ROSNEFT ANNUAL REPORT 2017 Type Risk description Risk management measures Industry-wide risks Related to crude oil, gas and Crude oil, gas and petroleum product prices are the key factor affecting Rosneft’s Rosneft has sufficient capability to redistribute petroleum product prices financial and, indirectly, operational performance. Prices for the Company’s products its commodity flows in case of a significant price depend mainly on the global market environment and the supply and demand balance in difference between the domestic and international some regions of Russia. Rosneft’s ability to control its own product prices is significantly markets. The Company is among the world’s leaders limited. by upstream costs per boe, and can promptly cut its A fall in oil, gas or petroleum product prices has an adverse impact on Rosneft’s perfor- capex and opex to meet its commitments and obli- mance and financial position. gations if prices for oil, gas, and petroleum products A decrease in prices may result in less profitable oil and gas production by the Com- should plummet. Besides, the negative impact of the pany, which will in turn entail a reduction of Rosneft’s effective reserves and financial price risk on the Company’s financial performance is viability of exploration. partially offset by changes in FX rates (natural hedge effect). Related to the dependency on Rosneft depends on monopolistic providers of oil, gas and petroleum product transpor- Rosneft takes into account the negative impact of monopolistic providers of oil, tation services and cannot control the infrastructure they operate and payments they changes in the natural monopolies’ tariffs for hydro- gas and petroleum product charge. carbon transportation when planning the Company’s transportation services and PJSC Transneft is a national monopoly providing oil and petroleum product transporta- future business operations. Decisions to change their tariffs tion services via its trunk pipelines. During its cooperation with Transneft, the Company transportation flows and optimize the schedule of the has not incurred any substantial loss due to failures or leaks in Transneft’s pipelines. Company’s product supply via the Russian oil and gas However, any serious failure in Transneft’s pipeline operation or limited access to pipeline system are made depending on the degree of Transneft’s capacities may disrupt oil and petroleum product transportation and the risk impact. adversely impact Rosneft’s performance and financial position. Like other Russian oil producers, Rosneft is required to pay for transportation services provided by Transneft. Transneft’s charges for pipeline transportation of oil and petro- leum products are set by the tariff regulator. Transneft periodically increases charges for the use of its network. These increases in tariffs result in higher costs for the Com- pany, which adversely impacts its performance and financial position. Similar risks may result from the use of Gazprom’s pipeline system. The Company is also dependent on railway transportation of its oil and petroleum products. OJSC Russian Railways (RZD) is a national monopoly rendering railway trans- portation services. RZD tariffs are subject to anti-monopoly control, and traditionally they tend to grow. Further increases in tariffs entail higher costs of oil and petroleum product transportation and may have a negative effect on the Company’s performance and financial position. Related to geographical The regions where Rosneft operates have a stable climate and generally are not Rosneft has the capability to redistribute commodity And climatic conditions exposed to natural calamities and disasters. However, abnormally low temperatures in flows taking into account climatic conditions, including winter in some northern regions can make the operation of the Company’s oil-produc- the use of alternatives for oil and petroleum product ing sites more difficult. transshipment, as well as the shipment schedule Delays at export terminals can be caused by climatic characteristics of their locations. adjustment. Rosneft exports some oil via its own marine terminals and Transneft-controlled termi- nals. Petroleum products are exported via its marine terminals in Tuapse (Krasnodar Territory) and Nakhodka (Primorsky Territory). Export via the terminals on the Black Sea to Mediterranean ports may be limited by the capacity of the Bosporus and weather conditions on the Black Sea (storms) in fall. Complex ice conditions in winter may require the shutdown of export terminals on the Baltic Sea and in De-Kastri (Khabarovsk Territory). Any long delay in export terminal operation may have a negative effect on the Compa- ny’s performance and financial position. Related to the sale of gas The key factor that may have a negative impact on the Company’s gas sales consists The Company diversifies its consumer portfolio to produced by the Company in the failure to take the required amount of gas on the part of consumers. Natural gas ensure that gas consumption targets are met, and sales are also affected by the following factors: makes claims to ensure efficient cash receipt for the Non-compliance with the current requirements of PJSC Gazprom for the quality of gas sold gas. Risks related to the quality of gas sent to the sent to the gas transportation system, which may entail the risk of restriction of the gas transportation system can be mitigated by imple- volume of gas accepted by the transportation system due to qualitative characteristics, menting technical measures to raise the quality of gas as well as penalties imposed by Gazprom. to meet the set standards. The Company continuously Gazprom capping the Company’s gas volumes accepted by the GTS to reflect the monitors conditions and ensures non-discriminating amount of gas undistributed to consumers. access to Gazprom’s gas transportation system. The Company has also developed an action plan to mitigate the risk of restricted access to the gas transportation system, including changes in gas supply schedules, redistribution of volumes among various consumers and alternative arrangements for gas supply to consumers via third-party producers. 304 Appendix No. 2 Type Risk description Risk management measures Related to the actual amount Data on oil and gas reserves are estimates and contain some uncertainties. The actual Rosneft is a global leader in terms of oil reserves and of reserves reserves may differ from these estimates. Regular re-estimation of the reserves has huge potential to increase its resources minimiz- considerably reduces the uncertainty of estimates. ing any risk of lower oil production as a result of future Data on PRMS and SEC oil and gas reserves provided in this Report are based primarily re-estimation of reserves. on the results of analysis performed by DeGolyer & MacNaughton, Rosneft’s indepen- Rosneft’s SEC-proved reserve replacement ratio dent consultant for estimation of reserves and resources, oil and gas recovery rates, oil stays well above 184% for many years. Rosneft production technologies, etc. intends to replace at least 100% of its hydrocarbon Valuation and estimation of the volume of economically recoverable oil and gas reserves, production by increasing its SEC-proved reserves production volumes, future cash inflows, as well as cost periods for reserve develop- going forward. ment depend on a number of variables and assumptions and may be adjusted over time. The accuracy of any reserves and resources estimate depends on the quality of avail- able information and interpretation of data on oil production technology and geology. Post-evaluation exploration drilling, data interpretation, testing, and production may require significant upward or downward adjustment of estimates of Rosneft’s reserves and resources. Moreover, different experts responsible for estimation of reserves and resources may evaluate reserves and cash inflows differently using the same data. Actual production, revenue, and costs related to reserves and resources might differ from the estimate. There is also an element of uncertainty related to the Russian resource classification system. This system takes into account geological factors only and ignores the eco- nomic feasibility of production. Exploration drilling also entails multiple risks, including the risk of non-discovery of productive oil and gas reserves. The Company carries out exploration activities in different geographical regions, includ- ing areas with unfavorable climatic conditions and high costs. There is often uncertainty over well drilling, infrastructure, and operation costs. The factors contributing to such uncertainty include unforeseen geological conditions, abnormally high or low formation pressure, unforeseen heterogeneity within geological formations, unfavorable weather conditions, etc. As a result, Rosneft may incur additional costs or will have to downscale, suspend, or terminate drilling. If Rosneft cannot conduct efficient exploration or acquire assets with proven reserves, its proven reserves will decrease as the Company produces oil and gas and developed fields are depleted. The Company’s future production greatly depends on successful discovery, acquisition, and development of oil and gas fields. Related to competition There is strong competition in the oil and gas industry. Rosneft mainly competes with The following measures are taken to minimize risks other leading Russian oil and gas companies to: during the sale of petroleum products in the highly · obtain exploration