Annual report 2019 ON TO NEW HEIGHTS Financial results of Naftogaz Group in 2019, UAH bn Oil midstream Gas domestic Total Integrated gas and downstream Gas transit* transmission* Gas storage Ukrnafta Other MARKET AND REFORMS Revenues** 2018 289.6 137.8 13.0 72.3 27.2 1.8 36.1 1.4 2019 251.6 114.5 12.0 70.2 22.7 3.3 28.2 0.7 -13% -17% -8% -3% -17% 83% -22% -50% STRATEGY AND OPERATIONS STRATEGY Assets 2018 578.3 210.5 14.9 96.4 18.3 199.8 30.0 8.6 2019 484.5 224.9 16.6 111.4 14.2 76.7 32.9 7.7 -16% 7% 11% 16% -22% -62% 10% -11% CORPORATE GOVERNANCE CORPORATE Adjusted EBITDA 2018 90.9 43.3 2.2 36.6 -1.8 0.0 13.1 -2.5 2019 65.0 37.0 1.1 34.3 -9.8 2.0 2.3 -1.9 -28% -15% -50% -6 -444% 6 494% -82% 24% RESPONSIBILITY ENVIRONMENTAL AND SOCIAL ENVIRONMENTAL * discontinued operations ** elimination for operations within the group was not included Net cash generated by Net profit Dividend payments Tax payments Capital investments operating activities 2018 11.6 29.5 109.1 24.9 71.6 2019 63.3 20.8 100.6 27.7 110.0 446% -30% -8% 11% 54% FINANCIAL OVERVIEW AND STATEMENTS Annual Report 2019 2 Naftogaz Group Annual Report 2019 3 Naftogaz Group CONTENTS Address of supervisory board 7 CEO's address 9 MARKET AND REFORMS MARKET AND REFORMS Macroeconomic overview 13 Natural gas market 17 Global oil market 33 Unbundling of GTS Operator 41 Natural gas transit 45 Legislative changes 49 STRATEGY AND OPERATIONS Address of COO 55 Integrated Gas Business Delivery Unit 61 Oil Midstream and Downstream Business Delivery Unit 77 Natural gas transmission 83 STRATEGY AND OPERATIONS STRATEGY Gas Storage Business Delivery Unit 91 Technical Business Enabling Unit 95 Ukrnafta PJSC results 101 New Energy Business Unit 105 New Businesses 109 CORPORATE GOVERNANCE Address of the supervisory board member 115 Corporate governance 117 Report of Naftogaz supervisory board 121 Executive board members and their remuneration 131 Risk management 133 GOVERNANCE CORPORATE ENVIRONMENTAL AND SOCIAL RESPONSIBILITY Address of first deputy CEO 137 Human resources management 139 Occupational safety 149 Cooperation with local communities 157 Investments in energy efficiency 159 Environmental protection 163 Procurement management 173 FINANCIAL OVERVIEW AND STATEMENTS CFO's address 179 RESPONSIBILITY Summary of 2019 results 181 ENVIRONMENTAL AND SOCIAL ENVIRONMENTAL Consolidated financial statements 185 Independent auditor’s report 187 Consolidated statement of financial position 191 Consolidated statement of profit or loss 192 Consolidated statement of comprehensive income 192 Consolidated statement of changes in equity 193 Consolidated statement of cash flows 193 ADDITIONAL INFORMATION Determination of the content and the material topics of the report 237 Material topics under GRI Standard 239 Contacts 245 Terms and abbreviations 246 FINANCIAL OVERVIEW AND STATEMENTS Annual Report 2019 4 Naftogaz Group Annual Report 2019 5 Naftogaz Group MARKET AND REFORMS It is my great pleasure, on behalf of my colleagues on the private discussions with the President of Russia. We are also supervisory board and all employees of Naftogaz of Ukraine, grateful to Ukraine's international partners in EU and USA to invite you to read this 2019 Annual Report. whose support helped us achieve the result. ADDRESS OF The past year has been an extraordinary time for the Finally, the third challenge was to steer the Naftogaz Group company and achievements have been commensurate. Our through turbulent global times, including a rapidly melting challenges have been numerous and extremely difficult. I am energy market and falling oil and gas prices. This context has very proud that the company, under the leadership of Andriy made our third challenge equally vital: the transformation Kobolyev and the executive board, has managed to meet all of Naftogaz into a modern energy company that Ukraine can SUPERVISORY of our challenges successfully, to the benefit of the people of be proud of and that is a major actor on the energy front Ukraine. contributing in a substantial way to the transformation of the In these thanks, I naturally wish to associate the country towards a vibrant, healthy and sustainable future that government of Ukraine. Without their support, our serves the people of Ukraine well. AND OPERATIONS STRATEGY achievements would not have been possible either. Now that the unbundling has been completed, the BOARD CHAIR Allow me some brief words on each of these challenges. Stockholm arbitration is behind us – fortunately with The first challenge has been the successful unbundling substantial revenues in our bank accounts – the third and delivery of our UTG business to form an independent challenge, the Naftogaz transformation into a vibrant and transmission business. On January 1, 2020 the unbundling exemplary energy player in the midst of a collapse of the project was completed. OGTSU LLC was transferred from energy markets will become the main focus of the group for Ukrtransgaz JSC (Naftogaz Group) to the ownership and the coming years. This challenge has also seen progress during management of the state company MGU JSC, 100% of which the last year, particularly with the planned strengthening of is owned by the Ministry of Finance of Ukraine. Many doubted our executive board and the further progress on the internal that this unbundling would be achieved, in time and in quality. organization of the "new" Naftogaz. This was for me never in doubt. I wish to thank the Naftogaz We already know that 2020 does not offer in its early Unbundling team for ensuring this outcome, as well as the months much to rejoice about: gas prices have continued to supervisory board of MGU, who have become partners in this fall, but in addition the entire globe has been attacked by the GOVERNANCE CORPORATE major development. COVID-19 virus, which in the short run has halted most of the In creating the successful unbundled business, we greatly world's economies, further depressing energy markets, but benefited from the support of major European international foremost putting the government and the people of Ukraine transmission partners who formed a consortium to advise in front of tremendous challenges, of a type not experienced us on the operation, and also the Energy Community so far. Secretariat who atively participated and certified the new Times were already expected, towards the end of 2019, unbundled entity as complying with the European Energy to become even more difficult in 2020. The current health Directives. Other international partners, such as the World and economic crisis are making the year 2020 even more Bank, the EBRD, and also some major countries committed critical. Fortunately, the government of Ukraine has agreed to Ukraine's transformation, watched and supported us. Let with our recommendation to reappoint our CEO for another them receive our thanks here and we remain indebted to 4 years, allowing continuity and competence in leadership them. This means that a major step has been made to fulfill at a time when stress and disruption appear all around us. RESPONSIBILITY Ukraine's promise as an integrated player in European and Andriy Kobolyev, together with the new executive board and international gas markets. This has been achieved and we the entire Naftogaz community, has our greatest thanks and AND SOCIAL ENVIRONMENTAL should all take pride in it. admiration for accepting the challenge in what are most Clare Spottiswoode The second challenge facing Naftogaz was our litigation difficult times, and agreeing to put their best efforts that the Supervisory board chair with Gazprom at the Stockholm Court of Arbitration. All have group can continue its journey towards showing that Ukraine witnessed the successful conclusion of these negotiations has one more great company to be proud of. with an agreement by Gazprom to not only pay USD 2.9 billion Ukraine is a resilient country, not unfamiliar with suffering to Naftogaz as part of the settlement of the arbitration case, in major ways. Naftogaz has inherited this resilience in its but also to agree a 5-year transmission contract which allows blood, and it will serve the group well in the months and years Naftogaz to absorb the loss of its transmission business (and to come, and Naftogaz will come out of the current global With my and my board’s sincere thanks. its associated revenues) in a more gradual way. Of course, this crisis stronger. This we all are committed to in Naftogaz Group, agreement was made possible by the excellent negotiating and we will spare no efforts to also navigate 2020 in the best efforts of Naftogaz team, which very early on believed in the way possible notwithstanding a very adverse environment. possibility of this outcome and then spared no effort to make In this environment, we look forward to the support of it happen. The outcome vitally benefited from the full support our shareholder, the government of Ukraine, and all the and engagement of the President of Ukraine, who spared stakeholders of Naftogaz Group who share its ambition and no effort either in ensuring this most favorable outcome in purpose. FINANCIAL OVERVIEW AND STATEMENTS Annual Report 2019 6 Naftogaz Group Annual Report 2019 7 Naftogaz Group a drop in their cost. In particular, we anticipated that gas Ukrainians. Therefore, steps aimed at creating a transparent, would cost much less due to the LNG market glut and the competitive gas market in Ukraine will develop the country emergence of new suppliers. However, the economic crisis as a whole and strengthen opportunities for greater social CEO’S ADDRESS turned out to be much stronger than we expected.