INFRASTRUCTURE AND PROJECT FINANCE

CREDIT OPINION16 February 2017

Update

RATINGS

Latvenergo ASDomicile Latvia

Long Term Rating Baa2

Type LT Issuer Rating - FgnCurr

Outlook Stable

Please see the ratings section at the end of this reportfor more information. The ratings and outlook shownreflect information as of the publication date.

Contacts

Helen Francis 44-20-7772-5422VP-Sr Credit Officerhelen.francis@moodys.com

Andrew Blease 44-20-7772-5541Associate ManagingDirectorandrew.blease@moodys.com

Latvenergo ASUpdate to Reflect Recent Financial Performance and MarketDevelopments

Summary Rating RationaleLatvenergo's Baa2 rating is underpinned by (1) the group's strong competitive position inits Latvian domestic market as a vertically integrated utility; (2) its cost competitive andenvironmentally clean hydro generation asset base; (3) the contribution from regulatedtransmission and distribution activities, which support the stability of the company's cashflows; and (4) the group’s strong financial profile with a funds from operations (FFO)/netdebt ratio of 50.7% in the twelve months ended 30 September 2016.

However, Latvenergo's rating is constrained by (1) its small size; (2) the group's substantialshort generation position versus its supply requirements; (3) variable profitability of hydroplants and gas-fuelled heat and power plants given exposure to changeable commodityprices; and (4) the evolving nature of the electricity markets in which Latvenergo operates,which could exert downward pressure on the group's profitability and negatively affect itscompetitive position.

Latvenergo's rating of Baa2 incorporates two notches of uplift for potential extraordinarysupport from the Government of Latvia (A3 stable), the 100% owner of Latvenergo.

Exhibit 1

Latvenergo's small size is counterbalanced by its strong financial profileTotal assets in € million versus FFO/net debt - selection of EMEA unregulated utilities

Notes: [1] Financial metrics are based on 'Adjusted' financial data and incorporate Moody's Global Standard Adjustments forNon-Financial Corporations; [2] Ratings represent stand-alone credit quality expressed as assigned final rating or baseline creditassessment where applicable.Source: Moody's Financial Metrics™

MOODY'S INVESTORS SERVICE INFRASTRUCTURE AND PROJECT FINANCE

Credit Strengths

» Dominant position in Latvia and some presence in Lithuania and Estonia

» Improved performance of the group’s generation and supply business following the market opening in Latvia

» Regulated network activities add a degree of predictability to cash flows

» Government support provides two notches of rating uplift

Credit Challenges

» Relatively small size and short position in generation leave the company vulnerable to changes in the regional electricity markets

» Cash flows are exposed to variable hydrology while gas-fuelled plants are reliant on capacity payments

» Declining market share in Latvia as a result of market liberalisation

Rating OutlookThe outlook on Latvenergo's rating is stable, reflecting Moody's expectation that, in the context of the risks and opportunitiescharacterising the evolving Latvian market, the company will be able to maintain a financial profile in line with the current ratingguidance of FFO/ debt of sustainably over 20% and FFO/interest cover of sustainably above 5x.

Factors that Could Lead to an UpgradeUpward pressure on Latvenergo’s ratings could develop through a combination of the following: (1) increased visibility of the effect ofthe ongoing market transition in Latvia on the company's market share and financial performance; and (2) the maintenance of goodliquidity and a low leverage profile as indicated above. Upward rating pressure could also occur if the credit quality of the Governmentof Latvia were to materially strengthen.

Factors that Could Lead to a DowngradeLatvenergo's rating could come under downward pressure if (1) the company were not able to maintain a financial profilecommensurate with the current guidance i.e., the FFO/debt ratio were to decline below 20% and FFO/interest coverage ratio were tofall below 5.0x on a sustained basis; (2) the company's liquidity profile were to deteriorate; (3) there were material adverse changesin the regulatory or legal frameworks in Latvia; or (4) the credit quality of the Government of Latvia and/or the support assumptionscurrently incorporated into Moody's assessment were to weaken.

Key Indicators

Exhibit 2

Latvenergo’s credit metrics have strengthened on the back of higher profitability of its generation and supply business

Note: All ratios are based on 'Adjusted' financial data and incorporate Moody's Global Standard Adjustments for Non-Financial Corporations.Source: Moody’s Financial Metrics™

This publication does not announce a credit rating action. For any credit ratings referenced in this publication, please see the ratings tab on the issuer/entity page onwww.moodys.com for the most updated credit rating action information and rating history.

2 16 February 2017 Latvenergo AS: Update to Reflect Recent Financial Performance and Market Developments

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Detailed Rating ConsiderationsDominant position in Latvia but relatively small size and short position in generation leave the company vulnerable tochanges in the regional electricity marketsLatvenergo is the dominant utility in Latvia. Its installed electricity generation capacity is around 2.6 gigawatts (GW), approximately85% of the country's total, of which 1.5 GW (60%) is represented by hydro power plants (HPPs), and the remainder mostly by gas-fuelled combined heat and power plants (CHP) in Riga. The latter also provide some 70% of the heat supplied to the central districtheating system of the capital city and have an installed thermal capacity of 1.6 GWt. Despite its strong position in the domesticmarket, Latvenergo's scale remains relatively small in the pan-European context, which leaves the company exposed to changes in thewider electricity markets.

The group generated 4.3 terawatt-hours (TWh) of electricity in the twelve months ending 30 September 2016, which accountedfor approximately 55% of the electricity supplied to end-customers in the same period (7.7 TWh). The supply shortfall is covered byimports from the Nord Pool Spot (NPS) electricity exchange. Whilst the company uses its physical asset base and derivative financialinstruments to mitigate its power price exposure, its substantial short position weighs negatively on our overall risk assessment of thegroup.

Exhibit 3

Latvenergo’s own generation output covers 40-60% of its retail sales in Baltic countriesLatvenergo’s power generation breakdown (in GWh) and as % of retail sales

Source: Company, Moody’s Investors Service

The company’s exposure to wider European electricity markets has increased following the commissioning of the 700 megawatt (MW)NordBalt interconnector between Lithuania and Sweden in early 2016. The new power line further aligns the level of electricity prices inthe Baltic region with the Nordic market and allows for imports of relatively cheap power to Latvia given the existing 684 MW importcapacity from Lithuania.

The pattern of electricity flows between Latvia and Lithuania did not change significantly following the launch of cross-border tradingwith Sweden. In 2016, Lithuania remained a net importer of electricity from Latvia, with net imports totaling 2,989 GWh compared to3,257 GWh in 2015. In addition, close to 40% of electricity imports from Sweden in 2016 were reexported to Poland given a positivespread between Polish and Latvian/Lithuanian spot electricity prices.

Nonetheless, the increased physical integration contributed to a decline in NPS day-ahead prices in Lithuanian and Latvian biddingareas (price levels in these two Baltic countries have historically traded at roughly equal levels). In the six months to 31 January 2017,average NPS prices for Latvia and Lithuania decreased to €35.8 per megawatt hour (/MWh) compared to €46.9/MWh a year before.At the same time, the average spread to prices in Sweden (SE4 zone) fell from more than €20/MWh to around €2/MWh, reflecting thegrowing correlation between electricity prices in the Baltic area with market developments in the Nordics.

Given the relatively low load factor of the interconnector in the recent past, combined with reduced hydro output in the Nordiccountries, we see some potential for a further price decrease in the Baltics should the aforementioned conditions change. Additional

3 16 February 2017 Latvenergo AS: Update to Reflect Recent Financial Performance and Market Developments

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pressures could stem from commissioning of the third interconnector between Latvia and Estonia in 2020, as prices in the lattercountry are trading below the price levels in Latvia/Lithuania. This creates some risks for the profitability of Latvenergo's generationbusiness given the fixed-cost nature of its HPP plants and competitive pressures faced by its gas-fuelled units during periods of risingfuel prices.

Exhibit 4

NordBalt interconnector contributed to a decline electricity prices in Latvia / Lithuania trading zonesNet electricity imports (+) and exports (-) to/from Latvia (in GWh) and NPS electricity prices (in €/MWh)

Source: Nord Pool Spot, Moody’s Investors Service

Cash flows are exposed to variable hydrology while gas-fuelled plants are reliant on capacity paymentsThe average annual production of Latvenergo's HPPs ranges between 1.8 TWh and 3.6 TWh, depending on hydrological conditions,which compares to Latvia's total annual electricity consumption of some 7.2 TWh. During the spring flood period, which typicallylasts one to two months, the generation output exceeds the domestic demand, thus supporting electricity exports (mainly toLithuania). However, the variable nature of the hydro generation base exposes Latvenergo to significant volatility, which can impactthe company's financial performance. For example, for the twelve months ended September 2016, Latvenergo's HPPs generated 2.0TWh of electricity. This was largely unchanged compared to production output during 2014-2015, but was 35% lower than averageHPP generation during 2011-13. Water flow in the Daugava river determines the company's own generated volumes available to coversupply, and defines the needs for electricity imports.

On the other hand, Latvenergo's CHPs run mainly on natural gas. In the past, their competitiveness was negatively impacted by therelatively high gas prices (which in Latvia are linked to market indices of oil products) and the progressive decrease of wholesaleelectricity prices. More recently, the low cost of fuel allowed for a substantial increase of generation output and higher realisedmargins. However, this positive effect is likely to diminish in the medium term given the recent upswing in base commodity prices.

Historically, the plants have benefited from a guaranteed support scheme. In late 2013, however, the state support mechanism forCHPs changed. Since then, Riga gas-fuelled CHPs no longer receive compensation for the difference between the plant operating costsand the costs recovered through sales at the market price. Moreover, the amount of capacity payments for cogeneration has beenreduced by the introduction of a new 15% subsidised energy tax, which will remain in place until the end of 2017. It is expected that in2021 the state support for the older of two plants (TEC-1) will terminate, which will trigger the need to redefine its positioning in thepower market.

The changes to the cogeneration support mechanisms and the additional fiscal measures imposed in respect of CHP are negativefor Latvenergo, as they impact the profitability of these assets. Whilst Latvenergo has some flexibility to vary its CHP output, theygive rise to the risk that any scale-back in respect of own generated power would result in increased needs for electricity imports andconsequently increase group exposure to power price volatility.

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Retail market opening presents risks and opportunitiesThe Latvian electricity market has undergone substantial changes in recent years. The liberalisation of the country's electricity supplysegment was finalised in January 2015. This creates opportunities for Latvenergo given the increase in retail prices and the gradualcorrection of the historical tariff shortfall in relation to the costs of supplying residential customers. The positive impact from marketopening, combined with lower costs of electricity and gas procurement, is evidenced by the improved EBITDA for the generation andsupply segment. In the twelve months ending 30 September 2016 the segment's EBITDA reached €204 million, up from €86 million in2014. The negative impact in 2014 from electricity supplied at the regulated tariff is estimated by Latvenergo at around €48 million.

Exhibit 5

Latvian market opening led to an increase in electricity prices...Electricity price for residential customers in €/kWh versus NPS price

Exhibit 6

...with positive implications for Latvenergo’s generation businessReported EBITDA breakdown in € million

Note: Average prices for households with annual consumption of 2,500 - 5,000 kWh.Source: Eurostat

Source: Company

Nevertheless, full liberalisation of the Latvian electricity market also creates an opportunity for new entrants, thus, potentiallyimpacting Latvenergo's current dominant market share in the country's electricity supply segment. While we do not anticipate asudden change in Latvenergo's domestic market share, a deteriorating trend would negatively impact the company's credit qualityover time. During the first half of 2016, retail volumes sold by the company were roughly unchanged at 3.9 TWh compared to thecorresponding period in 2015. Nonetheless, the company experienced a significant deterioration of its market position in Latvia over alonger term horizon, which to some extent was mitigated by the expansion of its retail presence in two other Baltic markets.

Exhibit 7

Latvenergo’s declining market share in Latvia was partially offset by the volumes sold in two other Baltic countriesRetail sales in GWh and retail market shares in Latvia and the Baltics

Source: Company

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Regulated network activities add a degree of predictability to cash flowsLatvenergo owns the Latvian electricity transmission grid assets, which it leases out to the independent transmission system operatorAugstsprieguma tikls AS, and earns a regulated fee in the process. Lease payments are calculated in accordance with the methodologyapproved by the Public Utilities Commission (PUC). Latvenergo also owns and operates the country's electricity distribution network.

Regulated transmission and distribution operations accounted for 39% of group EBITDA in the twelve months to 30 September 2016,which adds to cash flow predictability. This compares to a 56% share of regulated networks in group EBITDA in 2014. The reducedshare of network businesses in group’s earnings is explained by the improved margins achieved in the generation and supply segment,which in turn were driven by the aforementioned liberalisation of the Latvian household electricity market and lower fuel costs.

We consider the Latvian regulatory framework to be somewhat less transparent compared to the more developed and establishedregulatory regimes in Europe. At the same time, we recognise the overall supportiveness of the regulatory framework and positivelyacknowledge the introduction of a new weighted average cost of capital calculation methodology by PUC in late 2015, followed by thepublication of new distribution tariffs applicable since August 2016. Previous tariffs approved in 2011 were insufficient to cover all thedistribution service costs which resulted in a negative EBIT from distribution activities in 2015. The new rebalanced tariff should resultin an improved profitability of the segment and an increased share of regulated activities in the company’s cash flows.

Increase in capital expenditure albeit credit metrics expected to remain robustLatvenergo's capital expenditure programme is expected to continue to absorb the company's cash flow, although we note theflexibility embedded in the individual projects. In the next four years, management estimates investments of approximately €250-290million per annum, which represents an increase from less than €200 million per annum on average over the last four years. Some ofthe above expenditures will be covered by the European Union grants, which will decrease net outflows by some €40 million each year.

Close to 70% of total investments in the period up to 2020 will be focused on the expansion and modernisation of Latvenergo'stransmission and distribution assets. Major projects in this area include (1) the Kurzeme Ring project involving the construction ofa 330kV high voltage line in western Latvia, which should allow for a more efficient use of the NordBalt interconnector (remainingcapital expenditure of some €130 million, of which some 45% should be covered by the EU), (2) construction of a third interconnectorbetween Latvia and Estonia (total capital expenditure of €100 million, with 65% to be covered by the EU), and (3) connections of newcustomers to the distribution network.

Whilst most of generation-related capital expenditure is dedicated to the upgrade of Latvenergo's hydro plants (some €200 millionuntil 2022, spread evenly over the period), a significant portion of the investments is conditional upon the improvement of externalmarket conditions. This may result in actual spending levels below the amounts currently incorporated in the plans.

The increase in investment levels, combined with broadly flat or falling electricity prices, should result in a modest deterioration incredit metrics over the next few years. Nonetheless, we expect the metrics to stay comfortably in line with the guidance for the currentrating category which is set at FFO/debt above 20% and FFO Interest Cover above 5.0x. Furthermore, this expectation assumes thatLatvenergo will maintain a high dividend payout ratio, which should exceed 80% under the recently updated strategy for 2017-22.

Moderately well-positioned for decarbonisationThe European Union has committed to reduce greenhouse gas emissions by 40% from 1990 levels and to increase the contributionof renewables (RES) to energy demand to 27% by 2030. We believe that unregulated utilities, which account for 40% of EU carbonemissions, will need to deliver a significant share of the reductions, and that this will create a variety of risks and opportunities forindividual companies.

In Latvia, some 50% of electricity consumption and 40% of total energy demand is covered by production from renewable assets.RES production is supported by means of the mandatory procurement scheme, under which a company designated as a public trader(Energijas publiskais tirgotajs, 100% owned by Latvenergo) has to purchase electricity from RES producers at a regulated tariff. Thesame entity is responsible for managing capacity payments for cogeneration units, such as Latvenergo's Riga plants. We expect agradual decoupling of the aforementioned support for renewable assets from the capacity support mechanism for cogeneration. Givena high share of mandatory procurement in household bills (some 18% in 2015), the amount of capacity payments for cogenerationplants should gradually decrease to allow for a more efficient support of renewable generation.

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Nonetheless, we believe that Latvenergo is moderately well-positioned compared to peers, given its reliance on hydro generation,as well as relatively clean gas-fired power plants. As a result, the group's CO2 intensity of some 290 kg/MWh is low in relation tothe Baltic region as a whole where more than 60% of generation comes from fossil fuels, including CO2-intensive oil shale basedgeneration in Estonia. We further note the potential for a further diversification into the renewable segment, as stipulated in therecently updated corporate strategy.

The company's exposure to CO2 prices is reduced by the free allocations it receives in relation to its thermal assets. However, the shareof free allowances will drop to some 30% by 2020. As the final shape of the EU's Emission Trading Scheme post-2020 remains unclear,it is not certain whether the company will continue receiving free allocations in the fourth settlement period starting in 2021.

In addition, our assessment takes into account that regulated network earnings will continue to be a resilient source of earnings,with the expected share in group EBITDA of above 40%. Furthermore, Latvenergo may be less exposed to consumer-led disruptivetechnologies such as domestic self-generation given lower GDP per capita in Latvia compared to countries in Western Europe.

Government support provides two notches of rating upliftLatvenergo's Baa2 rating incorporates an uplift for potential government support to its standalone credit quality. We express this as aBaseline Credit Assessment (BCA) of ba1. The uplift to the BCA, of two notches, is a result of the credit quality of the Government ofLatvia (A3 stable), which owns 100% of Latvenergo's shares, as well as our assessment of there being a high probability of governmentsupport for the group in the event of financial distress, and a high level of default dependence (i.e. degree of exposure to commondrivers of credit quality). In our view, the Latvian government has no plans to divest its stake in Latvenergo in the near term, whichunderpins Moody's support assumption incorporated into the final rating.

Liquidity AnalysisLatvenergo's liquidity profile has strengthened in recent months. As of 30 September 2016, the company reported €204 million ofunrestricted cash and cash equivalents, an increase from €99 million as at end 2015. In addition, Latvenergo has access to €235 millionunder committed credit facilities meant to finance the group’s capital expenditure programme. Overall, we expect that availableresources and generated cash will be sufficient to cover the company's liquidity requirements for a period in excess of 18 months.

In June 2015 and April 2016, Latvenergo issued green bonds in the combined amount of €100 million due in 2022. This contributedto the diversification of its debt structure and improved the maturity profile. 75% of total debt outstanding at 30 September 2016is provided by commercial and multilateral lenders. Additionally, we acknowledge the varied banking group of Latvenergo, with themajority of term loans characterised by an amortising repayment schedule.

Latvenergo has historically met all applicable financial covenants under its debt terms, and given the current financial profile of thecompany, we expect sufficient headroom to be maintained under all covenant requirements for at least the next 12 to 18 months.

Exhibit 8

Latvenergo has a well spread debt maturity profile and sufficient liquidityDebt maturities and available liquidity in € million

Source: Company

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Corporate ProfileLatvenergo AS is the dominant vertically integrated utility in Latvia, with total installed capacity of some 2.6 gigawatts, representingapproximately 85% of the total Latvian electricity generation capacity. Latvenergo's main power plants comprise three hydro-powerplants on the River Daugava and two combined heat and power plants in Riga. In addition, the group owns the country's electricitytransmission grid assets (operated by an independent system operator) and owns as well as operates the Latvian electricity distributionnetwork. Latvenergo is 100% owned by the Government of Latvia.

Rating Methodology and Scorecard FactorsThe principal methodologies used in rating Latvenergo are Moody's Unregulated Utilities and Power Companies, published inNovember 2014 and Government Related Issuers, published in October 2014. Please see the Credit Policy page on www.moodys.comfor a copy of these methodologies.

Based on the company’s historical and forecasted financial results, the rating methodology grid indicates a factor outcome of Baa2/Baa1, which is above the assigned Baseline Credit Assessment (BCA) of ba1. Latvenergo’s BCA reflects the company’s significantexposure to market developments in the wider Nordic / Baltic electricity market, uncertainties related to market opening in Latvia aswell as the volatility of its hydro generation limiting visibility over the company’s cash flow generation.

Exhibit 9

Latvenergo AS - Rating Grid

Notes: [1] All ratios are based on 'Adjusted' financial data and incorporate Moody's Global Standard Adjustments for Non-Financial Corporations; [2] As of 9/30/2016(L); Source: Moody'sFinancial Metrics™; [3] This represents Moody's forward view; not the view of the issuer; and unless noted in the text, does not incorporate significant acquisitions and divestituresSource: Moody's Investors Service

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Ratings

Exhibit 10Category Moody's RatingLATVENERGO AS

Outlook StableIssuer Rating Baa2Senior Unsecured -Dom Curr Baa2

Source: Moody's Investors Service

Moody's Related ResearchOutlook:

» Unregulated Electric & Gas Utilities - EMEA, 2017 Outlook - Reducing Exposure To Commodities Supports Stable Outlook, 22November 2016

Issuer In-Depth:

» Eesti Energia AS and Latvenergo AS - Baltic electricity utilities facing risks from ongoing integration with Nordic market, 15 June2016

Sector In-Depth:

» Global Unregulated Utilities and Power Companies - Carbon Transition Brings Risks and Opportunities, 19 October 2016

» Europe's Electricity Markets - Capacity and Ancillary Revenues Provide Some Relief For European Generators, 19 July 2016

» Europe's Electricity Markets - In Nordics, Government Measures Partially Offset Negative Impact of Low Power Prices, 19 July 2016

» European Unregulated Utilities and Power Companies - Falling commodity prices put earnings and ratings under pressure, 16February 2016

Announcement:

» Moody's assigns Green Bond Assessment (GBA) of GB1 to Latvenergo AS second programme for the issuance of green notes in thecombined amount of EUR 100 million, 12 October 2016

To access any of these reports, clock on the entry above. Note that these references are current as of the date of publication of thisreport and that more recent reports may be available. All research may not be available to all clients.

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REPORT NUMBER 1058362

10 16 February 2017 Latvenergo AS: Update to Reflect Recent Financial Performance and Market Developments

MOODY'S INVESTORS SERVICE INFRASTRUCTURE AND PROJECT FINANCE

Contacts

Helen Francis 44-20-7772-5422VP-Sr Credit Officerhelen.francis@moodys.com

Andrew Blease 44-20-7772-5541Associate ManagingDirectorandrew.blease@moodys.com

Niel Bisset 44-20-7772-5344Senior Vice Presidentniel.bisset@moodys.com

Przemyslaw Pietraszek 44 20 7772-5652Associate Analystprzemyslaw.pietraszek@moodys.com

CLIENT SERVICES

Americas 1-212-553-1653

Asia Pacific 852-3551-3077

Japan 81-3-5408-4100

EMEA 44-20-7772-5454

11 16 February 2017 Latvenergo AS: Update to Reflect Recent Financial Performance and Market Developments