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29. Financial risk management

Risk Management Framework

Gazprom Neft Group has a risk management policy that defines the goals and principles of risk management in order to make the Group’s business more secure in both the short and the long term.

The Group’s goal in risk management is to create additional guarantees of achievement by Gazprom Neft of its strategic goals by identifying and guarding against risks and by instituting effective mechanisms to deal with them.

The Group’s Integrated Risk Management System (IRMS) is a systematic continuous process that identifies, assesses and manages risks. Its key principle is that responsibility to manage different risks is assigned to different management levels depending on the expected financial impact of those risks. The Group is working continuously to improve its approach to basic IRMS processes, with special focus on efforts to assess risks and integrate the risk management process into such key corporate processes as business planning, project management and mergers and acquisitions.

Financial Risk Management

Management of the Group’s financial risks is the responsibility of employees acting within their respective professional spheres. The Group’s Financial Risk Management Panel defines a uniform approach to financial risk management at the Company and its subsidiaries. Activities performed by the Group’s employees and the Financial Risk Management Panel minimise potential financial losses and help to achieve corporate targets.

In the normal course of its operations the Group has exposure to the following financial risks:

  • market risk (including currency risk, interest rate risk and commodity price risk);
  • credit risk; and
  • liquidity risk.

Market risk

Currency Risk

The Group is exposed to currency risk primarily on sales and borrowings that are denominated in currencies other than the respective functional currencies of Group entities, which are primarily the local currencies of the group companies, for instance the Russian Ruble for companies operating in Russia. The currency in which transactions described above are denominated is mainly US Dollar.

The Group’s currency exchange risk is considerably mitigated by its foreign currency liabilities: significant share of the Group’s borrowings is US dollars. The currency structure of revenues and liabilities acts as a hedging mechanism with opposite cash flows offsetting each other. A balanced structure of currency assets and liabilities minimises the impact of currency risk factors on the Group’s financial and business performance.

Furthermore, the Group applies hedge accounting to manage volatility in profit or loss with its cash flows in foreign currency.

The carrying amounts of the Group’s financial instruments denominated in the foreign currencies are as follows:

As of December 31, 2012

Russian Rouble

USD

EURO

Serbian dinar

Other currencies

Financial assets

Non-current

Trade and other financial receivables

159

Loans issued

15,441

66

Available for sale financial assets

6,329

424

333

63

255

Forward exchange contracts

342

Current

Trade and other financial receivables

21,157

30,774

307

13,580

778

Loans issued

6,042

133

640

15

Held to maturity financial assets

906

Bank deposits

5,054

1,443

476

522

Cash and cash equivalents

55,714

15,815

1,425

2,214

844

Forward exchange contracts

632

Financial liabilities

Non-current

Long-term debt

(60,694)

(101,098)

(3,133)

(804)

(688)

Forward exchange contracts

(995)

Other non-current financial liabilities

(4,237)

Payables and accruals to employees

(1,112)

Current

Short-term debt

(27,226)

(37,574)

(146)

(1,235)

(14)

Trade and other financial payables

(32,985)

(13,003)

(963)

(3,560)

(819)

Payables and accruals to employees

(5,801)

(40)

(129)

(1,450)

(100)

Forward exchange contracts

(18)

Net exposure

(21,253)

(103,099)

(1,190)

8,823

778

As of December 31, 2011

Russian Rouble

USD

EURO

Serbian dinar

Other currencies

Financial assets

Non-current

Trade and other financial receivables

219

Loans issued

2,759

27

14

Available for sale financial assets

5,682

745

165

90

5

Current

Trade and other financial receivables

18,681

43,723

467

7,701

208

Loans issued

10,777

3,542

205

Held to maturity financial assets

713

1,610

Bank deposits

246

Cash and cash equivalents

16,952

8,673

2,922

173

715

Forward exchange contracts

1,858

Financial liabilities

Non-current

Long-term debt

(63,251)

(109,833)

(3,257)

(509)

(129)

Forward exchange contracts

(6,822)

Current

Short-term debt

(18,776)

(25,047)

(412)

(3)

(92)

Trade and other financial payables

(23,893)

(11,336)

(538)

(3,365)

(282)

Payables and accruals to employees

(8,063)

(3)

(109)

(1,181)

(97)

Forward exchange contracts

(1,782)

Net exposure

(58,200)

(94,645)

(762)

3,111

588

As of January 1, 2011

Russian Rouble

USD

EURO

Serbian dinar

Other currencies

Financial assets

Non-current

Trade and other financial receivables

256

Loans issued

5,332

4,984

103

Held to maturity financial assets

1,531

Available for sale financial assets

3,907

745

269

101

2,376

Forward exchange contracts

2,942

Current

Trade and other financial receivables

16,160

24,129

3,050

4,355

316

Loans issued

937

2,388

2,089

54

Bank deposits

2,729

41

25

539

Cash and cash equivalents

18,671

12,916

1,924

918

491

Forward exchange contracts

2,932

Financial liabilities

Non-current

Long-term debt

(29,345)

(116,064)

(2,841)

(1,174)

Payables and accruals to employees

(1,429)

Current

Short-term debt

(18,216)

(32,363)

(982)

(771)

(528)

Trade and other financial payables

(21,883)

(11,967)

(168)

(2,977)

Payables and accruals to employees

(3,950)

(106)

(616)

(36)

Net exposure

(26,831)

(107,786)

1,171

3,099

2,141

The following exchange rates applied during the year:

Average rate

Reporting date spot rate

12 months 2012

12 months 2011

December 31, 2012

December 31, 2011

January 1, 2011

USD 1

31.09

29.39

30.37

32.20

30.48

EUR 1

39.95

40.88

40.23

41.67

40.33

RSD 1

0.35

0.40

0.35

0.40

0.38

Sensitivity analysis

The Group has chosen to provide information about market and potential exposure to hypothetical gain/loss from its use of financial instruments through sensitivity analysis disclosures.

The sensitivity analysis showed in the table below reflects the hypothetical effect on the Group’s financial instruments and the resulting hypothetical gains/losses that would occur assuming a 10 percent change in closing exchange rates and no changes in the portfolio of investments and other variables at the reporting dates.

Weakening of RUB

Equity

Profit or loss

December 31, 2012

USD/RUB (10% increase)

(9,141)

(12,504)

EUR/RUB (10% increase)

(297)

RSD/RUB (10% increase)

882

December 31, 2011

USD/RUB (10% increase)

(9,513)

(12,148)

EUR/RUB (10% increase)

(98)

RSD/RUB (10% increase)

311

January 1, 2011

USD/RUB (10% increase)

(4,577)

(13,286)

EUR/RUB (10% increase)

(201)

RSD/RUB (10% increase)

310

10% decrease in the exchange rates will have the same in the amount, but the opposite effect on Equity and Profit and loss of the Group.

Interest Rate Risk

The major part of the Group’s borrowings is at variable interest rates (linked to the LIBOR rate). To mitigate the risk of significant changes in the LIBOR rate, the Group’s treasury function performs periodic analysis of the interest rate environment, depending on which Management of the Group decides whether it is more secure to obtain financing on a fixed-rate or variable-rate basis. When changes in the fixed or variable market interest rates are considered significant Management may consider refinancing of certain debt instruments on more favorable terms.

Changes in interest rates primarily affect debt by changing either its fair value (fixed rate debt) or its future cash flows (variable rate debt). However, at the time of any new debts Management uses its judgment and information about current/expected interest rates on the debt markets to decide whether it believes fixed or variable rate would be more favorable over the expected period until maturity.

The interest rate profiles of the Group are presented below:

Carrying amount

December 31, 2012

December 31, 2011

January 1, 2011

Fixed rate instruments

Financial assets

106,750

49,328

55,672

Financial liabilities

(138,531)

(84,400)

(79,975)

(31,781)

(35,072)

(24,303)

Variable rate instruments

Financial liabilities

(94,081)

(136,909)

(122,309)

(94,081)

(136,909)

(122,309)

Cash flow sensitivity analysis for variable rate instruments

The Group’s financial results and equity are sensitive to changes in interest rates. If the interest rates applicable to floating debt increase/decrease by 100 basis points (bp) at the reporting dates, assuming all other variables remain constant, it is estimated that the Group’s profit before taxation will change by the amounts shown below:

Profit or loss

December 31, 2012

Increase by 100 bp

(941)

December 31, 2011

Increase by 100 bp

(1,369)

January 1, 2011

Increase by 100 bp

(1,223)

Decrease by 100 bp in the interest rates will have the same in the amount, but the opposite effect on Profit and loss of the Group.

Commodity Price Risk

The Group’s financial performance relates directly to prices for crude oil and petroleum products. The Group is unable to fully control the prices of its products, which depend on the balance of supply and demand on global and domestic markets for crude oil and petroleum products, and on the actions of supervisory agencies.

The Group’s business planning system calculates different scenarios for key performance factors depending on global oil prices. This approach enables Management to adjust cost by reducing or rescheduling investment programs and other mechanisms.

Such activities help to decrease risks to an acceptable level.

Credit Risk

Credit risk is the risk of financial loss to the Group if a customer or counterparty to a financial instrument fails to meet its contractual obligations, and arises principally from the Group’s receivables from customers and in connection with investment securities.

The Group’s trade and other receivables relate to a large number of customers, spread across diverse industries and geographical areas. Gazprom Neft has taken a number of steps to manage credit risk, including: counterparty solvency evaluation; individual lending limits depending on each counterparty’s financial situation; controlling advance payments; controlling accounts receivable by lines of business, etc.

The carrying amount of financial assets represents the maximum credit exposure.

Trade and other receivables

The Group’s exposure to credit risk is influenced mainly by the individual characteristics of each customer. However, Management also considers the demographics of the Group’s customer base, including the default risk of the industry and country, in which customers operate, as these factors may have an influence on credit risk, particularly in the currently deteriorating economic circumstances.

The Group establishes an allowance for impairment that represents its estimate of incurred losses in respect of trade and other receivables and investments.

Impairment losses

As of 31 December 2012, 31 December 2011 and 1 January 2011, the analysis of financial receivables is as follows:

Gross

Impairment

Gross

Impairment

Gross

Impairment

December 31, 2012

December 31, 2012

December 31, 2011

December 31, 2011

January 1, 2011

January 1, 2011

Not past due

60,057

(107)

69,927

(160)

45,570

(139)

Past due 0–180 days

5,447

(18)

864

(187)

2,485

(261)

Past due 180–365 days

3,900

(2,715)

723

(230)

717

(318)

Past due 1–3 year

1,049

(950)

1,254

(1,221)

1,529

(1,438)

Past due more than three years

4,283

(4,191)

4,287

(4,258)

3,792

(3,671)

74,736

(7,981)

77,055

(6,056)

54,093

(5,827)

The movement in the allowance for impairment in respect of trade and other receivables during the year was as follows:

2012

2011

Balance at beginning of the year

6,056

5,827

Increase during the year

3,837

542

Amounts written off against receivables

388

Decrease due to reversal

(1,064)

(243)

Other movements

(569)

(32)

Translation differences

(667)

(38)

Balance at end of the year

7,981

6,056

Investments

The Group limits its exposure to credit risk mainly by investing in liquid securities. Management actively monitors credit ratings and does not expect any counterparty to fail to meet its obligations.

The Group does not have any held-to-maturity investments that were past due but not impaired at December 31, 2012, December 31, 2011 and January 1, 2011.

Credit quality of financial assets

The credit quality of financial assets that are neither past due nor impaired can be assessed by reference to external credit ratings (if available) or to historical information about counterparty default rates:

A

BBB

Less than BBB

Without rating

Total

As of December 31, 2012

Cash and cash equivalents

5,465

55,174

6,526

5,635

72,800

Derivative financial assets

101

804

69

974

Held to maturity investments

516

390

906

Deposits with original maturity more than 3 months less than 1 year

7,495

7,495

As of December 31, 2011

Cash and cash equivalents

2,213

13,918

541

11,495

28,167

Derivative financial assets

1,362

496

1,858

Held to maturity investments

1,710

613

2,323

Deposits with original maturity more than 3 months less than 1 year

246

246

As of January 1, 2011

Cash and cash equivalents

7,596

21,567

280

4,981

34,424

Derivative financial assets

4,114

1,760

5,874

Held to maturity investments

1,531

1,531

Deposits with original maturity more than 3 months less than 1 year

3,334

3,334

The credit quality of trade and other receivables is assessed regularly by the Management of the Group. For this purposes the customers are individually analysed based on the number of characteristics, such as:

  • legal form of the entity;
  • duration of relationships with the Group, including ageing profile, maturity and existence of any financial difficulties;
  • whether the customer is a final customer or not, related party or not.

One of the major factors that is considered while taking decision is ageing profile. The most significant current customers do not have any breakage of payment history.

Liquidity risk

Liquidity risk is the risk that the Group will encounter difficulty in meeting the obligations associated with its financial liabilities that are settled by delivering cash or another financial asset.

The Group’s approach to managing liquidity is to ensure that it will always have sufficient liquidity to meet its liabilities when due, under both normal and stressed conditions, without incurring unacceptable losses or risking damage to the Group’s reputation. In managing its liquidity risk, the Group maintains adequate cash reserves and actively uses alternative sources of loan financing in addition to bank loans. The Group’s stable financial situation, which is confirmed by international rating agencies, helps it to mobilise funds in Russian and foreign banks with comparative ease.

The following are the contractual maturities of financial liabilities, including estimated interest payments and excluding the impact of netting agreements:

Carrying amount

Contractual cash flows

Less than 6 months

6–12 months

1–2 years

2–5 years

Over 5 years

As of December 31, 2012

Bank loans

95,324

101,284

31,260

9,045

28,826

31,204

949

Bonds

82,025

97,976

23,466

2,637

4,682

47,191

20,000

Loan Participation Notes

46,118

53,534

997

997

1,994

3,987

45,559

Other borrowings

9,145

9,587

4,972

1,131

614

929

1,941

Other non-current financial liabilities

4,237

4,369

874

2,621

874

Trade and other payables

51,330

51,330

46,294

5,036

Payables and accruals to employees

8,632

8,632

7,520

1,112

296,811

326,712

114,509

18,846

38,102

85,932

69,323

As of December 31, 2011

Bank loans

136,572

148,002

11,091

18,411

53,264

64,125

1,111

Bonds

71,999

90,975

5,272

11,249

24,415

30,039

20,000

Other borrowings

8,274

8,274

3,071

3,223

90

271

1,619

Finance lease liabilities

4,464

5,178

983

599

599

1,798

1,199

Trade and other payables

39,414

39,414

38,702

712

Payables and accruals to employees

9,453

9,453

9,453

270,176

301,296

68,572

34,194

78,368

96,233

23,929

As of January 1, 2011

Bank loans

150,412

167,026

21,606

17,145

52,744

74,402

1,129

Bonds

39,173

45,456

12,766

1,322

10,644

20,724

Other borrowings

12,699

12,699

5,251

3,032

1,535

263

2,618

Trade and other payables

36,995

36,995

35,133

1,862

Payables and accruals to employees

6,137

6,137

4,708

1,429

245,416

268,313

79,464

23,361

66,352

95,389

3,747

Capital management

The Group’s objectives when managing capital are to safeguard the Group’s ability to continue as a going concern, to provide sufficient return for shareholders and benefits for other stakeholders and to maintain an optimal capital structure to reduce the cost of capital. In order to maintain or adjust the capital structure the Group may revise its investment program, attract new or repay existing loans or sell certain non-core assets.

On the Group level capital is monitored on the basis of the net debt to EBITDA ratio and return on the capital on the basis of return on average capital employed ratio (ROACE). Net debt to EBITDA is calculated as net debt divided by EBITDA. Net debt is calculated as total debt, which include long and short term loans, less cash and cash equivalents and short term deposits. EBITDA is defined as earnings before interest, income tax expense, depreciation, depletion and amortisation, foreign exchange gain (loss), other non-operating expenses and includes the Group’s share of profit of equity accounted investments. ROACE is calculated in general as Operating profit adjusted for income tax expense divided by average for the period figure of Capital Employed. Capital employed is defined as total equity plus net debt.

The Group’s net debt to EBITDA ratios at the end of the reporting periods were as follows:

December 31, 2012

December 31, 2011

Long-term debt

166,417

176,979

Short-term debt and current portion of long-term debt

66,195

44,330

Less: cash, cash equivalents and deposits

(83,507)

(29,681)

Net debt

149,105

191,628

Total EBITDA

290,376

271,289

Net debt to EBITDA ratio at the end of the reporting period

0.51

0.71

Operating profit

198,743

209,541

Operating profit adjusted for income tax expenses

161,589

167,802

Share of profit of equity accounted investments

28,281

6,874

Average capital employed

974,167

848,896

ROACE

19.49%

20.58%

There were no changes in the Group’s approach to capital management during the year.

Fair value hierarchy

The table below analyses financial instruments carried at fair value, by valuation method. The different levels have been defined as follows:

  • Level 1: quoted prices (unadjusted) in active markets for identical assets or liabilities
  • Level 2: inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly (i.e., as prices) or indirectly (i.e., derived from prices)
  • Level 3: inputs for the asset or liability that are not based on observable market data (unobservable inputs).

Except for forward exchange contracts and SAR all other financial assets and liabilities of the Group are included in Level 3 of the hierarchy.

Level 3

December 31, 2012

Forward exchange contracts

974

Total assets

974

Forward exchange contracts

(1,013)

Other financial liabilities

(1,112)

Total liabilities

(2,125)

December 31, 2011

Forward exchange contracts

1,858

Total assets

1,858

Forward exchange contracts

(8,604)

Other financial liabilities

(1,896)

Total liabilities

(10,500)

January 1, 2011

Forward exchange contracts

5,874

Total assets

5,874

Other financial liabilities

(1,429)

Total liabilities

(1,429)

During 2012 the Board approved the implementation of a cash-settled stock appreciation rights (SAR) compensation plan. The plan forms part of the long term growth strategy of the Group and is designed to reward management for increasing shareholder value over a specified period. Shareholder value is measured by reference to the Group’s market capitalization. The plan is open to selected management provided certain service conditions are met. The awards are fair valued at each reporting date and are settled in cash at the conclusion of the vesting period. The awards are subject to certain market and service conditions that determine the amount that may ultimately be paid to eligible employees. The expense recognized is based on the vesting period.

The fair value of the liability under the plan is estimated using the Black-Scholes-Merton option-pricing model by reference primarily to the Group’s share price, historic volatility in the share price, dividend yield and interest rates for periods comparable to the remaining life of the award. Any changes in the estimated fair value of the liability award will be recognized in the period the change occurs subject to the vesting period.

The following assumptions are used in the Black-Scholes-Merton model as of December 31, 2012 and January 1, 2011:

December 31, 2012

January 1, 2011

Volatility

7.50%

11.21%

Risk-free interest rate

6.27%

5.96%

Dividend yield

3.90%

3.83%

As of December 31, 2011 no assumptions required to be made by the Group as SAR accrual based on actual calculation is accounted for in these Consolidated Financial Statements.

In the consolidated statement of comprehensive income for the period ended December 31, 2012 and 2011 the Group recognized compensation expense of RUB 1,112 million and RUB 467 million correspondingly. This expense is included within selling, general and administrative expenses. A provision of RUB 1,112 million has been recorded within other non-current liabilities in respect of the Group’s estimated obligations under the plan at December 31, 2012. As at December 31, 2011 the amount of the provision was equal to RUB 1,896 million. As at January 1, 2011 the amount of the provision was equal to RUB 1,429 million.

Notes in Consolidated Statements:

Consolidated Statement of Cash Flows for the Year Ended December 31, 2012 Back to list

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