KazMunaiGas Exploration Production GAMMA Score affirmed and withdrawn

Sept. 8. Trend

KazMunaiGas Exploration Production GAMMA Score affirmed and withdrawnStandard & Poor’s Governance Services said today that it had affirmed and subsequently withdrawn its Governance, Accountability, Management Metrics, and Analysis (GAMMA) score assigned to JSC KazMunaiGas Exploration Production (KMG EP)at ‘GAMMA 6’ (according to a 1 to 10 scale with 1 being the lowest and 10 the highest).

The withdrawal of the GAMMA score is made at Standard & Poor’s initiative. It reflects our decision to cease providing stand-alone governance scores, while continuing to incorporate governance analysis in our global and local scale credit ratings.

“The approval of a new long-term strategy in late 2010 was a positive development for KMG EP, both in terms of strategic process and shareholder influence. It is also positive that the role of risk management is increasing at KMG EP,” said Standard & Poor’s governance analyst Oleg Shvyrkov. “We remain concerned with several aspects of the parent’s influence, however. Due to delays in regulatory approval, JSC NC KazMunayGas has not yet delivered on its earlier commitment, announced in July 2010, to sell three Kazakhstani oil producers to KMG EP, as provided by the services agreement.

We also have reasons to believe that the parent company follows a group-wide approach to executive succession policies at its subsidiaries, including KMG EP, and the independent directors have limited influence on these decisions.”

The overall GAMMA score of KMG EP was the result of four component scores ranging from a low of 1 to a high of 10.

– Shareholder influence: ‘5+’

– Shareholder rights: ‘7’

– Transparency, audit, and enterprise risk management: ‘7’

– Board effectiveness, strategic process, and incentives: ‘6’

Standard & Poor’s Governance Services observed the following strengths of corporate governance practices at KMG EP:

• The independent directors have a track record of balancing the influence of JSC NC KazMunayGas, the majority shareholder, effectively and performing close management oversight. In 2010, they played a key role in negotiating a new treasury policy that allowed KMG EP to reduce cash exposure to fragile domestic banks.

• Mutual obligations with the parent are legislated and transparent.

• There is a strong level of transparency, and an active investor relations function is in place. KMG EP publishes quarterly accounts prepared under International Financial Reporting Standards in a timely fashion.

• Voting rights are generally strong on the back of applicable laws of Kazakhstan KMG EP’s charter. We also note that KMG EP seeks to provide equal financial footing to ordinary and preferred shares.

• The company employs an internationally acknowledged auditor chosen via open tender. The audit committee is competent and independent. The internal audit group is competent and resourceful.

• Enterprise risk management procedures have gained momentum and are based on strong principles.

However, Standard & Poor’s analysis has identified several weaknesses in the company’s governance system, including the following:

• The government of Kazakhstan may be motivated to direct the resources of KMG EP, the largest oil producer under its indirect control, to finance projects of national importance, possibly against KMG EP’s interests. In some cases, the independent directors on KMG EP’s board may not always be able to counter such initiatives.

• The parent, JSC NC KazMunayGas’, obligation to use its pre-emptive rights in the acquisition of assets and licenses in the interests of KMG EP is not always met in full. For example, JSC NC KazMunayGas was not yet able to meet such commitments with respect to three Kazakhstani oil producers that it had earlier agreed to sell to KMG EP in line with the services agreement. The transaction is being held up by bureaucratic delays in the regulatory approval.

• Samruk-Kazyna and JSC NC KazMunayGas require all subsidiaries to comply with certain groupwide operating policies, some of which are constraining for KMG EP. The company’s independent directors are not always able to negotiate waivers from such policies. This particularly affects the executive compensation policies.

• There is a considerable volume of related-party transactions with sister companies.

• There is room for improvement in terms of disclosure, particularly with regard to social and environmental performance.

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