Quarterly report public Joint Stock Company rosseti issuer Code: 55385-E

2.4.4. Legal Risks

The Company builds its activities on compliance with the applicable legal regulations of the Russian Federation, including currency, tax, and customs laws, and monitors amendments thereto on an ongoing basis.

The Company does not expect any short-term major risk in its financial and economic activities associated with radical changes in tax law and currency control or changes in the rules of customs control and duties.

In general, to minimize various legal risks the Company, on a mandatory basis, conducts preliminary legal review of planned corporate procedures, conducted transactions and other aspects of financial and economic activities provided for by the applicable laws and/or Articles of Association of the Company. Additionally, the Company updates local regulatory documents with respect to claim-related work.

Compliance risk.

Activities of the Company and SDCs are governed and overseen by Russian authorities and agencies, primarily by the following: Federal Antimonopoly Service; Federal Taxation Service; Ministry of Energy; Bank of Russia Financial Markets Service; Federal Service for Environmental, Technological and Nuclear Supervision; etc. Furthermore, as government-linked companies, the Company and SDCs implement ordinances and instructions issued by the Government of the Russian Federation, and their proper use of budgetary funds allocated for significant capital investment projects is supervised by the Accounts Chamber of the Russian Federation.

Due to the placement of the Company’s financial instruments on Russian and UK trading floors, the Company satisfies the requirements laid down in Federal Law No. 224-FZ of July 27, 2010, “On Combating Insider Information Misuse and Market Manipulation and on Amendments to Certain Legislative Acts of the Russian Federation,” Federal Law No. 251-FZ of July 23, 2013, “On Amendments to Specific Legislative Acts of the Russian Federation in Connection with the Transfer of the Authority to Regulate, Control, and Supervise Financial Markets to the Central Bank of the Russian Federation,” Federal Law No. 149-FZ of July 27, 2006, “On Information, Information Technology, and Information Protection,” regulations of the Bank of Russia, Federal Law No. 39-FZ of April 22, 1996, “On the Securities Market,” Federal Law No. 208-FZ of December 26, 1995, “On Joint-Stock Companies,” and Directive 2003/6/EC of the European Parliament and of the Council on insider dealing and market manipulation (market abuse) as incorporated into English law as applicable to the Company’s activities.

In order to minimize the compliance risk, PJSC ROSSETI and PJSC ROSSETI’s SDCs set up a vertically integrated unified system of anti-corruption. The Board of Directors of PJSC ROSSETI approved a restated version of the Anti-Corruption Policy of PJSC ROSSETI and Subsidiaries and Dependent Companies of PJSC ROSSETI subject to the provisions of the Anti-Corruption Charter of the Russian Business. In accordance with PJSC ROSSETI’s standard forms, PJSC ROSSETI’s SDCs approved a number of regulations and orders governing measures to prevent and combat corruption.

In addition, as required by PJSC ROSSETI, PJSC ROSSETI’s SDCs take all necessary measures to prevent transactions with persons affiliated or otherwise connected with employees of PJSC ROSSETI’s SDCs.

The Company started the process of automating the collection and verification of information on income, expense, property, and property obligations in PJSC ROSSETI and PJSC ROSSETI’s SDCs.

Each of SDCs’ employees has signed an addendum to the employment contract (Anti-Corruption Policy Compliance Agreement).

Declarations of conflicts of interest of candidates for vacant positions are verified, and a report is made on the results of verification for each candidate.

2.4.5. Reputational Risk

Activities of the Company and SDCs are aimed at fulfilling all of their obligations to customers and counterparties. The Company and SDCs are constantly working to secure a reliable and uninterrupted power supply, improve the quality of their services, and increase their customer focus, i.e. achieve the goals defined by the Strategy for Development of the Electric Grid Sector of the Russian Federation. The successful accomplishment of these goals and objectives determines the Company’s reputation to a great extent.

Since SDCs of PJSC ROSSETI are natural monopolies, it is unlikely that they will be affected by a considerable outflow of customers and suppliers or by a decrease in the volume of services due to the possible impact of adverse reputational factors.

2.4.6. Strategic Risk

The long-term development areas of the entire electric power industry as a key industry and the Company and SDCs are determined by the government. Ordinance of the Government of the Russian Federation No. 511-r of April 3, 2013, approved the Strategy for Development of the Electric Grid Sector of the Russian Federation.

The Company’s Long-Term Development Program approved by the Board of Directors of PJSC ROSSETI is intended to ensure the achievement of the targets set by the Strategy with due consideration to PJSC ROSSETI’s authority and the current economic situation.

The Company’s Long-Term Development Program is an internal policy document covering the period from 2015 to 2019 and containing the lists of mechanisms and measures to ensure the achievement of PJSC ROSSETI’s strategic goals.

In order to minimize possible risks associated with the achievement of the Company’s strategic goals and objectives due to potential changes in the internal and external environments of the Company’s and SDCs’ operations, the Company regularly audits the implementation of its Long-Term Development Program; for this purpose, the Board of Directors of the Company approved the Standard for Auditing the Implementation of the Long-Term Development Program of PJSC ROSSETI.

2.4.7. Risks Associated with the Issuer’s Activities

Risks associated with pending legal proceedings in which the issuer participates.

The Company was not a party in the reporting period to any legal proceedings that could have a material effect on its activities; therefore, there are no risks that may have any substantial effect on its financial and economic performance.
Risks associated with the impossibility of extending the issuer’s license to perform a certain type of activity or use constrained assets (including natural resources).

The above-mentioned risks do not exist, since the Company neither performs nor plans to perform any licensable activities specified in the laws of the Russian Federation or use constrained assets (including natural resources).

Risks associated with the possible liability of the issuer for third-party debts, including the issuer’s subsidiaries.

Currently, the Company is not liable for any third-party debts since the Company did not collateralize such obligations. However, the Company provided suretyship to secure the performance by PJSC ROSSETI’s subsidiaries of their obligations as part of the implementation of the Smart Grid Construction Investment Project pursuant to Ordinance of the Government of the Russian Federation No. 1059-r of June 16, 2014.

Risks associated with the possible liability of the issuer for third-party debts and obligations are assessed by the Company as negligible.

The Company can assume liability for the debts owed by its SDCs if the Company’s instructions binding upon SDCs cause losses or bankruptcy to such SDCs. However, the Company uses its best efforts to prevent such situation and maintain SDCs’ financial stability. The above-mentioned risks are unlikely to occur.

Risks associated with the possible loss of customers accounting for at least 10 percent of total revenue from the sale of the Company’s products (work, services).

Since the Company’s core business is the corporate management of SDCs, the Company does not incur the risk of customer loss.

The Company does not conduct direct operating activities, and its core business is the corporate management of SDCs. The principal risks associated with SDCs’ activities are as follows:

• 
  operational and technological risk;
  
• 
  investment (project) risk.
  

Operational and technological risk.

Since PJSC ROSSETI does not perform any operating activities and is only in charge of corporate management, the operational and technological risk is incurred by the Company’s SDCs.

One of the main type of operating activities conducted by the Company’s SDCs is to provide electricity transmission and distribution services.

Electricity transmission and distribution services include a series of organizationally and technologically interrelated measures, including in relation to operational process control, to ensure electricity transmission and distribution through electric grids’ equipment in accordance with the mandatory requirements applicable to electricity reliability and quality.

Operational and technological risks affecting this activity type include the risk of impaired electricity supply reliability.

The following factors contribute to operational and technological risks:

• 
  natural and anthropogenic emergencies impairing the operating capability of electric grid equipment;
  
• 
  high physical deterioration and obsolescence of electric grid assets;
  
• 
  nonfulfillment of regulatory and technical requirements as related to failure to conform to the permissible values of the process parameters of electric grid equipment’s operation; mistakes made by operating personnel and resulting in emergency situations.
  

If these risks materialize, this may have a material economic and reputational effect on the Company.

In order to minimize the impact of the above-mentioned factors, the Company and SDCs take the following organizational and technical measures:

1. Raise the level of traceability and manageability in the electric grid sector and reduce the time of remedying emergency situations:

• 
  optimizing operational process and situation control systems;
  
• 
  developing and improving automated operational process and situation control systems;
  
• 
  improving systems for analyzing process failures and forecasting their consequences;
  
• 
  expanding the stock of reserve power supply equipment and the stock of vehicles and special equipment for accident recovery work;
  
• 
  improving the emergency reserve management system;
  
• 
  enhancing the performance of mobile accident recovery crews and improving the quality of their personnel;
  
• 
  cooperating with electricity industry entities, the Ministry of Energy of the Russian Federation, the Ministry of Civil Defense, Emergencies and Disaster Relief of the Russian Federation, the Hydrometeorological Centre of the Russian Federation (including in such areas as wildfire suppression, control of critical changes in water body levels, glaze ice control, control of excess wind loads, and control of abnormal weather conditions), executive authorities of constituent entities of the Russian Federation, and Electricity Distribution Security Headquarters.
  

PJSC ROSSETI created a common database relating to the available resources of PJSC ROSSETI’s SDCs and preparedness for remedying emergency situations in the electric grid sector: the availability of the emergency reserve, backup power sources, mobile accident recovery crews, and mobile substations and factory-assembled modular switchgear units; agreements with the Ministry of Civil Defense, Emergencies and Disaster Relief of the Russian Federation, the Federal Service for Hydrometeorology and Environmental Monitoring of the Russian Federation, contractors, PJSC ROSSETI’s SDCs and their branches, and territorial grid organizations; participation in the federal commissions (headquarters) ensuring power supply security for constituent entities of the Russian Federation; information on significant accidents, remedied large-scale power outages, joint exercises, members of the Headquarters, and contact persons; schematic maps of operated electric grid facilities, emergency preparedness certificates; workflows for organizing accident recovery work at substations (overhead lines).

2. Reduce the physical deterioration of electric grid equipment and bring electric grid equipment into line with regulatory requirements:

• 
  aligning overhead lines rated 0.4 kV and above with standards (clearing and expanding);
  
• 
  rehabilitating and modernizing electric grid facilities;
  
• 
  carrying out the programs to eliminate bottlenecks in the electric grid sector;
  
• 
  carrying out the programs to prevent glaze ice from damaging power lines that are prone to glaze ice;
  
• 
  implementing the energy conservation and energy efficiency enhancement program;
  
• 
  carrying out the insurance program.
  

In order to enhance the operating reliability of electric grid facilities, work is underway on implementing and developing the production asset administration system.

3. Provide training and advanced training for production personnel and control their activities.

Investment (project) risk.

Since PJSC ROSSETI does not perform any operating activities and is only in charge of corporate management, the investment (project) risk is incurred by the Company’s SDCs.

The implementation of SDCs’ capital investment programs makes it necessary to mobilize both internal and borrowed considerable financial resources conforming to the regulation parameters.

In this connection, one of the investment risks is the risk of decreased financing sources for the capital investment programs of PJSC ROSSETI’s SDCs. At present, this risk results from the external environment in which the electric power industry operates, specifically:

• 
  the unstable ruble exchange rate;
  
• 
  a rise in forecasted inflation;
  
• 
  an increase in borrowing costs;
  
• 
  the low liquidity of financial markets;
  
• 
  a decrease in net delivery of electricity.
  

As part of efforts to mitigate the investment risk, the capital investment programs of PJSC ROSSETI’s SDCs take account of the following key efficiency criteria:

• 
  raising the reliability and affordability of the grid infrastructure;
  
• 
  reducing the physical deterioration of electric grid facilities and modernizing them;
  
• 
  achieving a high utilization rate of commissioned facilities;
  
• 
  optimizing technical solutions based on the necessity of excluding the use of imported equipment and materials whose value is highly dependent on foreign exchange rates.
  

The Company conducts the annual monitoring of unit construction costs of investment projects as part of the benchmarking and comparative analysis of unit construction cost indicators of subsidiaries and dependent companies of subsidiaries/subsidiary subsidiaries and dependent companies of PJSC ROSSETI and their branches.

The inadequate financing of capital investment programs and the need to optimize such programs involves the risk that tariff revenues may go down in the event of failure to carry them out. There are also risks of the delayed commissioning of facilities covered by SDCs’ investment programs, possibly due to the nonperformance or delayed performance by contractors and suppliers of their obligations. With a view to mitigating such risks and improving the quality of investment project implementation, the Company fulfills the requirements of methodological and administrative documents and uses independent construction inspections at facilities of PJSC ROSSETI’s SDCs.