GEORGIAN NATIONAL ENERGY AND WATER SUPPLY REGULATION COMISSION

1. GEORGIAN NATIONAL ENERGY AND WATER SUPPLY REGULATION COMISSION NATURAL GAS TARIFF REGULATION Guliko bedoshvili Department for Tariffs and Prcing Tbilisi, 2008 June 27-July 3

2. Natural Gas Tariffs Overview Legal aspects of natural gas tariff regulation State policies in natural gas tariff regulation Commission regulated tariffs in gas sector Tarif deregulation and partial deregulation in gas sector Natural gass supply tariffs Natural gas transportation tariffs Natural gas distribution tariffs Natural gas consumption tariffs Taxation system in natural gas sector

3. Legal aspects of natural gas tariff regulation _ Law on Independent National Regulatory Authorities; _ Law on Electric Power and Natural Gas; _ Rules and Methodologies for Identification of Natural Gas Tariffs (approved by the decision of the Commission); _ Decisio of the Commission on Natural Gas Tariffs; _ Existing Tax Legislation; * Tax Code * Law on Customs Tariffs and Fees _ International Agreements; * Agreement between CIS countries, according to which the products produced in aforementioned countries are not subject to import customs tariffs

4. State Policies in Gas Sector In tariff setting, the Commission takes into consideration State Policies _ State Plocies are implemented byt the Ministry of Energy _ The main functions of the Ministry in development and implementation of gas sector State Policies are as follows: 1. Promoting attraction of short-, medium- and long-Term investments, as well as of the crediting resources and making state investments into the sector, with the view of its rehabilitation and development * The funds allocated from the state budget for rehabilitation and development of the sector are administerd by the Ministry. Until 2007, such funds were mainly directed to electric power sector, while since 2007, the rehabilitation and development activities for state sites in gas sector have been commenced. _ Promoting transit, import and export relations in the natural gas sector * Ministry of Energy participates or directly conducts negotiations on import of the natural gas and tarifs thereof (with Azerbaijan) _ Approving Natural Gas Balance _ Is entitled to make the decisions on deregulation or partial deregulation

5. Tarif deregulation and partial deregulation in natural gas sector • The Law on Electric Power and Natural Gas entitles the Ministry of Energy to make a decision on deregulation or partial deregulation of activities in energy sector • * Deregulation _ right to carry out activities without tariff setting • * partial Deregulation _ right to carry out activities on basis of setting the marginal tariffs • * In October 2007, on basis of the Ordinance of the Minister of Energy, the gas supply tariffs were deregulated and partially deregulated • * Gas supply tariffs were released from regulatory requirements, save the gas supplied for the customers connected to the gas distribution netowrks, who were subjected to the partial deregulation

6. Tarifs regulated by the Commission in Gas Sector Authorities of the Commission in tariff setting; * According to the Law on Electric Power and Natural Gas, the Commission regulates the following gas sector tariffs: 1. Marginal supply tariffs only for those customers, who are connected to the gas distribution network 2. Transportation tariff 3. Distribution tariff 4. Marginal consumer tariffs * The Commission does not regulate (process are free): 1. Gas tariffs of gas sold at liquefied gas stations (regulated until 2006) 2. Supply (wholesale) tariffs

7. Natural gas supply tariffs The sources and prices of the natural gas imported to Georgia and their dynamics (Annex #1) * Prior to 2007, natural gas was imported only fro Russia (prices 40$-60$-110$ -235$/1000m3) * Since 2007, the imports also started from Azerbaijan (prices 62,4$ and 120$/1000m3) _ Importers and suppliers of natural gas * Oil and Gas Corporation LLC, JSC Itera Sakartvelo, International Energy Corporation – purchase gas and resell it to the other suppliers and/or customers * All distribution companies are the suppliers at the same time; they purchase the gas fro the above suppliers and supply it to the customers within distribution area * Some importers purchase gas only for their own consumption (Energy-Invest – for Chemical Plant and HOS, Mtkvari-Energetika – thermal power station) _ The natural gas supply (average weighted) tariffs and their structure on example of Oil and Gas Corporation and Itera-Sakartvelo (Annexes 2, 3) * Since 2007, the prices of natural gas inmported from Russia increasd from $110.0 to $235.0 per 1,000 m3

8. Natural gas supply tariffs Since 2007, gas imports also started from Azerbaijan; its prices were much lower then of the Russian gas (62,4$ and 120$) *In order to avoid the tariff shock, on basis of the Natural Gas Balance approved by the Ministry for 2007 and the applications of the suppliers, the Commission determined for customers the awerage weighted tarif of Russian and Azeri gases, which made $167,0/1,000m3; accodingly the gas prices for the consumers increased by just 52% *Gas tariffs were set in 2007, and the customers connected to the distribution network still pay the same prise for the supplied gas

9. Annex 1 Prices and dynamics of the natural gas imported to Georgia, 1999-2008

12. NATURAL GAS TRANSPORTATION TARIFFS _ Capacities of gas transportation system and dynamics of actually imported to and transported through Georgia gas volumes (Annex) * Capacity of transportation system makes 20,0 billion m3 * Maximal gas consumption in Georgia was filed in the end of 1980-ies and amounted to 6.7 billion m3 * In 2007, gas consumption in Georgia amounted to 1.7 billion m3, while transit made 2.0 billion m3 _ Natural gas transportation tariff *Transportation tariff is the same for all consumers (save thermal PPs) and is set at GEL16.62/1,000m3, including VAT _ Natural Gas transit * Gas is delivered to the Republic of Armenia * Transi tariffs are not regulated by the Commission * Revenues received from transit are taken into account in setting transportation tariff

13. Natural gas transportation balance 2000-2007

14. Natural gas distribution tariffs _ Tariff application procedures and requirements * Within 3-dayperiod from submission of the Tariff Application to the Commission by the Licensee, the respective services shall check for the accuracy and completeness of the documents. If the documentation is complete, the administrative proceeding of the Application begins; if the documentation is not complete, the notice requiring submission of the missing documents shall be sent to the Licensee * The draft prepared by the staff of Commission shall be considered at the Meeting of the Commission. *The Commission shall come up with the final tariff in 150 days, maximum. * The Application submitted by the Licensee shall be justified; the audit approved financial analyses of the previous regulated period, as well as any additional information required by the Commission shall also be submitted _ Natural gas distribution tariff structure – Tariff Application Forms (Annex 1) _ The norms for basic costs and net profits of gas distribution * Depreciation norm _ set out in Tax Code * Wage rates _ according to categories assigned to cities and regions * Repair expenses _ up to 5% of the fixed assets * The volume of net profit is currently set by the Commission at 8% of the fixed assets

15. Natural gas distribution tariffs - The norm for losses and its share in gas distribution tariff (Annex 2) * The average volume of normal losses in Kaztransgaz tariff – 9%; for the other companies – up to 5% * In 2006-2007, increase in gas import and supply tariffs has significantly influenced (almost doubled) the share of normal losses in distribution tariffs _ Differentiation of natural gas distribution tariffs by customer categories (pressure) * According to the used methodology, the gas distribution tariffs are set for the high, medium and low pressure comsumers * So far, the Commission has set tariffs for 67 distribution licensees; for 21 of them the tariffs are differentiated (by the pressure); the remaining 46 companies have only low pressure (residual) customers * Following distribution tariffs (including VAT) are set for the various companies: - High pressure – from 0.6 to 3.5 Tetris - Medium pressure – from 2.0 to 12.0 Tetris - High pressure – from 10.0 to 17.0 Tetris

16. B Natural gas distribution tariffs _ Calculation and structure of current Kaztransgaz Lt. distribution tariffs (Annex 3) _ Monitoring of companies’ activities and their financial status * The companies shall quarterly submit information on their activities in the form determined by the Commission, and annually submit the audit approved financial statements * Majority of gas distribution companies are unprofitable. In 2007, the loss of Kaztransgaz-Tbilisi amounted to GEL 72.00 mln., and this mainly is due to a major tecnical losses in the system _ Major problems of the gas distribution companies * The obsolete underground networks and poorly arranged metering result in the major tecnical and, accordingly, financial losses; all the companies require Commission to increase the loss norms * Major consumers try to leave the distribution systems and connec to the transportation system directly; this results in the reduced revenues of the distribution companies and, therefore, they rewquire increase of the residual customers’ tariffs. For instance, Kaspigazi lost the large cement factory (consumes 100-140 mln m3 per annum); Rustavgazi lost chemical plant (250 mln m3) and cement mill (90 mln m3)

17. (Annex 1)Natural gas distribution and consumption tariff Application Form

18. Natural gas distribution and consumption tariff Application Form(continued)

19. Natural gas distribution and consumption tariff Application Form(continued)

20. Annex 2Loss norms and their share in dirstribution (residual) tariffs of some gas distribution companies

21. Annex 3Calculation of natural gas distribution and consumption tariffs by the categories of customers (pressures) – Kaztransgaz-Tbilisi Ltd.

22. Annex 3Calculation of natural gas distribution and consumption tariffs by the categories of customers (pressures) – Kaztransgaz-Tbilisi Ltd. (Continued)

23. Annex 3Calculation of natural gas distribution and consumption tariffs by the categories of customers (pressures) – Kaztransgaz-Tbilisi Ltd. (Continued)

24. Natural gas consumption tariffs _ Natural gas consumption (residual) tariff structure on example of Kaztransgaz-Tbilisi (Annex 1) * The Commission sets caps (upper limits) for consumption tariffs, which consist of supply cap (upper limit), transportation and distribution tariffs * Gas consumption tariffs, like distribution tariffs, are set for high, edium and low pressure consumers’ categories * Kaztransgaz-Tbilisi consumption (residual) tariff _ 50.62 Tetris/m3, including VAT Including: – capped supply tariff – 33,718 Tetris/m3 – transportation tariff – 1,632 Tetris/m3 – distribution tariff – 15,27 Tetris/m3 _ Direct consumers and their tariffs * Direct consumers – mainly the industrial enterprises – are receiving gas directly from transportation network and, therefore, their tariffs include only supply and transportation components * The supply tariffs for direct consumers are deregulated

26. TAXATION SYSTEM IN GAS SECTOR - Applicable taxes and their rates * Property tax -1%, non-agricultural land tax –0.25 Tetris/m2, profit tax –15%, VAT – 18% _ Tax allowances * Released from 12% customs tax * gas supplies to the thermas PSs is released from VAT _ Share of taxes in consumption tariffs * Untill 2005, the share of taxes in consumption tariffs made 23-25% Since 2005, (accordin to new TAx Code) the number of taxes, as well as their rates were reduced: road, entrepreneurship, environmental taxes were abolished; social tax rate was reduced from 31% to 20% and in 2008 was totally abolished; VAT rate reduced from 20 to 18%; profit tax rate reduced from 20% to 15%. * Currently, the tax share (total) in consumption tariffs makes 17-18%.

27. Thank you for your attention