ANNUAL REPORT 2007 ANNUAL REPORT 2007 3 CONTENTS ADDRESS TO SHAREHOLDERS .............................................................................................. 4 MAIN OPERATING AND FINANCIAL INDICATORS ........................................................................... 7 LUKOIL IN THE WORLD ..................................................................................................... 8 EVENTS IN 2007 ............................................................................................................ 10 EXPLORATION & PRODUCTION ............................................................................................. 16 Licensing ................................................................................................................. 23 Oil and Gas Reserves ................................................................................................... 24 Geological Exploration ................................................................................................. 27 Oil Field Development and Production ............................................................................... 34 Gas Field Development and Production .............................................................................. 42 OIL REFINING, GAS PROCESSING AND PETROCHEMICALS ................................................................... 46 Oil Refining ............................................................................................................... 48 Oils and Lubricants ...................................................................................................... 52 Gas Processing ......................................................................................................... 54 Petrochemicals ........................................................................................................... 55 PRODUCT DELIVERIES AND MARKETING .................................................................................... 58 Crude Oil Deliveries ..................................................................................................... 60 Gas Deliveries ........................................................................................................... 62 Petroleum Product Marketing ........................................................................................... 63 TRADE BALANCE OF LUKOIL SUBSIDIARIES (2007) ........................................................................ 68 TECHNOLOGY AND INNOVATION ............................................................................................ 70 Exploration & Production Technologies ............................................................................... 72 Refining Technologies .................................................................................................. 75 Energy-saving Technologies ............................................................................................ 76 Information Technologies ............................................................................................... 77 SOCIAL RESPONSIBILITY ................................................................................................... 78 Protecting the Environment ............................................................................................ 80 Industrial Safety and Labour Protection .............................................................................. 83 Personnel and Social Programs ....................................................................................... 84 Social Policy and Charity Activities .................................................................................... 87 CORPORATE GOVERNANCE AND SECURITIES .............................................................................. 92 Corporate Governance ................................................................................................. 93 Informational Openness ................................................................................................ 95 Board of Directors and Management Committee ................................................................... 96 Committees of the Board of Directors ............................................................................... 101 Internal Control and Audit ............................................................................................. 101 Company Securities ................................................................................................... 102 Dividends ............................................................................................................... 105 REGION: UZBEKISTAN ..................................................................................................... 107 CONSOLIDATED FINANCIAL STATEMENTS ................................................................................. 112 MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS ............... 150 TAXATION OF DIVIDENDS AND CAPITAL GAINS ........................................................................... 184 REFERENCE INFORMATION ............................................................................................... 188 ANNUAL REPORT 2007 ADDRESS TO SHAREHOLDERS Dear Shareholders, various Russian domestic political factors and to instability Outstanding financial results and realization of new, large- in the global financial system. However, we are doing scale projects made 2007 a remarkable year for LUKOIL. everything we can to maintain high income levels to our Our performance, measured by main industrial and financial shareholders. In particular, the Company continued to buy back indicators, was better than in 2006. The Company continued its own shares: $712 million were spent for this purpose in 2007. to develop in accordance with its long-term strategy and to strengthen its competitive positions on the world energy market. The favourable price environment was the main factor driving LUKOIL began production of gas in Uzbekistan, continued financial results of LUKOIL Group in 2007. Prices for crude major work for modernization of its refineries, and completed oil were high, as were margin levels in the refining segment. acquisition of a filling-station network in Europe. Growth of financial results was also supported by enlarged scale of Company business. In particular, the Company Company net profit in the accounting year rose by 27.1% to a achieved significant increase of oil refining volumes. Refinery record level of $9.5 billion. Return on average capital employed throughputs at the Company’s Russian refineries rose by nearly was 22.2%. Operating cash flow was significantly higher than 8% and loading of Russian refining capacities was over 96%, in 2006, reaching $10.9 billion. This enabled us to finance which is a record level. Unlike most competitors, LUKOIL also $9.1 billion of capital expenditures. And it should be noted that about continued to increase levels of hydrocarbon production. Daily 40% of LUKOIL’s capital expenditures in 2007 were on new projects, output by the Group rose to 2.18 million boe in 2007. High leading to rapid expansion in the scale of Company business. organic growth of production in international projects deserves special mention. Thanks to record financial results in 2007, we were able to recommend dividends of 42 roubles ($1.80) per share for There was positive effect on Company results from work to approval by our shareholders, exceeding 2006 dividends by improve operational and financial efficiency in all areas of the 10.5%. Dividend yield for 2007 is the highest in three years business. LUKOIL also maintained its tight financial discipline, at 2.1%. The price of LUKOIL shares declined slightly in keeping production costs under control despite high inflation 2007 (by 1.1%), for the first time since 2000. This was due to and significant devaluation of the dollar. This was achieved mainly through centralized work with contractors and suppliers, use of tender procedures, energy saving, and increase of labour productivity. In the Exploration & Production segment LUKOIL adhered firmly to its strategic goals of increasing volumes and efficiency of production, and expanding the resource base to ensure steady, long-term growth. The Company is continuously growing its resource base and has completely replaced hydrocarbon production through increase of proved reserves in each of the last 8 years. LUKOIL’s biggest discovery in 2007 was the Bayandyskoye oil field in the Republic of Komi, which will be brought into production in 2008. In total we discovered 7 new fields and brought 13 fields into production during 2007. Average daily production of marketable hydrocarbons grew by 1.5% in 2007. Slowdown in production growth rates compared with previous years was due to sale of a 50% stake in the company Caspian Investments Resources Ltd., lowering of Chairman of LUKOIL Board of Directors, Valery Grayfer natural gas purchases by Gazprom, as well as electricity 5 supply interruptions at fields in Western Siberia. Large resource potential, launch of production in new major projects, and accelerated implementation of the Company’s gas program make us confident that LUKOIL will achieve the goals, which it has set itself for growth of hydrocarbon production in the medium term. The main event in 2007 in the Exploration & Production segment was launch of gas production in Uzbekistan. This was the first time that