OREANDA-NEWS. December 6, 2010. JSC KazMunaiGas Exploration Production (“KMG EP” or “the Company”) released its condensed consolidated interim financial statements for the nine months ended September 30, 2010:

Operating profit increased by 32% to 141.9bn Tenge (USD 963m) compared with the nine months of 2009, mainly due to higher oil prices.

In the nine months of 2010 KMG EP made a profit after tax of 156.8bn Tenge (USD 1,064m) and earned 2,155 Tenge per share (USD 2.44 per GDR) compared with 180.6bn Tenge (USD 1,231m) and 2,467 Tenge per share (USD 2.8 per GDR) in the corresponding period in 2009.

Average Brent price in the nine months of 2010 increased by 34% compared with the same period of 2009, from USD 57.32 per barrel to USD 76.73 per barrel.

The consolidated production in the nine months of 2010 is 15% higher than in the same period of 2009 mainly due to the acquisition of a 33% stake in PKI in December 2009 and increased production of other operating assets, except Uzenmunaigas production unit.

Commenting on the financial results for the nine months of 2010, Kenzhebek Ibrashev, CEO of KMG EP, said: “We are happy with our results in the first nine months of 2010. KMG EP made a considerable profit in a higher oil price environment, somewhat offset by the increase in costs and the impact of the recently introduced crude oil export duty. The contribution to the results from our joint ventures is further evidence that the acquisitions made since the IPO have been well considered. We will continue to identify appropriate value enhancing opportunities with potential for significant further development”.

Production Highlights

In the nine months of 2010 KMG EP’s consolidated production was 9,946 thousand tonnes of crude oil (270kbopd) including 3,391 thousand tonnes from the Company’s stakes in LLP Kazgermunai JV (KGM), JSC Karazhanbasmunai (CCEL) and PetroKazakhstan Inc. (PKI). The consolidated production in the nine months of 2010 is 15% higher than in the same period of 2009 mainly due to the acquisition of a 33% stake in PKI in December 2009.

In the first nine months of 2010 the Company produced 6,555 thousand tonnes (177kbopd) of oil at Uzenmunaigas and Embamunaigas production facilities, which is 193 thousand tonnes or 3% less than for the same period of last year. The decline in production was mainly caused by the failure to perform well service operations and timely oilfield equipment repairs amid a strike by Uzenmunaigas workers over the period from March 4 through March 18. Also during the period from June to September 2010 there were a number of emergency power cuts in the fields, caused by severe weather conditions.

The Board of Directors has adjusted the 2010 production plan for Uzenmunaigas from 6,302 thousand tonnes to 6,001 thousand tonnes. The Company anticipates the annual volume of production at Uzenmunaigas and Embamunaigas production units to be 8,781 thousand tonnes (177kbopd) for 2010.

The Company’s share in the production volumes from KGM, CCEL and PKI for the nine months of 2010 amounted to 3,391 thousand tonnes of crude oil (93kbopd).

According to preliminary data, during the first nine months of 2010 the Company supplied 6,496 thousand tonnes of crude oil (175kbopd), excluding the share in supply from KGM, CCEL and PKI. Of this amount, 5,156 thousand tonnes (139kbopd) were exported.

The Company’s share in the sales volumes from KGM, CCEL and PKI2 was 3,819 thousand tonnes of crude oil (105kbopd), including 2,685 thousand tonnes (74kbopd) supplied to export markets.

Profit After Tax

Profit after tax (net income) for the nine months of 2010 was 156.8bn Tenge (USD 1,064m). This represents a 13% decrease from the corresponding period in 2009 which included a large foreign exchange gain of 99.9bn Tenge recognized in 2009 as a result of Tenge devaluation, not recurring in 2010.

Revenue

Revenue for the nine months of 2010 increased by 28% to 445.0bn Tenge (USD 3,021m) compared with the same period in 2009. This was due to a 35% increase in the average realised price per tonne, from 49,892 Tenge (USD 47.03 per bbl) to 67,162 Tenge (USD 63.06 per bbl), partly offset by a decrease in sales volume.

Operating Expenses

Operating expenses were 303.2bn Tenge (USD 2,058m) for the nine months of 2010, 26% higher compared with the same period in 2009. A significant part of the opex increase is due to higher rent and mineral extraction taxes (MET) resulting from the increased oil price and customs export duty reintroduced from 16 August 2010. Excluding taxes, operating expenses in the nine months of 2010 increased by 11% in Tenge compared with the same period of 2009. This was driven mainly by an increase in payroll, repairs and maintenance, transportation expenses, depreciation and amortization and other expenses.

Payroll expenses increase reflects salary indexation from 1 January 2010 and a salary increase at the production units on June 1, 2010. Growth in repairs and maintenance expenses was due to increased number of repaired wells and higher repair cost per well. Growth in transportation expenses was mainly due to 10% increase of KTO transportation tariffs by Transneft from 1 January 2010. Increase in other expenses was caused by transaction costs incurred for acquisition deals in 2010. Opex growth was partially offset by lower fines and penalties in 2010 (see details in Fines and penalties section).

Cash Flow

Operating cash flow for the nine months of 2010 was 76.3bn Tenge (USD 518m), which is 7% lower than in the same period of 2009. The decrease is mainly due to significant foreign exchange gain incurred in 2009 (partially recognized as cash from operating activity) as a result of Tenge devaluation, not recurring in 2010.

Capex

Purchases of property, plant and equipment (capital expenditure, not including purchases of intangible assets, as per Cash Flow Statement) in the nine months of 2010 were 51.8bn Tenge (USD 352m) compared with 25.5bn Tenge (USD 72m) in the same period of 2009, representing 103% increase. According to the KMG EP’s budget 2010, annual capital expenditure is envisaged at 86bn Tenge (USD 572m).

Exploration activity

In the nine months of 2010, the Company completed construction of one exploration well with a depth of 1,600m and started construction of one post-salt well with projected depth of 1,850m at R-9 block. In October 2010, KMG EP discovered oil accumulation at the Liman Block. The accumulation is located on the south slope of the Novobogatinsk Salt Dome 70 km west of Atyrau and is in close proximity to the Novobogat Southeast oil field operated by Embamunaigaz. The Company is currently testing the well and plans to evaluate commercial reserves in 2011. At Nurzhanov field one evaluation well was completed and construction of another one with projected depth of 3500m was started. The Company also started drilling one evaluation well with projected depth of 3,500m at Prorva Zapadnaya. In the nine months exploration expenditures were 1.8bn Tenge (USD 12m).

Cash and debt

Cash and cash equivalents at 30 September 2010 amounted to 126.3bn Tenge (USD 0.86bn) compared with 107.6bn Tenge (USD 0.73bn) as at 31 December 2009.

Other financial assets (current and non-current) at 30 September 2010 were 524.6bn Tenge (USD 3.6bn) compared with 535.1bn Tenge (USD 3.6bn) as at 31 December 2009. Other financial assets include the debt instrument (“the Bond”, see below) issued by National Company “KazMunaiGas” (NC KMG), deposits and other financial instruments.

On July 16, 2010, the Company purchased the Bond issued by NC KMG in the amount of 220 billion Tenge (1.5 billion US Dollars) which carry an annual coupon of 7% and mature in June 2013 as per previously disclosed information. KMG EP recognized 3.2bn tenge (USD 22m) interest income from NC KMG Bonds as of 30 September 2010.

As at 30 September 2010, 81% of cash and financial assets (including the Bond) were denominated in USD and 19% were denominated in Tenge. At the reporting date 36% of the financial assets and cash were held with two Kazakh banks, Kazkomertzbank and Halyk bank compared with 78% at the same date of 2009. Interest accrued on deposits with banks for the nine months of 2010 was 23.9bn Tenge (USD 162m).

Borrowings and obligations were 121.4bn Tenge (USD 823m) as at 30 September 2010 compared with 137.7bn Tenge (USD 928m) as at 31 December 2009. Borrowings include 113.1bn Tenge (USD 767m) of non-recourse debt of KMG PKI Finance related to the acquisition of the 33% stake in PKI.

Net cash position at 30 September 2010 amounted to 529.5bn Tenge (USD 3.6bn) compared with 505,0bn Tenge (USD 3.4bn) as at 31 December 2009.

Fines and Penalties

Tax audit

As a result of the tax audit for the years 2004 and 2005, which was commenced in 2007 and completed in August of 2009, the tax authorities have provided a tax assessment to the Company of 32bn Tenge (USD 217m), of which 16.2bn Tenge (USD 110m) of the amount was for underpaid taxes, 8.0bn Tenge (USD 54m) represented administration penalties and a further 7.8bn Tenge (USD 53m) was for late payment interest. The Company has filed an appeal to the court of first instance, which partially accepted claim of the Company by issuing the Decision on May 24, 2010. According to the Decision the principal tax assessment was reduced to 8.6bn Tenge (USD 59m) and corresponding late payment interest was reduced to 2.6bn Tenge (USD 18m). The Company filed an appeal to the court of second instance, which was rejected by the court on July 29, 2010. As the first instance court decision came into force on 23 September 2010, KMG EP fully paid off the amounts due and used the provision. The Company is planning to appeal the Decision in the court of third instance.

Management believes the further outcome of this dispute is uncertain and also believes that the Company may not be entirely successful in their appeals. As at September 30, 2010 5.3bn Tenge (US36m) has been accrued for similar matters for the periods not covered by tax audit 2006 through to the September 30, 2010. The Company’s management believes its interpretations of the tax legislation are appropriate and that the Company has justifiable arguments for its tax positions and will dispute the tax assessment to the fullest extent possible under the law of the Republic of Kazakhstan.

Customs claim

On August 18, 2009 the customs committee of the Republic of Kazakhstan presented a claim to the Company of 17.5bn Tenge (USD 119m) for underpaid export customs duty (including the principal of 15.2bn Tenge and the late payment interest of 2.3bn Tenge). This claim relates to January 2009 export shipments of crude oil, on which rent tax was fully paid per the regulations of the Republic of Kazakhstan, declared for customs clearance in December 2008. On September 23, 2009 the Company filed the appeal with the court of first instance. On December 1, 2009 the court of first instance ruled in favor of the Company. However, on January 20, 2010 the appeal filed by the customs committee was satisfied by the court of second instance. On February 8, 2010 the Company filed the further appeal with the third instance court. On March 9, 2010 the third instance court also ruled in favor of the customs authorities. The Company is planning to appeal this matter to the Supreme Court of Kazakhstan.

Management of the Company believes that they will ultimately prevail in this matter and therefore no amounts have been accrued in the consolidated interim financial statements for the nine months ended September 30, 2010.

Contribution from strategic acquisitions

In the nine months of 2010, KMG EP’s share in income of the associates and JVs was 45.6bn Tenge (USD 310m) compared with 1.1bn Tenge (USD 7.4m) in the same period of 2009.

KGM

In the nine months of 2010 the Company recorded a 19.7bn Tenge (USD 134m) income from its share in KGM. This amount represents 50% of KGM’s net profit of 26.7bn Tenge (USD 181m) and 3.3bn Tenge (USD 22m) deferred income tax benefit net of 7.7bn Tenge (USD 52m) from the effect of purchase price premium amortization and 2.6bn Tenge (USD 18m) deferred income tax amortisation. The financial results of KGM in the nine months of 2010 were primarily affected by the higher oil price compared with the corresponding period of 2009.

On 4 November 2010 the Company received USD 75m in dividends from KGM. From the date of the acquisition, dividends received have amounted to USD 975m.

PKI

In the nine months of 2010 KMG EP recorded a 25.9bn Tenge (USD 176m) income from its share in PKI. This amount represents 33% of PKI’s net profit of 40.6bn Tenge (USD 276m) net of 10.4bn Tenge (USD 70m) from the effect of purchase price premium amortization and one-off adjustment on fair value of inventory of 4.3bn Tenge (USD 29m).

PKI’s significant net income growth in the third quarter compared with the second quarter of 2010 is explained by consolidation of 50% share in JSC “Turgai Petroleum” (TP) as a result of the dispute resolved in August 2010 and recognition by PKI of 40,5bn Tenge (USD 275m) gain on TP repurchase, which is based on preliminary estimates. Consolidation of TP is recognized as repurchase in financial statements of PKI.

The total amount of dividends received from PKI since acquisition in December 2009 reached USD 99m, 80% of which were used to repay KMG PKI Finance BV debt as per the terms of the deal.

CCEL

As of 30 September 2010 the Company has recognised the amount of 23.5bn Tenge (USD 160m) as a receivable from CCEL, a jointly controlled entity. The Company has accrued 2.3bn Tenge (USD 16m) of interest income for the nine months of 2010 related to the USD 26.87m annual priority return from CCEL.

MMG, KOA, KTM

On 12 July 2010 the Company announced the acquisition of a 50% of Kazakhoil Aktobe LLP (“KOA”), 51% of Kazakturkmunai Ltd (“KTM”) and 50% of Mangistau Investments B.V. (“MIBV”), the owner of 100% of the common share capital of JSC “Mangistaumunaigas” (“MMG”). The total cash consideration of the deal is USD 750m and the ensuing net debt corresponding to the stake being acquired is USD 1,499m, of which USD 116m is KOA’s net debt, USD 53m is KTM’s net debt and USD 1,330m is MIBV’s consolidated net debt. The deals are subject to approval and currently being reviewed by relevant regulating bodies.

NBK

On September 24, 2010 the Company acquired 100% interest in NBK. NBK is an oil and gas company, which has a license for the exploration and production of the West Novobogatinksoye oil field located in Atyrau oblast of the Republic of Kazakhstan. The acquired company is currently in the exploration stage. The interest in NBK was acquired for cash consideration of USD 35m (5.2 bn Tenge). In accordance with share purchase agreement on September 24, 2010 the Company paid 90% of consideration. Payment of the remaining 10% is deferred subject to any final adjustments to the purchase price. The exploration license, upon fulfilment of certain conditions prior to the end of 2010, was extended to September 2012 from September 2010.

SBS

On September 24, 2010 the Company acquired 100% interest in SBS. SBS is an oil and gas company, which has a license for the exploration and production of the East Zharkamys I oil field located in Aktobe oblast of the Republic of Kazakhstan. The acquired company is currently in the exploration stage. The interest in SBS was acquired for cash considerations of USD 30m (4.4 bn Tenge). In accordance with share purchase agreement on September 24, 2010 the Company paid 90% of consideration. Payment of the remaining 10% is deferred subject to any final adjustments to the purchase price. The exploration license, upon fulfilment of certain conditions prior to the end of 2010, was extended to November 2012 from November 2010.