Regulatory environment and macroeconomic indicators

ELECTRICITY AND HEAT TARIFFS

RETAIL MARKETS

Before 1 January 2007, the electricity and heat tariffs for end users were set by the regional regulators within the average supply tariff thresholds set for RAO UES energy entities by the Federal Tariff Service of Russia.

The overall increase in the approved tariffs for end users in 2007 was 10 percent on average for the electricity sector as a whole. The highest rates were set in the Chukotka Autonomous Okrug (411 kopecks per kWh) and the Kamchatskaya Region (373 kopecks per kWh), and the lowest rates were in the Irkutsk Region (32.47 kopecks per kWh) and the Republic of Khakassia (32.58 kopecks per kWh).

The actual average retail electricity prices for RAO UES entities grew by 15.8 percent in 2007, compared to 14.5 percent in the electricity sector as a whole. The key factors contributing to the higher growth of the actual retail tariffs for RAO UES entities compared to the tariffs approved in the Russian Federation were the reduction of the Holding Company's share in the retail electricity sales (which was due to the divestiture of 22 energy retail companies during 2007) and the translation of the growing amount of electricity sold on the wholesale market at unregulated prices.

During the past few years, electricity tariffs were growing against the background of faster growth in prices (tariffs) of products and services provided by other natural monopolies and the utilities sector.

The actual electricity tariff set for large industrial consumers was 106.85 kopecks per kWh in 2007. The average tariff approved for household users for 2007 was 139.82 kopecks per kWh, while the actual tariff for this consumer group was 133.27 kopecks per kWh. The actual tariffs for household users were lower than the approved tariffs due to the electricity benefits available to various population groups in the form of reduced tariffs. The electricity benefits for households in 2007 are estimated at about RUB10 billion.

The electricity tariffs grew by an average of 15.8 percent throughout the Holding Company, while the tariffs for industrial users increased by 11.8 percent and for households, by 13.7 percent.

The amount of cross-subsidies in 2007 was up due to the above mix of tariffs set for different user groups. According to the Federal Tariffs Service of Russia, the cross-subsidies among consumer groups in 2007 amounted to RUB115 billion compared to RUB91 billion in 2006.

GROWTH OF ELECTRICITY TARIFFS AND PRICES OF PRODUCTS (SERVICES) PROVIDED BY OTHER NATURAL MONOPOLIES AND THE RESIDENTIAL UTILITIES*, times

ELECTRICITY TARIFF GROWTH AND INFLATION DYNAMIC*, %

WHOLESALE MARKET

In 2007, the average level of tariffs approved for wholesale electricity suppliers was RUB666.9/MWh (taking into account the capacity rate), an increase by an average of 15.5 percent over 2006.

The weighted average price on the wholesale electricity market in 2007 made RUB523.9/MWh, which is 56.4 percent higher than the average electricity tariff (without taking into account the capacity rate) set by the Federal Tariff Service of Russia for 2007 (RUB335/MWh).

In January-June 2007, according to the wholesale market liberalization schedule, the share of unregulated contracts was at least 5 percent, and after 1 July 2007 it was raised to 10 percent (taking into account over-the-balance volumes – 20 percent).

The tariffs for thermal power plants owned by the WGCs grew in 2007 by 9.4 percent compared to 2006, while the tariffs for thermal power plants owned by the TGCs grew 12.4 percent, and the NPP tariffs were up 17.8 percent.

The tariff for electricity supplied to the wholesale market by OAO "HydroWGC" was set at 43.36 kopecks per kWh, an increase of 82.1 percent on 2006. Such a significant rise in the tariffs for hydropower plants was due to the fact that the funds designated for investment which had been previously included in the subscription fee of RAO "UES of Russia" are now included in the tariffs set for wholesale electricity deliveries for HydroWGC.

Pursuant to Resolution No. 830 of the Russian Government dated 12 December 2006, the power plants operating in the areas outside the two price areas were granted permission in 2007 to trade on the market—the Kaliningrad Region, Republic of Komi, Archangelsk Region, and some regions in the Far East of Russia—the Amurskaya Region, Primorsky Kray, Khabarovsky Kray, the Republic of Sakha (Yakutia), and the Jewish Autonomous Region. The Federal Tariff Service took the relevant tariff and balance decisions for the power plants located in the above areas.

The weighted average tariff for the purchase of electricity (taking into account capacity) in the Russian Federation was RUB662.9/MWh in 2007, an increase of 18.7 percent compared to 2006.

Pursuant to Resolution No. 465 of the Russian Government dated 23 July 2007, 12 constituent entities of the Russian Federation were granted RUB13.3 billion of subsidies to eliminate interregional cross-subsidies in the electricity industry in 2007. These subsidies were conditioned upon agreements to be concluded by the regional executive authorities with the FTS of Russia and the Ministry of Industry and Energy of Russia on the gradual increase of the retail tariffs to the economically justified level. The subsidies provided to the regions made it possible for the FTS to set indicative electricity prices for the subsidized regions in 2007 that are close to the economically justified level. This means that the interregional cross-subsidies on the wholesale market have been practically eliminated.

With effect from 2007, the wholesale electricity market rules provide for the calculation of cost balances (the relationship of the value of electricity and capacity purchased and sold) separately for price areas and for the territories located outside such price areas. The first and second price areas, the Kaliningrad Region, Republic of Komi, and Archangelsk Region achieved a cost balance, while the IES in the Far East of Russia had a planned cost surplus of RUB900 million.

SUBSCRIPTION FEE AND OTHER PAYMENTS OF INFRASTRUCTURE ENTITIES OF THE WHOLESALE ELECTRICITY MARKET

Pursuant to Order of the Federal Tariff Service of Russia, dated 24 November 2006, the subscription fee for the organizational services provided by OAO RAO "UES of Russia" with respect to the operation and development of the UES of Russia was set at RUB27.93/MWh with effect from 1 January 2007. This means that the subscription fee declined in 2007 by 42.7 percent from RUB48.72/MWh in 2006. The operational component of the subscription fee increased by 8 percent, while the investment component (taking into account the income tax) declined by 40.6 percent, which is in accordance with the RAO UES Investment Programme 2007.

The aggregate charges for the services provided by the infrastructure entities (OAO RAO "UES of Russia", OAO "FGC UES", and OAO "SO UES") grew by 7 percent over 2006:

• the fee charged by OAO "FGC UES" for the transmission of electricity via the UNEG grew 9 percent;
• the fee charged by OAO "SO UES" for the system reliability services increased by 5.0 percent;
• the fee charged by RAO "UES of Russia" for the operation and development of the UES of Russia was reduced by 42.7 percent.

The retail tariffs in 1998-2007 grew at a lower pace compared to manufactured products prices and a significantly lower rate than the prices of fuel and power related minerals and oil products manufacture.