28 September 2015

REGAL PETROLEUM PLC

2015 INTERIM RESULTS

Regal Petroleum plc (the "Company", and with its subsidiaries, the "Group"), the AIM-quoted (RPT) oil and gas exploration and production group, today announces its unaudited results for the six month period ended 30 June 2015.

Principal Developments

Ukraine Operations

Finance

Outlook

For further information, please contact:

Joe Staffurth, BSc Geology, PESGB, AAPG, consultant to the Company, has reviewed and approved the technical information contained within this press release in his capacity as a qualified person, as required under the AIM Rules.

Chairman's Review

The Group is continuing with the development of its Mekhediviska-Golotvshinska ("MEX-GOL") and Svyrydivske ("SV") gas and condensate fields in north-eastern Ukraine, which are held under 100% owned and operated production licences.

The major events that have taken place in Ukraine during the last 18 months, including the change of Government, civil unrest and military conflict in the east of the country, have meant that there has been a great deal of uncertainty about the political, fiscal and economic outlook in Ukraine.

Nevertheless, the Group's operational activities in Ukraine have continued to be relatively unaffected by the upheaval that is ongoing, and the Group has been able to produce relatively normally at its MEX-GOL and SV fields. However, the continuing geopolitical situation has resulted in significant volatility and weakening of the Ukrainian Hryvnia exchange rates, uncertainty in the gas sales price, the imposition of significant increases in subsoil taxes and disruption to the gas supply market over the 2014/2015 winter period. As well as adversely affecting the Group's financial results for the first half of 2015, these continuing uncertainties are making it difficult to commit to major capital investment and causing delays to the further development of the MEX-GOL and SV fields in the near term.

During the first half of 2015, the Ukrainian Hryvnia devalued significantly against the US Dollar, falling from UAH15.8/$1.00 on 1 January 2015 to UAH21.0/$1.00 on 30 June 2015, which resulted in a substantial foreign exchange translation loss of $17.6 million for the Group. This has adversely impacted the carrying value of the oil and gas development and producing asset due to the translation of two of the Group's subsidiaries from their functional currency of Ukrainian Hryvnia to the Group's presentation currency of US Dollars. As a result of the significant devaluation of the Ukrainian Hryvnia, the National Bank of Ukraine has imposed comprehensive restrictions on the purchase of foreign currency and the remittance of funds outside Ukraine.  These restrictions, and the many other economic issues in Ukraine, have put great strain on the Ukrainian banking system, with increasing risks in the capital strength, liquidity and creditworthiness of a number of banks, and very high rates in the wholesale and overnight markets. 

Due to these banking restrictions, the Group is unable to remit funds outside Ukraine, which has resulted in the Group's cash holdings of Ukrainian Hryvnia increasing substantially during the period.

In light of the deterioration in the banking sector in Ukraine, further details of which are set out under the heading Risks relating to the Ukrainian banking sector in the Operational Environment, Principal Risks and Uncertainties section below, the Group is in the process of diversifying its banking arrangements between a number of banks in Ukraine. However, at present, the Group holds a significant proportion of its Ukrainian Hryvnia cash deposits in Unex Bank, which is part of the PJSC Smart-Holding Group (the "Smart Holding Group"), which is ultimately controlled by Mr Vadim Novinskiy, who also controls an indirect majority shareholding in the Group.  As a result, Unex Bank is a related party to the Group. 

Given the situation in Ukraine and the impact on the banking sector, in May 2015 the Group obtained a guarantee and security over another asset from companies within the Smart Holding Group in support of the Group's cash deposits in Unex Bank.  However, Smart Holding Group and Unex Bank have not acted in accordance with certain requests to reduce the cash deposits held by the Group in Unex Bank, which has caused the Group to reassess the risks associated with these cash deposits, which amounted to $14.5 million (held in Ukrainian Hryvnia) as at 30 June 2015.  As a result, the Group considers it appropriate to reclassify such cash deposits as short-term investments (with a carrying value equal to the cash deposits), rather than cash or cash equivalents.  The Group is currently engaged in discussions with the Smart Holding Group and Unex Bank to seek a resolution of this matter leading to a reduction of the cash balance held in Unex Bank. Notwithstanding this reclassification, the Group continues to consider that the going concern basis of accounting in preparing the financial statements remains appropriate, since the Group holds cash in banks (including UK banks) sufficient to continue in operational existence for the foreseeable future regarded as at least 12 months from the date of this announcement.

The industrial gas price in Ukraine, which is set in Ukrainian Hryvnia, is broadly related to the US Dollar denominated imported price of gas from Russia. During the first quarter of 2015, the industrial gas price was increasing but during the second quarter, the gas price has declined.  This trend was also reflected in the imported gas price which declined in the second quarter of 2015, following the fall in global oil commodity prices over recent months.

From the beginning of August 2014, the Ukrainian Government imposed a significant increase in the subsoil taxes payable by oil and gas companies operating in Ukraine for the period from 1 August 2014 to 31 December 2014. This increase in subsoil taxes had the effect of nearly doubling the taxes payable on the Group's gas production.   Although the Government originally stated that this increase in subsoil taxes was a temporary emergency fiscal measure, the Government extended the increase in subsoil taxes into 2015 and the increase continues to apply.  This increase has negatively impacted the Group's cost of sales and, in turn, the Group's financial results for the 2014 and 2015 financial years.  However, the Government has recently been considering new subsoil tax proposals, with tax rates similar to those in force prior to the emergency measures, although the proposals have not yet been approved by the Government, and it seems likely that the adoption of new subsoil tax rates will not occur until the start of 2016 at the earliest.

In late November 2014, the Ukrainian Government made an Order that certain specified industrial organisations were obliged to purchase their gas requirements for the period from 1 December 2014 to 28 February 2015 from Naftogaz, the State-owned gas supplier, rather than from other gas producers in Ukraine. During this period, the Order significantly disrupted the gas supply market in Ukraine and adversely impacted the market gas prices. The Group's gas off-taker was affected by this Order, and consequently the Group had to sell its gas production into the general gas market at the prevailing prices. The discounted prices achieved were less than those received prior to the imposition of the Order, and consequently resulted in a negative impact on the Group's financial results during the first half of 2015.  Although the Order expired on 28 February 2015, the gas supply market has not returned to normal and the Group's realised gas price has, in US Dollar terms, continued to be less than prior to the imposition of the Order.  

As regards the Group's financial performance in the six months to 30 June 2015, a loss of $3.3 million (1H 2014: $3.7 million profit) was made, mainly due to lower realised gas prices and increased subsoil taxes, and the devaluation of the Ukrainian Hryvnia against the US Dollar which resulted in a significant foreign exchange loss in the foreign exchange reserve.  Cash generated from operations during the period was positive at $6.6 million (1H 2014: $12.0 million).

Average production over the six months ended 30 June 2015 was 145,009 m³/d of gas, 45.0 m³/d of condensate and 20.4 m³/d of LPG (1,291 boepd in aggregate), which was lower compared with the first half of 2014 predominately as a result of normal production decline (1H 2014: 155,520 m³/d of gas, 54 m³/d of condensate and 20 m³/d of LPG (1,397 boepd in aggregate)). 

In late 2014, the Group entered into an agreement with Pryrodni Resursy, the operator of the adjacent Lutsenky field, under which the Group agreed to purchase "wet" gas and treat it through the Group's gas processing facilities to strip out and sell the liquids.  During the first half of the year, the necessary pipeline infrastructure was installed and commissioning commenced in early July 2015.  During the commissioning process, there has been some impact on the Group's production whilst the optimal processing set up is established, but the "wet" gas treatment operations have been working effectively.  

Average production for the period from 1 July 2015 to 23 September 2015 was 152,616 m³/d of gas, 47.0 m³/d of condensate and 51.6 m³/d of LPG (1,478 boepd in aggregate), which included 16,661 m³/d of gas, 4.4 m³/d of condensate and 30.5 m³/d of LPG derived from the "wet" gas treatment operations. 

In late 2014, the Group entered into an agreement with NJSC Nadra, the State-owned gas producer, for the lease of the SV-6 well, which is a suspended well owned by NJSC Nadra within the Group's SV licence area.  Under this agreement, the Group agreed to undertake workover operations on the well, which, if successful, will result in the well being brought into production for the Group.

The geopolitical upheaval, the volatility in the gas price and the Ukrainian Hryvnia, and the fiscal and economic uncertainty in Ukraine since the beginning of 2014, have meant that the Group considered it necessary to reduce its planned capital investment programme. The revised programme during the six month period to 30 June 2015 was limited to installation of the Lutsenky "wet" gas treatment infrastructure referred to above, commencing workover operations on the SV-6 well, improvements to the Group's gas processing facilities and pipeline network, and performing remedial work on existing wells. 

The continued instability in Ukraine has meant that planning for the further development of the MEX-GOL and SV fields has been substantially disrupted, and the various political, economic and fiscal uncertainties have made budgeting and commitment to capital investment problematic. The Group has therefore been obliged to take a cautious approach to near term capital investment, whilst undertaking contingent planning for further development of the fields and monitoring the ongoing situation. 

In the remainder of 2015, we plan to continue with further geological, geophysical and well performance studies, aimed at improving the understanding of the sub-surface within the MEX-GOL and SV licences, as well as completing the workover of the SV-6 well, continuing to invest in the Group's gas processing facilities and pipeline network, and performing remedial work on existing wells.  Contingent planning is ongoing for the drilling of the MEX-109 well, the hydraulic fracturing of the MEX-120 well and the possible workover of the MEX-102 well.

It is hoped that the situation in Ukraine will improve in due course, allowing better visibility on the political and economic outlook and in turn assisting with the Group's development planning at its MEX-GOL and SV fields.

In conclusion, on behalf of the Board, I would like to thank our staff for the continued dedication and support they have shown, particularly during the difficult events in Ukraine over the recent months. 

Keith Henry

Executive Chairman

25 September 2015

Finance Review

The Group made a loss in the six month period ended 30 June 2015 of $3.3 million (1H 2014: $3.7 million profit).  Revenue in the first half of 2015, derived from the sale of the Group's Ukrainian gas, condensate and LPG production, was lower at $10.9 million (1H 2014: $17.5 million) due to a combination of reduced production volumes and the devaluation of the Ukrainian Hryvnia against the US Dollar, resulting in lower average gas prices in US Dollar terms.

During the first half of 2015, the Ukrainian Hryvnia has significantly devalued against major world currencies, including against the US Dollar, where it has fallen from UAH15.8/$1.00 on 1 January 2015 to UAH21.0/$1.00 on 30 June 2015.  Due to the translation of two of the Group's subsidiaries from their functional currency of Ukrainian Hryvnia to the Group's presentation currency of US Dollars, the devaluation against the US Dollar has had the effect of reducing both revenues and costs, as well as the carrying value of the Group's assets. 

As a result of the significant devaluation of the Ukrainian Hryvnia, the National Bank of Ukraine, among other measures, imposed comprehensive restrictions on the purchase of foreign currency and on the remittance of funds outside Ukraine.  These restrictions, and the many other economic issues in Ukraine, have put great strain on the Ukrainian banking system, with increasing risks in the capital strength, liquidity and creditworthiness of a large number of local banks, and very high rates in the wholesale and overnight markets. In addition, there have been significant deposit outflows from the banking system and widespread restructuring of bank clients' maturing liabilities. As a result of recommendations from the International Monetary Fund, significant reforms to the Ukrainian banking sector are being implemented, which are intended to strengthen the capitalisation of the Ukrainian banks.

The deterioration in the banking sector in Ukraine has caused the Group to take steps to diversify its banking arrangements between a number of banks in Ukraine. These measures are designed to spread the risks associated with each bank's creditworthiness, but the Ukrainian banking sector remains weakly capitalised and so the risks associated with the banks in Ukraine remain significant, including in relation to the banks with which the Group operates bank accounts.  In addition, the severe banking restrictions referred to above, have meant that the Group is unable to remit funds outside Ukraine and as a result, the Group's cash holdings of Ukrainian Hryvnia in Ukraine increased significantly during the period.  Further details are set out in the Operational Environment, Principal Risks and Uncertainties section.

Cash generated from operations during the period was $6.6 million (1H 2014: $12.0 million).

For the six month period ended 30 June 2015, the average realised gas, condensate and LPG prices were $277/Mm³ (UAH5,936/Mm³), $53/bbl and $50/bbl respectively (1H 2014: $361/Mm³ (UAH3,725/Mm³) gas, $94/bbl condensate and $94/bbl LPG).  The current realised gas price is $292/Mm³ (UAH6,280/Mm³). 

The maximum industrial gas price within Ukraine was previously adjusted quarterly by the National Commission for State Energy and Public Utilities Regulation (the "National Commission"), but more recently, due to the volatility in the Ukrainian Hryvnia, this gas price has been adjusted monthly.  The industrial gas price is broadly related to the imported price of gas from Russia, which in turn is linked to global oil commodity prices.   Since April 2015, the imported gas price calculated under the longstanding gas supply agreement between Russia and Ukraine has been $248/Mm³, reflecting the decrease in global oil commodity prices over recent months.

The industrial gas price set by the National Commission, with effect from 1 September 2015, is $303/Mm³ (UAH6,600/Mm³ using the exchange rate as at 1 September 2015 of UAH21.8/$1.00).

In late November 2014, the Ukrainian Government made an Order that certain specified industrial organisations were obliged to purchase their gas requirements for the period from 1 December 2014 to 28 February 2015 from Naftogaz, the State-owned gas supplier, rather than from other gas producers in Ukraine. During this period, the Order significantly impacted the gas supply market in Ukraine, causing disruption to the market and adversely affecting the market gas prices. The Group's gas off-taker was affected by this Order, and consequently the Group had to sell its gas production into the general gas market at the prevailing prices. The prices achieved were less than those achieved prior to the imposition of the Order, and consequently resulted in a negative impact on the Group's financial results during the first half of 2015. 

Although the Order expired on 28 February 2015, the gas supply market has not returned to normal, with a number of industrial organisations continuing to source their gas requirements from Naftogaz rather than the general gas supply market.  In addition, declines in industrial consumption resulting from the economic issues in Ukraine have contributed to weakness in demand and gas price in the gas supply market.  As a result, the Group's realised gas price has continued to be less than prior to the imposition of the Order, averaging 13% below the maximum industrial gas price set by the National Commission during the first half of 2015.    

With effect from 1 August 2014, the Ukrainian Government increased the subsoil taxes payable on gas and condensate production, from 15% to 28% for gas produced from deposits below 5,000 metres and from 28% to 55% for gas produced from deposits above 5,000 metres, and from 18% to 21% for condensate produced from deposits below 5,000 metres and from 42% to 45% for condensate produced from deposits above 5,000 metres. Although the Government stated that these increases in subsoil taxes were a temporary emergency fiscal measure for the period from 1 August 2014 to 31 December 2014, the Government extended the increases in subsoil taxes into 2015, and the increases continue to apply.  However, the Government has recently been considering new subsoil tax proposals, with tax rates similar to those in force prior to the emergency measures, although the proposals have not yet been approved by the Government, and it seems likely that the adoption of new subsoil tax rates will not occur until the start of 2016 at the earliest.  The increases in subsoil taxes negatively impacted cost of sales in the first half of 2015, and will also negatively impact the Group's financial results for the 2015 year. 

Cost of sales for the six month period ended 30 June 2015 was lower at $9.4 million (1H 2014: $10.7 million), mainly due to lower production volumes and exchange rate fluctuations, and notwithstanding the increased subsoil taxes.  

Administrative expenses for the six month period ended 30 June 2015 were lower at $2.0 million (1H 2014: $3.0 million), primarily due to the devaluation of the Ukrainian Hryvnia against the US Dollar.

The tax charge for the period of $3.8 million (1H 2014: $0.9 million) comprises a current tax charge of $0.6 million (1H 2014: nil) and a deferred tax charge of $3.2 million (1H 2014: $0.9 million).

The Group has recognised a deferred tax asset of $14.1 million at 30 June 2015 (31 December 2014: $20.4 million). This comprises a deferred tax asset of $4.5 million (31 December 2014: $7.9 million) in relation to UK tax losses carried forward, and $9.6 million (31 December 2014: $12.6 million) relating to the Group's oil and gas development and producing asset in Ukraine, which is recognised on the tax effect of temporary timing differences between the carrying value of such asset and its tax base, following its impairment in 2013.  The reduction in the deferred tax asset in the first half of 2015 is primarily due to foreign exchange translation losses caused by the devaluation of the Ukrainian Hryvnia against the US Dollar.

Capital investment of $1.2 million predominately reflects investment in the Group's oil and gas development and production asset for the period (1H 2014: $2.6 million).  Capital investment was lower in the period as a result of the reduction in the field development programme due to the geopolitical and economic uncertainty in Ukraine.

Cash and cash equivalents held at 30 June 2015 were $18.9 million (31 December 2014: $31.8 million).  The Group's cash and cash equivalents balance at 25 September 2015 was $18.5 million, held as to $5.8 million equivalent in Ukrainian Hryvnia and the balance of $12.7 million equivalent predominantly in US Dollars and Sterling.

The Group operates bank accounts in Ukraine with Unex Bank which is indirectly controlled by Mr V Novinskiy, who also controls a majority shareholding in the Group.  As a result, Unex Bank is a related party to the Group.  The Group currently holds a significant proportion of its Ukrainian Hryvnia cash deposits in Unex Bank. In May 2015, the Group obtained a guarantee and security over another asset from companies within the Smart Holding Group in support of the Group's cash deposits in Unex Bank.  However, Smart Holding Group and Unex Bank have not acted in accordance with certain requests to reduce the cash deposits held by the Group in Unex Bank, which has caused the Group to reassess the risks associated with these cash deposits, which amounted to $14.5 million (held in Ukrainian Hryvnia) as at 30 June 2015.  As a result, the Group considers it appropriate to reclassify such cash deposits as short-term investments (with a carrying value equal to the cash deposits), rather than cash or cash equivalents due to the limited liquidity of the asset.  The Group is currently engaged in discussions with the Smart Holding Group and Unex Bank to seek a resolution of this matter leading to a reduction of the cash balances held in Unex Bank.

Cash from operations has funded the capital investment during the year, and the Group's current cash position and positive operating cash flow are the sources from which the Group expects to fund the remaining 2015 development programme.

The ongoing situation in Ukraine has resulted in a significant devaluation of the Ukrainian Hryvnia against the US Dollar, which is likely to affect the carrying value of the Group's assets in the future.

Operational Environment, Principal Risks and Uncertainties

The Group has a risk evaluation methodology in place to assist in the review of the risks across all material aspects of its business. This methodology highlights technical, operational, external and fiduciary risks and assesses the level of risk and potential consequences. It is periodically presented to the Audit Committee and the Board for review, to bring to their attention potential concerns and, where possible, propose mitigating actions. Key risks recognised are detailed below:-

Risks relating to Ukraine

The Ukrainian economy is currently characterised by high political and economic risks. As a developing economy, in addition to the impact of local political and economic instability, Ukraine's economy is vulnerable to market downturns and economic slowdowns elsewhere in the world.

Since late 2013, the political situation in Ukraine has experienced significant instability with numerous protests and ongoing political uncertainty that has led to a deterioration of the State's finances, volatility of financial markets and a substantial depreciation of the Ukrainian Hryvnia against major foreign currencies. The ratings of Ukrainian sovereign debt have been downgraded by international rating agencies with negative outlook for the future.  During 2014, Ukraine's GDP decreased by 6.8% and annual inflation rose to nearly 25%. 

The instability started after the failure of the Ukrainian Government to sign the Association and Free Trade Agreement with the European Union at the end of November 2013. Shortly afterwards, the Ukrainian Government announced a deal with Russia for the purchase of up to $15 billion of Ukrainian Government bonds, of which $3 billion was provided in December 2013. This triggered protests against the Government's actions beginning in late 2013 that turned into street violence in January and February 2014. At the end of January 2014, the President of Ukraine accepted the resignation of Ukraine's Prime Minister. Following this, the Russian Government suspended its financial support and relations with Russia started to deteriorate.

An agreement between the President and opposition leaders in late February 2014, in an attempt to resolve the situation, ultimately ended up with the Ukrainian Parliament voting to return to the 2004 Constitution, which provided greater sharing of powers between the Parliament and the President, and the President fleeing the country. On 26 February 2014, the Parliament appointed a new Prime Minister and Government.  On 25 May 2014, a new President was elected.

In late February 2014, Russian troops occupied Crimea.  On 16 March 2014, an unofficial referendum was held in Crimea on its secession from Ukraine, and Russia signed a treaty with Crimea to annex the territory to Russia. The Ukrainian Parliament declared Crimea as a territory temporarily occupied by Russia.

In April and May 2014, pro-Russian groups in the Donetsk and Luhansk regions demanded autonomy from Ukraine, which led to armed conflict with Ukrainian Government forces, which became progressively worse. 

In September 2014, the Ukrainian Government agreed a ceasefire with the pro-Russian groups, but fighting continued and escalated.  On 12 February 2015, a further ceasefire agreement was negotiated, and although there has continued to be sporadic fighting, this ceasefire has largely held.

The Group has no assets in Crimea or the areas of conflict in the east of Ukraine, nor do its operations rely on sales or costs incurred there.

The conflict in the region has put further pressure on relations between Ukraine and Russia, and the escalating political tensions have had an adverse effect on the Ukrainian financial markets, hampering the ability of Ukrainian companies and banks to obtain funding from the international capital and debt markets.

During 2015, the Ukrainian Hryvnia has devalued significantly against major world currencies, including against the US Dollar, where it has fallen from UAH15.8/$1.00 on 1 January 2015 to UAH21.0/$1.00 on 30 June 2015. As at 25 September 2015, the Ukrainian Hryvnia was trading at UAH21.5/$1.00. As a result, significant external financing is required to maintain the country's economic stability.  The National Bank of Ukraine, among other measures, has imposed severe restrictions on the processing of client payments by banks, on the purchase of foreign currency on the inter-bank market and on the remittance of funds outside Ukraine.

The Ukrainian Government has continued to work with the United States, European Union and International Monetary Fund in order to obtain financing and avoid defaulting on its loans. On 30 April 2014, the International Monetary Fund approved a two-year Stand-By Arrangement for Ukraine, amounting to $17 billion, to support the Government's economic programme designed to restore macroeconomic stability and enhance the efficiency of mechanisms aimed at sustainable economic growth. In May 2014, the Government signed loan agreements worth a total of $1.48 billion with the World Bank. In June 2014, the economic component of the Association and Free Trade Agreement with the European Union was signed by the Government. On 11 March 2015, the Stand-By Arrangement was replaced by a new funding package from the International Monetary Fund amounting to $17.5 billion over a four year period.  The agreement for this new funding package stipulates a number of fiscal and economic reforms, including reforms in the banking and energy sectors.

The final resolution and the effects of the political and economic situation in Ukraine are difficult to predict but they are likely to have further severe effects on the Ukrainian economy. 

These events have not materially affected the Group's production operations to date, but the ongoing instability is disrupting the Group's development and operational planning for its assets. Furthermore, the political, fiscal and economic instability has impacted the Group's normal business activities, and increased the risks relating to its business operations, financial status, access to secure banking facilities and maintenance of its Ukrainian production licences.

The Ukrainian Government is keen to develop the country's domestic production of hydrocarbons since Ukraine imports the majority of its gas needs from Russia. While this should put the Group in a well-placed position, as experienced previously, there are significant risks to carrying out business in the country. It is considered that the involvement of Energees Management Limited, as a major shareholder with extensive experience in Ukraine, has generally helped to mitigate such risks.

Going concern risk

The Group is exposed to risks relating to Ukraine as well as production, hydrocarbon price and other risks, as detailed in this Operational Environment, Principal Risks and Uncertainties section. In view of this, the Group prepares monthly cash flow forecasts which take into account the risks facing the business, to assess its ability to meet its obligations as they fall due, taking into account the risks of variances in revenues.

Having reviewed the accounts, budgets and forward plans (including sensitivity analysis), the latest operational results, the risks outlined herein, and having taken into account the Group's cash holdings, the current and recent practice of contracting for drilling services on a fixed-price basis, the absence of long term contractual arrangements relating to drilling, the assessment of well results prior to entering into firm commitments for future drilling operations and the lower committed expenditure in Ukraine, the Directors continue to believe that the Group is able to manage its business risks successfully despite the current uncertain political and economic outlook. The Directors have a reasonable expectation that the Group has adequate resources to continue in operational existence for the foreseeable future regarded as at least 12 months from the date of signing of the Group's financial statements. Therefore they continue to adopt the going concern basis of accounting in preparing the financial statements.

Production risks

Producing gas and condensate reservoirs are generally characterised by declining production rates which vary depending upon reservoir characteristics and other factors. Future production of the Group's gas and condensate reserves, and therefore the Group's cash flow and income, are highly dependent on the Group's success in operating existing producing wells, drilling new production wells and efficiently developing and exploiting any reserves, and finding or acquiring additional reserves. The Group may not be able to develop, find or acquire reserves at acceptable costs. The experience gained from drilling undertaken to date highlights such risks as the Group targets the appraisal and production of these hydrocarbons.

Risks relating to further development and operation of the Group's gas and condensate fields in Ukraine

The planned development and operation of the Group's gas and condensate fields in Ukraine is susceptible to appraisal, development and operational risk. This could include, but is not restricted to, delays in delivery of equipment in Ukraine, failure of key equipment, lower than expected production from wells that are currently producing, or new wells that are brought on-stream, problematic wells and complex geology which is difficult to drill or interpret. The generation of significant operational cash is dependent on the successful delivery and completion of the development and operation of the fields.  These risks have been demonstrated by the previous downgrade (in 2014) of the Group's remaining reserves which resulted in the reduction in the value in use, and consequent impairment loss relating to the Group's oil and gas development and producing asset in Ukraine. Furthermore, the optimisation of all of the Group's assets is dependent on maintaining constructive relationships between all business stakeholders.

Exposure to credit, liquidity and cash flow risk

The Group does not currently have any loans outstanding. Local customers are managed in Ukraine and their financial position, the Group's past experience and other factors are evaluated. Internal financial projections are regularly made based on the latest estimates available, and various scenarios are run to assess the robustness of the liquidity of the Group. The Group currently holds sufficient cash and cash equivalents for the anticipated short to medium term needs of the business. Whilst much of the future capital requirement is expected to be derived from operational cash generated from production, including from wells yet to be drilled, there is a risk that in the longer term insufficient operational cash is generated, or that additional funding, should the need arise, cannot be secured. 

Risks relating to the Ukrainian banking sector

The upheaval in Ukraine has led to a significant deterioration of Ukraine's finances, volatility in financial markets and a substantial depreciation of the Ukrainian Hryvnia against major foreign currencies.  As a result, significant external financing is required to maintain the country's economic stability.  The National Bank of Ukraine, amongst other measures, has imposed comprehensive restrictions on the processing of client payments by banks, on the purchase of foreign currency on the inter-bank market and on the remittance of funds outside Ukraine.  These measures and the many other economic issues in Ukraine have put great strain on the Ukrainian banking system, with increasing risks in the capital strength, liquidity and creditworthiness of a number of banks, and very high rates in the wholesale and overnight markets. In addition, there have been significant deposit outflows from the banking system and widespread restructuring of bank clients' maturing liabilities. 

The new funding package to Ukraine, approved by the International Monetary Fund in March 2015, required significant reforms to the Ukrainian banking sector, which are now being implemented. The reforms are being overseen by the National Bank of Ukraine and involve all banks being inspected and assessed, with particular emphasis on lending to a bank's related parties.  The inspections are designed to enable the National Bank to assess the financial strength and liquidity of the banks in Ukraine, and may lead to the National Bank imposing remedial measures, ranging from the imposition of requirements for a bank to reduce its exposure to related party lending, the appointment of an administrator to manage the priority of payments by a bank, or in the most extreme cases, the liquidation of a bank.   

In light of the deterioration in the banking sector in Ukraine, the Group is in the process of diversifying its banking arrangements between a number of banks in Ukraine. These steps are designed to spread the risks associated with each bank's creditworthiness, but the Ukrainian banking sector remains weakly capitalised and so the risks associated with the banks in Ukraine remain significant.

In addition, the severe banking restrictions referred to above, have meant that the Group is unable to remit funds outside Ukraine, which has resulted in the Group's cash holdings of Ukrainian Hryvnia in Ukraine increasing substantially over the past eighteen months.

The Group operates bank accounts in Ukraine with Unex Bank which is indirectly controlled by Mr V Novinskiy, who also controls a majority shareholding in the Group.  As a result Unex Bank is a related party to the Group. The Group currently holds a significant proportion of its Ukrainian Hryvnia cash deposits in Unex Bank.  In May 2015, the Group obtained a guarantee and security from companies within the Smart Holding Group in support of the Group's cash deposits in Unex Bank.  However, Smart Holding Group and Unex Bank have not acted in accordance with certain requests to reduce the cash deposits held by the Group in Unex Bank, which has caused the Group to reassess the risks associated with these cash deposits, which amounted to $14.5 million (held in Ukrainian Hryvnia) as at 30 June 2015.  As a result, the Group considers it appropriate to reclassify such cash deposits as short-term investments (with a carrying value equal to the cash deposits), rather than cash or cash equivalents due to the limited liquidity of the cash deposits.  Notwithstanding the security provided by the Smart Holding Group in support of the cash deposits in Unex Bank, there are significant risks associated with the recovery of such cash deposits and/or enforcement of such security.

The creditworthiness and potential risks relating to the majority of banks in Ukraine are regularly reviewed by the Group, but the ongoing geopolitical and economic events in Ukraine have significantly weakened the Ukrainian banking sector and so the risks associated with the banks in Ukraine remain significant, including in relation to the banks with which the Group operates bank accounts.

Currency risk

The Group's main activities are (i) investment into the development of the Group's Ukrainian gas and condensate asset; (ii) the production and sale of gas, condensate and LPG; and (iii) the continued exploration for further hydrocarbon reserves.

The Group receives sales proceeds in Ukrainian Hryvnia, and the majority of the capital expenditure costs for the 2015 investment programme will be incurred in Ukrainian Hryvnia, thus revenue and costs are largely matched. As with all currencies, the value of the Ukrainian Hryvnia is subject to foreign exchange fluctuations, but as the Ukrainian Hryvnia does not benefit from the range of currency hedging instruments which are available in more developed economies, the Group had previously adopted a policy that, where possible, funds not required for use in Ukraine be retained on deposit in the United Kingdom, principally in US Dollars.  However, the severe banking restrictions, referred to above, on the purchase of foreign currency and the remittance of funds outside Ukraine have meant that the Group has been unable to follow this policy in recent months, and as a result, the Group's cash holdings of Ukrainian Hryvnia in Ukraine have increased significantly over the past year. 

Furthermore, during 2015, the Ukrainian Hryvnia significantly devalued against major world currencies, including against the US Dollar, where it has fallen from UAH15.8/$1.00 on 1 January 2015 to UAH21.0/$1.00 on 30 June 2015.  As at 25 September 2015, the Ukrainian Hryvnia was trading at UAH21.5/$1.00.  In response, the National Bank of Ukraine, among other measures, has imposed severe restrictions on the processing of client payments by banks, on the purchase of foreign currency on the inter-bank market and on the remittance of funds outside Ukraine.  In addition, the recent events in Ukraine, as outlined above in "Risks relating to Ukraine", are likely to continue to impact the valuation of the Ukrainian Hryvnia against major world currencies.  Further devaluation of the Ukrainian Hryvnia against the US Dollar will affect the carrying value of the Group's assets. 

Ukraine Production Licences

The Group operates in a region where the right to production can be challenged by State and non-State parties. During 2010, this manifested itself in the form of a Ministry Order instructing the Group to suspend all operations and production from its Ukrainian production licences. Whilst the Ministry Order was resolved in 2011, the environment is such that a challenge may arise at any time in the future in relation to the Group's operations, licence history, compliance with licence commitments and/or local regulations. The Group endeavours to ensure compliance with commitments and regulations via Group procedures and controls or, where this is not immediately feasible for practical or logistical considerations, seeks to enter into dialogue with the relevant Government bodies with a view to agreeing a reasonable time frame for achieving compliance or an alternative, mutually agreeable course of action.

The Group's production licences for the MEX-GOL and SV field currently expire in 2024.  However, in the estimation of its reserves, it is assumed that the field development will continue until the end of the field's economic life in 2036, and a consequent assumption is made that licence extensions will be granted in accordance with current Ukrainian legislation.  Despite such legislation, it is possible that licence extensions will not be granted, which would affect the achievement of full economic field development and consequently the carrying value of the Group's oil and gas development and producing asset in the future. 

Hydrocarbon price risk

The Group derives its revenue principally from the sale of its Ukrainian gas, condensate and LPG production. These revenues are subject to commodity price volatility and political influence. A prolonged period of low gas, condensate and LPG prices may impact the Group's ability to maintain its long-term investment programme with a consequent effect on growth rate which in turn may impact the share price or any shareholder returns. Lower gas, condensate and LPG prices may not only decrease the Group's revenues per unit, but may also reduce the amount of gas, condensate and LPG which the Group can produce economically, as would increases in costs associated with hydrocarbon production, such as subsoil taxes and royalties.

There continues to be significant uncertainty about the future gas price in Ukraine, which has been exacerbated by the major political events that have taken place in Ukraine during recent months.  The industrial gas price has been generally related to the imported price of gas from Russia, but there is a continuing dispute between Russia and Ukraine as to the interpretation of the gas pricing calculation under their longstanding gas supply agreement. As a result of the continuing uncertainty regarding the industrial gas price, it should be recognised that the industrial gas price may increase or decline significantly. 

In late November 2014, the Ukrainian Government made an Order that certain specified industrial organisations were obliged to purchase their gas requirements for the period from 1 December 2014 to 28 February 2015 from Naftogaz, the State-owned gas supplier, rather than from other gas producers in Ukraine. During this period, the Order significantly impacted the gas supply market in Ukraine, causing disruption to the market and adversely affecting the market gas prices. The Group's gas off-taker was affected by this Order, and consequently the Group had to sell its gas production into the general gas market at the prevailing prices. The prices achieved were less than those achieved prior to the imposition of the Government Order, and consequently resulted in a negative impact on the Group's results for the first half of 2015.  Whilst the Order was not extended beyond 28 February 2015, similar regulations may be imposed in the future.

With effect from 1 April 2015, the Ukrainian Government implemented reforms to the gas market in Ukraine, under which the previously State-subsidised domestic gas price will begin to converge with the industrial gas price. In addition, the Ukrainian Government has enacted legislation designed to deregulate the gas market in Ukraine, but the timeframe for the implementation of such legislation is unclear.  Over time, these reforms are likely to have an effect on the internal gas market in Ukraine.   

The overall economics of the Group's key asset (being the net present value of the future cash flows from the Ukrainian project) are far more sensitive to long term gas, condensate and LPG prices than short term price volatility. However, short term volatility does affect liquidity risk, as, in the early stage of the project, income from production revenues is offset by capital investment.

Production based taxes

At the end of July 2014, the Ukrainian Government approved emergency fiscal measures designed to assist in alleviating the fiscal and economic pressures affecting the economy of Ukraine. These imposed significant increases to the subsoil tax rates payable on gas and condensate production.  The measures were imposed for the limited period from 1 August 2014 to 31 December 2014, but due to the continuing fiscal and economic pressures affecting the economy of Ukraine, these measures were extended into 2015 and are likely to continue for the rest of 2015.  Whilst the Ukrainian Government has recently been considering new subsoil tax proposals, with tax rates similar to those in force prior to the imposition of the emergency measures, it is uncertain whether the new subsoil tax proposals will be ultimately be adopted and it is also uncertain whether any new tax rates will be similar to the levels prior to the temporary increases and any such tax rates may be set at another level.  In the event that the subsoil tax rates continue to be substantially higher than the levels prior to the increases, it is likely that the Group's financial results will continue to be negatively impacted in the future.

Industry risks

The Group's ability to execute its strategy is subject to risks which are generally associated with the oil and gas industry. For example, the Group's ability to pursue and develop its projects and  development  programmes depends on a number of uncertainties, including  the  availability of capital, seasonal  conditions, regulatory approvals, gas, oil, condensate and LPG prices, development costs and drilling success. As a result of these uncertainties, it is unknown whether potential drilling locations identified on proposed projects will ever be drilled or whether these or any other potential drilling locations will be able to produce gas, oil or condensate. In addition, drilling activities are subject to many risks, including the risk that commercially productive reservoirs will not be discovered. Drilling for hydrocarbons can be unprofitable, not only due to dry holes, but also as a result of productive wells that do not produce sufficiently to be economic. In addition, drilling and production operations are highly technical and complex activities and may be curtailed, delayed or cancelled as a result of a variety of factors.  Furthermore, whilst the Group is committed to maintaining the highest standards of health, safety, environmental and security in its operational activities, hydrocarbon drilling and production operations carry inherent risks, which in the event of an incident may significantly affect the operational, production, financial and/or business activities of the Group.  

Financial Markets and Economic Outlook

The performance of the Group will be influenced by global economic conditions and, in particular, the conditions prevailing in the United Kingdom and Ukraine. The economies in these regions have been subject to volatile pressures during the period, with the global economy having experienced a long period of difficulties, and more particularly the recent events that have occurred in Ukraine. If these events continue, worsen or recur, the Group may be exposed to increased counterparty risk as a result of business failures in Ukraine or elsewhere and will continue to be exposed if counterparties fail or are unable to meet their obligations to the Group. The precise nature of all the risks and uncertainties the Group faces as a result of these risks cannot be predicted and many of these are outside of the Group's control.

Risks relating to key personnel

The Group has a relatively small team of executives and senior management. Whilst this is sufficient for a group of this nature, there is a dependency risk relating to the loss of key individuals.

Condensed Interim Consolidated Income Statement

*As restated.  See Note 5.

The Notes set out below are an integral part of these condensed interim consolidated financial statements.

Condensed Interim Consolidated Statement of Comprehensive Income

*As restated.  See Note 5.

The Notes set out below are an integral part of these condensed interim consolidated financial statements.

Condensed Interim Consolidated Balance Sheet

The Notes set out below are an integral part of these condensed interim consolidated financial statements.