1 RAO UES of Russia: Investment Phase of the Reform A. B. Chubais Chairman of the Management Board RAO UES of Russia 10th Annual Investor Conference "Russia: Looking into the Future" June 20, 2006 Moscow

2 1. Investment Phase of the Reform: Essence, Concept, Volumes and Mechanisms ………………………… Structural Transformations …………………………………………………… Market Liberalization …………………………………………………………… Conclusions ……………………………………………………………………….. 15

3 Investment Phase of the Reform: Essence Power Industry Reform: Investment Phase (2006–2008) Completion of structural transformations Liberalization of electricity markets Attraction of large-scale long-term investment in the Russian electricity industry

4 Investment: Concept and Volumes Restructuring Concept Investment annually required for the electricity industry: about $7 billion in 2006, about $20 billion a year from 2008 Investment Deployment Concept Budget financing Private investment Industry's competitive sectors (primarily, thermal generation) Industry's natural monopoly sectors Large-scale investment needs to be attracted, not after the completion of the reform, but during its final phase !!

5 Investment in the Russian Electricity Industry: Demand Source: RAO UESR estimates; material for the June 7, 2006 session of the Russian Government 2006–2010: Electricity industry's demand for investment: about 2.3 trillion rubles (over $85 billion), including generation demand: about 1.28 trillion rubles (over $47 billion) GW Commissioning of generation capacity in Russia: actual and demand GW Capacity commissioning dynamics, 2006–2010

6 Investment in Competitive Sectors: Major Mechanisms Thermal generation is primary investment target 2/3 of Russia's total power generation Additional issue of shares in Wholesale Generation Companies (WGCs) and Territorial Generation Companies (TGCs) Investment Guarantee Mechanism Direct private investment in local projects Private placement Public placement Project financing

7 Potential Candidates for the First Placements of Additional Shares Company Share held by RAO UES of Russia before additional issue Smallest possible share to be held by RAO UES of Russia after additional issue Largest possible additional issue (percentage of current authorized capital) WGC %25% + 1 share138.7% WGC % * 50% + 1 share79.2% WGC-587.7%75% + 1 share16.8% Mosenergo50.9%25% + 1 share103.5% TGC %25% + 1 share99.9% * - Upon completion of company formation (Q3 2006) Fundamental principles for defining the exact volumes, time limits, and sequence of each additional issue are: Investors' actual demand for additionally issued shares Market trends: maximize placement price Provision of funds for companies' investment projects in specified volumes and within the required time limits ! Figures shown in columns 3 and 4 define the limits of each additional issue. None of these figures are an end in itself.

8 Investment in Competitive Sectors Investment Guarantee Mechanism Essence: to compensate the investor for the difference between the electricity price formed in the market and the price necessary for the investment project payback Total generation capacity to be constructed using the Mechanism in 2006–2010: about 5,000 MW The first projects will be implemented in the following energy systems: Tyumenskaya, Tulskaya, Sverdlovskaya, Kuzbasskaya, Tomskaya Investment Guarantee Mechanism approved by a Government Resolution in December : the first bids to attract investment through the Mechanism

9 Special purpose investments Loans VAT refund and other sources Additional issue of shares in Federal Grid Company, System Operator, and Hydro WGC to be transferred to the Government * Federal Grid Company of Unified Energy System (FGC UES) System Operator – Centralized Dispatching Administration (SO – CDA) Hydro WGC * Funds from the Federal Budget required to purchase shares in 2007–2009: 160 billion rubles * Funds from the Federal Budget required to purchase shares in 2007–2009: 5.02 billion rubles * Funds from the Federal Budget required to purchase shares in 2007–2009: 39 billion rubles Investment in Natural Monopoly Sectors: Major Mechanisms

10 Structural Transformations and Market Formation: Main Results as of mid-2006 Electricity Industry Reform (2001–2006) Structural TransformationsMarket Formation 7 out of 7 WGCs, 13 out of 14 TGCs, 4 out of 4 Interregional Distribution Grid Companies (IDGCs) established Federal Grid Company and System Operator established and in operation Unbundling by activity type completed in 57 out of 72 regional energy companies Shares in 83 new generation, grid, sales, service and management companies placed in the Russian stock market (including shares in WGC-3, WGC-5, and TGC-3) Free Trade Sector of the Wholesale Electricity Market established and in operation (annual trade volume is about $3.5 billion) Competitive balancing electricity market in operation All large generation companies brought to the wholesale market (as from January 1, 2006) New model formed for the wholesale electricity and capacity markets (the model is based on a bilateral contract system and competitive markets) New rules developed for the functioning of retail electricity markets

11 Structural Transformations: in the Short Term (from August 1, 2006) Structural Transformations Preparatory works for share placement in the first WGCs and TGCs First Reorganization: pro rata distribution of shares General Meeting of Shareholders of RAO UES of Russia (November 2006) Board of Directors of RAO UES of Russia (June 23, 2006) Selection of 1-3 generation companies with pro rata distribution of shares (candidates: WGC-3, WGC-5, TGC-5) Decision on the additional issue and placement of shares in 3–5 Thermal WGCs and TGCs in the stock market Board of Directors of RAO UES of Russia (July–September) Approval of specific characteristics of the additional issue and placement of shares in WGCs and TGCs based on the list approved on June 23, 2006

12 Structural Transformations: in the Medium Term (2007–2008) Share placement in the rest of TGCs and WGCs Structural Transformations Second Reorganization: pro rata distribution of shares General Meeting of Shareholders of RAO UES of Russia (2008) Board of Directors of RAO UES of Russia (2007–2008) Unbundling of RAO UES of Russia Pro rata distribution of company`s assets among shareholders Transfer of functions to the Government and to the power infrastructural entities Decisions on the additional issue and placement of shares in WGCs and TGCs Possible additional decisions: Sale of minority shareholdings in thermal generation companies Direct equity in project finance investments in thermal power plants SPVs

13 Market Liberalization: in the Short Term (from August 1, 2006) Launch of short-term RBCs (with a term until the end of 2006) Market Structure (from August 1, 2006) Regulated Bilateral Contracts (RBCs) Competitive Markets The 2007 State Budget should fund the termination of cross-subsidies Status of the Supplier of Last Resort Translation of the Wholesale Market price to retail consumers in the case of deviations from contractual volumes Day-Ahead Market (spot) Balancing Market New rules in the Retail Market !!

14 Modifying and Supplementing Market Structure Transition to the long-term RBCs (with a term of 3 years) Capacity Market Ancillary Services Market Retail Market All new generation to be commissioned into the free market (spot or Free Bilateral Contracts). Synchronization of liberalization processes in the wholesale and retail markets Termination of cross-subsidies Competitive market through auctions held by SO Transition from tariff-based capacity sales to competitive capacity trade at auctions held by SO Transition from one-year auctions to long-term auctions Gradual market liberalization: within a range from 5% to 15% a year (5% from January 1, 2007) Voluntary exit from RBCs and entry into Free Bilateral Contracts, spot market Market Liberalization: in the Medium Term (2007–2008)

15 Investment Phase of the Reform: Impact on Investors – Impact on the Electricity Industry Financial stability in a free market environment Predictable payback and financial profitability of investment projects Growth in capitalization of energy companies and their appeal as an investment destination Implementation of large- scale investment projects, satisfaction of growing demand for electricity Investors Power Companies ROI guarantees Favorable conditions to attract investment Investment Phase of the Reform