religious organizations received energy at a regulated price Regional gas distribution companies to resell to other 2 380 2 318 548 (1 770) -76.4% -52.0% 36.9% consumers 100000 of UAH 2 471 per tcm, natural gas to household consumers at UAH 6 879 per tcm, natural gas to religious organizations (except DHCs to other consumers 5 653 7 594 4 763 (2 831) -37.3% -8.2% 80000 the volume used for production and commercial activities) at 49.2% UAH 3 913 per tcm. Accordingly, the average selling price of gas to Industrial and other consumers (including gas sales to group 32 493 29 666 22 049 (7 617) -25.7% -13.8% 60000 entities for technological and own needs) 99 772 consumers under PSO terms increased 2.5 times in 2016.

40000 66 881 At the same time, revenue from sales to customers that do not fall 53 257 under the PSO terms decreased by 30% and amounted to UAH 27 360 20000 million in 2016 compared to 2015, including gas for the industrial and The natural gas sales and supply segment loss decreased by national currency and fluctuations in UAH exchange rate in the 0 technological needs of Ukrtransgaz. Changes in revenues reflect the 93.4% in 2016 compared to 2015, resulting from the continued currency market were less pronounced in 2016 than in 2015, when 2014 2015 2016 trend of decreasing sales. The average selling price of natural gas to implementation of natural gas market reform to bring selling the fall in the UAH exchange rate against the USD was 48% and 7 764 9 616 16 712 other consumers in 2016 remained almost unchanged decreasing by prices into line with import parity levels. At the same time, the 37%25, against the euro. The decrease in losses from conversion including sales to other segments within the group 3% compared to 2015. decrease in sales of natural gas to consumers in Ukraine and differences had a positive impact on the segment result of UAH increase in weighted average cost of gas due to UAH devaluation 14 079 million. Revenue from sales to PSO customers in 2016 increased had a negative impact on segment results. almost 2.6 times and amounted to UAH 72 412 million. This At the same time, sales of natural gas to DHCs for households change resulted from the increase in selling price. To continue Due to the seasonality of natural gas sales and the need to remain loss making. The loss before tax was formed in this reform of the natural gas market and bring natural gas sales purchase it during the season of low gas sales, the group category mostly because of non-operational costs (financial prices to parity with imports, the CMU24 increased natural finances the purchase of imported natural gas with borrowed costs and foreign exchange loss). gas prices from 1 May 2016. From 1 May 2016 to 31 March 2017, funds received from foreign financial institutions. As at the end Naftogaz supplied natural gas to DHCs to generate heat for of 2016, the foreign currency portion of the group loan portfolio households at a regulated price of UAH 4 942 per tcm. DHCs corresponded to UAH 43 529 million (61% of the group loan portfolio). The devaluation of the national currency in 2016 against 24 CMU Regulation #315 dated 27.04.2016 “On Amendments to the Regulation of the the USD by 8% and against the euro by 5% had a negative impact 25 Calculated as the ratio of UAH exchange rate according to NBU data at the 144Cabinet of Ministers of Ukraine #875 dated 1 October 2015” on the overall segment result. At the same time, the fall of the beginning and end of 2015. 145 144 145 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

Segment results, UAH million Settlements for gas supplied by Naftogaz to all consumer categories 2015 2016 2016/2015 Revenue from sales of natural gas Gross trade accounts receivable

Natural gas sale and supply (52 257) (3 472) -93.4% (21 507) (17 414) Sales to consumers under PSO (47 478) (1 142) -97.6% 35% 20% 20 346 8 403 21 387

Regional gas distribution companies to resell gas to households (11 239) 3 819 -134.0% 57 158 32 690 83 060 54 307 16 648

DHCs to households (36 239) (3 779) -89.6% 7 639 97% 76% 16 923 DHCs to public sector 128

Odesa Port Plant (1 310) 31.12.2016 31.12.2015 31.12.2016 31.12.2015 Sales to consumers not under PSO (4 779) (2 330) -51.2% % of settlements, including less than one month more than 12 months % of settlements by subsidies less than 12 months Provision for doubtful debts Regional gas distribution companies to resell to other consumers (74) (37) -50.0%

DHCs to other consumers (2 452) (119) -95.1%

Industrial and other consumers (including gas sales to group entities for (2 253) (2 174) -3,5% technological and their own needs): Settlements for gas supplied by Naftogaz to gas distribution companies to resell gas to households Revenue from sales of natural gas Gross trade accounts receivable (176) (100)

591 Assets 35% Impact on segment results, UAH million 57% 9 532 The total value of assets in the natural gas sale and supply 50 140 20 340 21 796 3 236 0 12 087 segment increased by 97% in 2016 compared to 2015. More 95% 2 544 1 367 (3 472) -10000 than half of this addition, UAH 20 377 million, is an increase in trade accounts receivable compared to 2015. Nearly 30% 69% -20000 14 080 of the addition was due to the increased value of gas in 2016 31.12.2016 31.12.2015 31.12.2016 31.12.2015 compared to 2015, related mainly to growth in purchase prices % of settlements, including less than one month more than 12 months -30000 for gas produced by Ukrgazvydobuvannya and change in the % of settlements by subsidies less than 12 months Provision for doubtful debts ratio of imported gas to domestically produced gas in the (3472) -40000 reserve (see Working Capital section). -50000 Naftogaz, as a participant of the natural gas market with (52 257) public service obligations, has the right to compensation for -60000 (9 334) 42 672 economically justified costs, reduced by income received 2015 Decrease Increase UAH Other 2016 in performing the special obligations and subject to -70000 in sales in selling devaluation Settlements for gas supplied by Naftogaz to DHCs to produce heat for households volume price acceptable profit levels26. It is assumed that the procedure for calculating such compensation must be approved by Revenue from sales of natural gas Gross trade accounts receivable the Cabinet of Ministers of Ukraine. At present, neither the (3 085) (3 264) list of economically justified costs nor the determination 37% 3 235 of acceptable profit levels has been approved by the 36% 2 518 Assets Assets, UAH million government. No adjustments for possible compensation are 18 871 6 963 14 145 3 062 6 762 ROA 100000 included in the actual results of 2016. 69% 6 096 4 813 -5% 89% 1 182 80000 In 2016 the level of settlements for natural gas was 76% in general for all categories of consumers, that is 21% less than 60000 the level of settlements in 2015 (the level of settlements was 31.12.2016 31.12.2015 31.12.2016 31.12.2015 -135% 97% in 2015 and 94% in 2014). The deterioration of payment % of settlements, including less than one month more than 12 months 40000 76 435 -286% discipline, together with the increase in prices, has led to % of settlements by subsidies less than 12 months Provision for doubtful debts (3472) 20000 38 747 increase in the group’s accounts receivable on natural gas 28 347 sales segment by 1.8 times. 0 2014 2015 2016

146 26 Part 7, Article 11, Law of Ukraine “On Gas Market” 147 146 147 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

Settlements for gas supplied by Naftogaz for other consumers A provision for the whole debt was made, as Naftogaz has no Revenue from sales of natural gas Gross trade accounts receivable assurance about the repayment. In November 2016, a law27 was adopted which sets up the (202) (115) 12 procedure for debt settlement for heat-supplying and heat- 59 84 generating companies as well as centralized water supply 72 28 548 2 318 293 235 and disposal utilities for consumed energy .

100% 210 The law provides for, among other things, the writing-off 100% 92 of liabilities of enterprises and entities of fines, penalties, forfeits for late payment of debts for gas consumed, as well 31.12.2016 31.12.2015 31.12.2016 31.12.2015 as debt restructuring for consumed natural gas. % of settlements, including less than one month more than 12 months less than 12 months Provision for doubtful debts The group expects additional losses in 2017 and in subsequent years related to the settlement procedure in the Settlements for gas supplied by Naftogaz to DHCs to(3472) produce heat for public sector form of writing-off a certain amount of accounts receivable, and other customers and loss of rights to collect fines, penalties, and forfeits for Revenue from sales of natural gas Gross trade accounts receivable late payment of debts for gas consumed. At present, the 1 January 2015, the change in output would have been -1%. amount of additional losses cannot be accurately estimated. 4% (6 464) (5 871) Total production of petroleum products and LPG increased in 1 109 982 The segment’s ROA increased by 130% in 2016 compared with 2016 compared to 2015 by 2.9%. The increase in 2016 was due 1 085 946 2015. The increase arose from the significant improvement to increases in production volumes of petroleum products 7 018 7 594 8 741 7 699 in the segment’s financial results due to bringing selling and LPG by 17 thousand t and 24 thousand t, respectively. prices into line with import parity levels. At the same 6 547 5 711 Ukrnafta has the equipment and facilities for the production 93% 104% time, the growth in assets value caused by the increase in of ammonia; the change in output in 2016 compared to 2015 accounts receivable due to increased prices and worsening is 15 thousand t. 31.12.2016 31.12.2015 31.12.2016 31.12.2015 of payment discipline. % of settlements, including less than one month more than 12 months CRUDE OIL AND GAS CONDENSATE PROCESSING AND TRADE IN Production of petroleum products and LPG % of settlements by subsidies less than 12 months Provision for doubtful debts PETROLEUM PRODUCTS by Naftogaz29 group (3472) 1000 Petroleum products CAGR,% Oil and gas processing LPG 69 Gas consumption in the category decreased by 35%, while the gas debt increased, which indicates weaker payment discipline. -25.2% 849 4.7% Compressed gas 825 49 800 774 65 Settlements for gas supplied by Naftogaz to industrial and other consumers 97 Petroleum 97 8.5% 187 302 Revenue from sales of natural gas Gross trade accounts receivable 600 279 products 3.5% (10 205) (8 064) 460 400 172 2 299 production 498

5 337 20 050 10 808 7 630 14 758 Compressed 200 490 481 110% 4 828 LPG 10 176 natural 100% production 0 gas 2014 2015 2016 31.12.2016 31.12.2015 31.12.2016 31.12.2015 29 The Naftogaz regained control over Ukrnafta on 22 July 2015 and included % of settlements, including less than one month more than 12 months production % of settlements by subsidies less than 12 months Provision for doubtful debts its performance into the group’s consolidated indicators, which changed the Ammonia production of oil products and LPG Gas is partly paid in advance, which makes the price lower. (3472) production* * Ukrnafta produces ammonia from domestically Trade in petroleum products and LPG produced inputs on leased equipment and fixed Settlements for gas supplied by Naftogaz to Odesa Port Plant assets by Naftogaz group, thousand t 69 CAGR,% Revenue from sales of natural gas Gross trade accounts receivable 1000 Petroleum products 6.8% LPG -24.6% 877 Compressed gas (1 375) 817 49 Main results 800 769 65 97 22,1% 514 The overall change in output of oil products and LPG in 2016 271 331 1 146 600 181 1 375 compared to 2015 is related to the inclusion of Ukrnafta 0% 861 results in the analysis. If Ukrnafta figures were included from 3.3% 27 The Law of Ukraine 1730 “On Measures on settlement of debt of the heat- 400 supplying and heat-generating organizations and the companies of centralized 31.12.2016 31.12.2015 31.12.2016 31.12.2015 497 water supply and water disposal for the consumed energy carriers” #1730 dated 200 491 481 % of settlements, including less than one month more than 12 months 3 November 2016 % of settlements by subsidies less than 12 months Provision for doubtful debts 0 28 See Section “Significant Regulatory Changes” 148 (3472) 2014 2015 2016 149 148 149 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

Sales of petroleum products and LPG increased in 2016 compared to 2015 by 7.3%. The main increase was in the category of LPG, ANALYSIS OF OTHER ACTIVITIES and its scientific support, exploration of geological structure which increased in 2016 by 22.2% compared to 2015. and evaluation of hydrocarbon potential, and development of IMPLEMENTATION OF PROJECTS UNDER THE GENERAL AGREEMENT regulations to ensure production processes in the energy and BETWEEN NAFTOGAZ AND CHINA DEVELOPMENT BANK Naftogaz group revenue from sale Impact on revenue, UAH million fuel complex. 6 314 9 917 of petroleum products and LPG, UAH million 10000 On 25 December 2012, Naftogaz and China Development Bank Petroleum products During 2016, Naukanaftogaz carried out exploration and 20000 Petroleum products CAGR,% LPG (CDB) signed a general loan agreement to finance projects in the research, design and development works totaling UAH 38 million. LPG 69 74% Compressed gas amount of up to USD 3.65 billion aimed towards the substitution Compressed gas 8000 65 In 2016, Naukanaftogaz performed works for Naftogaz group 30 1549 810 of natural gas for domestically produced coal. The loan has Other revenues companies and external counterparties. including sales to other segments65 sovereign state guarantees. No funds have been drawn so far. 15000 within the group 2 401 271 CAPITAL total value of Naftogaz group capital investments -25.2% 541 6000 181 Initially, the parties agreed to finance construction of coal 271 increased in 2016 compared to 2015 by 48.6% (average annual 181 gasification facilities and modernization of the power stations. In 2 951 growth was 62.5% for 2014-2016). If Ukrnafta indicators were 2015, the parties backed by the Ministry of Energy of Ukraine and 10000 included in the consolidated data from 1 January 2015, the 21.4% 4000 3 487 116 the Ministry of Commerce of China have preliminarily agreed on increase in capital investments in 2016 would have been 36.2%. 6 643 540 (21) 2 951 extension of scope of the credit facility to include procurement of 2 432 724 5 224 drilling rigs and energy modernization projects for households. Gas production remains the priority for capital investments 5000 9 917 2000 686 2 432 184.4% Accordingly, in late 2015, Naftogaz submitted four projects to 1 336 724 (183) 541 the Ministry of Economics for review and inclusion into the state Capital investments, UAH million CAGR 3 487 62.5% 3 202 0 register of investment proposals. Obtaining this official status 10000 2015 Change Change 2016 0 from the Ministry of Economics as well as delivery of the notice 2014 2015 2016 in volume in price 8000 27 44 40 of support of the projects from the Ministries of Energy and 48.6% Finance to CDB was then pre-requisite for proceeding with further 30 Other revenues includes revenue from the sale of ammonia of UAH 2.324 million. 6000 application to CDB. As of the date of this report, the Ministries 9 694 have not formalized their views on the submitted projects. In 2016, 4000 Revenues of the group from the sales of petroleum products and LPG increased in 2016 by 138% mainly due to revenue from the 6 523 the initial credit facility deadlines were extended by the parties sale of petroleum products. If Ukrnafta performance was included for the full 2015 calendar year, the decrease in income from the 2000 for one year. Subject to new deadlines the projects should be 3 672 sale of petroleum products and LPG would have been 2%. submitted for CDB review before 25 June, 2017. The financial result of the crude oil and gas condensate processing segment and trade in petroleum products decreased in 2016 by 0 2014 2015 2016 17% compared to 2015. IMPLEMENTATION OF INTERNATIONAL HYDROCARBONS EXPLORATION AND PRODUCTION PROJECTS Impact on segment results, UAH million delivery date for most of the advances is 2018. The majority of Zakordonnaftogaz activities include implementation of of the group. In 2016, more than 50% of total value of capital 12000 379 (6 537) prepayments are expected to be settled by the suppliers of international hydrocarbons exploration and production projects investments was directed into this segment. The amount of 8 788 Ukrnafta by 31 December 2018. The contractual delivery date outside Ukraine. Today this company is implementing oil and gas capital investments in the gas production segment increased 10000 for most of the advances is 2018. exploration and production projects on the concession blocks by 34% in 2016 compared to 2015 due to increased volumes of 8000 South Wadi El Mahareeth and Wadi El Mahareeth in the Arab exploration and development drilling. During 2016, 198 000 m Assets 6000 Republic of Egypt. was drilled, including exploration drilling of 105 000 m. In 2016, (1 983) The total value of assets in crude oil and gas condensate investments in drilling amounted to UAH 3 855 million, exceeding 4000 1 720 In 2016, 2D field seismic works were completed, the data was (994) processing and trade in petroleum products segment 2015 by 27.3%. 2 067 processed, and the company started interpreting findings to 2000 1 720 increased in 2016 compared to 2015 by 108.5%. Almost 80% ensure fulfillment of the company’s obligations for the first The natural gas transportation and distribution segment is of this growth is due to the increase in value of fixed assets. 0 three-year exploration phase under the terms of the concession the second by the volume of capital investments. Capital 2015 Increase Increase Increase in the Increase in Other 2016 In addition, about 25% of the change relates to the increase in volume in price cost of materials the provision agreements for oil exploration and production in Egypt. investments in this segment increased in 2016 by 89.8% in stocks of petroleum products (as finished goods) in 2016 and cost for doubtful compared to 2015 due to the construction and repair of a of purchased receivables f compared to 2015. TRANSPORTATION OF HYDROCARBON GASES petroleum or advances number of important facilities (repair of Urengoy - Pomary products prepaid The segment’s ROA decreased by 15% in 2016 compared with Ukrspetstransgaz is engaged in transportation of liquefied - Uzhhorod main gas pipeline, reconstruction of Shebelynka- 2015. ROA was affected by the increase in fixed assets value hydrocarbon gases using their own rail tank cars. The Sloviansk gas pipeline, Mariivka - Kherson gas pipeline, The increase in output and rising prices have had a positive as a part of total assets and the decrease in the segment’s company provides services to Ukrnafta’s gas refineries, to automatic control systems of some gas compressor stations). impact on the financial result of the segment of UAH 9 167 million financial results due to the growth in cost of production Ukrgazvydobuvannya’s gas and gas condensate processing units The significant growth of capital investments in 2016 became compared to 2015 (the change in the volume is due to the inclusion inputs. and a number of external companies . possible due to the increase in the investment component of of Ukrnafta performance since July 2015). Assets the natural gas transportation tariff. Assets, UAH million In 2016, the company used its own railway cars to transport 146.6 At the same time, the growth in cost of inputs for petroleum ROA 20000 thousand tons of liquefied petroleum gas, which is 27% less than With the regain of control over Ukrnafta, the value of capital products negatively affected the result of the segment in 2016, 10% in 2015. This drop was due to the decrease in domestic production investments in 2016 in the oil and gas condensate production reducing it by UAH 6 537 million due to an increase in the inputs 15000 in Ukraine and increased rail tariffs, which led to the shift to road segment increased and amounted to over UAH 700 million. If both in volume and in price. transport. Ukrnafta were included in the consolidated results starting from 25% In 2016, Ukrnafta accrued an allowance for doubtful accounts 10000 17 099 01 January 2015, additional investments in the segment would RESEARCH AND DEVELOPMENT receivable for advances paid to suppliers and included this into 40% amount to more than 48%. operating expenses for 2015. This amounted to UAH 1 983 million. 5000 Naukanaftogaz carries out research and development for 8 200 Capital investments in other segments in 2016 were over UAH 1 5 007 oil and gas industry enterprises and other customers aimed The majority of prepayments are expected to be settled by the 100 million and are almost 10% lower than in 2015. 0 at expanding their resources, design and improvement of suppliers of Ukrnafta by 31 December 2018. The contractual 150 2014 2015 2016 mining technology, intensification of hydrocarbons production 151 150 151 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

PAYMENT OF TAXES TO THE BUDGET for 2015 in installments. Payments for other taxes decreased, mainly LOANS Change in loan structure by currency, UAH million due to the fact that in 2016 the rental payment for pipeline transit USD In 2016, Naftogaz became a net contributor to the state budget from The total amount of group loans decreased to UAH 0.9 billion or 50000 47 352 of natural gas through the territory of Ukraine was cancelled, UAH 43 316 a net recipient in 2015. Total amount of taxes paid by the entities of by 1.3% for the period 2015-2016 and comprised UAH 70.8 billion. EUR compensated in part by an increase in rental payments for oil 40000 35 919 Naftogaz group increased by almost 54% in 2016 compared to 2015. production. Total change of loans in 2016 was as follows: 30000 27 315 Ukrgazvydobuvannya and Naftogaz paid the largest shares of the 25 014 24 407 Total loans, UAH million total group taxes, 53.3% and 22.1%, respectively. Payment of taxes to the budget, UAH million 20000 CAGR 80000 VAT was the largest tax by volumes paid. Its amount increased in 1% 70000 10000 2016 by UAH 12 456 million or by 69.3% resulting from VAT taxation of 80000 60000 75 5 213 natural gas transit beginning 1 January 2016 and an increase in the 70000 -1,3% 0 50000 60000 2014 2015 2016 natural gas selling price to Ukrainian consumers. 55.1% 40000 70 844 50000 In addition, in 2016 rental payments for gas production increased 30000 71 764 Average interest rates in 2016 compared to 2015 decreased 40000 73 764 by UAH 10 012 million or by 75.4%, due to increased natural gas 20000 for all currencies. The average rate on loans in UAH decreased 30000 47 562 61 008 selling prices for Ukrgazvydobuvannya starting from 1 May 2016. 10000 by 1.3% due to the reduction in the NBU discount rate in 2016. 20000 Increase in income tax payments in 2016 by 6 662 UAH million 20 201 0 Interest rates on loans in USD declined by 1.4% due to the 10000 or 775.3% is explained by the increase in gas selling prices for 2014 2015 2016 increased share of cheaper international financing in the Ukrgazvydobuvannya and payment by Ukrtransgaz of income tax 0 group’s portfolio. 2014 2015 2016 Change in loans, UAH million Average interest rates, % Payment of taxes by type, UAH million 70000 21 210 (31 180) USD 25 UAH 60000 2016/2015, % 2016 2015 2014 EUR 20,3 50000 47 357 20 941 (18 032) VAT 69.3% 30 437 17 982 9 315 6 142 43 529 20 Subsoil royalty charge for gas 75.4% 23 293 13 280 1 390 40000 19 70 844 15,0 30000 27 315 15 Income tax 775.3% 7 522 859 1 766 24 407 71 764 12,0 11,5 Other -41.7% 5 393 9 252 3 165 20000 10 10000 9,0 7,8 Subsoil royalty charge for oil 59.4% 3 325 2 086 337 9,2 7 Security contributions 1.6% 2 679 2 636 2 993 0 31.12.2015 Proceeds Repayment FOREX 31.12.2016 5 Subsoil royalty charge for condensate -23.4% 1 115 1 467 1 235 loss 2014 2015 2016 TOTAL 55,1% 73 764 47 562 20 201 In 2016, there was general reduction in average maturity of the The structure of loans by source is roughly equal between private loan portfolio: the portion of long-term loans decreased by UAH and public banks. In 2016 the amount of loans from state-owned SUBSIDIES 11 725 million or by 33.7%, and the portion of short-term loans banks increased by 6.6%. The portion of loans from private banks Regional statistics on benefits and subsidies increased to UAH 10 805 million or by 29.2%. Average maturity decreased by 9.2%, mostly due to the repayment of a loan to In total, UAH 47.08 billion were provided Amount of general protocol decisions executed, UAH million 32 period in 2016 was 172 days (185 in 2015) for short-term loans Gazprombank that was partly compensated for by an increased in state budget estimates for 201631 for Actual level of funding in 2016 and 3.4 years (3.9 in 2015) for long-term loans. loan from the EBRD. granting privileges and housing subsidies 900 100% CITY OF KYIV 1156 74% to the population to pay for electricity, 1 497 76% With regard to currencies, UAH portion of loans increased by 2022 84% VOLYN natural gas, district heating, water supply 1357 71% CHERNIHIV UAH 2 908 million or by 11.9%, while the USD portion decreased Loan breakdown by source, % 1793 72% SUMY and wastewater collection and treatment, RIVNE by UAH 4 036 million or by 8.5% in 2016 compared to 2015. State-owned banks 3135 73% 1428 97% 40000 Private banks 38 227 housing rent (maintenance of buildings and ZHYTOMYR 2339 96% 35 856 35 908 34 759 1 956 72% KYIV In December of 2016, Naftogaz and the Ministry of Finance 35000 32 617 LVIV 2031 86% 2 254 86% housing areas), removal of domestic waste POLTAVA KHMELNYTSKY of Ukraine on the one hand, and the International Bank for 30000 TERNOPIL KHARKIV and liquid sewage. However, the actual 1 983 83% 26 249 1842 100% 1035 83% 84% 1071 72% 2892 72% Reconstruction and Development (IBRD) and two commercial 25000 919 LUHANSK funding need of benefits and subsidies 1995 83% CHERKASSY VINNYTSIA 991 89% ZAKARPATTYA CHERNIVTSI non-resident banks, on the other hand, signed a loan 1936 88% 20000 KIROVOHRAD DNIPROPETROVSK to the consumers in 2016 comprised UAH IVANO„FRANKIVSK documentation package to raise financing of Euro 478 million 15000 59.88 billion (of which subsidies comprised DONETSK (equivalent to USD 500 million) against a guarantee from the UAH 52.55 billion and benefits comprised 836 80% 1475 78% 10000 World Bank. Full loading of this credit line, beginning from UAH 7.33 billion). The actual expenses for MYKOLAYIV ZAPORIZHIA 5000 738 84% the first quarter of 2017, will increase the share of loans subsidies exceeded the planned budgetary 615 100% 0 ODESA KHERSON denominated in foreign currency by more than 5% (excluding expenditures for 2016 by 27.2%. 2014 2015 2016 32 Settlements of local budgets with the companies of NJSC “Naftogaz Ukraine” for other changes). Overall, in 2016 the companies of Naftogaz consumed natural gas in terms of privileges and subsidies to the households in 2016. group formalized general protocol decisions for consumed natural gas with of settlements for subsidies in 2016 was payment for gas in categories “Regional regard to privileges and subsidies for UAH almost 83.2%. Subsidies of UAH 6.7 billion, gas distribution companies reselling gas to 40.1 billion, of which UAH 33.4 billion was underfunded in 2016, were carried forward households” and “Heat-producing entities to received in funds. The average percentage and financed by the government in the the households” would have been 77% and 31 The Law of Ukraine “On the State Budget of Ukraine first quarter of 2017. If the subsidies were 74%, respectively (see Section “Natural gas 152 153 152 for 2016” (as amended). funded in 2016 in full, the percentage of sale and supply”). 153 ANNUAL WHAT WE HAVE ACHIEVED REPORT 2016

WORKING CAPITAL Prepayments and other current assets increased mainly due to increased prepayments for natural gas imports delivered in the One of the most important tasks of the group’s management is first quarter of 2017. to ensure adequate working capital. Accounts payable decreased by 15% in 2016 and amounted Working capital in 2016 increased by 88.9% compared to 2015 to UAH 16 234 million as of 31 December 2016. This decrease and amounted to UAH 63 677 million, which was possible through occurred primarily due to a decrease in obligations under the improved planning. joint activities agreements of Ukrnafta resulting from a decline A significant rise in the value of inventories in 2016 compared in activity compared to 2015. Turnover of accounts payable did to 2015 took place mainly due to the increased value of natural not change significantly in 2016 compared to 2015. gas. This increase was due to an increase in the portion of Advances received and other short-term liabilities increased by FINANCIAL remaining inventories of imported gas (in absolute figures, 30% and amounted to UAH 31 615 million as of 31 December 2016. remaining inventories of imported natural gas increased in The lion’s share of this growth is related to the accumulation 2016 by more than 2 bcm compared to 2015). However, total of liabilities under rental payments, which increased by UAH remaining inventories of active gas in UGS facilities decreased 5 215 million in 2016, and almost equally divided between by almost 1.4 bcm. Turnover of inventories improved significantly Ukrgazvydobuvannya and Ukrnafta. Ukrgazvydobuvannya has STATEMENTS in 2016 compared to 2015, mainly due to optimization of the no rental payment overdue, with the overall amount of liabilities quantity of natural gas inventories in UGS facilities. at the end of 2016 fully repaid in the first quarter of 2017. At the The growth of accounts receivable was due to an increase same time, Ukrnafta continued to accumulate debt for rental in current accounts receivable for natural gas (see Section payment, which comes out of 2016 and the preceding years. In “NATURAL GAS SALE AND SUPPLY”). Increase in the turnover of addition, VAT liabilities of group entities increased. They were accounts receivable in 2016 compared to 2015 reflects also timely settled in January of 2017. growth trends in selling prices. Turnover by type of working capital in days Inventories33 Accounts receivable34 200 183 Accounts payable35

150 126 126 111 103 98 100 65 47 50 42

0 2016 2015 2014 33 Calculated as the average stock divided by total cost of sales 34 Calculated as the average accounts receivable before deducting the allowances for doubtful debts divided by revenue from the sales 35 Calculated as the average accounts payable divided by value of purchases

Structure of working capital, UAH million 2016/2015, % 2015/2014, % 2016 2015 2014 Inventories 47% 182% 50 244 34 149 12 114 Accounts receivable 48% 114% 49 209 33 208 15 489 Prepayments and other current assets 24% -28% 12 073 9 764 13 570 Accounts payable -15% 38% (16 234) (19 102) (13 872) Advances received and other short-term liabilities 30% 111% (31 615) (24 312) (11 505) Total working capital 89% 113% 63 677 33 707 15 796

154 155 154 155 ANNUAL FINANCIAL STATEMENTS REPORT 2016 MANAGEMENT COMMENTS ON THE AUDITOR’S OPINION The independent auditor expressed a qualified opinion on Naftogaz financial position and financial performance for 2016. Major part of the modifications in the auditors’ report does not have significant impact on the financial statements 2016 and relate to comparability of the current year and the corresponding figures.

Auditor’s qualification (the qualification number in the auditor’s report indicated in brackets) Effect on : Management comments

Statement of Statement of financial position profit or loss as of 31 December 2016 2016

Financial information of “Ukrnafta” PJSC:

Lack of sufficient evidence that supports recognition and measurement of of Ukrnafta’s transactions regarding: yes yes Major part of petroleum products sales transactions was executed • sales of petroleum products by the joint operation in 2016, (1% of assets) (35% of net profit) prior to the date of regaining the control. • trade accounts receivables related to sales of crude oil; • prepayments made for the purchases of oil products in 2015 and their classification, Management of Ukrnafta is considering measures to cancel Ukrnafta’s joint operation agreements as well as impact of these transactions on other operating expenses, finance costs, finance income and deferred tax assets as at 31 December 2016 and 2015 and for the years then ended. (1а, b)

Unconfirmed quantities and valuation of inventories owned by the joint operation of Ukrnafta as of 31 December 2015 (1c)

Technical accounting issues:

Use of different accounting policies by the group and the group’s associates and joint operations; lack of audited financial yes yes The group has started the process of unifying accounting policies information of joint operations (2) (less than 1% of assets) (less than 1% of net profit) for the purpose of preparing consolidated financial statements. It should be noted that the ability to influence the accounting policies of companies not controlled by Naftogaz is limited.

Presentation and accuracy of the consolidated financial statements:

Nature of certain expenses may not be reflected in their legal form. Exposure to this issue amounts to UAH 6.2 billion for 2016 and yes yes Part of Ukrtransgaz’s management was dismissed in 2016 and early UAH 1.4 billion for 2015 (3) (1% of assets) (19% of net profit) 2017. The group has a comprehensive plan to improve its procurement process to avoid such comments in future (see “Main risks”)

Matters related to prior periods that affect comparability of the current year and the corresponding figures:

Measurement of fair value of property, plant and equipment as at the date of control transfer (1d) no no Auditors comments relate to previous reporting periods and do not impact the financial results and financial position of 2016

156 157 156 157 ANNUAL FINANCIAL STATEMENTS REPORT 2016

CONTENTS PUBLIC JOINT STOCK Page INDEPENDENT AUDITOR’S REPORT...... 160 COMPANY “NATIONAL CONSOLIDATED FINANCIAL STATEMENTS Consolidated Statement of Financial Position...... 163 Consolidated Statement of Profit or Loss...... 164 JOINT STOCK COMPANY Consolidated Statement of Comprehensive Income...... 164 Consolidated Statement of Changes in Equity...... 165 Consolidated Statement of Cash Flows...... 166 “NAFTOGAZ OF UKRAINE” Notes to the Consolidated Financial Statements 1. THE ORGANISATION AND ITS OPERATIONS...... 168 CONSOLIDATED FINANCIAL STATEMENTS 2. OPERATING ENVIRONMENT...... 168 3. RESTATEMENT OF COMPARATIVE INFORMATION...... 172 AS AT AND FOR THE YEAR ENDED 4. SEGMENT INFORMATION...... 174 5. BALANCES AND TRANSACTIONS WITH RELATED PARTIES...... 178 31 DECEMBER 2016 6. PROPERTY, PLANT AND EQUIPMENT...... 179 7. INVESTMENTS IN ASSOCIATES AND JOINT VENTURES...... 180 8. OTHER NON-CURRENT ASSETS...... 181 9. INVENTORIES...... 182 10. TRADE ACCOUNTS RECEIVABLE...... 182 11. PREPAYMENTS MADE AND OTHER CURRENT ASSETS...... 183 12. CASH AND BANK BALANCES...... 183 13. SHARE CAPITAL...... 183 14. BORROWINGS...... 184 15. PROVISIONS...... 185 16. ADVANCES RECEIVED AND OTHER CURRENT LIABILITIES...... 186 17. COST OF SALES...... 186 18. OTHER OPERATING EXPENSES...... 187 19. FINANCE COSTS...... 187 20. FINANCE INCOME...... 187 21. INCOME TAX...... 187 22. CONTINGENCIES, COMMITMENTS AND OPERATING RISKS...... 189 23. BUSINESS COMBINATION...... 191 24. FINANCIAL RISK MANAGEMENT...... 192 25. FAIR VALUE...... 194 26. SUBSEQUENT EVENTS...... 196 27. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES...... 196 28. CRITICAL ACCOUNTING ESTIMATES AND JUDGEMENTS...... 205 29. ADOPTION OF NEW OR REVISED STANDARDS AND INTERPRETATIONS...... 207 158 159 158 159 ANNUAL FINANCIAL STATEMENTS REPORT 2016

since we were unable to obtain access to their audited expenditures for purchases of services and inventories INDEPENDENT AUDITOR’S REPORT financial statements and financial information prepared in amounting to UAH 473 million and UAH 967 million, respectively, accordance with IFRS as at 31 December 2016 and for the year during the year ended 31 December 2015. then ended as presented below: As stated in Note 27, the substance of these expenditures To the shareholder of Public Joint Stock Company “National physical inventories or satisfy ourselves by alternative means may differ from their legal form according to the primary Joint Stock Company “Naftogaz of Ukraine”: concerning the inventory quantities as of that date. Line item in the consolidated financial 31 December statements 2016, UAH documents. We were unable to obtain sufficient and d. Measurement of the fair value of property, plant and million appropriate audit evidence to satisfy ourselves as to the Qualified Opinion equipment as at the date of control transfer and the related amounts and nature of the above expenditures and their We have audited the consolidated financial statements of loss on remeasurement of the group’s previously held interest Consolidated statement of financial position as classification in the consolidated financial statements for the Public Joint Stock Company “National Joint Stock Company in Ukrnafta. at: years ended 31 December 2016 and 2015. Consequently, we “Naftogaz of Ukraine” and its subsidiaries (the “group”), which Property, plant and equipment 1 540 were unable to determine whether any adjustments to these As a result, we were unable to determine whether any comprise the consolidated statement of financial position amounts were necessary. adjustments to the following amounts related to Ukrnafta Other non-current assets 3 as at 31 December 2016, and the consolidated statement of were necessary: We conducted our audit in accordance with International profit or loss, the consolidated statement of comprehensive Inventories 130 Standards on Auditing (“ISAs”). Our responsibilities under income, consolidated statement of changes in equity and the Line item in the consolidated financial 31 31 Trade accounts receivable 60 those standards are further described in the Auditor’s consolidated statement of cash flows for the year then ended, statements December December Responsibilities for the Audit of the Consolidated Financial and notes to the consolidated financial statements, including Cash and bank balances 14 2016, UAH 2015, UAH Statements section of our report. We are independent of the a summary of significant accounting policies. million million Prepayments made and other current assets 58 group in accordance with the International Ethics Standards In our opinion, except for the possible effects of the matters Consolidated statement of financial position as at: Borrowings 90 Board for Accountants’ Code of Ethics for Professional described in the paragraphs 1-2b and 3 of the Basis for Accountants (the “IESBA Code”), and we have fulfilled our other Deferred tax assets 3 768 ‑ Provisions 111 Qualified Opinion section of our report, and except for the ethical responsibilities in accordance with the IESBA Code. We effects of the matters described in the paragraphs 2c and Prepayments made and other current 2 552 5 640 Trade accounts payable 50 believe that the audit evidence we have obtained is sufficient 2d of the Basis for Qualified Opinion section of our report, assets Advances received and other current liabilities 109 and appropriate to provide a basis for our qualified opinion. the accompanying consolidated financial statements present Trade accounts receivable ‑ 3 394 fairly, in all material respects, the consolidated financial Emphasis of Matters position of the group as at 31 December 2016, and its Inventories ‑ 1 191 Consolidated statement of profit or loss for the year ended: Operating environment consolidated financial performance and its consolidated cash Revenue 1 712 flows for the year then ended in accordance with International We draw your attention to Note 2 to the consolidated financial Financial Reporting Standards (“IFRSs”). Consolidated statement of profit or loss for the year ended: Cost of sales (1 472) statements, which describes that the impact of the continuing Revenue 771 2 468 economic crisis and political turmoil in Ukraine and their final c. Determine the effect of the departure from IFRS 11 “Joint resolution are unpredictable and may adversely affect the Basis for Qualified Opinion Cost of sales (1 662) ‑ Arrangements” as the group’s investments in joint operations Ukrainian economy and the operations of the group. 1) Financial information of “Ukrnafta” PJSC Other operating expenses (9 807) (1 523) were accounted for using the equity method. These investments were stated at UAH 40 million and UAH 2 million Ongoing litigations As discussed in Note 22 to the consolidated financial Finance income 2 811 701 as at 31 December 2016 and 2015, respectively, In our opinion, statements, the group gained control over “Ukrnafta” PJSC We also draw your attention to Note 22 to the consolidated these investments should be accounted for as joint operations (“Ukrnafta”) and starting from 22 July 2015 (“the date of control Finance costs ‑ (809) financial statements, which describes material uncertainty with that requires separate recognition by the group of its share in transfer”) its financial information is consolidated into the regard to the claim in the Arbitration Institute of the Stockholm Share of after-tax results of associates ‑ (1 224) each category of assets and liabilities of the joint operations Group’s financial statements. Until 22 July 2015 the group used Chamber of Commerce issued by the Company to JSC “Gazprom” and joint-ventures as at 31 December 2016 and 2015 and its share in the joint equity method to account for its investment into Ukrnafta. and counterclaim from JSC “Gazprom” to the Company. Remeasurement of previously held ‑ (1 430) operations’ revenues and expenses for the years then ended. As at the date of control transfer the group measured interest on transfer to subsidiary Retrospective restatement assets and liabilities of Ukrnafta and remeasured the Group’s d. Determine the effect of the departure from uniform investment into Ukrnafta at their fair values. 2) Investments in associates and joint operations accounting policy of the group to use the revaluation We further draw attention to Note 3 to the consolidated model for measurement of property, plant and equipment financial statements which describes the restatement of We were unable to obtain sufficient and appropriate audit As discussed in Notes 7 and 27 to the consolidated financial by “Ukrtatnafta” PJSC and the joint operations of corresponding figures for the year ended 31 December 2015. evidence regarding: statements, the group has investments in associates and joint “Ukrgasvydobuvannya” PJSC, Misen Enterprises AB and LLC operations. These investments are accounted for using the Our opinion is not modified in respect of these matters. a. Recognition and measurement of revenue, cost of sales, “Carpatygaz”. equity method of accounting and proportional consolidation, prepayments made and trade accounts receivable related to Responsibilities of Management and Those Charged with respectively. We were unable to: 3) Purchases classification and presentation sales of petroleum products by the joint operation of Ukrnafta Governance for the Consolidated Financial Statements in 2016 and sales of crude oil and prepayments made for a. Obtain sufficient and appropriate audit evidence regarding As discussed in Note 27, the following expenditures were Management is responsible for the preparation and fair the purchases of oil products by Ukrnafta in 2015, as well as recoverability of trade and other receivables of the group’s incurred by “Ukrtransgaz” PJSC during the year ended 31 presentation of the consolidated financial statements impact of these transactions on other operating expenses, associate “Ukrtatnafta” PJSC as at 31 December 2015 with the December 2016: in accordance with IFRS, and for such internal control finance costs, finance income and deferred tax assets as at group’s share amounting to UAH 611 million included in the • Capital expenditures included into property, plant and as management determines is necessary to enable the 31 December 2016 and 2015 and for the years then ended; carrying amount of investments in associates. equipment amounting to UAH 1,872 million; and preparation of consolidated financial statements that are free b. Classification of prepayments for the purchases of oil b. Obtain sufficient and appropriate audit evidence from material misstatement, whether due to fraud or error. • Expenditures for purchases of services and inventories products made by Ukrnafta in 2015 as current assets. regarding the group’s share in assets, liabilities, revenue and amounting to UAH 4,279 million. In preparing the consolidated financial statements, expenses of joint operations, where other parties in the joint c. Quantities and valuation of inventories owned by the management is responsible for assessing the Group’s ability arrangements with the group subsidiary “Ukrgasvydobyvannia” Additionally, “Ukrtransgaz” PJSC, “Ukrgasvydobyvannia” PJSC joint operation of Ukrnafta and held by a third party as at to continue as a going concern, disclosing, as applicable, PJSC are responsible for maintaining accounting records, and “Ukrtransnafta” OJSC incurred capital expenditures and 16031 December 2015, as we could not observe the counting of matters related to going concern and using the going concern161 160 161 ANNUAL FINANCIAL STATEMENTS REPORT 2016

basis of accounting unless management either intends to internal control. PUBLIC JOINT STOCK COMPANY “NATIONAL JOINT STOCK COMPANY “NAFTOGAZ OF UKRAINE” liquidate the group or to cease operations, or has no realistic • Evaluate the appropriateness of accounting policies used and the CONSOLIDATED STATEMENT OF FINANCIAL POSITION AS AT 31 DECEMBER 2016 alternative but to do so. reasonableness of accounting estimates and related disclosures In millions of Ukrainian hryvnias Note 31 December 31 December 2015 31 December 2014 Those charged with governance are responsible for made by management. 2016 (as restated, (as restated, overseeing the group’s financial reporting process. • Conclude on the appropriateness of management’s use of the Note 3) Note 3) going concern basis of accounting and, based on the audit ASSETS Auditor’s Responsibilities for the Audit of the evidence obtained, whether a material uncertainty exists related Consolidated Financial Statements Non-current assets to events or conditions that may cast significant doubt on the Property, plant and equipment 6 551 661 559 796 445 076 Our objectives are to obtain reasonable assurance about group’s ability to continue as a going concern. If we conclude that Investments in associates and joint ventures 7 1 328 1 548 9 761 whether the consolidated financial statements as a whole a material uncertainty exists, we are required to draw attention in are free from material misstatement, whether due to fraud our auditor’s report to the related disclosures in the consolidated Prepaid corporate income tax 1 317 1 317 1 195 or error, and to issue an auditor’s report that includes our financial statements or, if such disclosures are inadequate, to Deferred tax assets 21 6 415 - - opinion. Reasonable assurance is a high level of assurance, modify our opinion. Our conclusions are based on the audit Other non-current assets 8 9 326 8 722 4 486 but is not a guarantee that an audit conducted in accordance evidence obtained up to the date of our auditor’s report. However, Total non-current assets 570 047 571 383 460 518 with ISAs will always detect a material misstatement when future events or conditions may cause the group to cease to Current assets it exists. Misstatements can arise from fraud or error and continue as a going concern. are considered material if, individually or in the aggregate, Inventories 9 50 244 34 149 12 114 • Evaluate the overall presentation, structure and content of the they could reasonably be expected to influence the economic Trade accounts receivable 10 49 209 33 208 15 489 consolidated financial statements, including the disclosures, and decisions of users taken on the basis of these consolidated whether the consolidated financial statements represent the Prepayments made and other current assets 11 12 051 9 176 12 628 financial statements. underlying transactions and events in a manner that achieves fair Prepaid corporate income tax 22 588 942 As part of an audit in accordance with ISAs, we exercise presentation. Cash and bank balances 12 22 336 11 791 4 535 professional judgment and maintain professional scepticism • Obtain sufficient appropriate audit evidence regarding the Restricted cash 680 600 394 throughout the audit. We also: financial information of the entities or business activities within Total current assets 134 542 89 512 46 102 • Identify and assess the risks of material misstatement the group to express an opinion on the consolidated financial TOTAL ASSETS 704 589 660 895 506 620 of the consolidated financial statements, whether due statements. We are responsible for the direction, supervision and EQUITY to fraud or error, design and perform audit procedures performance of the group audit. We remain solely responsible for responsive to those risks, and obtain audit evidence that our audit opinion. Share capital 13 164 607 164 607 59 997 is sufficient and appropriate to provide a basis for our Revaluation reserve 437 510 430 503 336 527 We communicate with those charged with governance regarding, opinion. The risk of not detecting a material misstatement among other matters, the planned scope and timing of the audit Unregistered contributed capital 13 29 700 29 700 104 610 resulting from fraud is higher than for one resulting from and significant audit findings, including any significant deficiencies in Cumulative exchange difference 3 164 2 086 1 405 error, as fraud may involve collusion, forgery, intentional internal control that we identify during our audit. Accumulated deficit (175 873) (188 421) (153 241) omissions, misrepresentations, or the override of internal control. 4 May 2017 Equity attributable to owners of the Parent 459 108 438 475 349 298 Non-controlling interest in equity 1 164 5 287 20 • Obtain an understanding of internal control relevant to PJSC Deloitte and Touche the audit in order to design audit procedures that are TOTAL EQUITY 460 272 443 762 349 318 appropriate in the circumstances, but not for the purpose LIABILITIES of expressing an opinion on the effectiveness of the group’s Non-current liabilities Borrowings 14 23 100 34 825 26 199 Provisions 15 12 416 7 387 2 235 Deferred tax liabilities 21 82 088 83 677 66 964 Other long-term liabilities 4 8 323 Total non-current liabilities 117 608 125 897 95 721 Current liabilities Borrowings 14 47 744 36 939 35 062 Provisions 15 31 116 10 883 1 142 Trade accounts payable 16 234 19 102 13 872 Advances received and other current liabilities 16 28 328 20 961 11 074 Corporate income tax payable 3 287 3 351 431 Total current liabilities 126 709 91 236 61 581 TOTAL LIABILITIES 244 317 217 133 157 302 TOTAL LIABIITIES AND EQUITY 704 589 660 895 506 620 These consolidated financial statements were authorised for issue 4 May 2017.

162 Andriy Kobolyev Sergiy Konovets 163 162 Chairman of the Executive Board Deputy Chairman of the Executive Board 163 ANNUAL FINANCIAL STATEMENTS REPORT 2016

PUBLIC JOINT STOCK COMPANY “NATIONAL JOINT STOCK COMPANY “NAFTOGAZ OF UKRAINE” PUBLIC JOINT STOCK COMPANY “NATIONAL JOINT STOCK COMPANY “NAFTOGAZ OF UKRAINE” CONSOLIDATED STATEMENT OF PROFIT OR LOSS FOR THE YEAR ENDED 31 DECEMBER 2016 CONSOLIDATED STATEMENT OF CHANGES IN EQUITY FOR THE YEAR ENDED 31 DECEMBER 2016 In millions of Ukrainian hryvnias Note 2016 2015 In millions of Ukrainian hryvnias Share Reval- Unreg- Cumu- Accu- Total Non-con- Total (as restated, capital uation istered lative mulated trolling equity Note 3) reserve contrib- exchange deficit interest Revenue 4 192 764 130 267 uted differ- capital ence Cost of sales 17 (121 804) (121 810) Gross profit 70 960 8 457 Balance at 31 December 2014 (as 59 997 336 527 104 610 1 405 (153 241) 349 298 20 349 318 restated, Note 3) Other operating income 2 627 3 911 Other operating expenses 18 (41 752) (18 341) Loss for the year - - - - (32 792) (32 792) (2 270) (35 062) Operating profit/(loss) 31 835 (5 973) Other comprehensive income/(loss) for - 94 682 - 681 (272) 95 091 1 042 96 133 the year Finance costs 19 (9 581) (11 521) Finance income 20 4 672 1 804 Total comprehensive income/(loss) - 94 682 - 681 (33 064) 62 299 (1 228) 61 071 for the year Share of after-tax results of associates and joint-ventures 7 (99) (627) Remeasurement of previously held interest on transfer to subsidiary 7, 23 - (1 430) Acquisition of subsidiary (Note 23) ------7 127 7 127 Net foreign exchange loss (5 790) (19 034) Transfer of revaluation reserve - (706) - - 706 - - - Profit/(loss) before income tax 21 037 (36 781) State treasury bonds received (Note 13) - - 29 700 - - 29 700 - 29 700 Income tax benefit 21 1 495 1 719 Registration of shares (Note 13) 104 610 - (104 610) - - - - - Net profit/(loss) for the year 22 532 (35 062) Profit share payable to the State - - - - (2 822) (2 822) (632) (3 454) Net profit/(loss) is attributable to: Budget and dividends declared (Note Equity holders of the Company 26 652 (32 792) 13) Non-controlling interest (4 120) (2 270) Balance at 31 December 2015 (as 164 607 430 503 29 700 2 086 (188 421) 438 475 5 287 443 762 Net profit/(loss) for the year 22 532 (35 062) restated, Note 3) Profit/(loss) for the year - - - - 26 652 26 652 (4 120) 22 532 Other comprehensive income for the - 7 176 - 1 078 (88) 8 166 (103) 8 063 year PUBLIC JOINT STOCK COMPANY “NATIONAL JOINT STOCK COMPANY “NAFTOGAZ OF UKRAINE” CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME FOR THE YEAR ENDED 31 DECEMBER 2016 Total comprehensive income/(loss) - 7 176 - 1 078 26 564 34 818 (4 223) 30 595 for the year In millions of Ukrainian hryvnias Note 2016 2015 (as Transfer of revaluation reserve - (169) - - 169 - - - restated, Change in investments in joint - - - - 100 100 100 200 Note 3) operations Net profit/(loss) for the year 22 532 (35 062) Provision for dividends payable to the - - - - (13 264) (13 264) - (13 264) Other comprehensive income State Budget (Notes 13 and 15) Items that will not be reclassified subsequently to profit or loss, net of income tax: Profit share payable to the State - - - - (1 021) (1 021) - (1 021) Gain on revaluation of property, plant and equipment (net of income tax of UAH 1,585 million 7 220 95 647 Budget and dividends declared (Note (2015: UAH 20,995 million) 13) Share of other comprehensive income of associates (net of income tax of nil (2015: nil) 7 2 311 Balance at 31 December 2016 164 607 437 510 29 700 3 164 (175 873) 459 108 1 164 460 272 Remeasurement of defined benefit obligation (net of income tax of UAH 31 million (2015: 15 (142) (369) UAH 82 million) Remeasurement of decommissioning liability (net of income tax of UAH 21 million (2015: 15 (95) (253) UAH 56 million) Items that may be reclassified subsequently to profit or loss, net of income tax: Cumulative exchange difference 1 078 681 Reclassification adjustments relating to regaining of control over subsidiary 23 - 116 Other comprehensive income for the year 8 063 96 133 Total comprehensive income for the year 30 595 61 071 Total comprehensive income/(loss) is attributable to: Equity holder of the Company 34 818 62 299 Non-controlling interests (4 223) (1 228) 164Total comprehensive income for the year 30 595 61 071 165 164 165 ANNUAL FINANCIAL STATEMENTS REPORT 2016

PUBLIC JOINT STOCK COMPANY “NATIONAL JOINT STOCK COMPANY “NAFTOGAZ OF UKRAINE” PUBLIC JOINT STOCK COMPANY “NATIONAL JOINT STOCK COMPANY “NAFTOGAZ OF UKRAINE” CONSOLIDATED STATEMENT OF CASH FLOWS FOR THE YEAR ENDED 31 DECEMBER 2016 CONSOLIDATED STATEMENT OF CASH FLOWS CONTINUED FOR THE YEAR ENDED 31 DECEMBER 2016

In millions of Ukrainian hryvnias Note 2016 2015 In millions of Ukrainian hryvnias Note 2016 2015 (as (as restated, restated, Note 3) Note 3) CASH FLOWS FROM OPERATING ACTIVITIES CASH FLOWS FROM FINANCING ACTIVITIES Profit/(loss) before income tax 21 037 (36 781) Proceeds from borrowings 19 348 19 968 Adjustments for: Repayment of borrowings (40 183) (29 361) Depreciation of property, plant and equipment and amortisation of intangible assets 23 452 20 214 Interest paid (8 711) (9 127) Loss on disposal of property, plant and equipment 18 406 304 Profit share and dividends paid 13 (1 021) (2 851) Impairment/(reversal of impairment) of property, plant and equipment 6 1 231 (1 144) Net proceeds from sale of the State treasury bonds contributed to share capital - 29 700 Write down of inventories 9 1 693 7 601 Net cash (used in)/generated from financing activities (30 567) 8 329 Net movement in provision for trade accounts receivable and prepayments made, other current assets, 18 20 863 1 938 Net increase in cash and cash equivalents 11 500 5 368 financial investments and VAT balances CASH AND CASH EQUIVALENTS AT THE BEGINNING OF THE YEAR 9 256 3 314 Change in provisions 15 12 067 8 387 Effect of exchange rates change on cash and cash equivalents 1 097 574 Write off of accounts payable and other current liabilities (101) (141) CASH AND CASH EQUIVALENTS AT THE END OF THE YEAR 12 21 853 9 256 Share of after-tax results of associates and joint-ventures 7, 23 99 627 Remeasurement of previously held interest on transfer to subsidiary 7, 23 - 1 430 Foreign exchange loss 5 790 20 489 Significant Non-Cash Transactions Finance costs, net 4 909 9 717 In millions of Ukrainian hryvnias Note 2016 2015 Operating cash flows before working capital changes 91 446 32 641 Contribution of the State treasury bonds to the share capital 13 - 29 700 Decrease in other non-current assets 554 496 Direct payment by a lending bank for gas purchased by the Group 13 636 1 140 Increase in inventories (17 788) (27 278) Dividends paid by associates directly to the State Budget - 1 780 Increase in trade accounts receivable (31 249) (5 953) Decrease in prepayments made and other current assets 8 623 5 839 Decrease in other long-term liabilities (106) (315) Provisions paid or used 15 (873) (334) Decrease in trade accounts payable (4 042) (502) Increase/(decrease) in advances received and other current liabilities 7 080 (2 739) Cash generated from operations 53 645 1 855 Income taxes paid (7 522) (859) Interest received 1 182 699 Net cash generated by operating activities 47 305 1 695 CASH FLOWS FROM INVESTING ACTIVITIES Purchase of property, plant and equipment and intangible assets (7 680) (4 546) Proceeds from sale of property, plant and equipment 4 68 Cash acquired in business combination 23 - 654 Withdrawal/(placement) of bank deposits 12 2 315 (864) Dividends received 123 32 Net cash used in investing activities (5 238) (4 656)

166 167 166 167 ANNUAL FINANCIAL STATEMENTS REPORT 2016

Name/Segment % Interest held Country economic and political areas remains uncertain. Resolution #800. Amendments include actions in respect of 1. THE ORGANISATION AND ITS OPERATIONS gas transportation and storage activities unbundling process. as at 31 December of regis- Before 1 October 2015, the Company was a guaranteed Public Joint Stock Company “National Joint Stock Company tration supplier of natural gas in Ukraine to certain groups of “Naftogaz of Ukraine” (“Naftogaz of Ukraine”, the “Parent” or 2016 2015 State regulation of gas market in Ukraine customers, while its ability to adjust prices to end customers, the “Company”) was founded in 1998 in accordance with the Wholesale and retail distribution of oil, gas and refinery reflecting increased prices for the imported gas, was Before 1 October 2015, state regulation of gas market in Resolution of the Cabinet of Ministers of Ukraine №747 dated products limited, since such prices were regulated at each stage from Ukraine was performed by the Cabinet of Ministers of Ukraine 25 May 1998. exploration to end customers by the National Commission and the NCREU. Gaz Ukraiiny, Subsidiary 100,00 100,00 Ukraine Naftogaz of Ukraine and its subsidiaries (hereinafter for Regulation of Energy and Utilities (the “NCREU”, before Enterprise State regulation covered both technical and financial aspects collectively referred to as the “group”) are beneficially owned 27 August 2014 – the National Commission for Regulation of the market functioning. Technical measures related to the by the State of Ukraine. The Government of Ukraine, as Naftogaz Trading Europe S.A. 100,00 100,00 Switzer‑ of Energy, the “NCRE”). During 2016 and 2015, there were effective use of gas resources, ensuring secure technical represented by the Cabinet of Ministers of Ukraine, controls (former Naftogaz Overseas land significant fluctuations in natural gas purchase prices in UAH exploitation of the gas transportation system, maintaining the company through participation in the shareholders’ S.A.) equivalent, due to the Ukrainian hryvnia devaluation against correct and safe supply, distribution, and consumption of meetings and the supervisory board meetings, as well as foreign currencies. Kirovogradgaz, Open JSC 51,00 51,00 Ukraine natural gas. Financial measures mainly related to tariff and through the appointment of the chairman of the executive Starting from 1 October 2015, the Law of Ukraine “On Natural price setting and maintaining correct financial means for board and the executive board members. Ukravtogaz, Subsidiary 100,00 100,00 Ukraine Enterprise Gas Market” # 329-VIII dated 9 April 2015 came into force that natural gas allocation among market participants. Naftogaz of Ukraine is a vertically integrated oil and gas launched the gas sector reform. The Law, on the one hand, company engaged in full cycle of operations in gas and oil Other stipulates for the state regulation of the monopoly market Gas trading and supply field exploration and development, exploratory drilling and Vuglesyntezgaz Ukraiiny, 100,00 100,00 Ukraine (transportation, distribution, storage, and LNG installation NCREU was responsible for regulating activities of the natural production, gas and oil transportation and storage, supply of Subsidiary Enterprise services) and, on the other hand, fosters the development of gas market participants and providing tariff and price setting natural gas and liquefied petroleum gas (“LPG”) to customers. free fair competition in the natural gas commodity market. Ukrnaftogazkomplekt, 100,00 100,00 Ukraine policy on natural gas market as stipulated by the Law of Thus, starting from 1 October 2015, the wholesale and the The company holds stakes in various entities that form Subsidiary Enterprise Ukraine „On Natural Gas Market” # 2467-VI dated 08 July 2010 retail natural gas markets introduced the principle of free the national system of production, refinery, distribution, and NCREU Charter approved by the Presidential Decree # pricing and freedom of choice regarding sources of the transportation, and storage of natural gas, condensate and oil. 715/2014 dated 10 September 2014 and the Resolution of the 2. OPERATING ENVIRONMENT natural gas supplies, except for the cases when the Cabinet Cabinet of Ministers of Ukraine „On competence of executive The company is registered at 6 B. Khmelnytskoho Street, Kyiv, During recent years Ukraine has been in a political and of Ministers of Ukraine imposes specific obligations on the authorities and local government bodies in respect of price Ukraine. economic turmoil. Autonomous Republic of Crimea within natural gas market participants. and tariff regulation”. Natural gas prices were calculated Ukraine was unlawfully annexed by the Russian Federation. The group conducts its business and holds its production The Government and the group are undertaking significant according to the NCREU guidelines and principles of the Law During 2016 certain areas in Luhansk and Donetsk regions facilities mainly in Ukraine. The principal subsidiaries and joint measures in the open European natural gas market of Ukraine „On Prices and Price Setting” # 5007-VI dated 21 continued to experience military actions. These actions led to operations are presented as follows: development that is required by the Memorandum on June 2012. rapid inflation, national currency devaluation against major Economic and Financial Policy agreed with the IMF, provisions : foreign currencies, drop in GDP, illiquidity and volatility at the Accordingly, NCREU approved the maximum sales price of of the Coalition Agreement, the “Ukraine-2020” Sustainable financial markets. In January 2016 agreement on Deep and natural gas for entities financed from the State and local Name/Segment % Interest held Country Development Strategy, the Corporate Governance Action Plan, Comprehensive Free Trade Area between Ukraine and the EU budgets, the maximum sales price of natural gas for industrial of regis- and the Plan for Implementation of the Gas Sector Reform as at 31 December came into force. As a result, the Russian Federation imposed customers and other entities (including district heating tration approved by the Resolution of the Cabinet of Ministers of trade embargo or import duties on main Ukrainian export companies producing heat for households), retail sales prices 2016 2015 Ukraine # 375-р. These measures introduce conceptual goods. In return, Ukraine imposed similar measures as to of natural gas for households, tariffs for transportation changes to the legal framework and functioning of the natural Production of gas, oil and refinery products Russian goods. services via transmission and distribution pipelines within gas market, to certain aspects of operations of the Company Ukraine, tariffs for distribution and supply of natural gas Ukrgasvydobyvannia, PJSC 100,00 100,00 Ukraine In 2016 inflation was 12.4% compared to 43.3% in 2015. Despite and also will have significant impact on the performance of under the regulated tariffs, tariffs for storage and pumping cumulative inflation in Ukraine was slightly above 100% during the company and the group as a whole. Ukrnafta, PJSC 50,00 + 1 50,00 + 1 Ukraine services. Additionally, NCREU was responsible for customer recent three years, management believes that Ukrainian share share On 9 November 2016 the Cabinet of Ministers of Ukraine has rights protection in the area of tariff setting, security of economy is not hyperinflationary because of inflation level Petrosannan Company, 50,00 50,00 Egypt approved incorporation of „Mahistralny gasoprovody Ukrainy” supplies and quality of services. slow-down in 2016 and absence of hyperinflationary economic Joint operations with the PJSC with its Resolution #801. environment. Starting from 1 October 2015, the Law changed model of the Arab Republic of Egypt and This decision was taken within the company’s Corporate gas market to the principles of free, fair competition and Egyptian General Petroleum Economic situation stabilisation started in 2016 with GDP Governance Restructuring Plan that assumes gas ensuring a high level of protection of customer rights and Corporation growth of 1% and Ukrainian hryvnia strengthening. These transportation and storage activities unbundling. Unbundling interests. events allowed the National Bank of Ukraine to ease certain Zakordonnaftogaz, Subsidiary 100,00 100,00 Ukraine was also approved by the Resolution of the Cabinet of restrictions on foreign currency transactions that were At the same time, the Cabinet of Ministers of Ukraine has Enterprise Ministers of Ukraine # 496 dated 1 July 2016. As at the date of imposed in 2014-2015, including decrease of compulsory issued Resolution #758 dated 1 October 2015, imposing public these consolidated financial statements the list of assets to Carpatygaz LLC, Joint 49,99 49,99 Ukraine conversion level down to 65% and permission of dividend service obligations on the Company during the transitional be transferred to „Mahistralny gasoprovody Ukrainy” PJSC has operations with Misen distribution abroad. Nevertheless, certain restrictions were period from 1 October 2015 to 31 March 2017 in respect of gas been not yet defined. Enterprises AB further prolonged. purchase of domestic production from “Ukrgasvydobyvannia” The Government has also approved the Corporate Governance PJSC and gas supply for the needs of households, district Oil and gas transportation Significant external financing is needed to support the Plan for „Mahistralny gasoprovody Ukrainy” PJSC, taking heating companies and religious organisations, and starting economy. During 2015 and 2016 Ukraine received first tranches Ukrtransgaz, PJSC 100,00 100,00 Ukraine into account requirements of the European Bank for from 23 December 2016 – for the needs of budget financed within the Extended Fund Facility programme, agreed with Reconstruction and Development and Energy community. entities. Additionally, gas supply to the ”Odessa Port Plant” Ukrtransnafta, PJSC 100,00 100,00 Ukraine the International Monetary Fund (“IMF”). Further economic PJSC up to 31 December 2016 was included to the public Ukrspetstransgaz, PJSC 100,00 100,00 Ukraine and political progress depends essentially from the Ukrainian Further the Government approved amendments to the service obligations of the Company. Government actions. At the same time, development in the company’s Corporate Governance Restructuring Plan with its 168 169 168 169 ANNUAL FINANCIAL STATEMENTS REPORT 2016

Additionally, this Resolution defines natural gas selling prices accounts of the gas supplier with public service obligations The following tariffs and prices were set: for the needs of households, religious organisations (except according to ratios approved by NCREU monthly. The special gas volumes used for commercial purposes) and district purpose bank accounts of district heating companies also cannot 31 December 2016 31 December 2015 heating companies for heat produced for households and be blocked or arrested. Prior to 1 May 2016 retail prices for natural gas for households From 1 May 2016 to 31 March From 1 October 2015: religious organisations needs during the period from 1 October In November 2016 the Law of Ukraine “On measures to settle were differentiated depending on the type and volume of 2017: 2015 up to 31 March 2017. UAH 7.19 per cubic meter; consumption (UAH per cubic meter), including VAT, duties in the the debts for the natural gas consumed by district heat UAH 6.88 per cubic meter UAH 3.6 per cubic meter form of additional levy to the existing tariffs, and tariffs for gas Other customers outside the Resolution buy imported natural generating and distribution and water supplying companies” within the range of 1,200 cubic transmission and distribution. gas under the prices set discretionary by the gas market #1730 was adopted. The principles of district heat generating meters (on the basis of 200 participants, including the Company. and distribution and water supply companies payables for gas cubic meters per month) for settling are set in this Law. Among other, the Law assumes At the same time, gas supply tariffs were not applied starting customers using gas in a writing off penalties and fines implied for overdue debts for gas from 1 October 2015. Maximum trade mark-up of gas supplier single package supplied, and restructuring of payables to the company on gas with public service obligations is set instead as stipulated consumed. in the Resolution. Additionally, starting from 1 January 2016 Effective from 1 May 2016 single retail price for households was natural gas tariff surcharge is not applied. The list of companies entitled for debt settling procedures should set at the level of import parity, with possibility of quarterly be approved by the central body of the government executive review up to 31 March 2017 as set up in the Resolution of the According to the Law of Ukraine “On principles of natural gas authority responsible for pursuing the State policy in housing Cabinet of Ministers of Ukraine # 315 dated 27 April 2016. market functioning” that was effective prior to 1 October 2015, and utilities. This list should be approved as a separate register total volume of natural gas produced in Ukraine, net of natural Natural gas prices for entities generating heat for household From 1 May 2016 to 31 March From 1 October 2015 to 30 April of companies. Additionally, gas debts restructuring should be gas used for technological purposes and other needs as needs, UAH per cubic meter, net of VAT and other taxes and 2017: 2016: performed according to a standard pro forma contract approved stipulated by this law, by the entities owned 50% and more by duties. UAH 4.94 per cubic meter UAH 1.84 for the entities by the separate resolution of the Cabinet of Ministers of Ukraine. the State, had to be sold for the needs of households via the directly connected to gas As at 31 December 2016, neither separate register of companies company at regulated prices. If the demand of the households transmission system, and nor standard pro forma contract were approved. At the date of exceeded the domestic production volumes, it was satisfied by these consolidated financial statements register of companies UAH 1.77 for other entities imports. was still under development. Selling prices for gas sold to industrial and other customers, net From UAH 6,484 to UAH 7,148 From UAH 5,845 to UAH 6,474 As described above in this Note, according to the Resolution of VAT, duties in the form of additional levy to the existing tariffs, per 1,000 cubic meter per 1,000 cubic meter of the Cabinet of Ministers of Ukraine, starting from 1 October Gas transmission and distribution and tariffs for gas transmission and distribution. 2015 public service obligations were imposed on the Company Before 1 January 2016 tariffs for gas transit were set by during the transitional period from 1 October 2015 to 31 March Effective from 1 October 2015, the said prices are determined negotiations between two parties, and gas transmission and 2017 regarding purchase of gas of domestic production by the company on a monthly basis individually and are distribution tariffs were set by NCREU. from “Ukrgasvydobyvannia” PJSC and the sale of natural gas differentiated based on the monthly volumes of gas for the needs of households, district heating companies Starting from 1 January 2016, Ukraine has changed its gas consumption and terms and conditions of payment for it by a and religious organisations. This Resolution also assumes transmission pricing policy to harmonise Ukrainian legislation customer. the company to purchase natural gas from wholesale gas with the European energy regulations, introducing a new system General tariff for gas storage (storage, injection, and UAH 112.0 UAH 112.0 suppliers, including foreign suppliers, in case the volume regulating tariffs for gas transmission. According to the Law of withdrawal), net of VAT, UAH per thousand cubic meters for one sold by “Ukrgasvydobyvannia” PJSC does not cover the needs Ukraine “On Natural Gas Market”, gas transmission tariffs are season of storage. of households, religious organisations and district heating set by NCREU for entry/exit points. New tariffs are set using companies for heat produced for households. Gas volumes regulatory asset base (RAB) methodology that assumes setting General gas transportation tariff via transmission and UAH 732,70 UAH 689,10 consumed by households are reported via the gas meters. appropriate return on assets to stimulate gas operators to invest distribution pipelines within Ukraine, net of VAT, UAH per If no meters are available, the sales volume is reported at in infrastructure development. The new tariffs allow compensating thousand cubic meters. the average normal consumption rates set by the respective for acceptable return on RAB, depreciation and operating expenses. regulations. Depreciation included in the tariff was calculated based on the Tariff for entry and exit points of Ukrainian gas transmission From 1 January 2016: n/a assumption that there would not be any transit flows starting from network, net of VAT, USD per thousand cubic meters USD 12.47 Households settle their debts on natural gas consumed via 1 January 2020 (“accelerated depreciation”). special purpose bank accounts. The list of banks creating such accounts is approved by the Cabinet of Ministers of Currently JSC “Gazprom” (“Gazprom”) still pays gas transmission Compensation of price difference between sales tariffs and In 2015 the company received UAH 29,700 million in the State treasury Ukraine. According to the current procedure, gas suppliers tariffs as set in the current agreement on gas transit. price of imported gas and other types of financial support by bonds as a contribution to its share capital (Note 13). Means received with public service obligations open special purpose bank Following disagreement of Gazprom to book entry capacities the State were used to cover liquidity gap of the Company. accounts to receive payments for natural gas consumed. starting from 1 January 2016 based on the new tariffs, NCREU Amounts accumulated on the special purpose bank accounts temporarily suspended the application of new tariffs for In accordance with Para 7, Article 11 of the Law of Ukraine “On Natural Assets located at temporarily occupied areas were allocated to current accounts of the transmission system gas transit pending the award of the Arbitral Tribunal under Gas Market”, a gas market player with public service obligations is operator, distribution system operators and gas supplier with the auspices of the Arbitration Institute of the Stockholm eligible for compensation of economically justified expenditures In early 2014, Ukraine suffered from the military aggression of public service obligations according to ratios calculated by the Chamber of Commerce (Note 22). Naftogaz expects that the incurred by such player, less any income obtained in the course of the Russian Federation which resulted in the occupation of the gas suppliers with specific obligations and approved by NCREU. NCREU following the award will apply the new tariffs for gas fulfilling such obligations plus adequate margin. The level of margin Autonomous Republic of Crimea (“Crimea”) and unlawful military Balances on the special purpose accounts cannot be arrested or transit with retroactive effect from 1 January 2016. should be calculated following the relevant resolution by the Cabinet take-over of certain areas in Luhansk and Donetsk regions by armed blocked. of Ministers of Ukraine. As at the date of these consolidated financial terrorist groups that are controlled, directed, and financed by the Had new tariffs been enforced starting from 1 January 2016, statements such resolution has not been adopted. Russian Federation, as well as а result of the unconcealed intrusion District heating companies also open special purpose banks and assuming that Gazprom would not book any transit of regular armed forces of the Russian Federation. accounts for the settlement of debts for heat supplied. Cash capacities beyond 2019, the group would have applied the Accordingly, the company did not receive any compensation as a gas received by district heating companies on their special purpose revenue from gas transmission based on the new tariffs and market player with public service obligations during 2016. Additionally, Ukraine suffered from the separatist movements 170bank accounts is then allocated, among others, to current bank accelerated depreciation. and the collapse of law enforcement in Luhansk and Donetsk 171 170 171 ANNUAL FINANCIAL STATEMENTS REPORT 2016

regions in 2014. As a result, the group recognised provision The effect of the retrospective corrections on the consolidated statement of profit or loss for the year ended 31 December 2015 was as for impairment for assets located on anti-terrorist operation 3. RESTATEMENT OF COMPARATIVE INFORMATION follows: area (ATO) as stipulated by the Law of Ukraine ”On Provisional The group has issued the consolidated financial statements as at and In millions of Ukrainian hryvnias Note 2015, as Effect of the 2015, as Measures during ATO” # 1669 dated 2 September 2014. Losses for the year ended 31 December 2015 on 29 July 2016. Subsequently previously restatement restated incurred at the occupied territories during 2015 include loss on to that date the group identified matters requiring correction and reported unauthorised natural gas withdrawal and the respective VAT and changed certain accounting policies. The respective corrections were Revenue 3.2 131 248 (981) 130 267 amounted to UAH 2,142 million (Note 18). made retrospectively in these consolidated financial statements. Cost of sales 3.2 (122 727) 917 (121 810) Management of the group continues to undertake all possible legal The effect of the retrospective corrections on the consolidated Other operating income 3.2 3 773 138 3 911 and diplomatic measures to reimburse for losses and recover control statement of financial position as at 31 December 2014 was as of the group’s assets in Crimea. follows: Other operating expense 3.3, 3.4 (19 323) 982 (18 341) Finance costs 3.4 (10 988) (533) (11 521) In millions of Ukrainian hryvnias Note 31 December Effect of the 31 December Share of after-tax results of associates and joint 3.2 (652) 25 (627) 2014, as restatement 2014, as ventures previously restated Net foreign exchange loss 3.5 (19 908) 874 (19 034) reported Income tax benefit 3.3 1 880 (161) 1 719 Property, plant and equipment 3.1 456 548 (11 472) 445 076 Other non-current assets 3.6 4 428 58 4 486 The effect of the retrospective corrections on the consolidated statement of cash flow for the year ended 31 December 2015 was as follows: Inventories 3.1 10 123 1 991 12 114 In millions of Ukrainian hryvnias Note 2015, as Effect of the 2015, as previously restatement restated Revaluation reserve 3.1, 3.3 363 958 (27 431) 336 527 reported Accumulated deficit 3.1, 3.3 (173 012) 19 771 (153 241) Loss on disposal of property, plant and equipment 3.2 289 15 304 Deferred tax liabilities 3.1 68 726 (1 762) 66 964 Reversal of impairment of property, plant and 3.3 (1 032) (112) (1 144) equipment Provisions 3.4 2,671 706 3,377 Net movement in provision for trade accounts 2 071 (133) 1 938 Trade accounts payable 3.4 14 242 (370) 13 872 receivable and prepayments made, other current assets, Advances received and other current liabilities 3.4 11 411 (337) 11 074 financial investments and VAT balances Change in provisions 3.4 8 132 255 8 387 The effect of the retrospective corrections to the consolidated statement of financial position as at 31 December 2015 was as follows: Share of after-tax results of associates and joint- 3.2 652 (25) 627 In millions of Ukrainian hryvnias Note 31 December Effect of the 31 December ventures 2015, as restatement 2015, as Finance costs, net 3.4 9 184 533 9 717 previously restated Decrease in other non-current assets 3.2, 3.4, 3.5 1 718 (1 222) 496 reported Decrease in inventories 3.2 (27 186) (92) (27 278) Property, plant and equipment 3.1, 3.3 571 054 (11 258) 559 796 Increase in trade accounts receivable 3.2 (6 346) 393 (5 953) Investments in associates and joint ventures 3.2 1 550 (2) 1 548 Decrease in prepayments made and other current 3.2 5 758 81 5 839 Other non-current assets 3.2 7 907 815 8 722 assets Inventories 3.1, 3.2 32 066 2 083 34 149 Decrease in other long-term liabilities 3.2 (96) (219) (315) Trade accounts receivable 3.2 33 601 (393) 33 208 Decrease in trade accounts payable 3.2 (78) (424) (502) Decrease in advances received and other current 3.4 (1 940) (799) (2 739) Prepayments made and other current assets 3.2 9 219 (43) 9 176 liabilities Prepaid corporate income tax 3.2 590 (2) 588 Purchase of property, plant and equipment and 3.2 (4 868) 322 (4 546) Cash and bank balances 3.2 11 796 (5) 11 791 intangible assets Revaluation reserve 3.1, 3.3 456 967 (26 464) 430 503 3.1. Change in accounting policy for technological oil plant and equipment while in inventories the same technological oil is accounted for at cost. The change resulted in a decrease of Cumulative exchange difference 3.5 2 960 (874) 2 086 Before 1 January 2016, the group accounted for technological oil property, plant and equipment amounts as at 31 December 2015 and as part of property, plant and equipment, as main portion of oil Accumulated deficit 3.1, 3.3 (209 063) 20 642 (188 421) 2014 for UAH 10,575 million and UAH 11,472 million, respectively, and in transit operations were conducted with the same quantity and increase of inventories for UAH 1,976 million and UAH 1,991 million as Deferred tax liabilities 3.1 85 154 (1 477) 83 677 grade of oil. The group decided to change this accounting policy at 31 December 2015 and 2014, respectively. Other long-term liabilities 3.2 227 (219) 8 starting from 1 January 2016, and switched to presentation of technological oil as part of inventory. The group believes that such 3.2. Joint arrangements Borrowings 71 819 (55) 71 764 presentation provides more relevant information to the users Provisions 3.4 17 268 1 002 18 270 of the financial statements, as it reflects change in the group’s One of the group’s subsidiaries is involved in joint arrangements operations and respective increase in variety of the transported that were previously accounted for as joint operations in Trade accounts payable 3.2 19 895 (793) 19 102 oil grades. The change in the accounting policy has also resulted consolidated financial statements as at and for the year ended 31 Advances received and other current liabilities 3.4 21 611 (650) 20 961 in a decrease of the carrying amount of technological oil that was December 2015, where other parties in the joint arrangements are previously accounted for under the revaluation model in property, responsible for maintaining accounting records. Due to unavailability 172Corporate income tax payable 3 268 83 3 351 173 172 173 ANNUAL FINANCIAL STATEMENTS REPORT 2016

of reliable financial information in accordance with IFRS, the group disclosure by the group based on reports reviewed by the executive Segment information for the reportable business segments of the group for the year ended 31 December 2016 is as follows: decided to account for such operations using equity method. The board for assessing the group’s financial performance. group has recalculated the retrospective effect on its consolidated Management assesses the performance of the operating segments financial position and consolidated statement of profit and loss and based on the amount of net profit (loss) before income tax. consolidated statement of cash flows as at and for the year ended Reportable segments are defined by management in accordance 31 December 2015. with the type of activity as follows: In millions of Ukrainian 3.3. Revaluation reserve • Gas upstream. Natural gas production is mainly performed in hryvnias Poltava, Kharkiv, Sumy, Dnipro, Lviv and Zakarpattya regions. Following revaluation of property, plant and equipment Exploration works are mainly performed in Carpathian and performed as at 31 December 2015, the group has performed Dnipro-Donetsk regions. The group controls about 70% of all verification of revaluation reserve on an item-by-item basis. As a Gas upstream Oil and gas condensate upstream and Gas transmission distribution Gas storage Crude oil transportation Crude oil and gas and condensate refinery trading products petroleum and supply Gas trading Other Elimination Total natural gas produced in Ukraine. result, revaluation reserve as at 31 December 2014 was adjusted Sales – external 2 987 11 478 75 109 61 3 428 15 770 83 060 871 - 192 764 by UAH 18,875 million with a corresponding transfer to accumulated • Oil and gas condensate upstream. Oil exploration is performed deficit. by “Ukrnafta” PJSC and “Ukrgasvydobyvannia” PJSC. Production Sales to other segments 49 020 - 2 624 926 - 40 16 712 73 (69 395) - of gas condensate is performed in the area of natural gas Additionally, the group identified certain inaccuracies in Total revenue 52 007 11 478 77 733 987 3 428 15 810 99 772 944 (69 395) 192 764 exploration. revaluation of property, plant and equipment and made respective Segment result 15 298 (6 766) 26 207 (1 578) 1 628 1 720 (3 472) (725) (182) 32 130 adjustment to carrying amount of property, plant and equipment • Gas transmission and distribution. This segment is presented Share of after-tax results (99) as at 31 December 2015 by UAH 161 million with respective by the gas transmission and distribution pipelines operated by of associates adjustments to consolidated statement of cash flow. the group. Ukrainian gas transportation system is one of the largest in the world in terms of its transportation capacities. Remeasurement of - 3.4. Changes in presentation The total length of gas transmission pipelines in Ukraine is 38.5 previously held interest on thousand km. Over 40% of natural gas supplied from the Russian transfer to subsidiary The group changed presentation of certain employee related Federation to European countries was transported through accruals from other current liabilities to current provisions. As a Unallocated income/ (10 994) Ukrainian transmission gas pipelines in 2015, increasing this result, the group’s other current liabilities and current provisions (expense), net level to more than 46% in 2016. Starting from 1 October 2015 this were changed by UAH 650 million and UAH 337 million as at 31 segment also includes result of market-based gas balancing Profit before income tax 21 037 December 2015 and 2014, respectively with respective adjustments operations introduced by the Code of the gas transmission to consolidated statement of cash flow. Material non-cash items system. Market-based gas balancing operations is an activity to included in segment The group has also changed presentation of certain provisions balance gas volumes entered the gas transmission system at results: for one of its litigations from trade accounts payable and current entry point and volumes taken out at exit point. Gas balancing Depreciation, depletion and (5 397) (1 083) (13 127) (1 935) (674) (1 001) (56) (179) - (23 452) provisions to non-current provisions. Reclassification relates to a services are provided to consumers of gas transmission services amortisation single litigation involving the company as a defendant. As a result, based on respective allocation. Currently this type of activities is the group’s trade accounts payable and current provisions were provided by “Ukrtransgas” PJSC. Net movement in (400) (6 610) (4 683) - - (4 203) (4 547) - - (20 443) decreased by UAH 370 million and UAH 2,145 million, respectively, and provision for trade and • Gas storage. Ukrainian gas transportation system includes 11 non-current provisions were increased by UAH 2,515 million as at 31 other receivables and underground gas storage facilities located in mainland Ukraine. December 2015. prepayments made and The total capacity of the underground gas storage system other current assets Additionally, the group changed presentation of interest on late located in Ukraine is 31 billion cubic meters of gas. payment of subsoil royalty amounting to UAH 588 million for the Net foreign exchange (212) - 518 - 275 - (6 329) (183) - (5 931) • Crude oil transportation. This segment is presented by the year ended 31 December 2015 from other operating expense to (loss)/gain transmission oil pipelines operated by the Group. Total length of finance costs. oil transmission pipelines in Ukraine is 4.7 thousand km. Segment Capital expenditure 5 623 885 2 059 58 373 101 47 548 - 9 694 The group’s management believes that the amended presentation also includes oil storage, presented by 11 oil reservoirs with total Segment assets 67 173 15 627 283 797 186 209 18 415 17 099 76 435 4 391 - 669 146 provides more relevant information to users of financial statements. capacity of 1.1 million tonnes of oil. Investments in associates 1 328 • Crude oil and gas condensate refinery and petroleum products 3.5. Foreign exchange differences on joint operations and joint ventures trading. This segment is presented by 8 oil and gas refineries. Cash and bank balances 22 336 The group has identified discrepancies in accounting for foreign The refinery products mainly include gasoline and diesel fuel, and exchange differences related to a concession agreement with the LPG. Revenue of this segment also include revenues from sales Unallocated assets 11 779 Arab Republic of Egypt. Accordingly, the company has decreased of chemical products. Total assets 704 589 other operating expense and cumulative exchange differences in • Gas trading and supply. As described in the Note 2 above, the the other comprehensive income by UAH 874 million, respectively. natural gas producers in Ukraine, owned 50% and more by the State, should sell total volume of natural gas produced, net of 3.6. Other changes natural gas used for technological purposes and other needs as There were other individually insignificant adjustments included to stipulated by the law, to the households via the company. the effects of restatements and reclassifications described above. • Other. Revenues of this segment include revenues from sales of materials and services. 4. SEGMENT INFORMATION The accounting policies of the reportable segments are the same The executive board is the group’s chief operating decision maker. 174 as the group’s accounting policies described in Note 27. 175 174 Management has determined the operating segments used for 175 ANNUAL FINANCIAL STATEMENTS REPORT 2016

Segment information for the reportable business segments of the group for the year ended 31 December 2015 is as follows: Geographical information 31 December 2016

In millions of Ukrainian 2016 2015 In millions of Ukrainian Reve- Gross Trade accounts hryvnias hryvnias nue profit receivable, car- rying amount Ukraine 128 909 86 307 In millions of Ukrainian International transit 59 986 28 532 6 354 hryvnias The Russian Federation 63 322 43 533 Domestic transmission 8 881 2 645 1 466 and distribution Egypt 398 425

Gas upstream Oil and gas condensate upstream and Gas transmission distribution Gas storage Crude oil transportation Crude oil and gas and condensate refinery trading products petroleum and supply Gas trading Other Elimination Total Gas balancing 6 242 417 2 565 Europe 135 2 Sales – external 4 836 6 262 49 883 401 3 252 6 599 57 265 1 769 - 130 267 operations Sales to other segments 16 362 - 112 1 152 17 44 9 616 45 (27 348) - Total revenue and 192 764 130 267 Total 75 109 31 594 10 385 Compensation of price Total revenue 21 198 6 262 49 995 1 553 3 269 6 643 66 881 1 814 (27 348) 130 267 31 December 2015 difference Segment result 2 218 (1 340) 21 200 (2 176) 1 636 2 067 (52 257) (2 194) (607) (31 453) In millions of Ukrainian Reve- Gross Trade accounts Allocation of sales in the table above is made based on the Share of after-tax results (627) hryvnias nue profit receivable, car- country of residence of the group’s customers. of associates and joint rying amount ventures External customers concentration, exceeding 10% of total International transit 40 341 20 486 4 717 revenues Remeasurement of (1 430) Domestic transmission 9 288 2 213 1 174 previously held interest on During the years ended 31 December 2016 and 2015, the only and distribution transfer to subsidiary external customer with concentration of revenue exceeding Gas balancing 254 43 106 10% of total revenues was Gazprom. Amount of revenue from Unallocated income/ (3 271) operations (expense), net Gazprom related to gas transmission in 2016 amounted to UAH 59,986 million (2015: UAH 40,341 million). Total 49 883 22 742 5 997 Loss before income tax (36 781) Revenues, gross profit and receivables of the segment “Gas Revenues, gross (loss)/profit, profit/(loss) before tax and accounts Material non-cash items transmission and distribution” by main types of transportation receivable of gas trading and supply segment by main groups of included in segment services are as follows: customers are as follows: results: Depreciation, depletion and (2 773) (610) (13 456) (2 047) (473) (143) (6) (346) - (19 854) 31 December 2016 amortisation In millions of Ukrainian hryvnias Revenue Gross (Loss) Trade accounts receivable Net movement in (6) - (107) - (2) (138) (1 057) 46 - (1 264) (loss)/ / profit gross provision carrying provision for trade and profit before amount for impair- amount other receivables and income ment prepayments made and tax other current assets District heating companies for the needs of 18 871 (267) (3 779) 14 145 (3 085) 11 060 Net foreign exchange (552) 720 666 - 457 - (20 408) 28 - (19 089) households (loss)/gain Regional gas distribution companies for resale to 50 140 11 710 3 819 21 796 (176) 21 621 Capital expenditure 4 196 - 1 085 73 207 207 298 457 - 6 523 households Segment assets 77 112 17 365 289 244 180 935 17 918 8 200 38 747 13 670 - 643 191 District heating companies for the needs of budget 2 255 368 128 1 497 - 1 497 Investments in associates 1 548 entities and joint ventures Odessa Port Plant 1 146 191 (1 310) 1 375 (1 375) - Cash and bank balances 11 791 Total public service obligations performance 72 412 12 002 (1 142) 38 813 (4 636) 34 178 Unallocated assets 4 365 (Note 2) Total assets 660 895 District heating companies for the needs of other 4 763 657 (119) 7 244 (6 464) 780 customers Regional gas distribution companies for resale to 548 49 (37) 293 (202) 91 other customers Industrial and other customers 5 337 2 375 (2 174) 10 808 (10 205) 603 Total performance of gas trading at non- 10 648 3 081 (2 330) 18 345 (16 871) 1 474 regulated prices for the needs of other customers Total 83 060 15 083 (3 472) 57 158 (21 507) 35 652 176 177 176 177 ANNUAL FINANCIAL STATEMENTS REPORT 2016

31 December 2015 included into other operating expense consists of salary and million of fixed service fees. additional current bonuses and comprises UAH 88 million in 2016 In millions of Ukrainian hryvnias Revenue Gross (Loss) Trade accounts receivable (2015: UAH 7 million). 6. PROPERTY, PLANT AND EQUIPMENT (loss)/ / profit gross provision carrying During 2016 the company also performed payments on operations Movements in the carrying amount of property, plant and profit before amount for impair- amount of the supervisory board totalling UAH 20 million, including UAH 15 equipment were as follows: income ment tax District heating companies for the needs of 6 963 (27 312) (36 239) 6 762 (3 264) 3 498 households

Regional gas distribution companies for resale to 20 340 3 802 (11 239) 3 236 (100) 3 136 In millions of Ukrainian hryvnias households Total for household needs and public service 27 303 (23 510) (47 478) 9 998 (3 364) 6 634 obligations performance (Note 2) Pipelines and related and related Pipelines equipment Oil and gas producing properties and equipment Machinery Buildings gas Cushion Drilling and exploration equipment assets Other fixed in progress Construction Total District heating companies for the needs of other 7 594 1 384 (2 452) 7 699 (5 871) 1 828 customers At 31 December 2014 (as restated, Note 3) Regional gas distribution companies for resale to 2 318 513 (74) 235 (115) 120 Cost or valuation 166 259 30 668 69 056 46 216 120 754 317 6 231 11 097 450 598 other customers Industrial and other customers 20 050 1 817 (2 253) 14 758 (8 064) 6 694 Accumulated depreciation and (833) - (229) (69) - - (293) (4 098) (5 522) impairment Total performance of gas trading for the needs of 29 962 3 714 (4 779) 22 692 (14 050) 8 642 other customers Net book value at 31 December 2014 165 426 30 668 68 827 46 147 120 754 317 5 938 6 999 445 076 Total 57 265 (19 796) (52 257) 32 690 (17 414) 15 276 (as restated, Note 3)

Main selling prices and tariffs for the group’s sales of natural gas are set out in Note 2. Acquired though business combination - 6 250 1 737 4 010 - 145 229 744 13 113 (Note 23) 5. BALANCES AND TRANSACTIONS WITH RELATED Provisions in respect of the entities controlled by the Government PARTIES of Ukraine as at 31 December 2016 and 2015 are about 80% and Additions and transfers (2 621) 1 642 3 133 4 214 (1 176) 113 (2 268) 1 552 4 589 62%, respectively, of the total provisions. Parties are generally considered to be related if one party has Revaluation 53 385 17 151 10 566 12 388 22 471 113 701 - 116 775 the ability to control the other party, is under common control, or As at 31 December 2016 and 2015, about 95% and 90%, can exercise significant influence or joint control over the other respectively, of cash and bank balances were placed in the banks Disposals (89) (13) (31) (15) - - (27) (111) (286) party in making financial and operational decisions. In considering controlled, jointly controlled or influenced by the Government of each possible related party relationship, attention is directed to Ukraine and about 54% of borrowings were provided by these Depreciation charge (5 498) (2 861) (8 774) (2 520) (304) (91) (523) - (20 571) the substance of the relationship, not merely the legal form. banks (2015: 50%). About 23% of finance income in 2016 relate to balances in these banks (2015: 10%) and about 68% of finance Impairment/reversal of impairment 179 568 462 (1 832) 395 (15) (150) 1 491 1 098 As discussed in the Note 1, the group is ultimately controlled by costs for the year ended 31 December 2016 (2015: 35%) relate to the Government of Ukraine, and therefore, all state-controlled borrowings from these banks. Net book value at 31 December 2015 210 782 53 405 75 920 62 392 142 140 582 3 900 10 675 559 796 entities are considered as related parties under common control. (as restated, Note 3) During 2016 the Group has prolonged maturity of its bonds Transactions with related parties are performed on terms that amounting to UAH 4,800 million for one year without changes in Cost or valuation 212 066 53 826 76 593 63 439 142 140 861 5 122 11 617 565 664 would not necessarily be available to unrelated parties. interest rate. In June 2015, the group concluded supplementary Transactions with state-controlled entities. The group performs agreements for the amount of UAH 18,387 million to borrowings Accumulated depreciation and (1 283) (420) (673) (1 047) - (279) (1 224) (942) (5 868) significant transactions with the entities controlled, jointly agreements with the bank, which is its related party, that impairment controlled or significantly influenced by the Government of envisaged the increase in interest rates and revised repayment Ukraine. These entities include State Savings Bank of Ukraine, schedules of debt, with the postpone of final maturities until June Additions and transfers (12 549) 5 487 38 019 (22 236) - 790 (2 588) 1 851 8 774 Ukreximbank, Ukrgazbank, district heating companies, regional 2020. Revaluation - - - - 13 282 - - - 13 282 gas distribution entities and other entities. Pledges. As at 31 December 2016 and 2015, borrowings from For the year ended 31 December 2016, about 32% of group’s related parties (State-owned banks) were secured by property, Disposals (3) (33) (16) (68) - (34) (1) (247) (402) revenue (2015: 25%) were earned from transactions with the plant and equipment, inventories and proceeds from future sales. entities controlled, jointly controlled or influenced by the Depreciation charge (7 137) (5 719) (7 104) (3 521) - (295) (307) - (24 083) Guarantees. Amount of guarantees, provided by the Government Government of Ukraine. Outstanding trade accounts receivable of Ukraine, as at 31 December 2016 and 2015 equalled to UAH Impairment/reversal of impairment (20) (799) (1) (2 156) (1 856) (91) - (783) (5 706) related to these transactions as at 31 December 2016 and 2015 28,912 million and UAH 20,539 million, respectively (Note 14). are about 44% and 30%, respectively, of the total trade accounts Net book value at 31 December 2016 191 074 52 342 106 818 34 411 153 566 952 1 002 11 496 551 661 receivable balance. Transactions with the State are further disclosed in Note 13. Outstanding accounts payable, advances and other current Key management remuneration. During 2016 key management Cost or valuation 199 270 59 300 116 533 39 194 155 422 1 447 2 724 13 117 587 007 liabilities as at 31 December 2016 and 2015 are about 60% and personnel consisted on average of 4 Executive Board members 40%, respectively, of the total balance of these liabilities. and 6 directors (2015: 4 Executive Board members and 4 Accumulated depreciation and (8 196) (6 958) (9 715) (4 783) (1 856) (495) (1 722) (1 621) (35 346) impairment 178 directors). Compensation to the key management personnel 179 178 179 ANNUAL FINANCIAL STATEMENTS REPORT 2016

The group engaged independent appraisers to determine the fair for the years ended 31 December 2016 and 2015. In respect of More information about a associates and joint ventures of the group as at 31 December 2015 is as follows: value of its property, plant and equipment as at 31 December 2015. Fair certain expenditures primary documents were withdrawn by value was determined with reference to depreciated replacement the state prosecutor officials. In respect of certain expenditures cost or market-based evidence, in accordance with International management of the group has initiated a corporate investigation Valuation Standards. in 2016. Taking into account the nature of the Group’s property, plant Had the group’s property, plant and equipment been measured and equipment, fair value was determined using depreciated on a historical cost basis, their carrying amounts would have replacement cost for specialised assets, and using market-based been as shown in the table below: evidence for non-specialised assets. Consequently, the fair value of main producing properties and equipment was primarily In millions of Ukrainian 31 December 31 December determined using depreciated replacement cost. This method hryvnias 2016 2015 considers the cost to reproduce or replace the property, plant Oil and gas producing 11 751 9 384

and equipment, adjusted for physical, functional and economic properties associate Name of activity Principal and principal incorporation of Place business place of interest ownership of Proportion (loss)/ profit of Share comprehensive other of Share (loss)/income the from received Dividends associate held previously of Remeasurement to subsidiary on transfer interest 23) (Note 23) to subsidiary (Note Transfer combination in business Acquired 23) (Note investment amount of Carrying depreciation, and obsolescence. The depreciated replacement Machinery and equipment 9 149 7 068 “Ukrnafta” Oil and gas Ukraine 50.00%+1 (1 224) (66) (1 780) (1 314) (4 926) - - cost was estimated based on internal sources and analysis PJSC production share of available market information for similar property, plant and Pipelines and related 7 237 6 711 equipment (published information, catalogues, statistical data equipment “Ukrtatnafta” Oil refinery Ukraine 43.05% (178) (12) - - - - 239 PJSC etc), and industry experts and suppliers. Buildings 4 693 5 976 “Gaztransit” Construction Ukraine 40.2% 694 390 (32) - - - 1 052 In 2016, the depreciation and depletion expenses of Cushion gas 212 217 PJSC works UAH 22,387 million (2015: UAH 19,739 million) was included in cost of sales, UAH 1,065 million (2015: UAH 475 million) in other Drilling and exploration 354 298 Other miscella‑ Ukraine miscel‑ 18 (1) - - - - 17 operating expense, and UAH 631 million (2015: UAH 357 million) equipment associates neous laneous were capitalised in the cost of property, plant and equipment. Other fixed assets 482 1 075 Joint miscella‑ Ukraine miscel‑ 63 - - - - 197 240 Reversal of impairment of property, plant and equipment is Total 33 878 30 729 ventures neous laneous included in other operating income in consolidated statement of (627) 311 (1 812) (1 314) (4 926) (197) 1 548 profit or loss. 7. INVESTMENTS IN ASSOCIATES AND JOINT VENTURES As at 31 December 2016 and 2015, the group has pledged its The group’s investments in associates and joint ventures were as All of the above associates are accounted for using the equity method in these consolidated financial statements. property, plant and equipment with carrying amount of UAH follows: 10,536 million and UAH 24,003 million, respectively, to secure its “Ukrnafta” PJSC and development with the Arab Republic of Egypt and Egyptian borrowings (Note 14). In millions of Ukrainian 31 December 31 December General Petroleum Corporation (“EGPC”) on 13 December 2006. hryvnias 2016 2015 (as As discussed further in Note 23, the investment in “Ukrnafta” PJSC Included in property, plant and equipment in 2016 are Under the terms of the concession agreement the company restated, was transferred from investment in associates to investments capital expenditures of UAH 1,872 million, for which nature of has the right to recover all exploration and development costs Note 3) in subsidiary starting from 22 July 2015. Until that date, the expenditures could be different from their legal form according incurred in connection with the concession agreement (Note 27). investment in “Ukrnafta” PJSC was accounted for using the equity to primary documents (2015: UAH 473 million) (Note 27). These Investments in associates 1 047 1 308 The amount presented in the table above represents such costs method in these consolidated financial statements. expenditures were presented on the basis of the relevant primary Investments in joint ventures 281 240 claimed by the group for recovery, and which are expected to be documents in the consolidated financial statements as at and Summarised financial information for “Ukrnafta” PJSC as at 22 July refunded after one year since the reporting date. Total 1 328 1 548 2015 is presented in Note 23. Restructured accounts receivable of gas consumers. In May 2011, the Law of Ukraine “On certain matters on indebtedness for natural 8. OTHER NON-CURRENT ASSETS gas and electricity consumed” #3319-VI was approved. According Details of each of the Group’s associates and joint ventures as at 31 December 2016 are as follows: In millions of Ukrainian hryvnias 31 31 to this Law, accounts receivable due from entities supplying December December natural gas under the regulated tariff that were originated in Name of asso- Principal Place of Proportion Share of Share of Dividends Carrying 2016 2015 2010, were restructured for the period from 1 to 20 years and are ciate activity incorporation of ownership (loss)/profit other com- received from amount of stated at amortised cost using effective interest rate which at the (as and princi- interest prehensive the associate investment restructuring dates varied from 15% to 24% per annum. pal place of income restated, business Note 3) Other. As at 31 December 2015, included in other non-current Accounts receivable on product 4 204 3 960 assets are gas volumes that will be pumped out from the “Ukrtatnafta” Oil refinery Ukraine 43.05% (241) 2 - - sharing agreement underground gas storages during the period of more than one PJSC year. As at 31 December 2016 the group plans to pump this Restructured accounts receivable 1 340 1 100 volume of gas out within next 12 months and classifies this gas as of gas consumers inventory. “Gaztransit” Construction Ukraine 40.2% 93 - (123) 1 022 Intangible assets 977 837 PJSC works As at 31 December 2016 and 2015, included in other non-current Other 2 805 2 825 assets are research and development expenditures amounting to UAH 1,443 million and UAH 906 million, respectively, that were Other miscellaneous Ukraine miscellaneous 49 - - 306 Total 9 326 8 722 incurred within the concession agreement for oil exploration and Accounts receivable on product sharing agreement. The development with the EGPC on 13 December 2006, but not yet (99) 2 (123) 1 328 180 Company entered into a concession agreement for oil exploration claimed for recovery (Note 27). 181 180 181 ANNUAL FINANCIAL STATEMENTS REPORT 2016

9. INVENTORIES Movements in provision for impairment of trade accounts receivable were as follows: 11. PREPAYMENTS MADE AND OTHER CURRENT ASSETS 12. CASH AND BANK BALANCES The group’s inventories were as follows: The group’s prepayments made and other current assets were as In millions of Ukrainian hryvnias 31 31 In millions of Ukrainian hryvnias 2016 2015 In millions of 31 31 31 follows: December December Ukrainian hryvnias December December December Balance at 1 January 20 553 19 003 2016 2015 In millions of Ukrainian hryvnias 31 31 2016 2015 2014 Provision for impairment recognised 18 497 5 043 December December (as (as (as during the year 2016 2015 restated, restated, restated, Note 3) Reversal of provision (1 757) (3 654) (as Note 3) Note 3) restated, Cash in banks 20 024 8 696 Amounts written off during the year (64) (184) Natural gas 38 792 26 999 7 885 Note 3) as uncollectible Term deposits 2 163 3 021 Crude oil and 3 378 1 482 363 Prepayments to suppliers for 9 984 8 616 Acquired in business combination - 345 Other 149 74 petroleum products materials, works and services (Note 23) Total 22 336 11 791 Spare parts 2 843 1 099 844 Prepayments to suppliers for 5 731 1 311 Balance at 31 December 37 229 20 553 As at 31 December 2016, included in term deposits are bank Technological oil 1 976 1 976 1 991 natural gas deposits amounting to UAH 483 million (31 December 2015: Analysis of credit quality of trade accounts receivable is as Raw materials 1 760 1 234 327 VAT recoverable 2 242 2 743 UAH 2,535 million) with original maturity of more than three follows: Other 1 495 1 359 704 Receivables under assignation 1 690 1 787 months and less than one year, which are excluded from cash In millions of Ukrainian hryvnias 31 31 agreements in respect of natural and cash equivalents for the purpose of cash flow statement. Total 50 244 34 149 12 114 December December gas sales Management estimates the necessity of write-down of 2016 2015 Promissory notes receivable 1 471 1 609 13. SHARE CAPITAL (as inventories to their net realisable value taking into consideration Prepayments for pipelines 1 412 1 312 As at 31 December 2016 and 2015, the registered, issued and restated, indicators of economical and physical obsolescence. In 2016 construction fully paid share capital of the Company was UAH 164,607 million, write-down adjustment amounted to UAH 1,655 million was Note 3) comprising 160,450,481 ordinary shares with a par value of Amounts receivable under legal 609 624 included in cost of sales and UAH 38 million was included in Neither past due nor impaired 29 774 17 247 UAH 1,000 per share. other operating expense (2015: UAH 4,922 million included in claims As at 31 December 2016 and 2015, share capital of the Company cost of sales and UAH 2,679 million included in other operating Past due but not impaired: Taxes prepaid, other than income 84 955 has been adjusted for the effect of hyperinflation in accordance expense). Amount included in cost of sales represents write down Less than 30 days overdue 13 220 4 843 tax with IAS 29 “Financial Reporting in Hyperinflationary Economies” by adjustment to imported gas subsequently sold for household UAH 4,156 million. needs at regulated prices. 31 to 90 days overdue 3 221 1 520 Other 3 997 1 733 91 to 180 days overdue 265 997 Less: Provision for impairment (15 169) (11 514) During 2015 the Company has completed a new share issue, As at 31 December 2016 and 2015, inventories with carrying started in 2014, of UAH 104,610 million to the Government of amount of UAH 37,698 million and UAH 23,104 million, respectively, 181 to 365 days overdue 2 415 2 986 Total 12 051 9 176 Ukraine in return for the State treasury bonds with maturities in were pledged as collateral for borrowings (Note 14). Over 365 days overdue 314 135 Movements in provision for impairment of prepayments made 2018-2024 with nominal coupon rates in a range of 12.5%-14.3% per and other current assets were as follows: annum. 10. TRADE ACCOUNTS RECEIVABLE Past due and individually impaired (gross): In millions of Ukrainian hryvnias 2016 2015 In millions of Ukrainian hryvnias 31 31 Unregistered contributed capital Less than 30 days overdue 2 858 37 December December Balance at 1 January 11 514 8 116 In 2015, according to the Resolutions of the Cabinet of Ministers 2016 2015 31 to 90 days overdue 820 1 141 Provision for impairment 4 206 219 of Ukraine, the Government issued UAH 29,700 million of the (as 91 to 180 days overdue 738 3 987 recognised during the year State treasury bonds in exchange to the new share issue of the restated, Company. The State treasury bonds mature in 2020 and bear 181 to 365 days overdue 3 102 3 884 Reversal of provision (355) (424) Note 3) 14.5% coupon rate. As at 31 December 2015 the Company has sold Over 365 days overdue 29 711 16 984 Amounts written off during the (16) (246) Trade accounts receivable 86 438 53 761 these State treasury bonds for cash at price equal to face value year as uncollectible Less: provision for impairment (37 229) (20 553) or above. Less: provision for impairment (37 229) (20 553) Acquired in business combination - 3 513 Total 49 209 33 208 As at 31 December 2016 and 2015, the Company obtained a Total 49 209 33 208 (Note 23) temporary share issue registration certificate on these shares. Out of total carrying amount of trade accounts receivable as Other movements (180) 336 As at 31 December 2016 and 2015 a new share issue was not at 31 December 2016 there are UAH 35,652 million of accounts registered and presented as unregistered contributed capital. receivable for gas supply (31 December 2015: UAH 15,276 million) Balance at 31 December 15 169 11 514 Subsequent to 31 December 2016 the Company has registered a (Note 4). Other movements in provision for impairment of prepayments new share issue (Note 26). made and other current assets relate to difference in proportion of assets and profits consolidation related to joint ventures of Profit share payable to the State Budget of Ukraine one of the group’s subsidiaries, recognised in equity movement. For the year ended 31 December 2016, the profit share paid to the State Budget of Ukraine amounted to UAH 1,021 million (2015: UAH 2,822 million).

182 183 182 183 ANNUAL FINANCIAL STATEMENTS REPORT 2016

Distribution of profits The effective interest rates and currency denomination of borrowings were as follows: 15. PROVISIONS Profit available for distribution to the shareholders for each Movements in provisions for the years were as follows: reporting period is determined by reference to the stand alone In millions of Ukrainian 31 December 31 December financial statements prepared in accordance with International hryvnias 2016 2015 Financial Reporting Standards. Under Ukrainian legislation, the amount of dividends is limited to net profit of the reporting period Bal- % per Bal- % per or other distributable reserves not exceeding retained earnings ance annum ance annum In millions of Ukrainian hryvnias as calculated in the financial statements prepared in accordance UAH 27 315 19% 24 407 20%

with International Financial Reporting Standards.

Ukraine (Note 13) (Note Ukraine State Budget of Budget of State attributable to the US Dollars 43 316 8% 47 352 9% for Provisions litiga-tions benefit Employee obligations Decommissioning provision for fines Provision and penalties net profit of Portion Other provisions Total At the date of these consolidated financial statements, basic EUR 213 7% 5 12% Balance at 31 December 2014 (as restated, Note 1 173 2 062 142 - - - 3 377 allowance for profit distribution per results of 2016 was set at 3) Total 70 844 71 764 50% of net profit (2015: 30%). The Group has accrued respective Charge for the year 2 895 350 119 4 050 - 973 8 387 provision in respect of the portion of net profit attributable to the Pledges Assumed in business combination (Note 23) 1 270 676 820 3 028 - - 5 794 State Budget of Ukraine in current provisions (Note 15). According All the group’s borrowings were secured as at 31 December 2016 to the Ukrainian legislation, all companies that fall under the Law Unwinding of discount (Note 19) - 253 34 - - - 287 and 2015. of Ukraine “On Management of the State Property” have to make Used or paid during the year (158) (176) - - - - (334) a decision in respect of their profit distribution up to 30 April, and The group’s borrowings were secured by the following pledges: Remeasurements - 451 308 - - - 759 make payment to the State Budget of Ukraine up to 30 June of Balance at 31 December 2015 (as restated, Note 5 180 3 616 1 423 7 078 - 973 18 270 the year following the reporting year. 31 31 December December 3) During 2015, one of the Group’s subsidiaries paid dividends 2016 2015 Non-current 3 042 3 034 1 311 - - - 7 387 amounting to UAH 29 million, taking total amount of profit share Current 2 138 582 112 7 078 - 973 10 883 paid to the State Budget and dividends paid by the Group to UAH Proceeds from future sales 143 965 122 918 2,851 million. Property, plant and equipment (Note 10 536 24 003 Provision for dividends payable to the State - - - - 13 264 - 13 264 6) Budget (Note 13) Charge for the year 6 728 1 111 109 4 099 - 21 12 068 14. BORROWINGS Inventories (Note 9) 37 698 23 104 Unwinding of discount (Note 19) - 379 134 - - - 513 The group’s borrowings were as follows: Total 192 199 170 025 Used or paid during the year (64) (770) (11) (23) - (5) (873) In millions of Ukrainian hryvnias 31 31 Guarantees. As at 31 December 2016, the group’s borrowings Remeasurements - 174 116 - - - 290 December December were guaranteed by the State in the amount of UAH 28,912 million Balance at 31 December 2016 11 844 4 510 1 771 11 154 13 264 989 43 532 2016 2015 (31 December 2015: UAH 20,539 million). Non-current 7 670 3 447 1 299 - - - 12 416 (as restated, Current 4 174 1 063 472 11 154 13 264 989 31 116 Note 3) Provisions for Litigations The principal actuarial assumptions used were as follows: Non-current The group is involved into a number of litigations both as a 2016 2015 Bank borrowings 23 275 34 825 plaintiff and as a defendant. Provision for litigations represents Nominal discount rate, % 14,7-14,9 12,9-15,9 Unamortised discount (175) - management assessment of the probable outflow of the group’s resources arising from a negative (adverse) outcome of the court Long-term inflation, % 7,7 7,0 Total non-current portion 23 100 34 825 and arbitration procedures. Nominal salary increase rate, % 10,0-36,0 7,7-20,2 Current Employee Benefit Obligations Staff turnover ratio, % 1,5-5,7 1,9-5,4 Bank borrowings 47 099 36 200 Financial leasing - 21 The group companies have certain obligations to its employees The sensitivity of the non-current employee benefit obligations to according to the collective agreements. changes in the principal assumptions is as follows: Interest accrued 645 718 Current provisions for employee benefits include provision for 2016 2015 Total current portion 47 744 36 939 performance bonuses and provision for employees’ unused vacations. Nominal discount rate increase/ (7,60) / 8,75 (8,15) / 9,44 Total 70 844 71 764 decrease by 1%, % Non-current provisions for employee benefits include lump sum Nominal salary increase/decrease 6,54 / (5,93) 5,63 / (5,13) benefits payable upon retirement and post-retirement benefit by 1%, % programs. These benefits plans are not funded, and there are no plan assets. Staff turnover increase/decrease (3,96) / 4,58 (4,25) / 4,98 by 1%, % The sensitivity analysis presented above may not be representative of the actual change in the non-current employee benefit obligations as it is unlikely that the change in assumptions would occur in isolation of one another as some of 184 the assumptions may be correlated. 185 184 185 ANNUAL FINANCIAL STATEMENTS REPORT 2016

Furthermore, in presenting the above sensitivity analysis, the of the group has initiated a corporate investigation in 2016. In millions of Ukrainian hryvnias 31 31 19. FINANCE COSTS present value of the employee benefit obligations has been December December calculated using the projected unit credit method at the end 2016 2015 18. OTHER OPERATING EXPENSES In millions of Ukrainian hryvnias 2016 2015 of the reporting period, which is the same as that applied (as (as in calculating the obligation recognised in the consolidated In millions of Ukrainian hryvnias 2016 2015 restated, restated, statement of financial position. (as Note 3) Note 3) restated, Interest expense on bank 8 634 9 243 There were no changes in the methods and assumptions used in Wages, salaries and related social 343 403 Note 3) preparing the sensitivity analysis from prior years. borrowings charges payable Net movement in provision for trade 20 591 1 253 Unwinding of discount on employee 379 253 Decommissioning Provision accounts receivable, prepayments Other current liabilities 1 383 1 598 benefit obligations made and other current assets and In accordance with the legislation requirements, the group is Total other current liabilities 26 002 18 197 direct write-offs Interest expense on restructured 225 1 053 obliged to restore the lands that underwent changes in the tax liabilities relief structure, environmental state of soils and parent rocks, Total 28 328 20 961 Change in provisions for litigations 10 957 8 037 as well as hydrological regime due to drilling, geological survey, As at 31 December 2016, taxes payable other than income and other provisions (Note 15) Unwinding of discount of 134 34 constructing and other works. The decommissioning provision tax include UAH 13,450 million of subsoil royalty payable (31 Staff costs and related social 3 861 1 940 decommissioning provision represents present value of decommissioning costs relating to oil December 2015: UAH 8,230 million). Subsoil royalty is calculated charges Unwinding of discount on long-term 102 - and gas properties. with reference to the volume of crude oil, gas condensate or Impairment of property, plant and 1 231 - accounts payable natural gas produced, and volume of crude oil and natural gas Provision for fines and penalties equipment Loss on origination of accounts 78 883 transportation. Depreciation and amortisation 1 065 475 receivable, prepayments for As a result of non-payment and late payment by “Ukrnafta” PJSC financial instruments and non- of subsoil royalty, income tax, VAT and dividends, the Group had Professional fees 618 317 17. COST OF SALES interest bearing borrowings accrued provision for possible fines, penalties and late payment Loss on disposal of property, plant 406 304 interest. In millions of Ukrainian hryvnias 2016 2015 and equipment Other 29 55 (as Fines and penalties 354 818 Total 9 581 11 521 16. ADVANCES RECEIVED AND OTHER CURRENT restated, VAT liabilities written off 279 173 LIABILITIES Note 3) 20. FINANCE INCOME Research, development and 250 239 The group’s advances received and other current liabilities were Subsoil royalty and other taxes 34 873 23 715 exploration costs In millions of Ukrainian hryvnias 2016 2015 as follows: other than on income Write down on inventories to net 38 1 050 Unwinding of discount on long-term 3 087 1 060 Cost of gas supplied 30 880 65 919 realisable value In millions of Ukrainian hryvnias 31 31 accounts receivable, prepayments December December Depreciation, depletion and 22 387 19 739 Losses incurred on occupied - 2 142 for financial instruments territories (Note 2) 2016 2015 amortisation Interest income on cash in banks 1 182 460 (as Non-reimbursable VAT on gas 11 998 - Other 2 102 1 593 and term deposits restated, transit Total 41 752 18 341 Other 403 284 Note 3) Cost of purchased oil and petroleum 6 877 1 864 During 2015, the group recognised losses incurred on occupied Total 4 672 1 804 Advances from customers for 1 130 1 427 products territories, including write down on inventories of UAH 1,629 natural gas Staff costs and related social 6 332 4 454 million, VAT written off of UAH 635 million, and reversal of During the year ended 31 December 2016, one of the group’s Advances for natural gas 316 166 charges provision for trade accounts receivable, prepayments made and subsidiaries has earlier repaid a loan at a discount of UAH 262 transportation other current assets of UAH 122 million. million, included in other finance income. Repair and maintenance costs 276 1 219 Advances for oil transportation 303 268 Both losses incurred on occupied territories in Crimea, Luhansk 21. INCOME TAX Other 8 181 4 900 and Donetsk regions were recognised by the group as a result Advances received for geophysical 240 315 The components of income tax expense for the years ended 31 of the armed aggression of the Russian Federation including the surveys Total 121 804 121 810 December were as follows: occupation of Crimea and military invasion and occupation of Subsoil royalty and rent tax are calculated with reference to the Advances for petroleum products 205 218 Luhansk and Donetsk regions in early 2014 (Note 2). volume of crude oil, gas condensate or natural gas produced, and In millions of Ukrainian hryvnias 2016 2015 (as Other advances received 132 370 volume of crude oil and natural gas transportation. In 2015 there were services on oil storage purchased by restated, “Ukrtransnafta” PJSC in amount of UAH 222 million included in Note 3) Total advances received 2 326 2 764 Starting from 1 January 2016 VAT is levied on gas transit via other operating expenses. Management of the Group believes Ukraine according to the Tax Code of Ukraine. Thus, gas transit Current tax expense 8 042 2 964 Taxes payable other than income tax 13 768 8 838 that these costs are overstated as a result of subsidiary’s services via transmission pipelines of Ukraine in customs regime Deferred tax benefit (9 537) (4 683) management override of controls. Subsidiary’s management was VAT payable 6 195 3 059 provided to JSC “Gazprom” are subject to VAT at standard rate of replaced in the first half of 2015 (Note 27). Income tax benefit (1 495) (1 719) Dividends payable to non-controlling 2 781 2 805 20%. Additionally, there were amendments to the paragraph 256 shareholders of “Ukrnafta” PJSC of the Tax Code of Ukraine stating that starting from 1 January The group is subject to taxation in Ukraine. In 2016 and 2015 2016 rent tax for gas transit is not applied. Ukrainian corporate income tax was levied on taxable income Liabilities for purchase of property, 1 050 1 025 less allowable expenses at the rate of 18%. plant and equipment Included in cost of sales for 2015 are expenses of UAH 745 million, Recognised liabilities for litigations 482 469 for which their nature could be different from their legal form according to primary documents (Note 27). In respect of certain expenses primary documents were withdrawn by the state 186 187 186 prosecutor officials. In respect of certain expenses management 187 ANNUAL FINANCIAL STATEMENTS REPORT 2016

Reconciliation between the expected and the actual taxation charge force. Thus, certain temporary differences were reversed. Net deferred tax liability as at 31 December 2015 related to the following: is provided below. Parent and its subsidiaries are separate tax payers and, In millions of Ukrainian hryvnias 2016 2015 therefore, the deferred tax assets and liabilities are presented In millions of Ukrainian hryvnias 31 December Recognised Recognised Acquired in 31 December on an individual basis. The deferred tax liabilities and assets 2014 (as in profit in other business 2015 Profit/(loss) before income tax 21 037 (36 781) restated comprehen- combination reflected in the consolidated statement of financial position after or loss (as restated, Note 3) sive income (Note 22) Income tax at statutory rate of 18% 3 787 (6 621) appropriate set off are as follows: Note 3) Property, plant and equipment (70 575) 3 602 (20 939) (1 353) (89 265) Effect of changes in tax legislation (924) 4 517 In millions of Ukrainian hryvnias 31 31 Trade accounts receivable 2 935 (2 815) - - 120 Tax effect of items not deductible or December December assessable for taxation purposes: 2016 2015 Investments in associates and joint ventures (473) 487 - - 14 - Non-deductible expense 1 876 1 096 Advances received and other current liabilities 423 (25) - - 398 Deferred tax assets 6 415 - - Non-taxable income (133) (80) Provisions 345 1 213 82 814 2 454 Change in unrecognised deferred (6 101) (631) Deferred tax liabilities (82 088) (83 677) Inventories 299 2 047 - - 2 346 tax asset Prepayments made and other current assets 73 (121) - - (48) Net deferred tax liability (75 673) (83 677) Income tax benefit (1 495) (1 719) Trade accounts payable 5 (30) - - (25) In 2015, amendments to the Tax Code of Ukraine (the “Code”) Other non-current assets 4 (5) - - (1) came into effect regarding the determination of a corporate Unused tax losses - 330 - - 330 income tax payer. In accordance with those amendments, the taxable item shall be determined based on the before tax Net deferred tax liability (66 964) 4 683 (20 857) (539) (83 677) financial result in accordance with the accounting framework As at 31 December 2016 and 2015, unrecognised deductible temporary all requirements of the effective tax legislation. In the ordinary accepted by the entity (for the Company, “IFRS”) adjusted by the differences and unused tax losses are as follows: course of business the group is engaged in transactions that may be Code defined list of adjustments. The new version of the Code interpreted differently by the group and tax authorities. Where the risk does not contain a full list of temporary differences available In millions of Ukrainian hryvnias 31 31 of outflow of financial resources associated with this is deemed to be in the Group’s companies before those amendments came into December December probable and the amount is measured with sufficient reliability, the 2016 2015 group provides for those liabilities. Where management of the group Net deferred tax liabilities as at 31 December 2016 related to the following: Tax losses carried forward 11 723 58 373 estimates the risk of financial resources outflow as possible, the group Provisions 8 645 2 753 makes a disclosure of these contingent liabilities. As at 31 December In millions of Ukrainian hryvnias 31 December Recognised Recognised 31 December Inventories 11 145 181 2016, management estimated possible tax exposures in total amount 2015 in other com- 2016 of UAH 6,300 million, including different taxes exposure of UAH 5,802 in profit Trade accounts payable - 1 867 (as restated, prehensive million and related penalties of UAH 498 million (2015: UAH 9,043 million or loss Trade accounts receivable, - 1 542 Note 3) income and UAH 1,685 million, respectively). prepayments made and other Property, plant and equipment (89 265) 3 208 (1 564) (87 621) current assets Management believes that it is not likely that any significant settlement will arise from the above cases and, therefore, the group’s consolidated Trade accounts receivable 120 1 649 - 1 769 Property, plant and equipment - 57 financial statements do not include any amount of provision in this Investments in associates and joint ventures 14 - - 14 Other - 635 respect. 31 513 65 408 Advances received and other current liabilities 398 - - 398 The group conducts transactions with its subsidiaries. It is possible with Provisions 2 454 1 155 31 3 640 According to provisions of the Tax Code of Ukraine tax losses evolution of the interpretation of tax law in Ukraine and changes in the accumulated by the group as at 31 December 2016 and 2015 can be approach of tax authorities under the Tax Code, that such transactions Inventories 2 346 (274) - 2 072 carried forward for unlimited periods of time. could be challenged in the future. The impact of any such challenge Prepayments made and other current assets (48) 1 140 - 1 092 cannot be estimated, however, management believes that it should not 22. CONTINGENCIES, COMMITMENTS AND OPERATING be significant. Trade accounts payable (25) 24 - (1) RISKS The group exports refinery products and transportation services, Other non-current assets (1) 2 - 1 Tax legislation. Ukraine’s tax environment is characterised by performs intercompany transactions and is involved in transactions Unused tax losses 330 2 633 - 2 963 complexity in tax administering, arbitrary interpretation by tax with related parties, which may potentially be in the scope of the new Net deferred tax liability (83 677) 9 537 (1 533) (75 673) authorities of tax laws and regulations that, inter alia, can increase Ukrainian transfer pricing (“TP”) regulations. The group’s companies fiscal pressure on tax payers. Inconsistent application, interpretation, have submitted the controlled transaction report for the year ended 31 and enforcement of tax laws can lead to litigation which, as a December 2015 within the required deadline. The report on controlled consequence, may result in the imposition of additional taxes, penalties, transactions for the year ended 31 December 2016 shall be prepared by and interest, and these amounts could be material. Facing current the group’s companies by 1 October 2017. economic and political issues, the Government has implemented Management believes that the group is in compliance with TP certain reforms in the tax system of Ukraine by adopting the Law requirements. As the practice of implementation of the new transfer of Ukraine “On Amending the Tax Code of Ukraine and Certain Laws pricing rules has not yet developed and wording of some clauses of of Ukraine” which is effective from 1 January 2015, except for certain the rules may be subject to various interpretations, the impact of provisions which will take effect at a later date. 188 challenge of the group’s companies transfer pricing positions by the189 188 Management believes that the group has been in compliance with tax authorities cannot be reliably estimated. 189 ANNUAL FINANCIAL STATEMENTS REPORT 2016

Arbitral Tribunal requests. Naftogaz and JSC “Gazprom” have initiated challenged on very limited grounds, essentially on the basis of grave In 2016 the State Fiscal Authority of Ukraine initiated the suspension using such assets. The group believes that had the mechanism for the Gas Sales Arbitration and the Gas Transit Arbitration (“the procedural errors, or breach of public policy. The possibility of challenge of certain oil and gas producing licenses and arrested Ukrnafta’s calculating the state share in profits from using the assets been Arbitrations”) under the auspices of the Arbitration Institute of the proceedings can obviously not be properly assessed before the awards assets as a lien against overdue liabilities of Ukrnafta in respect of determined by the State, the capital investments performed by the Stockholm Chamber of Commerce. The Gas Sales Arbitration was have been rendered. subsoil royalty and other taxes. These events limit Ukrnafta in its group would be greater, and no payment in favour of the State would initiated by both Naftogaz and Gazprom on 16 June 2014. In its Request actions regarding sales of assets, however, do not affect its ability to occur. Accordingly, no liability for such payment was recognised in Legal proceedings. From time to time and in the normal course of for Arbitration, Gazprom claimed payment of unpaid invoices in an continue its operating activities. In March 2016 Ukrnafta announced these consolidated financial statements. business, claims against the group arise. Where the risk of outflow amount of approximately USD 4.5 billion for gas delivered under the its intention to commence a pre-court financial rehabilitation to of financial resources associated with such claims is assumed as Capital commitments. Capital commitments for purchase of property, Gas Sales Contract from November 2013 to May 2014, while Naftogaz legally restrict ability of past due creditors in payment enforcement. probable, a respective liability is recognised as a component of plant and equipment, and exploration and development of oil and gas claimed a retroactive revision of the price under the Gas Sales Financial rehabilitation plan, among other, assumes a 12 months period provision for litigations (Note 15). Where management estimates the fields comprise UAH 1,260 million as at 31 December 2016 (31 December Contract, resulting in a claim for payment by Gazprom to Naftogaz of for Ukrnafta and its creditors, including the State Fiscal Authority risk of outflow of financial resources associated with such claims 2015: UAH 144 million). more than USD 12 billion as compensation for previous overpayments. of Ukraine as a primary creditor, to agree the restructuring of its as possible, or amount of outflow cannot be measured reliably, no Gazprom has subsequently updated its payment claims, which at the obligations. The commencement of the financial rehabilitation plan is provision is recognised, and respective amount is disclosed in the date these consolidated financial statements stands at approximately dependent on pre-approval by the Ukrnafta’s Supervisory Board and 23. BUSINESS COMBINATION consolidated financial statements. Management believes that it USD 2.9 billion including interest (USD 2.2 billion excluding interest). approval by the Ukrnafta’s General Shareholders’ Meeting, Creditors At 31 December 2016 and 2015, the Group holds 50% + 1 share of voting has provided for all material losses in these consolidated financial Committee and respective court decision. None of the abovementioned rights in “Ukrnafta” PJSC. In addition, Gazprom has later added a claim for payment of gas which statements. approvals were obtained as of the date of these consolidated financial Gazprom did not deliver, but which Naftogaz allegedly nevertheless In March 2015, according to changes in the Law of Ukraine “On Joint- The group and certain natural gas suppliers have disputes in respect statements. was obliged to pay for under the Contract (the “take or pay” claim), Stock Companies”, quorum of the General meetings of shareholders of volumes and/or prices for natural gas supplied to the group and which at the date these consolidated financial statements stands at Despite the material uncertainties described above, and taking into was lowered from 60%+1 share down to 50%+1 share. Following those other disputes. Management assesses its contingent liabilities under approximately USD 42.9 billion including interest (up to USD 34.5 billion account Ukrnafta’s management actions in improving its liquidity, changes, new Supervisory Board of “Ukrnafta” PJSC was appointed on such disputes at the level of UAH 3,928 million (2015: UAH 1,380 million). excluding interest). Naftogaz has subsequently updated its claim production and sales activities, management of the group believes 22 July 2015. Starting from that date the company has a unilateral ability Management cannot reliably estimate amount of potential losses on for overpayments to approximately around USD 17.9 billion including that application of the going concern assumption in respect of to conduct legitimate General Meetings of Shareholders at “Ukrnafta” these obligations, if any. interest (approximately USD 14.1 billion excluding interest). Ukrnafta is appropriate for the purpose of these consolidated financial PJSC. Dispute with the non-controlling shareholders of “Ukrnafta” PJSC in statements. Naftogaz initiated the Gas Transit Arbitration on 13 October 2014. In its Following such changes, management of the company believes that respect of the validity and fulfilment of shareholders agreement. Statement of Claim, Naftogaz claimed a revision of the transit tariff Possible transfer of the company’s equity interest in the subsidiaries control over “Ukrnafta” PJSC was regained. Accordingly, the investment In January 2010 Naftogaz and the non-controlling shareholders of with retroactive effect, compensation for underdeliveries and other to the State. In 1998, upon creation of the company, the Government in “Ukrnafta” PJSC was transferred from investment in associates to “Ukrnafta” PJSC (“Ukrnafta”) signed a shareholders agreement that adjustments of the Gas Transit Contract. Naftogaz’s monetary claim of Ukraine contributed certain shares of joint-stock companies to the investments in subsidiary starting from that date (Note 28). As a result included, among other, setting the procedure of electing the chairman stands at approximately USD 12.2 billion including interest (up to USD share capital of the company. These joint-stock companies included of the revaluation of previously held interest to fair value at the date of of the board, the executive board, the supervisory board members and 10.6 billion excluding interest). Gazprom has submitted a counterclaim JSC Long-Distance Pipeline “Druzhba” and JSC “Prydniprovskiy” Long- acquisition, UAH 1,430 million loss was recognised in the consolidated quorum for their meetings. Under the shareholders agreement the in amount of approximately USD 5.3 million excluding interest, but has Distance Pipeline that were reorganised in 2001 into JSC “Ukrtransnafta”, statement of profit or loss (Note 7), and previously recognised share chairman of the board is to be elected from among the candidates reserved the right to make additional counterclaims after receiving the JSC “Ukrspetstransgaz”, “Chornomornaftogaz” National JSC, JSC in other comprehensive income amounting to UAH 116 million was nominated by the non-controlling shareholders, 6 of 11 Ukrnafta award in the Gas Sales Arbitration. “Ukrnafta” and fifty-four regional gas distribution entities. transferred to accumulated deficit in the statement of changes in supervisory board members, including chairman, are to be nominated equity. Both the Gas Sales Arbitration and the Gas Transit Arbitration by Naftogaz, and remaining 5 members by the non-controlling The Government of Ukraine may transfer ownership or control over were initiated by Naftogaz following unsuccessful efforts to reach shareholders. The supervisory board meetings are deemed to be all or part of the company’s equity interest in those joint-stock The following table summarises the fair values of the net assets agreement with Gazprom in negotiations. The monetary claims in the quorate if 8 of 11 members are present. This was actually allowed by companies and/or other state-owned oil and gas transportation and acquired at the date of regaining control. Fair values of property, plant Arbitrations are being updated on a continuous basis until the awards, the Law of Ukraine “On Joint-Stock Companies” effective before March storage facilities to other companies or Government agencies, and and equipment at 30 June 2015 were determined by independent inter alia in respect of interest calculations. 2015. However, as a result of subsequent amendments to the Law in those actions could have a material adverse effect to the company’s appraisers. Fair values of all assets and liabilities at date of acquisition March 2015, the quorum for the supervisory boards was lowered to the operations. were determined by management. Naftogaz’s main objectives in both Arbitrations are to (i) revise simple majority of votes. or interpret both contracts in line with European standards and State property not subject to privatisation. In 1998, the company In millions of Ukrainian hryvnias As at 22 July requirements for gas sales and gas transit agreements; (ii) achieve Under the shareholders agreement, any dispute arising in connection entered into an agreement “On use of the State owned property not 2015 competitive pricing for the gas purchased from Gazprom; and (iii) with it is to be resolved exclusively by the London Court of International subject to privatisation” (“Agreement”) with the State Property Fund Property, plant and equipment (Note 6) 13,113 achieve a cost-reflective tariff for the transit of Russian gas through Arbitration and the shareholder agreement is governed by the UK law. of Ukraine, and received oil and gas transportation system into the Investments in joint ventures (Note 7) 197 Ukraine. These objectives are in line with the stated purpose of both In June 2015, the non-controlling shareholders of Ukrnafta started an operational control. The Agreement was signed for one year, and its parties when the Contracts were negotiated and concluded in January action before the London Court of International Arbitration claiming term is prolonged automatically for one year, unless terminated by Other non-current assets 3,716 2009, namely in price revision and tariff revision clauses. At the same (1) to acknowledge the shareholders agreement valid and enforceable notice from either party, and is binding on the legal successor of each Inventories 2,358 time, both Contracts contain clauses which deviate from European and (2) to oblige Naftogaz to stick to the provisions of the shareholders party. Historically, the agreement has been prolonged automatically, as Trade accounts receivable (net of provision for 8,423 standards. Notably, the volume and take or pay provisions in the Gas agreement even in those instances where the provisions of the neither party initiated its termination. As the State property not subject impairment of UAH 345 million and unamortised Sales Contract are in breach of European and Ukrainian competition shareholders agreement substantially reduce the right of Naftogaz as to privatisation forms an essential part of the group’s business, the discount of UAH 245 million) law, lack important standard features, and combine with an illegal a majority shareholder in comparison with the scope of rights provided future operations and financial performance of the group depends on Prepayments made and other current assets (net 5,149 destination clause to amount to an abuse of dominant position. for by the Law. the prolongation of the Agreement. The group’s management believes of provision for impairment of UAH 3,513 million) that the group will continue to operate with this property in the Gazprom has taken the same approach in both cases, which is Uncertainty as to the ability of “Ukrnafta” PJSC to continue as a foreseeable future. Cash and bank balances 654 essentially that the Contracts shall be “untouchable”, and shall be going concern. Following recent decline in oil prices, accumulated Provisions (Note 15) (5,794) enforced based on Gazprom’s construction. debts to the State Budget since 2014 of UAH 24,379 million as at 31 Pursuant to the Agreement, the company is required, inter alia, to December 2016 (31 December 2015: UAH 17,473 million), limited ability to handle oil and gas transmission and distribution pipelines owned by Deferred tax liabilities (Note 21) (539) The deadline for the award in the Gas Sales Arbitration and the Gas collect accounts receivable and settle prepayments made to suppliers the State of Ukraine, keep the state property in adequate operational Trade accounts payable (1,520) Transit Arbitration is currently 30 June 2017. This date may be subject with gross amount of UAH 22,680 million as at 31 December 2016 (31 condition, and transfer 50% share of profits received from using those Advances received and other current liabilities (12,786) to adjustment by the Arbitration Institute of the Stockholm Chamber December 2015: UAH 17,144 million), Ukrnafta had insufficient funds to assets to the State. The amount of such transfer could be reduced of Commerce at the request of the Tribunal. The awards taken by Corporate income tax payable (918) satisfy its working capital needs and settle its tax payments as they by the amount of capital investments in those assets. The Agreement the Tribunal are final and enforceable even if challenged, although Fair value of 100% of net assets acquired 12,053 fall due. Consequently, as at 31 December 2016 and 2015 Ukrnafta had a does not provide a mechanism of such calculations, and historically enforceability in case of challenge depends on the legislation in 190 negative working capital and incurred net loss for the year then ended. there were no payments from the group to the State in respect of 50%-1 share non-controlling interest (7,127)191 190 the jurisdiction where enforcement is sought. The awards may be 191 ANNUAL FINANCIAL STATEMENTS REPORT 2016

In millions of Ukrainian hryvnias As at 22 July Market risk. The group takes on exposure to market risks. sales of products on credit terms and other transactions with 2015 Market risks arise from open positions in (a) foreign currencies, In millions At 31 December 2016 At 31 December 2015 of Ukrainian counterparties giving rise to financial assets. The group’s policy is (b) interest bearing assets and liabilities and (c) equity Impact Impact Impact Impact on Share of net assets acquired 4,926 hryvnias that the customers that wish to pay on credit terms are subject investments, all of which are exposed to general and specific on on on equity Purchase consideration: to the solvency check. Significant outstanding balances are also market movements. equity Fair value of previously held interest (50%+1 share) 4,926 profit or profit or reviewed on an ongoing basis. At the same time, the group must loss loss Goodwill - Currency risk. The group operates within Ukraine and its exposure follow the state regulations within public service obligations in to foreign currency risk is determined mainly by purchases of EUR 251 251 299 299 respect of gas sales to certain gas market participants irrespective Cash flow on acquisition of the subsidiary: natural gas from foreign suppliers, which are denominated in USD. strengthening whether they are delinquent or not. Cash and cash equivalents of the subsidiary 654 The group also receives borrowings in foreign currencies. The group by 10% The group establishes a provision for impairment that represents its does not hedge its foreign currency positions. The non-controlling interest represents the share of the net assets EUR weakening (251) (251) (299) (299) estimate of incurred losses in respect of trade accounts receivable. of the acquiree attributable to owners of the non-controlling The group’s exposure to foreign currency risk is as follows, based on by 10% The main component of this provision is a specific loss component interest. carrying amounts of respective currency assets and liabilities: that relates to individually significant exposures. Interest rate risk. The Group normally has no significant interest As at 22 July 2015, advances received and other current liabilities In millions 31 December 2016 31 December 2015 bearing assets, and its income and operating cash flows are The maximum exposure to credit risk as at 31 December 2016 is include dividends payable attributable to the owners of the non- of Ukrainian USD EUR Oth- USD EUR Oth- substantially independent of changes in market interest rate. The UAH 82,207 million (31 December 2015: UAH 52,432 million). controlling interest in amount of UAH 2,201 million. group’s interest rate risk exposure arises from borrowings at variable hryvnias ers ers The group does not hold any collateral as security. interest rates. Borrowings at fixed rate expose the Group to fair value Revenue and net loss of “Ukrnafta” PJSC included in the Restricted 680 - - 600 - - interest rate risk. Liquidity risk. Prudent liquidity management implies maintaining consolidated financial statements from the date of acquisition cash sufficient cash and the availability of funding to meet existing amounted to UAH 10,494 million and UAH 4,498 million, respectively. The group predominantly attracts borrowings at fixed rates. Cash and bank 14 998 2 740 67 3 523 2 733 29 obligations as they fall due. The group’s objective is to maintain If the acquisition had been completed on 1 January 2015, revenues balances The borrowing activities are reviewed on an annual basis. Long-term a balance between the continuity of funding and flexibility of the group would be UAH 18,269 million higher and net loss of the Trade accounts 6 642 - - 5 753 2 108 - investing activities and associated funding are considered separately, through the use of credit terms provided by suppliers and banks. group would be UAH 2,446 million higher. receivable and are subject to the Government of Ukraine approval. Prepayments are commonly used to manage both liquidity and credit risks. The group analyses ageing of its assets and maturity Prepayments 684 7 - 154 1 - The maturity dates of financial liabilities are further disclosed in this 24. FINANCIAL RISK MANAGEMENT of its liabilities and plans liquidity depending on their expected made and Note. The group’s activities expose it to a variety of financial risks: market other current repayment. The group has capital construction programs which are risk (including currency risk and interest rate risk), concentration assets Concentration risk. The group is exposed to concentration risk funded both through existing business cash flows and borrowed risk, credit risk and liquidity risk. The group reviews and agrees risk on revenues from natural gas transportation, and trade accounts funds. Borrowed funds are also used to finance the group’s Other non- - 245 - - 211 - management policies to minimise the potential adverse effects on payable as 75% of trade accounts payable as at 31 December 2016 (31 working capital needs. current assets the group’s financial performance for those risks. December 2015: 54%) comprise trade payables to a single supplier. The following table analyses the group’s financial liabilities into Borrowings (43 316) (213) - (47 352) (5) - Concentration on revenues from natural gas transportation is Major categories of financial instruments: relevant maturity groupings based on the remaining period at Trade accounts (13 602) (268) (10) (11 764) (2 014) - disclosed in Note 4. payable the reporting date to the contractual maturity date. The amounts In millions of Ukrainian Note 31 December 31 December Credit risk. The group takes on exposure to credit risk, which disclosed in the table are undiscounted cash flows of principal and hryvnias 2016 2015 Advances (85) - 1 (484) (46) (4) is the risk that one party to a financial instrument will cause interest payments. (as restated, received and a financial loss for the other party by failing to discharge an The maturity analysis of financial liabilities as at 31 December 2016 Note 3) other current obligation. Exposure to credit risk arises as a result of the group’s liabilities was as follows: Other non-current 8 5 832 5 209 assets Net (short)/ (33 999) 2 511 58 (49 570) 2 988 25 In millions of Ukrainian hryvnias Up to 6 6-12 1-2 years 2-5 years Over 5 Total Trade accounts 10 49 209 33 208 long currency months months years receivable position Borrowings 33 684 19 706 16 349 12 123 - 81 862 The following table presents sensitivities of profit or loss and equity Prepayments made and 11 4 150 1 226 Other long-term liabilities 4 - - - - 4 to reasonably possible changes in exchange rates applied at the other current assets Trade accounts payable 16 234 - - - - 16 234 reporting date, with all other variables held constant. Сash and bank balances 12 22 336 11 791 Advances received and other current liabilities 2 775 1 1 - - 2 777 The exposure was calculated only for monetary balances Restricted cash 680 600 Financial guarantees 1 745 - - - - 1 745 denominated in currencies other than the functional currency of the Total financial assets 82 207 52 034 Group’s entities. Total 54 442 19 707 16 350 12 123 - 102 622 The maturity analysis of financial liabilities as at 31 December 2015 was as follows: In millions of Ukrainian Note 31 December 31 December In millions At 31 December 2016 At 31 December 2015 hryvnias 2016 2015 of Ukrainian In millions of Ukrainian hryvnias Up to 6 6-12 1-2 years 2-5 years Over 5 Total Impact Impact Impact Impact on hryvnias months months years (as restated, on on on equity Note 3) Borrowings 25 314 17 982 17 510 27 881 - 88 687 profit or equity profit or Borrowings 14 (70 844) (71 764) Other long-term liabilities - - 8 - - 8 loss loss Trade accounts payable (16 234) (19 102) Trade accounts payable 19 102 - - - - 19 102 USD (3 400) (3 400) (4 957) (4 957) Advances received and 16 (2 777) (2 903) strengthening Advances received and other current liabilities 2 256 647 - - - 2 903 other current liabilities by 10% Total 46 672 18 629 17 518 27 881 - 110 700 Other long-term (4) (8) USD weakening 3 400 3 400 4 957 4 957 liabilities by 10% Total financial (89 859) (93 777) 192liabilities 193 192 193 ANNUAL FINANCIAL STATEMENTS REPORT 2016

Fair value of the group’s financial assets and financial liabilities measured at fair value on a recurring basis and fair value of Gearing ratio. Consistent with others in the industry, the group In millions of Ukrainian 31 31 December 2015 monitors capital on the basis of gearing ratio. This ratio is property, plant and equipment hryvnias December (as restated, calculated as net debt divided by total capital under management. The group’s available-for-sale investments and property, plant and equipment are measured at fair value at the end of each 2016 Note 3) Net debt is calculated as total borrowing (current and non-current reporting period. The following table provides information about how the fair values of these assets are determined (in as shown in the consolidated statement of financial position) Gearing ratio 0,11 0,14 particular, the valuation techniques and inputs used): less cash and cash equivalents. Total capital under management equals total equity as shown in the consolidated statement of 25. FAIR VALUE Assets Fair value Valuation techniques and key inputs financial position. IFRS defines fair value as the price that would be received hierarchy The gearing ratio at the end of the reporting period was as to sell an asset or paid to transfer a liability in an Property, plant 3 The group engages professional independent appraisers to determine the fair value of its following: orderly transaction between market participants at the and equipment property, plant and equipment by using a replacement cost method for the majority of measurement date. groups. The fair value is determined as the cost of construction of these items at current In millions of Ukrainian 31 31 December 2015 The estimated fair values have been determined by the prices less the economic obsolescence and physical tear and wear to date. The main param‑ hryvnias December (as restated, group using available market information, where it exists, and eter used in this valuation technique are current prices on construction. 2016 Note 3) appropriate valuation methodologies. However, judgement is For items for which there are market analogues (mainly buildings), the sales comparison method is used, Total borrowings (Note 14) 70 844 71 764 necessarily required to interpret market data to determine the prices of market-based sales of comparable properties in the immediate proximity are adjusted with the estimated fair value. Management has used all available reference to differences in main parameters (such as floor space of the property). The main parameter Less: cash and cash (21 853) (9 256) market information in estimating the fair value. The used in this valuation technique is the price per square meter of a property. equivalents (Note 12) estimates presented herein are not necessarily indicative of Total Net Debt 48 991 62 508 the amounts the group could realise in a market exchange Property, plant and 2 The fair value of cushion gas is determined by application of the market price of gas at the end of the from the sale of its full holdings of a particular instrument or equipment reporting date to the volume of cushion gas. The main parameters used in this valuation technique are Total Equity 460 272 443 762 pay in the transfer of liabilities. market prices for gas at the end of the reporting period. The market value of the cushion gas equals to the market price of gas less costs of its pumping and transportation to the point of sale. Details of the group’s property, plant and equipment and information about the fair value hierarchy as at 31 December 2015 are as follows:

Description Group of assets Valuation technique Unobservable inputs Range of unobservable inputs Interrelationship between key unobservable inputs and fair value measurement Gas transmission system and Pipelines and related Depreciated replacement Date of implementation of incentive Regulatory Asset Base (RAB) start in 2015 for transportation and 2018 for The later the implementation of new tariff system, gas storages equipment cost method using the tariff regulation system storage. the lower the fair value income approach for Rates of return on Regulatory Asset 15.13% The higher the rate, the higher the fair value economic obsolescence Buildings Base determination Nominal WACC for USD-denominated 10.59% The higher the WACC, the lower the fair value cash flow Machinery and equipment

Other fixed assets Gas extraction assets Pipelines and related Depreciated replacement The remaining period of the deposit 0-50 The lower the period, the lower the fair value equipment cost method using the extraction, years (based on proven because of lower remaining useful life of infra‑ income approach for and probable reserves determined structure assets economic obsolescence by independent expert) Oil and gas producing determination properties Gas sale price Market price for the period from 2016 till the first quarter of 2017 is formed The higher the gas sale price, the higher the fair based on forecast gas price on German hub NCG less transportation costs to value Ukrainian western border. Market price for further periods is formed based on Buildings forecast gas price on German hub NCG less transportation costs to Ukrainian border. Machinery and equipment Subsoil royalty rate long-term Natural gas – 29% Oil and gas condensate – 45% The higher the taх rate, the lower the fair value projection Nominal WACC for UAH-denominated 21.04% The higher the WACC, the lower the fair value cash flow Other fixed assets Oil transmission system and Pipelines and related Depreciated replacement Cumulative factor of physical and 0,75 The higher the factor, the lower the fair value storages equipment cost method using the functional depreciations income approach for Nominal WACC for UAH-denominated 17,08% The higher the WACC, the lower the fair value economic obsolescence Building cash flow determination

Machinery and equipment

Other fixed assets 194 195 194 195 ANNUAL FINANCIAL STATEMENTS REPORT 2016

The following table summarises property, plant and equipment • In addition to gas purchase from “Ukrgasvydobyvannia” Historical cost is generally based on the fair value of the recognised at fair value after initial recognition using a fair value PJSC, “Chornomornftogas” PJSC is also obliged to sell gas to In Ukrainian hryvnias 2016 2015 consideration given in exchange for goods and services. hierarchy: the company for the needs of households, heat generating USD 1.00 27,19 24,00 entities and religious organisations. Fair value is the price that would be received to sell an asset 31 December 2016 EUR 1.00 28,42 26,22 or paid to transfer a liability in an orderly transaction between • the company is obliged to sale gas to district heating market participants at the measurement date, regardless of Exchange restrictions in Ukraine are limited to compulsory In millions of Ukrainian Levels 2 Levels 3 Total companies for all groups of customers, as well as for whether that price is directly observable or estimated using receipt of foreign receivables within 120 days of sales and hryvnias producing electricity by these companies. Property, plant and equipment 153 566 386 599 540 165 another valuation technique. to the compulsory conversion of 65% of proceeds in foreign • Starting from 1 April 2017 the company will sell gas for the currency to Ukrainian hryvnia starting from 9 June 2016 (2015: Total 153 566 386 599 540 165 These policies have been consistently applied to all periods needs of households, religious organisations and district 90 days and 75%, respectively). Foreign currency can be easily presented, unless otherwise stated. 31 December 2015 (as restated, Note 3) heating companies at the price of UAH 4,942 for 1,000 cubic converted at a rate close to the National Bank of Ukraine rate. In millions of Ukrainian Levels 2 Levels 3 Total meters. (excluding VAT, transportation and distribution Purchases classification and presentation. During 2016 At present, UAH is not freely convertible outside Ukraine. tariffs and trade mark-up). “Ukrtransgas” PJSC purchased inventories and services in hryvnias Basis for consolidation. Subsidiaries are those companies the amount of UAH 4,279 million and performed capital Property, plant and equipment 142 140 406 981 549 121 • In setting wholesale price for religious organisations and over which the group has control. The group controls an expenditures of UAH 1,872 million, included in property, plant district heating companies for the needs of religious entity when the group is exposed to, or has rights to, variable Total 142 140 406 981 549 121 and equipment or construction in progress (2015: UAH 520 organisations a ratio of 0.5 is applied to the price defined returns from its involvement with the entity and has the There were no transfers between Level 2 and Level 3 during the year. million and UAH 316 million, respectively). above; in setting wholesale price for gas for district heating ability to affect those returns through its power over the Fair value of financial assets and financial liabilities that are companies for all customers, except for the needs of During 2015 “Ukrgasvydobyvannia” PJSC purchased materials in entity. Subsidiaries are consolidated from the date on which not measured at fair value on a recurring basis (but fair value religious organisations and households, and for electricity the amount of UAH 225 million, included in cost of sales, and control is transferred to the group (acquisition date) and are disclosures are required). production by district heating companies a ratio of 1.6 is performed capital expenditures of UAH 157 million, included deconsolidated from the date that control ceases. applied. in property, plant and equipment. The source documents The group’s management believes that, the carrying amounts Intercompany transactions, balances and unrealised gains for these transactions were sequestered and are under of financial assets and financial liabilities recognised in the • In case gas wholesale price calculated at 100% import or losses on transactions between the group companies are investigation by the office of the State Prosecutor of Ukraine. consolidated financial statements approximate their fair parity before 1 July 2017 is more than 10% higher than eliminated. Accounting policies of subsidiaries have been values as at 31 December 2016 and 2015. currently effective price, selling price should be calculated During 2015 “Ukrtransnafta” PJSC purchased services on changed where necessary to ensure consistency with the at 100% import parity for the period from 1 October 2017 oil storage amounting to UAH 222 million, included in other policies adopted by the group. up to 1 April 2018 for gas sales to households, religious operating expense. 26. SUBSEQUENT EVENTS The company reassesses whether or not it controls an organisations and district heating companies. Concurrently Financing facility under the International Bank for Nature of these expenses and expenditures could be different investee if facts and circumstances indicate that there are with resolution on Company’s gas sales price change Reconstruction and Development guarantee. On 30 December from their legal form according to primary documents. These changes to one or more of the three elements of control for specified categories, gas purchase price from PJSC 2016 financing facility was signed by the Company and expenses and expenditures were presented on the basis of listed above. “Ukrgasvydobyvannia” and PJSC “Chornomornftogas” should the Ministry of Finance of Ukraine on one side, and the the relevant primary documents in the consolidated financial be revised. When the group has more than a majority of the voting rights International Bank for Reconstruction and Development statements as at and for the years ended 31 December 2016 of an investee, it still considers whether the voting rights are (“IBRD”) and two banks-non-residents on the other side. Change of the Supervisory Board chairman. In April 2017, and 2015. sufficient to give it the practical ability to direct the relevant Financing should be provided according to the loan Paul Warwick was elected as chairman of the supervisory Functional and presentation currency. Items included in activities of the investee unilaterally and, thus, has the power agreement in the form of revolving credit line amounting board and Volodymyr Demchyshyn as deputy chairman. The the financial statements of each of the group’s entities over the investee. to EUR 478 million, and under the guarantees of the IBRD. new supervisory board chairman was elected following the are measured using the currency of the primary economic Drawdown of the facility should be made within 2 years from resignation of Yulia Kovaliv. The group considers all relevant facts and circumstances environment in which the group’s entities operate (“the the date of the loan agreement, repayment – during three in assessing whether or not the group’s voting rights in an Registration of share capital increase. In April 2017 the functional currency”). The consolidated financial statements years. Financing can be used as mean to settle obligations investee are sufficient to give it power, including: company has registered a new share capital issue amounting are presented in Ukrainian hryvnias (“UAH”), which is the under the letters of credit as well as direct payments to to UAH 29,700 million out of unregistered share capital existed company’s functional and the group’s presentation currency. • The size of the group’s holding of voting rights relative suppliers. During February 2017 the company has fulfilled as at 31 December 2016 (Note 13). All amounts presented in the consolidated financial to the size and dispersion of holdings of the other vote preliminary requirements before the loan agreement came statements are presented in UAH, rounded to the nearest holders; into force, including obtaining the resolution of the Ministry Loans repayment and prolongation. During January-April 2017 the million, if not otherwise stated. of Justice of Ukraine in respect of effectiveness and binding group repaid UAH 12,159 million of bank loans. Additionally, in April • Potential voting rights held by the group, other vote holders power of the agreement on providing the guarantee between 2017 the company has prolonged maturity of loan with one of the Transactions denominated in currencies other than the or other parties; the Ministry of Finance of Ukraine and the IBRD. As a result, state-owned banks in amount of about USD 390 million. Under relevant functional currency are translated into the functional • Rights arising from other contractual arrangements; and on 17 February 2017 notices of effectiveness of the loan amended repayment schedule loan should be repaid in several currency, using the exchange rate prevailing at the date of the agreement from the IBRD and bank-agent under the loan instalments by the end of April 2018. transaction. Foreign exchange gains and losses, resulting from • Any additional facts and circumstances that indicate that agreement were received. During February-April 2017 letters settlement of such transactions and from the translation of the group has, or does not have, the current ability to of credit to gas suppliers amounting to over EUR 447 million 27. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES foreign currency denominated monetary assets and liabilities direct the relevant activities at the time that decisions were issued within this facility. Settlement of such letters of at year end, are recognised in the consolidated statement of need to be made, including voting patterns at previous Statement of compliance. These consolidated financial credits is planned for April-May 2017. profit or loss. Translation at year end does not apply to non- shareholders’ meetings. statements have been prepared in accordance with monetary items including equity investments. The effects of Extension of the Regulations on public service obligations. The International Financial Reporting Standards (“IFRS”). Business combinations. Acquisitions of businesses are exchange rate changes on the fair value of equity securities Cabinet of Ministers of Ukraine Resolution #187 has approved accounted for using the acquisition method. The consideration Basis of preparation. The consolidated financial statements are recorded as part of the fair value gain or loss. the Regulations for public service obligations for certain gas transferred in a business combination is measured at fair have been prepared on the historical cost basis except for market participants (“Regulations”) on 22 March 2017. The As at 31 December, the exchange rates used for translating value, which is calculated as the sum of the acquisition-date property, plant and equipment that are measured at revalued Regulation’s duration period starts from 1 April 2017 and lasts foreign currency balances were: fair values of the assets transferred by the group, liabilities amounts at the end of each reporting period, as explained in until 1 April 2018 and contains, amongst others, a series of incurred by the group to the former owners of the acquiree the accounting policies below. 196differences, in particular: and the equity interests issued by the group in exchange for197 196 197 ANNUAL FINANCIAL STATEMENTS REPORT 2016

control of the acquiree. Acquisition-related costs are generally of the contingent consideration that do not qualify as carrying amount of net assets of the subsidiary is recorded the liabilities, relating to the arrangement. Joint control is the recognised in profit or loss as incurred. measurement period adjustments depends on how in equity. Gains or losses on disposals to non-controlling contractually agreed sharing of control of an arrangement, the contingent consideration is classified. Contingent interests are also recorded in equity. which exists only when decisions about the relevant activities At the acquisition date, the identifiable assets acquired and consideration that is classified as equity is not remeasured require unanimous consent of the parties sharing control. the liabilities assumed are recognised at their fair value, When the group ceases to have control or significant at subsequent reporting dates and its subsequent settlement except that: influence, the retained interest in the entity is remeasured to When a group entity undertakes its activities under joint is accounted for within equity. Contingent consideration its fair value, with the change in carrying amount recognised operations, the group as a joint operator recognises in • Deferred tax assets or liabilities, and assets or liabilities that is classified as an asset or a liability is remeasured in profit or loss. The fair value is the initial carrying amount relation to its interest in a joint operation: related to employee benefit arrangements are recognised at subsequent reporting dates in accordance with IAS 39 for the purposes of subsequently accounting for the retained and measured in accordance with IAS 12 Income Taxes and Financial Instruments: Recognition and Measurement, or IAS • Its assets, including its share of any assets held jointly; interest as an associate, joint venture or financial asset. IAS 19 Employee Benefits respectively; 37 Provisions, Contingent Liabilities and Contingent Assets, In addition, any amounts previously recognised in other • Its liabilities, including its share of any liabilities incurred as appropriate, with the corresponding gain or loss being • Liabilities or equity instruments related to share-based comprehensive income in respect of that entity are accounted jointly; recognised in profit or loss. payment arrangements of the acquiree or share-based for as if the group had directly disposed of the related • Its revenue from the sale of its share of the output arising payment arrangements of the group entered into to When a business combination is achieved in stages, the assets or liabilities. This may mean that amounts previously from the joint operation; replace share-based payment arrangements of the group’s previously held equity interest in the acquiree recognised in other comprehensive income are reclassified to acquiree are measured in accordance with IFRS 2 Share- is remeasured to its acquisition-date fair value and the profit or loss. • Its share of the revenue from the sale of the output by the based Payments at the acquisition date; and resulting gain or loss, if any, is recognised in profit or loss. joint operation; and If the ownership interest in an associate is reduced but Amounts arising from interests in the acquiree prior to the • Assets (or disposal groups) that are classified as held for significant influence is retained, only a proportionate share of • Its expenses, including its share of any expenses incurred acquisition date that have previously been recognised in other sale in accordance with IFRS 5 Non-current Assets Held the amounts previously recognised in other comprehensive jointly. comprehensive income are reclassified to profit or loss where for Sale and Discontinued Operations are measured in income are reclassified to profit or loss where appropriate. such treatment would be appropriate if that interest were The group accounts for the assets, liabilities, revenues accordance with that Standard. disposed of. Investments in associates. Associates are entities over and expenses relating to its interest in a joint operation in Goodwill is measured as the excess of the sum of the which the group has significant influence but not control. accordance with the IFRSs applicable to the particular assets, If the initial accounting for a business combination is consideration transferred, the amount of any non-controlling Investments in associates are accounted for using the equity liabilities, revenues and expenses. incomplete by the end of the reporting period in which the interests in the acquiree, and the fair value of the acquirer’s method of accounting. The group’s investment in associate combination occurs, the group reports provisional amounts When a group entity transacts with a joint operation in previously held equity interest in the acquiree (if any) over the includes goodwill identified on acquisition, net of any for the items for which the accounting is incomplete. Those which a group entity is a joint operator (such as a sale net of the acquisition-date amounts of the identifiable assets accumulated impairment loss. provisional amounts are adjusted during the measurement or contribution of assets), the group is considered to be acquired and the liabilities assumed. If, after reassessment, period (see above), or additional assets or liabilities are The group’s share of its associates’ post-acquisition profits or conducting the transaction with the other parties to the the net of the acquisition-date amounts of the identifiable recognised, to reflect new information obtained about facts losses is recognised in the consolidated statement of profit joint operation, and gains and losses resulting from the assets acquired and liabilities assumed exceeds the sum and circumstances that existed at the acquisition date that, if or loss, and its share of post-acquisition movements in other transactions are recognised in the group’s consolidated of the consideration transferred, the amount of any non- known, would have affected the amounts recognised at that comprehensive income is recognised in other comprehensive financial statements only to the extent of other parties’ controlling interests in the acquiree and the fair value of the date. income. The cumulative post-acquisition movements are interests in the joint operation. acquirer’s previously held interest in the acquiree (if any), the adjusted against the carrying amount of the investment. excess is recognised immediately in profit or loss as a bargain Goodwill. Goodwill arising on an acquisition of a business is When a group entity transacts with a joint operation in which When the group’s share of losses in an associate equals or purchase gain. carried at cost as established at the date of acquisition of the a group entity is a joint operator (such as a purchase of exceeds its interest in the associate, including any other business less accumulated impairment losses, if any. assets), the group does not recognise its share of the gains Non-controlling interests that are present ownership interests unsecured receivables, the group does not recognise further and losses until it resells those assets to a third party. and entitle their holders to a proportionate share of the For the purposes of impairment testing, goodwill is allocated losses, unless it has incurred obligations or made payments entity’s net assets in the event of liquidation may be initially to each of the group’s cash-generating units (or groups of on behalf of the associate. Unrealised gains on transactions Concession agreement (product sharing agreement). The measured either at fair value or at the non-controlling cash-generating units) that is expected to benefit from the between the group and its associates are eliminated. Company entered into a concession agreement for oil interests’ proportionate share of the recognised amounts synergies of the combination. exploration and development (“Concession Agreement”) Accounting policies of associates have been changed where of the acquiree’s identifiable net assets. The choice of with the Arab Republic of Egypt and the Egyptian General A cash-generating unit to which goodwill has been allocated necessary to ensure consistency with the policies adopted by measurement basis is made on a transaction-by-transaction Petroleum Corporation (“EGPC”) on 13 December 2006. is tested for impairment annually, or more frequently when the group. basis. Other types of non-controlling interests are measured there is an indication that the unit may be impaired. If the The Concession Agreement includes the following conditions: at fair value or, when applicable, on the basis specified in Dilution of gains and losses arising on investments in recoverable amount of the cash-generating unit is less than another IFRS. associates are recognised in the consolidated statement of • Subject to the auditing provisions under the Concession its carrying amount, the impairment loss is allocated first profit or loss. Agreement, the company shall recover on a quarterly When the consideration transferred by the group in a to reduce the carrying amount of any goodwill allocated to basis all exploration and development costs to the extent business combination includes assets or liabilities resulting the unit and then to the other assets of the unit pro rata Interest in joint ventures. A joint venture is a joint and out of 25% of all petroleum produced and saved from a contingent consideration arrangement, the contingent based on the carrying amount of each asset in the unit. Any arrangement whereby the parties that have joint control from all production areas and not used in petroleum consideration is measured at its acquisition-date fair value impairment loss for goodwill is recognised directly in profit of the arrangement have rights to the net assets of the operations (“Cost Recovery”). Petroleum products under the and included as part of the consideration transferred in or loss. An impairment loss recognised for goodwill is not joint arrangement. Joint control is the contractually agreed Concession Agreement include crude oil or gas and LPG. a business combination. Changes in the fair value of the reversed in subsequent periods. sharing of control of an arrangement, which exists only when contingent consideration that qualify as measurement period decisions about the relevant activities require unanimous • Remaining 75% of the petroleum produced is shared by the On disposal of the relevant cash-generating unit, the adjustments are adjusted retrospectively, with corresponding consent of the parties sharing control. company and EGPC depending on the volume of production attributable amount of goodwill is included in the adjustments against goodwill. Measurement period and the product type (crude oil or gas and LPG). The determination of the profit or loss on disposal. The group recognises its interest in the joint venture using the adjustments are adjustments that arise from additional company’s share varies from 15% to 19%. equity method applied as described above in the paragraph information obtained during the ‘measurement period’ (which Transactions with non-controlling interests. The group Investment in associates. • EGPC shall become the owner of all the company’s assets cannot exceed one year from the acquisition date) about treats transactions with non-controlling interests as acquired and owned within the Concession Agreement, facts and circumstances that existed at the acquisition date. transactions with equity owners of the group. For purchases Interest in joint operations. A joint operation is a joint which assets were charged to Cost Recovery by the from non-controlling interests, the difference between any arrangement whereby the parties that have joint control of The subsequent accounting for changes in the fair value company in connection with the operations carried out by 198 consideration paid and the relevant share acquired of the the arrangement have rights to the assets, and obligations for 199 198 199 ANNUAL FINANCIAL STATEMENTS REPORT 2016

the company: land shall become the property of EGPC as the consolidated statement of profit or loss. When revalued • Exploratory drilling; Leases. Leases in which a significant portion of the risks and soon as it is purchased; title to fixed and movable assets assets are sold, the amounts included in revaluation reserve rewards of ownership are retained by the lessor are classified • Trenching, sampling; and shall be transferred automatically and gradually from the are transferred to retained earnings. as operating leases. Payments made under operating leases company to EGPC as they become subject to the Cost • Activities in relation to evaluating technical feasibility and (net of any incentives received from the lessor) are charged Property, plant and equipment includes cushion gas which Recovery. commercial viability of extracting a mineral resource. to the consolidated statement of profit or loss on a straight- is required to be held in the pipelines and storage facilities line basis over the period of the lease. Finance leases are The development period under the Concession Agreement is for the operating activities of the group company in Exploration and evaluation assets are carried forward capitalised at the lease commencement at the lower of the limited to maximum 25 years from the date of commercial oil transportation of gas and gas storage segments, respectively. during the exploration and evaluation stage and are not fair value of the leased property and the present value of the discovery or from the date of first gas deliveries, started in amortised but assessed for impairment in accordance with Cushion gas is gas intended for maintaining pressure in minimum lease payments. 2011. the indicators of impairment as set out in IFRS 6 Exploration underground storage facilities of the group and protecting for and Evaluation of Mineral Resources. In circumstances Decommissioning liabilities. The group’s assessment of Segment reporting. Operating segments are reported in a them from flooding. Cushion gas is considered to be fully where a property is abandoned, the cumulative capitalised the decommissioning liabilities is based on the estimated manner consistent with the internal reporting provided to recoverable based on an engineering analysis, and at any time costs relating to the property are written off in the period. future costs expected to be incurred in respect of the the group’s chief operating decision maker. Segments whose that the storage facility is closed will be available for sale or No amortisation is charged prior to the commencement of decommissioning and site restoration, adjusted for the effect revenue, results or assets are ten percent or more of all the other use. Cushion gas is revalued when there is an indication production. of the projected inflation for the upcoming periods and segments are reported separately. Segments falling below that its carrying amount as of the reporting date is materially discounted using interest rates applicable to the provision. this threshold can be reported separately at management different from its fair value. In circumstances where a property is identified as containing Estimated costs of dismantling and removing an item of decision. economically recoverable resources then the accumulated Construction in progress includes also prepayments for property, plant and equipment are added to the cost of exploration and evaluation costs associated with that property Property, plant and equipment. The group uses the revaluation property, plant and equipment. an item of property, plant and equipment when the item are transferred to oil and gas producing properties and are model to measure property, plant and equipment, except is acquired, and corresponding obligation is recognised. Exploration expenses. Exploration expenses comprise the presented within the property, plant and equipment in the construction in process which is carried at cost. Fair value Changes in the measurement of an existing decommissioning costs associated with unproved reserves. These include consolidated statement of financial position. was based on valuations made by external independent liability, that result from changes in the estimated timing or geological and geophysical costs for the identification and valuers. The frequence of revaluation depends on the Depreciation and depletion. Depreciation is charged to amount of the outflows, or from changes in the discount rate investigation of areas with possible oil and gas reserves and movements in the fair values of the assets being revalued. the consolidated statement of profit or loss on a straight- used for measurement, are recognised in the consolidated administrative, legal and consulting costs in connection with The last independent valuation of the fair value of the group’s line basis to allocate costs of individual assets to their statement of profit or loss or, to the extent of any revaluation exploration. They also include all impairments on exploration property, plant and equipment was performed as at 31 residual value over their estimated useful lives. Depreciation balance existence in respect of the related asset, other wells where no proved reserves could be demonstrated. December 2015. Subsequent additions to property, plant and commences on the date of acquisition or, in respect of self- reserves. Provisions in respect of decommissioning activities equipment are recorded at cost. Cost includes expenditure Research and development expenses. Research and constructed assets, from the time an asset is completed and are evaluated and re-estimated annually, and are included directly attributable to acquisition of the items. The cost development (R&D) expenses include all direct and indirect ready for use. in the consolidated financial statements at each reporting of self-constructed assets includes the cost of materials, materials, personnel and external services costs incurred in date at their expected present value, using discount rates Oil and gas assets, including oil and gas producing properties direct labour and an appropriate proportion of production connection with the focused search for new development which reflect the economic environment in which the Group are depleted using a unit-of-production method. The cost overheads. Сost of acquired and self-constructed qualifying techniques and significant improvements in products, operates. of producing wells is amortised over proved developed assets includes borrowing costs. services and processes and in connection with research reserves. Licence acquisition, common facilities and future Interest expense related to the provision is included in finance activities. Expenditures related to research activities is shown Any increase in the carrying amounts resulting from decommissioning costs are amortised over total proved and costs in profit or loss. as R&D expenses in the period in which they are incurred. revaluations are credited to revaluation reserve in equity probable reserves. Development costs are capitalised if the recognition criteria Impairment of non-financial assets. Assets are reviewed for through other comprehensive income. Decreases that offset according to IAS 38 Intangible Assets are fulfilled. Other property, plant and equipment are depreciated on a impairment whenever events and changes in circumstances previsouly recognised increases of the same asset are straight line basis over its expected useful life. The typical indicate that the carrying amount may not be recoverable. An charged against revaluation reserve in equity through other Exploration and evaluation assets. Oil and gas exploration useful lives of the Group’s other property, plant and equipment impairment loss is recognised for the amount by which the comprehensive income; all other decreases are charged to and evaluation expenditures are accounted for using are as follows: assets carrying amount exceeds its recoverable amount. The the consolidated statement of profit or loss. To the extent the successful efforts method of accounting. Costs are recoverable amount is the higher of fair value less cost to that an impairment loss on the same revalued asset was accumulated on a field-by-field basis. Costs directy associated Useful lives in years sell and value in use. For purposes of assessing impairment, previously recognised in the consolidated statement of profit with an exploration well, and exploration and proprety assets are grouped to the lowest levels for which there are or loss, a reversal of that impairment loss is also recognised leasehold acquisition costs, are capitalised as long as the Pipelines and related 9-60 separately identifiable cash flows (cash generating unit). Non- in the consolidated statement of profit or loss. following conditions are satisfied: equipment financial assets that have suffered impairment are reviewed Machinery and equipment 3-60 Expenditure incurred to replace a component of an item • Sufficient oil and gas reserves have been discovered that for possible reversal of the impairment at each reporting of property, plant and equipment that is accounted for would justify completion as a production well; Buildings 3-60 date. separately, is capitalised with the carrying amount of the • Sufficient progress is being made in assessing the Drilling and exploration 3-30 An impairment loss is recognised immediately in profit or loss, replaced component being derecognised. Subsequent costs economic and technical feasibility to justify beginning field equipment unless the relevant asset is carried at a revalued amount, in are included in the asset’s carrying amount or recognised development in the near future. which case the impairment loss is treated as a revaluation as a separate asset, as appropriate, only when it is probable Other fixed assets 3-30 decrease. that future economic benefits associated with the item will If it is determined that commercial exploitation could not Construction in progress and cushion gas are not depreciated. flow to the group and the cost of the item can be measured been achieved, these costs are charged to expense. When an impairment loss subsequently reverses, the carrying Intangible assets. Intangible assets have definite useful reliably. All other repairs and maintenance are charged amount of the asset (or a cash-generating unit) is increased Expenditures related to the following activities are initially lives and primarily include capitalised computer software. to the consolidated statement of profit or loss during the to the revised estimate of its recoverable amount, but so that measured at cost and capitalised within property, plant and Acquired computer software is capitalised on the basis of financial period in which they are incurred. Property, plant the increased carrying amount does not exceed the carrying equipment in the consolidated statement of financial position: the costs incurred to acquire and bring it to use. Intangible and equipment are derecognised upon disposal or when amount that would have been determined had no impairment assets are carried at cost less accumulated amortisation and no future economic benefits are expected to be received • Acquisition of rights to explore; loss been recognised for the asset (or cash-generating unit) impairment losses, if any. If impaired, the carrying amount of from the continued use of the asset. Gains and losses on in prior years. A reversal of an impairment loss is recognised • Topographical, geological, geochemical and geophysical intangible assets is written down to the higher of value in use disposal determined by comparing proceeds with carrying immediately in profit or loss, unless the relevant asset is studies; and fair value less costs to sell. amount of property, plant and equipment are recognised in carried at a revalued amount, in which case the reversal of 200 201 200 201 ANNUAL FINANCIAL STATEMENTS REPORT 2016

the impairment loss is treated as a revaluation increase. The face values of financial assets and liabilities with a asset is reduced through the use of a provision account, expenditures incurred in acquiring the inventories, production maturity of less than one year, less any estimated credit and the amount of the loss is recognised in the consolidated or conversion costs and other costs incurred in bringing them Classification of financial assets. The group classifies its adjustments, are assumed to be their fair values. The fair statement of profit or loss. When receivables is uncollectible, to their existing location and condition. Cost of manufactured financial assets into the following measurement categories: value of financial liabilities is estimated by discounting the it is written off against the provision account for receivables. inventories includes an appropriate share of production (a) loans and receivables; (b) available-for-sale financial future contractual cash flows at the current market interest Subsequent recoveries of amounts previously written off are overheads based on normal operating capacity. The cost of assets. rate available to the Group for similar financial instruments. credited in the consolidated statement of profit or loss. inventories is determined on the first in first out basis for all Loans and receivables include financial receivables created by inventories except for natural gas and pipeline fill. Weighted Gains and losses arising from a change in the fair value of Derecognition of financial instruments. The group the group by providing money, goods or services directly to a average cost formula is used for natural gas and pipeline available-for-sale assets are recognised directly in other derecognises financial assets when (i) the assets are debtor, other than those receivables which are created with fill. Net realisable value is the estimated selling price in the comprehensive income. In assessing the fair value of financial redeemed or the rights to cash flows from the assets the intention to be sold immediately or in the short term, or ordinary course of business, less the cost of completion and instruments, the group uses a variety of methods and makes have otherwise expired or (ii) the group has transferred which are quoted in an active market. Loans and receivables selling expenses. assumptions based on market conditions existing at the substantially all the risks and rewards of ownership of the comprise primarily loans, trade accounts receivable including reporting date. assets or (iii) the group has neither transferred nor retained Trade accounts receivable. Trade and other receivables are purchased loans and promissory notes. All other financial substantially all risks and rewards of ownership but has not recognised initially at fair value and subsequently measured assets are included in the available-for-sale category. When available-for-sale assets are sold or otherwise retained control. Control is retained if the counterparty does at amortised cost using the effective interest method, less disposed of, the cumulative gain or loss recognised in other Classification as debt or equity. Debt and equity instruments not have the practical ability to sell the asset in its entirety to provision for impairment. comprehensive income is included in the determination of issued by the group are classified as either financial liabilities an unrelated third party without needing to impose additional net profit. When a decline in fair value of available-for-sale Prepayments made and other current assets. Prepayments or as equity in accordance with the substance of the restrictions on the sale. The group derecognises financial assets has been recognised in equity and there is objective are carried at cost less provision for impairment. A contractual arrangements and the definitions of a financial liabilities when, and only when, the group’s obligations are evidence that the assets are impaired, the loss recognised in prepayment is classified as non-current when the goods liability and an equity instrument. discharged, cancelled or they expire. The difference between other comprehensive income is removed and included in the or services relating to the prepayment are expected to be the carrying amount of the financial liability derecognised and Equity instruments. An equity instrument is any contract that determination of net profit, even though the assets have not obtained after one year, or when the prepayment relates to the consideration paid and payable is recognised in profit or evidences a residual interest in the assets of an entity after been derecognised. an asset which will itself be classified as non-current upon loss. deducting all of its liabilities. Equity instruments issued by a initial recognition. Interest income on available-for-sale debt securities is group entity are recognised at the proceeds received, net of Income taxes. Income taxes have been provided for in calculated using the effective interest method and recognised If there is an indication that the assets, goods or services direct issue costs. the consolidated financial statements in accordance with in the consolidated statement of profit or loss. Dividends relating to a prepayment will not be received, the carrying Ukrainian legislation enacted or substantively enacted by Repurchase of the company’s own equity instruments is on available-for-sale equity instruments are recognised amount of the prepayment is written down accordingly the end of reporting date. The income tax charge comprises recognised and deducted directly in equity. No gain or loss in the consolidated statement of profit or loss when the and a corresponding impairment loss is recognised in the current tax and deferred tax and is recognised in the is recognised in profit or loss on the purchase, sale, issue or group’s right to receive payment is established and the consolidated statement of profit or loss. consolidated statement of profit or loss unless it relates to cancellation of the company’s own equity instruments. inflow of economic benefits is probable. Impairment losses transactions that are recognised, in the same or a different Promissory notes. Some purchases may be settled by are recognised in the consolidated statement of profit or Financial liabilities. Financial liabilities are classified as either period, in other comprehensive income or directly in equity. promissory notes or bills of exchange, which are negotiable loss when incurred as a result of one or more events that financial liabilities “at fair value through profit or loss (FVTPL)” debt instruments. Purchases settled by promissory notes occurred after the initial recognition of available-for-sale Current tax is the amount expected to be paid to or recovered or “other financial liabilities”. are recognised based on management’s estimate of the fair investments. A significant or prolonged decline in the fair from the taxation authorities in respect of taxable profits or value to be given up in such settlements. The fair value is Initial recognition of financial instruments. Financial assets value of an instrument below its cost is an indicator that it losses for the current and prior periods. Taxes other than on determined with reference to observable market information. and financial liabilities are initially measured at fair value. is impaired. The cumulative impairment loss measured as income are recorded within operating expenses. the difference between the acquisition cost and the current Cash and bank balances. Cash and bank balances include cash The group’s principal financial instruments comprise available- Deferred income tax is provided using the balance sheet fair value, less any impairment loss on that asset previously in hand, deposits held at call with banks, and other short- for-sale investments, borrowings, cash and bank balances. liability method for tax losses carried forwards and temporary recognised in the consolidated statement of profit or loss, term highly liquid investments with original maturities of The group has various other financial instruments, such as differences arising between the tax bases of assets and is removed from equity and recognised in the consolidated three months or less. Cash and bank balances are carried at trade receivables and trade payables, which arise directly liabilities and their carrying amounts for financial reporting statement of profit or loss. amortised cost using the effective interest method. Restricted from its operations. purposes. In accordance with the initial recognition balances that do not qualify for cash and cash equivalents are Impairment losses on equity instruments are not reversed exemption, deferred taxes are not recorded for temporary All purchases and sales of financial instruments that require excluded from cash and cash equivalents for the purposes through the consolidated statement of profit or loss. If, in differences on initial recognition of an asset or a liability delivery within the time frame established by regulation or of the consolidated cash flow statement. Balances restricted a subsequent period, the fair value of a debt instrument in a transaction other than a business combination if the market convention (“regular way” purchases and sales) are from being exchanged or used to settle a liability for at classified as available-for-sale increases and the increase transaction, when initially recorded, affects neither accounting recorded at trade date basis, which is the date that the least twelve months after the reporting date are included in can be objectively related to an event occurring after nor taxable profit. Deferred tax liabilities are not recorded group commits to deliver a financial instrument. All other restricted cash. the impairment loss was recognised in the consolidated for temporary differences on initial recognition of goodwill purchases and sales are recognised on the settlement date statement of profit or loss, the impairment loss is reversed and subsequently for goodwill which is not deductible for tax Share capital. Ordinary shares are classified as equity. with the change in value between the commitment date and through current period’s consolidated statement of profit or purposes. Deferred tax balances are measured at tax rates Incremental costs directly attributable to the issue of new settlement date not recognised for assets carried at cost or loss. enacted or substantively enacted at the reporting date which shares are shown in equity as a deduction, net of tax, from amortised cost, and recognised in equity for assets classified are expected to apply to the period when the temporary the proceeds. as available-for-sale. A provision for impairment of loans and receivables is differences will reverse or the tax losses carried forwards will established when there is objective evidence that the Group Dividends and mandatory budget contribution of profit share. Subsequent measurement of financial instruments. be utilised. Deferred tax assets and liabilities are netted only will not be able to collect all amounts due according to the Dividends and mandatory budget contribution of profit share Subsequent to initial recognition, the group’s financial within the individual companies of the Group. Deferred tax original terms. Significant financial difficulties of the debtor, are recognised as a liability and deducted from equity at liabilities, loans and receivables are measured at amortised assets for deductible temporary differences and tax losses probability that the debtor will enter bankruptcy or financial the reporting date only if they are declared before or on cost. Amortised cost is calculated using the effective interest carried forwards are recorded only to the extent that it is reorganisation, and default or delinquency in payments are the reporting date. Dividends are disclosed when they are method and, for financial assets, it is determined net of any probable that future taxable profit will be available against considered to be indicators that loans and receivables are proposed before the reporting date or proposed or declared impairment losses. Premiums and discounts, including initial which the deductions can be utilised. impaired. The amount of the provision is the difference after the reporting date but before the consolidated financial transaction costs, are included in the carrying amount of between the asset’s carrying amount and the present value Inventories. Inventories are recorded at the lower of cost statements are authorised for issue. the related instrument and amortised based on the effective of estimated future cash flows. The carrying amount of the and net realisable value. The cost of inventories includes 202interest rate of the instrument. Value added tax (“VAT”). In Ukraine VAT is levied at two rates:203 202 203 ANNUAL FINANCIAL STATEMENTS REPORT 2016

20% on sales and imports of goods, works and services within where appropriate, the risks specific to the liability. Where Key indicators that group acts as an agent in a transaction benefits will be paid, and that have terms to maturity the country, and 0% on the export of goods and limited list discounting is used, the increase in provision due to the are: approximating the terms of the related pension liability. of services (e.g. international transportation). A taxpayer’s passage of time is recognised as a finance cost. • Another party and not the group is a primary obligor for Actuarial gains and losses arising from experience VAT liability equals the total amount of VAT accrued within Other liabilities. Other financial liabilities are recognised delivering goods or services; adjustments and changes in actuarial assumptions are a reporting period, and arises on the earlier of the date of initially at fair value, net of transaction costs incurred, and charged or credited to other comprehensive income in shipping goods or rendering services to a customer or the • Absence or limited general inventory risk; are subsequently stated at amortised cost using the effective the period in which they arise. Past service costs are date of receiving payment from the customer. A VAT input is interest method. Other non-financial liabilities are measured • No exposure to significant risks and rewards associated recognised immediately in the consolidated statement of the amount that a taxpayer is entitled to offset against his at cost. with the sale of goods or services; profit or loss. VAT liability in a reporting period. Rights to VAT input arise when a VAT invoice is received, which is issued on the earlier Contingent assets and liabilities. A contingent assets are • Earnings from a transaction are represented by fixed of the date of payment to the supplier or the date goods are not recognised in the consolidated financial statements but amount; and 28. CRITICAL ACCOUNTING ESTIMATES AND received or services are rendered. VAT related to sales and disclosed when an inflow of economic benefits is probable. JUDGEMENTS • Lack of discretion to select suppliers and ability to purchases is recognised in the consolidated statement of In the application of the group’s accounting policies, Contingent liabilities are not recognised in the consolidated establish a selling price. financial position on a gross basis and disclosed separately management is required to make judgements, estimates financial statements unless it is probable that an outflow of as an asset and liability. Where provision has been made for Recognition of expenses. Expenses are recorded on an and assumptions about the carrying amounts of assets and economic resources will be required to settle the obligation impairment of receivables, the impairment loss is recorded accrual basis. Cost of sales comprises the purchase price, liabilities that are not readily apparent from other sources. and it can be reasonably estimated. Contingent liabilities are for the gross amount of the debtor, including VAT. transportation costs, commissions relating to supply The estimates and associated assumptions are based on disclosed unless the possibility of an outflow of resources agreements and other related expenses. historical experience and other factors that are considered to Borrowings. Borrowings include bank borrowings and bonds. embodying economic benefits is remote. be relevant. Actual results may differ from these estimates. Finance income and costs. Finance income and costs Borrowing costs. Borrowing costs directly attributable to the Revenue recognition. Revenue is measured at the fair value of comprise interest expense on borrowings, losses on early The estimates and underlying assumptions are reviewed acquisition, construction or production of qualifying assets, the consideration received or receivable, and are shown net repayment of loans, interest income on funds invested, on an ongoing basis. Revisions to accounting estimates are which are assets that necessarily take a substantial period of value added tax and discounts. Revenue from the sale of income or loss on origination of financial instruments, recognised in the period in which the estimate is revised if of time to get ready for their intended use or sale, are added goods is recognised when the goods are delivered and titles unwinding of interest of the pension obligation and the revision affects only that period, or in the period of the to the cost of those assets, until such time as the assets are have passed, at which time all the following conditions are provisions. revision and future periods if the revision affects both current substantially ready for their intended use or sale. All other satisfied: and future periods. borrowing costs are recognised in consolidated profit or loss Interest income is recognised as it accrues, taking into • The group has transferred to the buyer the significant risks in the period in which they are incurred. account the effective yield on the asset. Critical judgements in applying accounting policies. The and rewards of ownership of the goods; following are the critical judgements, apart from those Borrowings are initially recognised at fair value, net of Sale and repurchase agreements and lending of securities. • The group retains neither continuing managerial involving estimations, that the group management has made transaction costs incurred. Borrowings are subsequently Sale and repurchase agreements (“repo agreements”) which involvement to the degree usually associated with in the process of applying the group’s accounting policies carried at amortised cost using the effective interest method. effectively provide a lender’s return to the counterparty ownership nor effective control over the goods sold; and that have the most significant effect on the amounts Bank overdrafts are included into borrowings line item in the are treated as secured financing transactions. Securities recognised in the consolidated financial statements. consolidated statement of financial position. • The amount of revenue can be measured reliably; sold under such sale and repurchase agreements are not derecognised. The securities are not reclassified in the Investment in “Ukrnafta” PJSC. The group holds 50% + 1 share Trade accounts payable. Trade accounts payable are • It is probable that the economic benefits associated with consolidated statement of financial position unless the of voting rights in “Ukrnafta” PJSC. The rest is owned by limited recognised and initially measured under the policy for the transaction will flow to the group; and transferee has the right by contract or custom to sell or number of investors. In March 2015, according to changes in financial instruments mentioned above. Subsequently, • The costs incurred or to be incurred in respect of the repledge the securities, in which case they are reclassified the Law of Ukraine “On Joint-Stock Companies”, quorum of the instruments with a fixed maturity are re-measured at transaction can be measured reliably. as repurchased receivables. The corresponding liability General meetings of shareholders was lowered from 60%+1 amortised cost using the effective interest method. Amortised is presented within amounts due to other banks or other share down to 50%+1 share. Following those changes and cost is calculated by taking into account any transaction costs If the goods are transported to a specified location, revenue borrowed funds. changes in the supervisory board of “Ukrnafta” PJSC in July and any discount or premium on settlement. is recognised when the goods are passed to the customer at 2015, the company has regained control over “Ukrnafta” PJSC the destination point. Employee benefits: Defined Contributions Plan. The group Advances received. Advances received are carried at amounts starting from 22 July 2015. Accordingly, the investment in makes statutory unified social contributions to the Pension originally received. Amounts of advances received are Revenue from sales of services is recognised when: “Ukrnafta” PJSC is accounted for as investment in subsidiary Fund of Ukraine in respect of its employees. The contributions expected to be realised through the revenue received from starting from that date (Note 23). The company considers this • The amount of revenue can be measured reliably; are calculated as a percentage of current gross salary and usual activities of the Group. change as a business combination and applied acquisition are expensed when incurred. Discretionary pensions and • It is probable that the economic benefits associated with method of accounting, respectively. Provisions. Provisions are recognised when the group has other post-employment benefits are included in labour costs the transaction will flow to the group; a present obligation (legal or constructive) as a result of a in the consolidated statement of profit or loss. Key sources of estimation uncertainty. The following are the past event and it is probable that an outflow of resources • The stage of completion of the transaction at the reporting key assumptions concerning the future, and other key sources Employee benefits: Defined Benefit Plan. The group provides embodying economic benefits will be required to settle the date can be measured reliably; of estimation uncertainty at the end of the reporting period, lump sum benefits, payments on reaching certain age, and obligation and a reliable estimate can be made of the amount that have a significant risk of causing a material adjustment • The costs incurred on the transaction and the costs to other benefits as prescribed by the collective agreement. of the obligation. to the carrying amounts of assets and liabilities within the complete the transaction can be measured reliably. The liability recognised in the consolidated statement of next financial year. Where the group expects some or all of a provision to be financial position in respect of the defined benefit pension Revenue gross versus net presentation. When the group acts reimbursed, for example under an insurance contract, the plan is the present value of the defined benefit obligation Employee benefit obligations. Management assesses as a principal, revenue and cost of sales are reported on a reimbursement is recognised as a separate asset but only at the reporting date. The defined benefit obligation is post-employment and other employee benefit obligations gross basis. If the group sells goods or services as an agent, when the reimbursement is virtually certain. calculated annually using the projected unit credit method. using the projected unit credit method based on actuarial revenue is recorded on a net basis, representing the margin/ assumptions which represent management’s best estimates The expense on any provision is presented in the consolidated commission earned. Whether the group is considered to be Present value of the defined benefit obligation is of the variables that will determine the ultimate cost of statement of profit or loss net of any reimbursement. If principal or agent in a transaction depends on analysis of determined by discounting the estimated future cash providing post-employment and other employee benefits. the effect of time value of money is material, provisions both legal form and substance of the agreement the group outflows using interest rates of high-quality corporate The present value of the pension obligations depends on a 204are discounted using a current pre-tax rate that reflects, enters in. bonds that are denominated in the currency in which the 205 204 205 ANNUAL FINANCIAL STATEMENTS REPORT 2016

number of factors that are determined on an actuarial basis the Stockholm Chamber of Commerce (see Note 22) and December 2016. applying equity method in separate financial statements; using a number of assumptions. The major assumptions used assuming enforcement of the new tariffs, and that Gazprom in determining the net cost (income) for pensions include the would not book any transit capacities beyond 2019, the group Useful lives of other property, plant and equipment. The • Annual Improvements to IFRSs 2012-2014 Cycle. discount rate and expected salary increases. Any changes will revise its depreciation method or shorten useful lives group’s property, plant and equipment, except oil and gas The adoption of amendments to standards did not have any in these assumptions will impact the carrying amount of of its transit assets. However, should the assumption of no assets are depreciated using straight-line method over their effect on the financial position or performance reported in the pension obligations. Since there are no long-term, high quality transit flows from 1 January 2020 change, this may provide a estimated useful lives, which are based on management’s consolidated financial statements and had not resulted in any corporate or government bonds issued in Ukrainian hryvnias, basis for a reduction of the tariff due to an extension of the business plans and operational estimates. changes to the group’s accounting policies and the amounts significant judgement is needed in assessing an appropriate useful life of gas transit assets, and the straight line method The group reviews the estimated useful lives of property, reported for the current or prior years. discount rate. Key assumptions are presented in Note 15. could continue to apply. plant and equipment at the end of each annual reporting Standards and Interpretations in issue, but not yet effective. Deferred tax asset recognition. The deferred tax asset, Estimation of oil and gas reserves. Reserves are the period. The review is based on the current condition of At the date of authorisation of these consolidated financial recognised in the consolidated statement of financial quantities of oil and gas which are anticipated to be the assets and the estimated period during which they statements, the following Standards and Interpretations, as well as position, represents income taxes recoverable through future commercially recovered from known accumulations from will continue to bring economic benefit to the group. Any amendments to Standards were in issue but not yet effective: deductions from taxable profits. Deferred tax assets are a given date forward under defined conditions. Proved and change in estimated useful life or residual value is recorded recorded to the extent that realisation of the related tax probable reserves used in depletion rate calculation are on a prospective basis from the date of the change. Standards/Interpretations Effective for annual benefit is probable. In determining future taxable profits and determined using estimates of known oil and gas reservoirs, Impairment of trade accounts receivable and prepayments accounting period the amount of tax benefits that are probable in the future, recovery factors, operating conditions, future oil and gas made. Management estimates the likelihood of the collection beginning on or after management makes judgements and applies estimation prices and government regulations. Latest assessment of trade accounts receivable based on an analysis of based on historic taxable profits and expectations of future of gas reserves was performed as at 31 December 2014, Amendments to IAS 12 “Income 1 January 2017 individual accounts. Factors taken into consideration taxable income that are believed to be reasonable under the and major part of oil reserves was estimated as at 30 Taxes” – Recognition of deferred tax include an ageing analysis of trade accounts receivable in circumstances. June 2016. Reserves estimates involve some degree of assets for unrealised losses comparison with the payment history, credit terms allowed uncertainty, and their estimates are revised as additional Amendments to IAS 7 “Statement of 1 January 2017 Tax legislation. Ukrainian tax, currency and customs to customers and available market information regarding the geologic and engineering data becomes available or as Cash Flows” – Disclosure initiative legislation continues to evolve. Conflicting regulations are counterparty’s ability to pay. Should actual collections be less economic conditions change. Accordingly, depletion rates subject to varying interpretations. Management believes than management’s estimates, the group would be required IFRS 15 “Revenue from Contracts 1 January 2018 and discounted cash flows for revaluation and impairment of its interpretations are appropriate and sustainable, but no to record an additional impairment expense. with Customers” property, plant and equipment may be also revised. guarantee can be provided against a challenge from the tax Inventory valuation. Inventory are stated at lower of cost or IFRS 9 “Financial Instruments” 1 January 2018 authorities (Note 22). Revaluation and impairment of property, plant and equipment. net realisable value. In assessing the net realisable value of Management performs assessment whether carrying Amendments to IFRS 2 “Share- 1 January 2018 Decommissioning costs. The decommissioning provision its inventories, management bases its estimates on various amounts of property, plant and equipment accounted based Payment” – Classification represents the present value of the decommissioning costs assumptions including current market prices. At each under the revaluation model, differ materially from their and Measurement of Share-based relating to oil and gas properties, which are expected to reporting date, the group evaluates its inventories for excess fair values. Such assessment is performed on an annual Payment Transactions be incurred in the future (Note 15). These provisions were quantities and obsolescence and, if necessary, records an basis, and involves analysis of prices, price indices, changes recognised, based on group’s internal estimates. allowance to reduce inventories for obsolete and slow- IFRS 16 “Leases” 1 January 2019 in technology, foreign exchange rates and other relevant moving goods. This allowance requires assumptions related Amendment to IFRS 10 “Consolidated Effective date to be Main estimates include future market prices for the factors. In case such assessment identifies that carrying to future inventories use. These assumptions are based on Financial Statements” and IAS 28 determined necessary decommissioning costs, and are based on market amounts of items of property, plant and equipment differ inventories ageing and forecasted demand. Any changes in “Investments in Associates and Joint conditions and factors. Additional uncertainties relate to materially from their fair values, management engages the estimates may impact the amount of the allowances for Ventures” – Sale or contribution of the timing of the decommissioning costs, which depends independent appraisers to perform property, plant and inventory that may be required. assets between an investor and its on depletion of the fields, future oil and gas prices and as a equipment revaluation. associate or joint venture result – expected point of time, when there are no further Per results of relevant assessment made as at 31 December economic benefits in the production. 29. ADOPTION OF NEW OR REVISED STANDARDS IFRIC 22 “Foreign Currency 1 January 2018 2016 management decided that carrying amounts of property, AND INTERPRETATIONS Transactions and Advance Changes in these estimates can lead to the material changes plant and equipment accounted under the revaluation Adoption of new and revised International Financial Consideration“ in the provisions recognised in the consolidated statement of model, do not differ materially from their fair values, and no Reporting Standards financial position. revaluation was performed at this date. Latest revaluation Amendments to IFRS 4 „Applying IFRS 1 January 2018 made by the independent appraisers took place as at 31 The following standards have been adopted by the group 9 “Financial Instruments“ with IFRS 4 Depreciation of the gas transit assets and depletion of the December 2015. for the first time for the financial year beginning on or after “Insurance Contracts“ oil and gas assets. Oil and gas assets are depleted using 1 January 2016: a unit-of-production method. The cost of producing wells Management also reviews carrying amounts of property, Amendments to IAS 40: Transfers of 1 January 2018 is amortised over proved developed reserves. Licence plant and equipment to determine whether there are • Amendments to IFRS 12 “Disclosure of Interests in Other Investment Property acquisition, common facilities and future decommissioning any indicators that these assets are impaired. In making Entities“; Annual Improvements to IFRSs 2014- 1 January 2018 costs are amortised over total proved reserves. Changes the assessment for general impairment, assets that do • Amendments to IFRS 11 “Joint Arrangements“ – 2016 Cycle in estimates regarding the volumes of production, proved not generate independent cash flows are allocated to an Accounting for acquisition of interest in joint developed reserves and total proved reserves either appropriate cash-generating unit. Indicators of a potential Management is currently evaluating the impact of the adoption of arrangements; downward or upward, can result in the change of related impairment include analysis of market conditions, asset Amendments to IAS 1: Disclosure Initiative, Amendments to IFRS 10 assets utilisation accounting. A reduction in proved utilisation and the ability to utilise the asset for alternative • Amendments to IAS 1 “Presentation of Financial and IAS 28: Sale or Contribution of Assets between an Investor and developed reserves, as result of future inspections and purposes. If an indication of impairment exists, the group Statements “– Initiative as to the disclosure of information; its Associate or Joint Venture, Amendments to IFRS 11, Amendments production will increase depreciation, depletion and estimates the recoverable value (greater of fair value less resulting from Annual Improvements Cycles, IFRS 15 Revenue from • Amendments to IAS 16 “Property, Plant and Equipment“ amortisation expenses. cost to sell and value in use) and compares it to the carrying contracts with customers and IFRS 9 Financial Instruments. For and IAS 38 “Intangible Assets“ – Clarification in respect of value, and records impairment to the extent the carrying other Standards and Interpretations management anticipates The group currently depreciates gas transit assets using applying depreciation and amortisation formulas; value is greater than the recoverable amount. Management that their adoption in future periods will not have a material effect a straight line method. After the award of the Arbitral did not identify any general indicators of impairment as at 31 • IFRS 14 “Regulatory Deferred Accounts“; on the consolidated financial statements of the group in future Tribunal under the auspices of the Arbitration Institute of 206 periods. 207 206 • Amendments to IAS 27 “Separate Financial Statements“– 207 ANNUAL ADDITIONAL INFORMATION REPORT 2016

PJSC UKRSPETSTRANSGAZ, UKRSPETSTRANSGAZ — Public Joint T — ton Stock Company Ukrspetstransgaz TCM — thousand cubic meters PJSC UKRTRANSNAFTA, UKRTRANSNAFTA — Public Joint Stock Compa- TEPLOKOMUNNENERGO — enterprises, producing heat and energy, district TERMS ny Ukrtransnafta heating comanies PWC, PRICEWATERHOUSECOOPERS – international audit consultancy TSO — transmission system operator RUSSIA — the Russian Federation UGS — underground gas storage AND ABBREVIATIONS RESOLUTION 510 — the Resolution of the Cabinet of Ministers of Ukraine UGV — Public Joint Stock Company Ukrgazvydobuvannya Resolution #510 of 03 September 2014 “On Improvement of State Policy in the Field of Regulation of the Natural Gas Transportation Pipelines Through Ukraine” UNBUNDLING – separation of gas transmission from gas supply and production RESOLUTION 583 — the Resolution of the Cabinet of Ministers #583 of 03 March 2015 “On Establishment of Retail Prices for Natural Gas Used for the URENGOY-POMARY-UZHHOROD GAS PIPELINE (UPU) — the gas ex- BAKER&MCKENZIE – international legal consultancy Ukraine, SE Ukrnaftogazkomplekt, SE Naukanaftogaz, SE Naftogazobsluhovu- Needs of Households” port route connecting the Urengoy gas field and northern gas fields of Western vannya, SE LIKVO, SE Naftogazbezpeka, SE Budivelnyk Siberia to Uzhhorod at the western border of Ukraine BCM — billion of cubic meters STATE COMPANY GAS OF UKRAINE, GAS OF UKRAINE — a subsidiary GSE — Gas Storage Europe, the association of European operators of under- of the National Joint Stock Company Naftogaz of Ukraine USD — United States Dollar BP — British Petroleum, a transnational oil and gas, petrochemical and coal ground gas storage facilities corporation STATE ENTERPRISE ZAKORDONNAFTOGAZ, ZAKORDONNAFTOGAZ VTP — virtual trading point GTS — gas transportation system — a subsidiary of NJSC Naftogaz of Ukraine CDB — China Development Bank WORLD BANK — the organization that provides assistance for development IEA — International Energy Agency SPF — State Property Fund of Ukraine CABINET OF MINISTERS — The Cabinet of Ministers of Ukraine IFRS — International Financial Reporting Standards SUBSIDIARIES — subsidiary companies of the National Joint Stock Company CHP PLANT — combined heat and power plant Naftogaz of Ukraine IAS — International Accounting Standards COMPANY – Naftogaz IMF — International Monetary Fund, a special UNO agency CRIMEA — The Autonomous Republic of Crimea, a region of Ukraine currently occupied by the Russian Federation INTERCONNECTOR — a joint cross-border gas pipeline

DHC — district heating company (same as “teplokommunenergo”) JV – JOINT VENTURE

DSNS, SESU — State Emergency Service of Ukraine LNG-TERMINAL — a liquefaction terminal, receiving and regasification of liquefied natural gas EBRD — European Bank for Reconstruction and Development MCM — million of cubic meters EC — the European Commission MEDT – Ministry of Economic Development and Trade EFET — European Federation of Energy Traders MEMORANDUM – the Memorandum of Understanding on creation of the EGPC — Egyptian General Petroleum Corporation integrated gas market EIB — European Investment Bank NAFTOGAZ (NJSC NAFTOGAZ OF UKRAINE) — National Joint Stock ENERGY MINISTRY — the Ministry of Energy and the Coal Industry of Company Naftogaz of Ukraine Ukraine NAFTOGAZ OVERSEAS S.A. — Joint Stock Company Naftogaz Overseas S.A. EU — the European Union (Switzerland)

EUSTREAM — Slovak gas transmission system operator NEURC (PREVIOUSLY NERC) — National Energy and Utilities Regulatory Commission FGSZ — Hungarian gas transmission system operator NISS — National Institute for Strategic Studies under the President of Ukraine FRONTERA RESOURCES — US oil and gas company OECD — Organization for Economic Co-operation and Development GAS — natural gas, unless stated otherwise OJSC KIROVOHRADGAZ, KIROVOHRADGAZ — Open Joint Stock Company GAZPROM — Public Joint Stock Company Gazprom, a Russian energy company Kirovohradgaz, a regional gas distribution and supply company GAZ-SYSTEM S.A. — Polish gas transmission system operator OBLGAZ — a regional gas distribution and supply company GDS — gas distribution station PJSC CHORNOMORNAFTOGAZ – Public Joint Stock Company Chornomor- GENERAL MEETING, GM — General Meeting of Shareholders naftogaz

GMS — gas measuring station PJSC UKRGAZVYDOBUVANNYA — Public Joint Stock Company Ukrgazvy- dobuvannya GROUP — a group of companies that consists of NJSC Naftogaz of Ukraine, PJSC Ukrgazvydobuvannya, PJSC Ukrtransgaz, JSC Ukrtransnafta, SC Gas of PJSC UKRAVTOGAZ — Public Joint Stock Company Ukravtogaz Ukraine, SE Uktavtogaz, PJSC Chornomornaftogaz, OJSC Kirovohradgaz, SE Zakor- PJSC UKRNAFTA – Public Joint Stock Company Ukrnafta donnaftogaz, PJSC Ukrspetstransgaz, Naftogaz Overseas SA, SE Vuhlesyntez 208 209 208 209 ANNUAL ADDITIONAL INFORMATION REPORT 2016 GRI CONTENT INDEX Aspect Indicator Definition Page Report section and comments G4-14 Reporting whether and how the precautionary 94 Main risks Aspect Indicator Definition Page Report section and comments approach or principle is addressed by the 32 Health and safety General standard disclosures organization 48 Ecology and environmental protection Strategy and analysis G4-15 Externally developed economic, environmental, In the reporting period, the company G4-1 Statement from the most senior decision- 12 Report of Naftogaz supervisory board 2016 and social charters, principles, or other did not subscribe to any economic, maker of the organization about the relevance initiatives to which the organization subscribes environmental and social charters, of sustainability to the organization and or which it endorses principles, or other initiatives the organization’s strategy for addressing G4-16 Memberships of associations (such as industry The company is a member of such sustainability associations) and national or international organization: G4-2 Description of key impacts, risks, and 10 How we work advocacy organizations in which the • International gas union opportunities 94 Main risks organisation: • European energy forum • Holds a position on the governance body; • Eurogas Indicator has been partially disclosed • Participates in projects or committees; • EFETnet Organizational profile • Provides a substantive funding beyond G4-3 Name of the organization 3 Naftogaz group routine membership dues; G4-4 Primary brands, products, and services 3 Naftogaz group • Views membership as strategic. G4-5 Location of the organization's headquarters 217 Additional information Identified material aspects and boundaries G4-6 Number of countries where the organization 99 What we achieved G4-17 List of all entities included in the organization’s 156 Financial statements operates, and names of countries where either consolidated financial statements or the organization has significant operations or equivalent documents. that are specifically relevant to the sustainability Report on whether any entity included in topics covered in the report the organization’s consolidated financial G4-7 Nature of ownership and legal form 156 Financial statements statements or equivalent documents is not G4-8 Markets served (including geographic breakdown, 99 What we achieved covered by the report sectors served, and types of customers and G4-18 Process for defining the report content and 216 Report content and the aspect beneficiaries) the Aspect Boundaries. Reporting principles for boundaries G4-9 Scale of the organization defining report content Number of employees 26 Personnel G4-19 List of all the material Aspects identified in the 216 Report content and the aspect Net revenues 99 What we achieved process for defining report content boundaries Quantity of products and services provided 99 What we achieved G4-20 Description of the Aspect Boundary within the 216 Report content and the aspect G4-10 • Total number of employees by employment 26 Personnel organization for each material Aspect boundaries contract and gender Indicator has been partially disclosed G4-21 Description of the Aspect Boundary outside the 216 Report content and the aspect • Total number of permanent employees by organization for each material Aspect boundaries employment type and gender • Total workforce by employees and supervised The boundaries of all aspects cover the workers by gender Naftogaz group companies only • Total workforce by region and gender G4-22 Description of any restatements of information There were no restatements of Doesn’t performed • Reporting whether a substantial portion of the provided in previous reports, and the reasons information provided in previous reports organisation’s work is performed by workers for such restatements who are legally recognized as self-employed, or by individuals other than employees or G4-23 Significant changes from previous reporting There were no significant changes from supervised workers, including employees and periods in the Scope and Aspect Boundaries previous reporting periods supervised employees of contractors Stakeholder engagement • Description of any significant variations in There were no significant variations in G4-24 List of stakeholder groups engaged by the Naftogaz Annual report 2015, employment numbers (such as seasonal employment numbers organization Stakeholder relations variation in employment in the tourism or agricultural industries) G4-25 Basis for identification and selection of Naftogaz Annual report 2015, Stakeholder G4-11 Percentage of total employees covered by All employees are covered by collective stakeholders with whom to engage relations collective bargaining agreements bargaining agreement Code of corporate ethics (http://www. naftogaz.com/files/HR/Naftogaz-Kode- G4-12 Description of the organization's supply chain 3 Naftogaz Group Ethics.pdf) Procurement section on the corporate Procedure for Interacting with website www.naftogaz.com Stakeholders (http://www.naftogaz. G4-13 Description of any significant changes There were no significant changes com/files/official_documents/ during the reporting period regarding the during the reporting period Procedure_for_Interaction_with_ organization’s size, structure, ownership, or its Stakeholders_UA.pdf) 210 supply chain 211 210 211 ANNUAL ADDITIONAL INFORMATION REPORT 2016

Aspect Indicator Definition Page Report section and comments Aspect Indicator Definition Page Report section and comments G4-26 Organization’s approach to stakeholder Naftogaz Annual report 2015, Stakeholder G4-39 Whether the Chair of the highest governance Chief executive officer is not an engagement, including frequency of relations body also an executive officer (and, if so, executive officer engagement by type and by stakeholder group Code of corporate ethics (http://www. his or her function within the organization’s naftogaz.com/files/HR/Naftogaz-Kode- management and the reasons for this Ethics.pdf) arrangement) Procedure for Interacting with G4-48 Highest committee or position that formally Chief executive officer Stakeholders (http://www.naftogaz. reviews and approves the organization’s com/files/official_documents/ sustainability report and ensure that all Procedure_for_Interaction_with_ material aspects covered G4-51 Remuneration policies for the highest 22 Executive board structure and Stakeholders_UA.pdf) governance body and senior executives remuneration G4-27 Key topics and concerns that have been raised Naftogaz Annual report 2015, Stakeholder 12 Report of supervisory board 2016 through stakeholder engagement, and how the relations organization has responded to those key topics Code of corporate ethics (http://www. Indicator has been partially disclosed and concerns, including through its reporting naftogaz.com/files/HR/Naftogaz-Kode- Ethics and integrity G4-56 The organization’s values, principles, standards 8 Mission and values Ethics.pdf) and norms of behavior such as codes of Code of corporate ethics (http://www. Procedure for Interacting with conduct and codes of ethics naftogaz.com/files/HR/Naftogaz-Kode- Stakeholders (http://www.naftogaz. Ethics.pdf) com/files/official_documents/ Specific standard disclosures Procedure_for_Interaction_with_ Category: economic Stakeholders_UA.pdf) Economic G4-DMA Disclosures on management approach 99 What we achieved Report profile performance G4-EC1 Direct economic value generated and 99 What we achieved distributed, including revenues, operating G4-28 Reporting period 2016 calendar year costs, employee compensation, donations and G4-29 Date of most recent previous report September 30, 2016 other community investments, retained G4-30 Reporting cycle Annual reporting earnings, and payments to capital providers and governments G4-31 Contact point for questions regarding the Aliona Osmolovska Indirect G4-DMA Disclosures on management approach 40 Local community development report or its contents Head of Corporate Communications economic G4-EC7 Development and impact of infrastructure 40 Local community development impacts investments and services supported Tel:+380 44 586 3579 Indicator has been partially disclosed M:+380 63 555 5538 Категорія “екологічна” [email protected] Енергоспо- G4-DMA Disclosures on management approach 44 Energy efficiency живання і G4-EN3 Energy consumption within the organization 44 Energy efficiency енергоефек- 6 B. Khmelnytskoho Str., Naftogaz uses standards, тивність Kyiv 01601 Ukraine methodologies and assumptions, which www.naftogaz.com are governed by regulations of Ukraine www.naftogaz-europe.com in energy saving and energy efficiency G4-EN6 Reduction of energy consumption 44 Energy efficiency G4-32 ’In accordance’ option the organization has This report was prepared in accordance Fuel and energy savings were calculated chosen with the Global Reporting Initiative (GRI) relative to planned targets. G4, “Core” level Water G4-DMA Disclosures on management approach 48 Ecology and environmental protection GRI Content Index for the chosen option 210 GRI content index Reference to the External Assurance Report This report has not been independently G4-EN8 Total water withdrawal by source 48 Ecology and environmental protection verified Emissions G4-DMA Disclosures on management approach 48 Ecology and environmental protection G4-33 Policy and current practice with regard to This report has not been independently seeking external assurance for the report verified G4-EN15 Direct greenhouse gas emissions (Scope 1) 48 Ecology and environmental protection Governance GHG emission in CO2-equavalent was G4-34 Governance structure of the organization, 22 Executive board structure and calculated based on Global warming including committees of the highest remuneration potential coefficients, IPCC Second governance body and committees 12 Report of supervisory board 2016 Assessment Report (100-years period) responsible for decision-making on economic, environmental and social impacts G4-EN21 NOX, SOX and other significant air emissions 48 Ecology and environmental protection G4-38 Composition of the highest governance body 22 Executive board structure and and its committees remuneration 12 Report of supervisory board 2016

212 213 212 213 ANNUAL ADDITIONAL INFORMATION REPORT 2016

Aspect Indicator Definition Page Report section and comments Aspect Indicator Definition Page Report section and comments Effluents and G4-DMA Disclosures on management approach 48 Ecology and environmental protection Sub-category: Human rights waste Non- G4-DMA Disclosures on management approach 26 Personnel G4-EN22 Total water discharge by quality and 48 Ecology and environmental protection discrimination G4-HR3 Total number of incidents of discrimination and During reporting period, the company destination corrective actions taken recorded no cases of discrimination Child labor G4-DMA Disclosures on management approach 26 Personnel G4-EN23 Total weight of waste by type and disposal 48 Ecology and environmental protection method G4-HR5 Operations and suppliers identified as having Not relevant. Child and forced labour significant risk for incidents of child labor, and are prohibited by any applicable laws Environmental G4-DMA Disclosures on management approach 48 Ecology and environmental protection measures taken to contribute to the effective or regulations of Ukraine. The company investments abolition of child labor does not operate in countries where G4-EN31 Total environmental protection expenditures 48 Ecology and environmental protection there is a high risk of human rights and investments by type violations, including use of child labour Category: social Forced or G4-DMA Disclosures on management approach 26 Personnel compulsory Sub-category: Labor practices and decent work labor G4-HR6 Operations and suppliers identified as having Not relevant. Child and forced labour Employment G4-DMA Disclosures on management approach 26 Personnel significant risk for incidents of forced or are prohibited by any applicable laws compulsory labor, and measures to contribute or regulations of Ukraine. The company G4-LA1 Total number and rates of new employee hires 26 Personnel to the elimination of all forms of forced or does not operate in countries where and employee turnover by age group, gender Indicator has been partially disclosed compulsory labor there is a high risk of human rights and region violations, including use of child labour G4-LA2 Benefits provided to full-time employees 26 Personnel Sub-category: Society that are not provided to temporary or part- Local G4-DMA Disclosures on management approach 40 Local community development time employees, by significant locations of communities operation G4-SO1 Percentage of operations with implemented 40 Local community development local community engagement, impact Labor/ G4-DMA Disclosures on management approach 26 Personnel assessments, and development programs Management relations

G4-LA4 Minimum notice periods regarding operational 26 Personnel changes, including whether these are specified In accordance with the current in collective agreements legislation of Ukraine - 2 months; enshrined in collective agreements Occupational G4-DMA Disclosures on management approach 32 Health and Safety health and G4-LA6 Type of injury and rates of injury, occupational 32 Health and Safety safety diseases, lost days, and absenteeism, and total Indicator has been partially disclosed number of work-related fatalities, by region and gender G4-LA7 Workers with high incidence or high risk of 32 Health and Safety diseases related to their occupation G4-LA8 Health and safety topics covered in formal Health and safety topics covered agreements with trade unions in separate section of collective bargaining agreement Training and G4-DMA Disclosures on management approach 26 Personnel education G4-LA10 Programs for skills management and 26 Personnel lifelong learning that support the continued employability of employees and assist them in managing career endings Diversity G4-DMA Disclosures on management approach 26 Personnel and equal G4-LA12 Composition of governance bodies and 26 Personnel opportunity breakdown of employees per employee category according to gender, age group, minority group membership, and other indicators of diversity

214 215 214 215 ANNUAL ADDITIONAL INFORMATION REPORT 2016

Report content and the aspect boundaries NAFTOGAZ OF UKRAINE 6 B. Khmelnytskoho Street 6, Kyiv 01601 Ukraine UKRTRANSNAFTA The content of the report was determined based on the findings of the evaluation of the material aspects of the company 32/2 Moskovska Street, Kyiv 01010 Ukraine Phone: +380 (44) 586-33-30, +380 (44) 586-39 63, +380 (44) operations. The evaluation methodology is in line with the requirements and principles specified in the GRI G4 Guidelines. The most Phone: +380 (44) 201-57-01, +380 (44) 201-57-76 586-32-83 important topics and issues to be presented in the report were identified by the company using various instruments which take e-mail: [email protected] e-mail: [email protected] , [email protected] into account the views of the internal and external stakeholders: web: www.ukrtransnafta.com web: www.naftogaz.com, www.naftogaz-europe.com • Informational environment analysis; https://www.facebook.com/NaftogazUA

https://twitter.com/naftogazukraine GAS OF UKRAINE • Analysis of annual reports and sustainability reports issued by the similar companies in Ukraine and abroad; 1 Sholudenka Street 1, Kyiv 04116 Ukraine Phone: +380 (44) 537-05-38 • Interviews of Naftogaz internal departments and subsidiaries; UKRGASVYDOBUVANNYA e-mail: [email protected] 26/28 Kudryavska Street, Kyiv 04053 Ukraine • Consultation with the company top management; web: www.gasukraine.com.ua Phone: +380 (44) 461-27-23 • Analysis of suggestions and requests of other internal and external stakeholders. e-mail: [email protected]

web: www.ugv.com.ua UKRAVTOGAZ The company has the procedure for interaction with stakeholders in place which applies to all activities of the company and is 2 Hryhorovycha-Barskoho Street, Kyiv 03134 Ukraine used to identify the interests and getting feedback from various stakeholder groups. Phone: +380 (44) 291-28-01, +380 (44) 291-28-05, +380 (44) 291- UKRNAFTA 28-11 The general list of important aspects is created based on the analysis of the stakeholders’ suggestions and interests. Every aspect 3-5 Nestorivskyy Provulok, Kyiv 04053 Ukraine e-mail: [email protected] of the list was assessed based on its relevance and importance to all stakeholders, and that is how the list of material aspects to Phone: +380 (44) 503 0386, +380 (44) 506-10-03 web: www.ukravtogaz.com be disclosed in the report was identified. e-mail: [email protected] web: www.ukrnafta.com Material aspects and boundaries UKRSPETSTRANSGAZ 3 Promyslova Street, Dolyna 03477 Ukraine

Category/ Sub-category Aspect Boundaries CHORNOMORNAFTOGAZ Phone: +380 (3477) 2-53-10, +380 (3477) 2-53-11 62 B. Khmelnytskoho Street, office 505, Kyiv 01601 Ukraine Economic Economic performance All companies Naftogaz group e-mail: [email protected] Phone: +380 (44) 220-14-64 web: www.ustg.com.ua Indirect economic impacts Ukrgasvydobyvannia, Ukrnafta, Ukrtransgaz e-mail: [email protected] and Ukrtransnafta web: www.naftogaz.com Environmental Energy consumption and Ukrgasvydobyvannia, Ukrnafta, Ukrtransgaz energy efficiency and Ukrtransnafta UKRTRNASGAZ 9/1 Klovskyy Uzviz, Kyiv 01021 Ukraine Water Ukrgasvydobyvannia, Ukrnafta, Ukrtransgaz Phone: +380 (44) 254-34-38 and Ukrtransnafta e-mail: [email protected] GHG emission All companies Naftogaz group web: www.utg.ua Emissions of air pollutants All companies Naftogaz group Effluents and waste Ukrgasvydobyvannia, Ukrnafta, Ukrtransgaz and Ukrtransnafta Environmental investments All companies Naftogaz group Social Labor practices and decent Employment All companies Naftogaz group NAFTOGAZ OFFICES ABROAD work Labor/Management relations All companies Naftogaz group Occupational health and All companies Naftogaz group OFFICE IN THE ARAB REPUBLIC OF EGYPT OFFICE IN HUNGARY safety 3 A st. 259, New Maadi Cairo 11311 Egypt Népfürdő u. 22/B. 12. em. Budapest 1138 Hungary Training and education All companies Naftogaz group Phone: +201 272 47 77 72, +201 220 88 57 76 Phone: +36 1 791 0256, +36 1 791 0257 e-mail: [email protected] e-mail: [email protected] Diversity and equal All companies Naftogaz group www.naftogaz.com, http://naftogaz-europe.com/en www.naftogaz.com, www.naftogaz.hu opportunity Human rights Non-discrimination All companies Naftogaz group OFFICE IN THE KINGDOM OF BELGIUM OFFICE IN TURKMENISTAN Child labor All companies Naftogaz group 40 Rue Breydel, Brussels 1040 Belgium ş.Aşgabat, Arçabil şaýoly, Biznes-Merkezi “ABC” Phone: +32 2 235-86-45, +32 2 235-86-44 Phone: +99 312 48 01 86, +99 312 48 03 10 Forced or compulsory labor All companies Naftogaz group e-mail: [email protected] e-mail: [email protected] Society Local communities All companies Naftogaz group www.naftogaz.com, www.naftogaz.eu www.naftogaz.com, http://naftogaz-europe.com OFFICE IN THE RUSSIAN FEDERATION NAFTOGAZ TRADING EUROPE SA 24 Academyka Pilyugina Street, Moscow 117393 Russia rue Dr-Alfred-Vincent 16, c/o SYNERGIX S.A., Phone: +7 495-747-59-14 succursale de Geneva, 1201 Geneva, Switzerland e-mail: [email protected] тел.: +41 22 735 3805, +41 22 735 3807 www.naftogaz.com, http://naftogaz-europe.com/ru e-mail: [email protected] www.naftogaz.com 216 217 216 217