31. Financial instruments

The Group's principal financial instruments comprise cash and cash equivalents, investments, bank loans, bonds and promissory notes issued and finance leases liabilities. These instruments serve to finance the Group's operations and capital expenditures; its corporate financial transactions such as share repurchase and acquisition strategy; place available funds in course of cash management. Other financial assets and liabilities such as trade receivables and trade payables arise directly from the Group's operations. The following table presents the carrying amounts of financial assets and liabilities as at December 31, 2011, 2010 and 2009:


Classes Categories December 31,
2011
December 31,
2010
December 31,
2009
Cash and cash equivalents Loans and receivables 7,177 12,627 13,621
Trade and other receivables Loans and receivables 30,368 26,013 22,425
Available-for-sale financial assets at cost Available-for-sale 9 35 38
Available-for-sale financial assets at fair value Available-for-sale 3,549 1,025 843
Loans Loans and receivables 14,984 15,109 23,815
Total financial assets   56,087 54,809 60,742
         
Bank and corporate loans Liabilities at amortized cost 149,504 106,362 65,686
Bonds Liabilities at amortized cost 8,889 22,700 33,629
Promissory notes Liabilities at amortized cost 9 606 2,531
Vendor financing Liabilities at amortized cost 2,431 2,559 3,302
Finance lease liabilities Liabilities at amortized cost 2,063 4,375 8,443
Interest payable Liabilities at amortized cost 466 1,343 2,056
Hedge derivative Financial liabilities at fair value
through profit and loss
- - 396
Other borrowings Liabilities at amortized cost 105 92 153
Trade and other payables Liabilities at amortized cost 30,077 30,035 24,750
Non-hedge derivative Financial liabilities at fair value
through profit and loss
24 70 109
Total financial liabilities   193,568 168,142 141,055

The fair value of cash and cash equivalents, current receivables, trade payables, other current financial assets and liabilities approximate their carrying amount largely due to the short-term maturity of these instruments.

The fair value of long-term debt investments, long-term accounts receivable and non-current accounts payable correspond to the present values of the payments related to the assets and liabilities, taking into account the current interest rate parameters that reflect market-based changes to terms and conditions and expectations.

Available for sale investments accounted for at cost include unquoted equity investments whose value cannot be measured reliably. Quoted prices are not available for these investments due to the absence of an active market. It is also impracticable to derive fair value using the similar transaction method. The discounting cash flow method cannot be applied to such investments as there are no reliably determinable cash flows related to them.

The table below analyses financial instruments carried at fair value, by valuation method. The different levels have been defined as follows:

  • Level 1: quoted prices (unadjusted) in active markets for identical assets or liabilities
  • Level 2: inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly (i.e., as prices) or indirectly (i.e., derived from prices)
  • Level 3: inputs for the asset or liability that are not based on observable market data (unobservable inputs)


  2011 2010 2009
Available-for-sale financial assets      
       
Long-term equity investments at fair value      
Level 1 776 1,007 815
Level 2 2,773 18 28
Level 3 - -  
Total long-term equity investments at fair value 3,549 1,025 843
Financial liabilities at fair value through profit
and loss
     
Non-hedge derivatives      
Level 1 - - -
Level 2 24 70 109
Level 3 - - -
Total non-hedge derivatives 24 70 109
       
Hedge derivatives      
Level 1 - - -
Level 2 - - 396
Level 3 - - -
Total non-hedge derivatives - - 396

Income and expenses on financial instruments


  Finance costs Other investing and financing gains and losses Equity
2011 Bad debt income /
(expense)
Interest
expense
Interest
income
Dividend
income
Gains /
losses
on asset
disposal
Fair
value
change
Impairment
loss
(reversal of
impairment)
Other Foreign
exchange
gains /
losses
Fair
value
change
Total
Cash and cash equivalents - - 332 - - - - - (42) - 290
Trade and other
receivables
(627) 21 62 - - - - - 141 - (403)
Available for sale
financial instruments
- - - 27 - - 76 - - 19 46
Loans - - 1,459 - - - - - (88) - 1,447
Total financial assets (627) 21 1,853 27 - - 76 - 11 19 1,380
Bank and corporate loans - (8,849) - - - - - - (32) - (8,881)
Bonds - (1,589) - - - - -   - - (1,589)
Promissory notes - (74) - - - - - - - - (74)
Vendor financing - (148) - - - - - - (125) - (273)
Finance lease liabilities - (653) - - - - - - (2) - (655)
Interest payable - (10) - - - - - - (7) - (17)
Trade and other payables and non-hedge derivatives   -       51 - (1) (110)   (60)
Total financial liabilities - (11,323) - - - 51 - (1) (276) - (11,549)

  Finance
costs
Other investing and financing gains and losses Equity
2010 Bad debt income
/ (expense)
Interest
expense
Interest
income
Dividend
income
Gains /
losses on
asset
disposal
Fair
value
change
Impairment
loss
(reversal of
impairment)
Other Foreign
exchange
gains /
losses
Fair
value
change
Total
Cash and cash
equivalents
- - 989 - - - - - 29 - 1,018
Trade and other
receivables
(681) - 19 - - - - - - - - (21) - (683)
Available for sale
financial instruments
- - - 27 74 - 4 - - 198 303
Loans - - 1,757 - - - 16 - (283) - 1,490
Total financial assets (681) - 2,765 27 74 - 20 - (275) 198 2,128
Bank and corporate loans - (5,535) - - - - - (37) 168   (5,404)
Bonds - (2,933) - - - - - - - - (2,933)
Promissory notes - (399) - - - - - - - - (399)
Doubtful
debt
allowance
- (184) - - - - - - 3 - (181)
Finance lease liabilities - (1,048) - - - - - - (12) - (1,060)
Interest payable - (39) - - - - - - 2 - (37)
Other borrowings and hedge derivatives - (64) - - - - - (48) - - (112)
Trade and other
payables and non-hedge derivatives
- (53) - - - 39 - - 27 - 13
Total financial
liabilities
- (10,255) - - - 39 - (85) 188 - (10,113)

  Finance
costs
Other investing and financing gains and losses Equity
2009 Bad debt income /
(expense)
Interest
expense
Interest
income
Dividend
income
Gains /
losses on
asset
disposal
Fair
value
change
Impairment
loss (reversal
of
impairment)
Other Foreign
exchange
gains /
losses
Recognition
of fair value
change in
income
statement
Fair
value
change
Total
Cash and cash
equivalents
- - 784 - - - - - (96) - - 688
Trade and other
receivables
(1,068) - 1 - - - - - 214 - - (853)
Available for sale
financial assets
- - 13 8 (81) - - 63 (692) (1) 593 (97)
Loans - - 2,265 - (1) - 70 70 (65) - - 2,339
Total financial assets (1,068) - 3,063 8 (82) - 70 133 (639) (1) 593 2,077
Bank and corporate loans - (7,681)           28 (1,180)     (8,833)
Bonds - (4,426) - - - - - - - - - (4,426)
Promissory notes - (666) - - - - - - 1 - - (665)
Vendor financing - (43) - - - - - - (70) - - (113)
Finance lease liabilities - (1,879) - - - - - - (45) - - (1,924)
Interest payable - (35) - - - - - - (22) - - (57)
Other borrowings and hedge derivatives - - - - - 67 - - - - - 67
Trade and other payables and non-hedge derivatives - - - - - - - 69 (762) (693)
Total financial
liabilities
- (14,730) - - - 67 - 97 (2,078) - - (16,644)

(a) Credit risk

Each class of financial assets represented in the Group's statement of financial position to some extent is exposed to credit risk. Management develops and implements policies and procedures aiming to minimize the exposure and impact on the Group's financial position in case of risk realization.

Financial instruments that could expose the Group to concentrations of credit risk are mainly trade and other receivables. The credit risk associated with these assets is limited due to the Group's large customer base and ongoing procedures to monitor the credit worthiness of customers and other debtors.

The Group's accounts receivable are represented by receivables from the Government and other public organizations, businesses and individuals each of them bearing different credit risk. Collection of receivables from the Government and other public organizations is mainly influenced by political and economic factors and not always under full control of the Group. However, management undertakes all possible efforts to minimize the exposure to risk of receivable from this category of clients. In particular, creditworthiness of such subscribers is assessed based on financing limits set by the Government. Management believes there were no significant unprovided losses relating to these or other receivables as at December 31, 2011, 2010 and 2009.

To reduce risk of exposure on receivables from businesses and individuals the Group implements a range of procedures. Credit risk is determined based on a summary of probabilities of occurrences and possible impact of events negatively influencing the customer's ability to discharge its obligation. A credit rating is attributed to a customer on initial stage of cooperation and, then, reassessed periodically based on credit history. As a part of its credit risk management policy, the Group arranges preventive procedures which are represented by but not limited to advance payments, request for collaterals and banks and third parties party guarantees. For collection of receivables, which are past due, the Group takes a variety of actions from suspension of rendering of services to taking legal action.

The Group deposits excess cash available with several Russian banks and makes investments in bills of exchange. To manage the credit risk related to deposit of cash available with banks, management of the Group implements procedures to periodically assess the creditworthiness of the banks. To facilitate this assessment, deposits are mainly placed with banks where the Group has already had current settlement account and can easily monitor activity of such banks. Prior to investing in bills of exchange, management of the Group performs an analysis of financial position of the issuer and monitors its creditworthiness over periods up to maturity.

Maximum exposures to credit risk are limited to the net carrying amounts of respective financial assets. Such exposure is mitigated by collaterals held by the Group.

(b) Liquidity risk

The Group monitors its risk of a shortage of funds by preparing and monitoring compliance with cash flow budgets. The Group's objective is to maintain a balance between continuity of funding and flexibility through the use of bank overdrafts, bank loans, bonds and finance leases. Cash flow budgets consider the maturity of both cash inflows and outflows from the Group's operations. Based on projected cash flows the decision is taken on either investment of free cash or attracting financing required. Realization of liquidity risk management policy provides the Group with sufficient cash to discharge its obligation on a timely basis. However, since the companies comprising the Group were managed on individual basis in 2009-2011 no financing was provided within the Group introducing the need for certain companies to raise financing from third parties rather than from fellow subsidiaries with excess liquidity.

Maturity analysis as at December 31, 2011, 2010 and 2009 represented below shows undiscounted cash flows, including estimated interest payments:


  2012 2013 2014 2015 2016 and later Total
December 31, 2011            
Bank and corporate loans 80,245 49,099 10,994 13,703 13,865 167,906
Bonds 5,085 2,022 351 351 4,250 12,059
Promissory notes - - - - 8 8
Vendor financing 2,366 8 8 8 47 2,437
Finance lease liabilities 1,734 532 22 18 218 2,524
Other borrowings and hedge
derivatives
77 13 10 9 12 121
Trade and other payables and non-
hedge derivatives
30,101 43 1 1 1 30,147
Total financial liabilities 119,608 51,717 11,386 14,090 18,401 215,202

  2011 2012 2013 2014 2015 and later Total
December 31, 2010            
Bank and corporate loans 34,415 47,276 33,797 4,122 2,306 121,916
Bonds 20,091 4,018 721 - - 24,830
Promissory notes 612 - - - 8 620
Vendor financing 2,705 52 - - - 2,757
Finance lease liabilities 2,825 1,613 443 22 256 5,159
Other borrowings and hedge
derivatives
207 23 28 13 13 284
Trade and other payables and non-
hedge derivatives
29,976 103 36 18 - 30,133
Total financial liabilities 90,831 53,085 35,025 4,175 2,583 185,699

  2010 2011 2012 2013 2014 and later Total
December 31, 2009            
Bank and corporate loans 24,877 26,900 19,709 4,906 2,522 78,914
Bonds 21,626 13,879 1,000 - - 36,505
Promissory notes 2,205 597 - - 23 2,825
Vendor financing 3,016 383 51 - - 3,450
Finance lease liabilities 4,793 2,833 1,803 430 404 10,263
Other borrowings and hedge
derivatives
432 61 23 28 23 567
Trade and other payables and non-
hedge derivatives
24,822 27 10 9 92 24,960
Total financial liabilities 81,771 44,680 22,596 5,373 3,064 157,484

In September 2011, the Group entered into a guarantee contract with OJSC Gazprombank for the benefit of OJSC MSS, a related party, with regard to counterparty's liability on credit agreements for amount of 6,400 (refer to Note 33).

In December 2011, the Group entered into a guarantee contract with OJCS TransCreditBank for the benefit of OJSC MSS, a related party, with regard to counterparty's liability on credit agreement for amount of 500 (refer to Note 33).

In December 2011, the Group entered into a guarantee contract with OJCS Promsvyazbank for the benefit of SJSC Skylink, a related party, with regard to counterparty's liability on credit agreement for amount of 1,210 (refer to Note 33).

(c) Market risks

Significant market risk exposures are interest rate risk, exchange rate risk and other price risk. Exposure to other price risk arises from available for sale investments quoted on active markets.

Interest rate risk

Interest rate risk mainly relates to floating rate debt primary denominated in US dollars, Russian Rubles and euros and financial instruments denominated in Russian Rubles. To manage this risk, the Group entered into interest rate swaps to hedge significant amounts of its floating rate debt. Other borrowings do not materially influence the exposure to interest risk.


  December 31,
2011
December 31,
2010
December 31,
2009
Fixed rate instruments      
Financial assets 20,964 26,780 27,539
Financial liabilities (157,267) (115,696) (86,429)
  (136,303) (88,916) (58,890)
Variable rate instruments      
Financial assets 135 - -
Financial liabilities (6,200) (21,147) (27,820)
  (6,065) (21,147) (27,820)

Fair value sensitivity analysis for fixed rate instruments

The Group does not account for any fixed rate financial instruments as fair value through profit or loss.

Cash flow sensitivity analysis for variable rate instruments

The table below demonstrates the sensitivity to a reasonably possible change in interest rates, with all other variables held constant, of the Group's profit before tax.


  2011 2010 2009
LIBOR (+0.1%) (6) (10) (17)
LIBOR (-0.1%) 6 10 17
Euribor (+0.1%) - (1) (2)
Euribor (-0.1%) - 1 2
MosPrime (+0.1%) (2) (9) (10)
MosPrime (-0.1%) 2 9 10
CB refinancing (+0.1%) - (3) (2)
CB refinancing (-0.1%) - 3 2

Foreign exchange risk

Currency risk is the risk that fluctuations in exchange rates will adversely affect the Group's cash flows. As a result, these fluctuations in exchange rates will be reflected in respective items of the Group's consolidated statement of comprehensive income, statement of financial position and/or statement of cash flows. The Group is exposed to currency risk in relation to its assets and liabilities denominated in foreign currencies, mostly from accounts receivable and payable from operations with international telecom operators, accounts payable for equipment, borrowings issued in foreign currencies. The Group does not have formal procedures to reduce its currency risks.

Financial assets and liabilities of the Group presented by currency as at December 31, 2011, 2010 and 2009 were as follows:


  December 31, 2011 December 31, 2010 December 31, 2009
  US$ EUR US$ EUR US$ EUR
Cash and cash equivalents 272 32 568 16 1,647 529
Trade receivables 1,283 310 690 300 869 215
Loans and receivables 259 - 1,586 - 9,101 2,805
Bank and corporate loans (3,959) (770) (9,494) (1,520) (15,635) (2,538)
Vendor financing (2,204) - (1,969) - (2,081) (14)
Finance lease liabilities - - (1)   (530) -
Other borrowings and hedge derivatives - - - - (396) -
Trade and other payables and non-hedge derivatives (2,269) (242) (2,537) (416) (2,601) (198)
Net exposure (6,618) (670) (11,157) (1,620) (9,626) 799

The table below demonstrates the sensitivity to a reasonably possible change in exchange rates, with all other variables held constant, of the Group's profit before tax:


  December 31, 2011 December 31, 2010 December 31, 2009
  US$ EUR US$ EUR US$ EUR
Strengthening (+10%) (662) (67) (1,116) (162) (963) 80
Weakening (-10%) 662 67 1,116 162 963 (80)

The analysis was applied to monetary items denominated in relevant currencies at the reporting date.

Other price risk

As of December 31, 2011, the Group's assets include investments in quoted securities subject to other price risk. To mitigate this risk, the Group regularly analyzes market securities trends and makes a decision to sell a security, when necessary.

The table below demonstrates the sensitivity to a reasonably possible change in market indexes for securities, with all other variables held constant, of the Group in terms of the result of fair value revaluation recognized in other comprehensive income.


  Increase/decrease
in percentage point
Effect on revaluation result
recognized in other comprehensive
income
2011
MICEX + 30.0% 233
MICEX - 30.0% (233)
2010    
MICEX + 30.0% 387
MICEX - 30.0% (497)
2009    
MICEX + 30.0% 203
MICEX - 30.0% (203)

(d) Capital Management Policy

Capital management policy of the companies comprising the Group is primarily focused on increasing credit ratings, improving financial independence and liquidity ratios, improving the structure of payables, and reducing cost of borrowings. Among the main methods of capital management are profit maximization, investment program management, sale of assets to reduce debt, debt portfolio management and restructuring, use of different classes of borrowings. In addition, the companies of the Group are subject to externally imposed capital requirements, which are used for capital monitoring. There were no changes in the objectives, policies and processes of capital management during 2009-2011.

The Boards of directors of the companies comprising the Group review their performance and establish a variety of key performance indicators which are based on Russian statutory accounts. The companies comprising the Group monitor and manage their debt using financial independence ratio and net debt/equity, net debt/OIBDA ratios.

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