1

RAO UES of RussiaAnatoly Chubais, CEO

European Policy Centre

BrusselsMay 15, 2008

Russian Power Sector Reform:

New Market opportunities for Russia and the EU

2

Reform results Structural changes MarketsInvestmentBuilding up new markets

Post-reform risksRisk of market monopolizationRisk of price manipulation

Electric Power Sector in Russia and EU Member StatesCurrent results, problems and cooperation prospects

Contents

3

Basics of the Reform: Separation of Monopolistic and Competitive Sectors

Mo

no

po

list

ic s

ecto

rs

Dispatching

Transmission and Distribution grids

Co

mp

etit

ive

sect

ors

Supply

Generation

Private propertyand

market

Government propertyand

Government regulation

Structural changes

4

High Voltage

Grids

CentralizedDispatching

Administration

32 Federal PowerPlants

Minority Shareholders

Russian Government

52% 48%

RAO UES

73 АО-Energos

Generation

Transmission and

Distribution Grids

SupplyRegional

Dispatching Administrations

Structural changes

Pre-reform RAO UES structure

5

73 АО-energos

Generation

Wholesale and Territorial

Generation Companies

(OGKs and TGKs)

Regional Dispatching

Administrations

System Operator

Supply

Supply companies

Transmission and

Distribution grids

Federal Grid Company

(transmission grids)

Interregional distribution grid

companies(distribution grids)

АО-energo unbundling: Key element of structural changes

Structural changes

6

2000 - 2008

UES

reform

UES

reform

Key political factions in the State Duma

Certain Officials in the Government and the

President’s Administration

The majority of Senators

Conservatively-minded energy specialists

and scientists

The majority of Governors

Influential oligarchs

The majority of minority shareholders

Power Sector Reform: No objectors left

Structural changes

7

Post-reform Power Sector structure

Structural changes

Competitive market

Government property

Private property

Monopolistic sectors

System

Operator

Competitive sectors

Supply

6Wholesale Generation Companies

(OGKs)

Rosenergoatom (NPP)

14Territorial

Generation Companies (TGKs)

11Interregional Distribution Companies

(IDC)

Federal

Grid

Company

Wholesale Hydro

Generation Company Independent

GenerationCompanies

8

Market system: What is done, what is to be done

Markets

CompetitiveElectric Power

WholesaleMarket

since 1.09.2006

CompetitiveElectric Power

WholesaleMarket

since 1.09.2006

Capacity Market2008

Ancillary ServicesMarket

2008

Derivative Financial

Instruments Market

Retail Marketsince 1.09. 2006

LiberalizedTrans-border

trade2008-2009

Balancing Market2005

9 All new capacity and consumption commissioned after 2007 go to the free market

0%5%

10%15%

25%30%

50%

60%

80% 100%

0%

20%

40%

60%

80%

100%

Jan.1,2007

July 1,2007

Jan.1, 2008

July1,2008

Jan.1,2009

July 1,2009

Jan.1,2010

July 1,2010

Jan.1,2011

Sept. 1, 2006

~18% (Sept. 06)

~20% (Jan. 08)

Excluding Household consumption

Actual pace of liberalization (facts and estimates)

Mandatory increase of the liberalized market share

~ 25%

~35%

~40%

~60%

~70%

~90%100%

Competitive wholesale market:Pace of liberalization…

Wholesale market (NOREM)

Markets

10Source: Administrator of Trade System (ATS)

Average prices (Europe+Urals and Siberia), Euro/MWh

6

9

12

15

18

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24

Day (Apr 07)

6

9

12

15

18

21

01.10.07 08.10.07 15.10.07 22.10.07 29.10.07

Week and month

6

12

18

24Year

…and Supply/Demand Equation Prices

.Sept.06 Oct .06 Nov.06 Dec.06 Jan .07 Feb .07 Mar .07 Apr .07 May.07 Jun .07 Jul .07 Aug.07 Sept.07 Oct .07 Nov.07 Dec.07 Jan .08 Feb 08 Mar .07

Markets

112006

2010

2020

2030 Target concept for Development of the

Russian Power Sector until 2030

2006-2010 Investment

Programfor UES Holding

Company

5-year investment programs for energy companies

from 2008

2006 2010 2020 2030

Investment

Prospects until 2030:Target Concept, General Scheme, Investment Programs

General Scheme for allocating power capacity until 2020

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Total : ~ 119.6 billion Euro

Expenditure by business, billion EuroSources of finance, billion Euro

39.2(34%)

36.1 (30%)

24.2(20%)

5.2(4%)

14.9(12%)

Private investments Companies’ funds

Credits and loans Other

State budget financing

Generation (thermal and hydro)Grids (transmission and distribution)

Dispatching

65.6 (54%)

48.4 (41%)

1.1 (1%)

4.5 (4%)

Far East

Investment

CAPEX 2008-2012 – over 119 bn EuroSources of finance and expenditure

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Investments

2002-2012: Volume of financing

1.7 2 2.83.5

28.3 27.3

4.6

9.9

22.3

22.2

19.5

10

20

30

Volume of financing (generation+grids+dispatching)

2009 vs. 2002: Growth of annual investments by a factor of 17

2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

billion Euros

0

Investment

2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

Average annual volume of generating capacity commissioning (including NPP), according to the General Scheme up to 2020. 2006-2010: 7.2 GW 2011-2015: 16.3 GW 2016-2020: 13.7 GW

0.6

2.1

11.9 1.7

1.9 2.2

5.1

12.9

13.7

10

0

4

8

12

16

ГВт

Capacity commissioning as of the years(thermal- + hydro generation)

2011 vs. 2002: Increase in annual commissioning, 23-fold

2002-2012: Volume of financing and capacity commissioning

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Development trends: Current and emerging types of business activity

Power Sector Development

Program

Power machinery (procurements solely for OGKs and TGKs):

~ 21.6 billion Euro

Electrical equipment(procurements solely for FGC):~ 7.6 billion euro

Coal:~ 731 million tonnes

Gas:~ 848 billioncub. m.

8 - fold

4 - fold

40%

30%

Construction materials(solely expenditure on cement of TPPs and HPPs): ~ 0.3 billion Euro

R&D(solely in thermal power sector):~ 2 billion euro

Construction and installation(solely in thermal power sector):~ 9 billion Euro

4.5 - fold

4 - fold

8 - fold

(Expert estimates)

New markets

Turnkey project implementation (EPC/EPCM-contracts)~8.5 billion Euro(as of 01.03.2008)

2010 vs. 2006

15

Post-reform risks

16

Market liberalization refusal risk

0% 5%10%

15%

25%30%

50%

60%

80% 100%

Jan.1,2007

July 1,2007

Jan.1, 2008

July 1,2008

Jan.1,2009

July 1,2009

Jan.1,2010

July 1,2010

Jan.1,2011

Sept.1, 20060%

20%

40%

60%

80%

100%

~18% (Sept. 06)

~20% (Jan. 08)

Exclusive of Household consumption

Actual pace of liberalization (facts and estimates)

Mandatory increase in the liberalized market share

~ 25%~35%

~40%

~60%

~70%

~90% 100%

• Legal: Law on electric power bans state regulation of prices since 2011. Market liberalization schedule was introduced by the Russian Government regulation.

• Political: In fact liberalization schedule is a direct promise of the Russian Government to the Russian and foreign investors.

• Economic: Review of liberalization schedule will destroy investment program of power companies.

Annual average growth of electric power tariffs in 2005-2007: 10.7%Annual average expected growth of electric power tariffs in 2008-2011: 20.7%

Arguments against the risk

Conclusion: Risk is improbable

Risks

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Risks

Risks of market monopolization by major player

Risk reduction instruments –Expanded special powers of antimonopoly bodies:

• Antimonopoly regulation and control in the wholesale and retail markets (in accordance with Article 25 of the Federal Law "On the Electric Power Industry") • Development of antimonopoly regulation and control rules in electric power sector (draft of Government Regulation– Q2 2008)

20%GazpromRussia

20%British Energy UK

22%VattenfallScandinavia

32%E.OnGermany

38%EndesaSpain

45%Enel Italy

82%EdFFrance

Market ShareCompany Country/Region

Generation: Internal market shares of European energy companies

As of July 1, 2008, affiliation is prohibited in the Russian competitive and monopolistic energy sectors

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Risk of electricity price manipulationthrough fuel prices

Gazprom controls the supply of approximately 54% of fuel for Russian thermal power sector

Risk reduction instruments:

Expanded special powers of antimonopoly bodies:• Antimonopoly regulation and control in the wholesale and retail markets (in accordance with Article 25 of the Federal

Law "On the Electric Power Industry") • Development of antimonopoly regulation and control rules in electric power sector (draft of Government Regulation– Q2

2008)Existing powers of antimonopoly bodies:• Penalties (up to 10% of fuel revenue in local markets) for monopoly abuse• Behavior conditions for monopolists – as strict as possible forced sale of assets

Fuel balance structure of thermal generation in Russia

Structure of gas supplies for thermal generation in Russia

Gas68%

Coal+

fuel oil(32%)

Independent producers

21%

Gazprom structures

79%

Risks

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Electric Power Sector in Russia and the EU:Current results, problems and cooperation prospects

20Foreign strategic investors Other strategic and portfolio investors

EU strategic investors:Participation in the IPO and competitive OGK/TGK share sale …

Russia and Europe

21.6 billion Euros is what has already been received from private sector investments as a result of IPOs and competitive sale of OGKs/TGKs shares

Billion Euro

ENEL (June 2007): • Purchase of the State’s share in ОGК-5 stocks at auction for 1.1 billion Euro.

E.ON (September – October 2007)• Purchase of additional issue of ОGК-4 stocks and purchase of State’s share in ОGК-4 stocks for 4.1 billion Euro.

Fortum (February – March 2008)• Purchase of additional issue of ТGК-10 stocks and purchase of State’s share in ТGК-10 stocks for 2 billion Euro.

14.4(67%)

7.2 (33%)

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… and present role in the Russian Power Sector

* - As of March 2008

** - At the moment of share purchase exclusive of commissioning under investment programs until 2012

European strategic investors control companies with total capacity of 20.4 GW–

• approx. 10% of the Russia’s installed capacity• 13% of the RAO UES’ installed capacity in 2007

• 19% of all thermal OGKs and TGKs installed capacity

Total installed capacity of RAO UES power plants in 2007 -161.2 GW, including thermal OGKs and TGKs – approximately 108 GW

Russia and Europe

ENEL

Current shareholding: ~60% OGK-5 shares *

Installed capacity of OGK-5 power plants – approximately 8.7 GW**

Original shareholding: ~25% of OGK-5 shares

E.ON

Current shareholding: ~76% OGK-4 shares *

Installed capacity of OGK-4 power plants – approximately 8.6 GW**

Original shareholding: ~73% of OGK-4 shares

Fortum

Current shareholding:~76% TGK-10 shares*

Installed capacity of TGK-10 power plants – approximately 3.1 GW**

Original shareholding: ~76% of TGK-10 shares

22

Volume of orders of thermal OGKs and TGKsto power machinery and electrical equipment companies in EU countries

30

122.792.3

320.3

0

100

200

300

400

2005 2006 2007 2008

Million Euro

European companies account for approximately 27% of total volume of orders for primary equipment for thermal OGKs and TGKs

Russia and Europe

Supply of Equipment: Increase in orders from Russia

23

“Electric Power Border” between the CIS/Baltic States and Europe: Hurdle on the way to Russia-EU cooperation

Solutions: Synchronous interconnection of UCTE and IPS/UPS Power Systems

Results of the feasibility study of synchronous interconnection (April 2008):

• Synchronous interconnection project has no unsolvable problems of technical, operational or organizational character

• Synchronous interconnection – long-term prospect

• Synchronous interconnection requires major investments on both sides in the development of grid transmission capacity and improvement of system security

• Synchronous interconnection mid-term alternative– DC links (asynchronous interconnection)

Russia and Europe

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Functional unbundling Legal unbundling Ownership unbundling

The issue is not settled yet for the majority of EU countries: Ownership unbundling of VICs and spin-off of distribution grids

EU countries

Deadline for ownership unbundling of RAO UES (Federal Law No. 250, November 4, 2007)

Russia July 1, 2008

??

Functional, Legal and Ownership Unbundling:Similarities and differences

Russia and Europe

25

Sources: EU, IMF

Russia and Europe

Ownership Unbundling:European Energy Policy Evolution

Until 1990 – unity of conservatives

Countries opposing ownership unbundling of VICs

By 2000 – Split of opinions in the EU:Liberals vs. conservatives

Countries supporting ownership unbundling of VICs

Countries unsure about the type of model

Others

2008:Russia’s position helps European liberals

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Chemistry of the Russian reform

We do not consider this recipe the best option for Europe – Each State has its own “mix of ingredients”

But we are convinced that market values –

even in such a complicated area as the Power Sector and in such a unique setting as Russia –

are central and indispensable components

Basic principles: Market, Competition, Transparency

Best global practicein reforms

In-house know-how gained during the reform

+

+The Russian model

of Power Sector reform