3 Measurement criteria

The major measurement criteria adopted for preparation of the consolidated financial statements are described below.

CURRENT ASSETS

Recording and elimination of financial assets

Financial assets are recorded on the balance sheet when the company becomes a party to agreements related to such assets. Financial assets sold are eliminated from balance sheet assets when the right to receive cash flows is transferred together with all risks and benefits associated with ownership.

Cash and cash equivalents

Cash and cash equivalents include the cash on hand, on demand deposits, as well as other short-term financial investments with a term of under three months, which are readily convertible into cash and are subject to a negligible risk of variance of their value.

If denominated in euros, these entries are recorded at nominal value, corresponding to fair value, and if in other currencies, they are recorded at the exchange rate in effect at the end of the period.

Trade and other receivables

Trade and other receivables are initially measured at fair value inclusive of the transaction costs, and subsequently at amortised cost³ using the effective interest rate method. Where there is actual evidence of impairment, the write-down is calculated by comparing the book value with the current value of anticipated cash flows discounted at the effective interest rate defined at the time of the initial recognition, or at the time of its updating to reflect the contractually defined repricing. There is objective evidence of impairment when, among other things, there are significant breaches of contract, major financial difficulties or the risk of the counterparty’s insolvency. Receivables are reported net of provisions for impairment losses. If the reasons for a previous write-down cease to be valid, the value of the asset is restored up to the value of applying the amortised cost if the write-down had not been made.

Trade receivables can be transferred through factoring operations. The transfers can be with or without recourse. Without recourse has neither risk of recourse nor liquidity risk and therefore involves the write-off of receivables on transfer to the factoring company. Transfers with recourse do not transfer the credit risk or liquidity risk; therefore the receivables remain entered in the balance sheet until payment of the due amount. In such case, any advanced payments made by the factoring company are entered under payables to other financial backers.

Inventories

Inventories, including compulsory inventories recorded under non-current assets in “Compulsory Inventories”, are recorded at the lower of purchase or production cost and the net realisation value represented by the amount the company expects to receive from their sale in the normal course of business. The cost configuration used is determined in accordance with the weighted average cost method. The sale and purchase of strategic gas do not involve the effective transfer of risks and benefits associated with ownership, and thus do not result in a change in inventories.

Current tax assets (liabilities)

Current tax assets (liabilities) are recorded at the amount expected to be recovered (paid) from (to) tax authorities applying current tax rates, or those essentially enacted on the reporting date.

Other current and non-current assets

Other current assets and non-current assets are initially measured at fair value, and subsequently at the amortised cost previously described.

NON-CURRENT ASSETS

Property, plant and equipment

Property, plant and equipment are recognised at cost and recorded at the purchase or production cost including directly allocable ancillary costs needed to make the assets available for use. When a significant period of time is needed to make the asset ready for use, the purchase or production cost includes the financial expense which theoretically would have been saved during the period needed to make the asset ready for use, if the investment had not been made. If there are current obligations to dismantle and remove the assets and restore the sites, the book value includes the estimated (discounted) costs to be incurred at the time the structures are abandoned, recognised as a counter-entry to a specific provision. The accounting treatment for revisions in these cost estimates, the passage of time and the discount rate are indicated in the paragraph “Provisions for risks and charges”.

Property, plant and equipment may not be revalued, even through the application of specific laws.

Costs for improvements, upgrades and transformations of an incremental nature with respect to the property, plant and equipment are recognised under balance sheet assets.

Starting at the time utilisation of the asset begins, or should have begun, property, plant and equipment are regularly depreciated on a straight-line basis over their useful life defined as an estimate of the period the asset will be used by the company. When the tangible asset consists of several major components, each with a different useful life, each component is depreciated separately. The amount to be depreciated is the book value reduced by the projected net sales value at the end of the asset’s useful life if this is significant and can be determined reasonably. Land is not depreciated, even if purchased in conjunction with a building; neither are property, plant and equipment held for sale (see the section below “Non-current assets held for sale”).

Freely transferable assets are depreciated during the period of the concession or of the useful life of the asset if lower.

The costs of replacing identifiable components of complex assets are allocated to balance sheet assets and depreciated over their useful life. The remaining book value of the component being replaced is allocated to the income statement. Ordinary maintenance and repair expenses are posted to the income statement in the period when they incurred.

When events occur leading to the assumption of an impairment of the property, plant and equipment, their recoverability is tested by comparing the book value with the related recoverable value, which is the fair value adjusted for disposal costs or the usage value, whichever is greater.

In the absence of a binding sales agreement, fair value is estimated on the basis of values resulting from an active market, recent transactions or on the basis of the best information available to reflect the amount the company could obtain from the sale of the asset.

Value in use is determined by discounting projected cash flows resulting from the use of the asset, and if they are significant and can be reasonably determined, from its sale at the end of its useful life, net of any disposal costs. Cash flows are determined based on reasonable, documentable assumptions representing the best estimate of future economic conditions which will occur during the remaining useful life of the asset, with a greater emphasis on outside information. Discounting is done at a rate reflecting current market conditions for the time value of money and specific risks of the asset not reflected in the estimated cash flows.

The valuation is done for single assets, or for the smallest identifiable aggregate of assets which generates independent incoming cash flow resulting from ongoing use (cash-generating units). If the reasons for impairment losses carried out no longer apply, the assets are revalued and the adjustment is posted to the income statement as a revaluation (recovery of value). The revaluation is applied to the lower of the recoverable value and book value before any impairment losses previously carried out, and reduced by depreciation provisions which would have been allocated if an impairment loss had not been recorded for the asset.

Compulsory inventories are included under non-current assets in the item “Compulsory inventories”.

Assets under finance leases, or under agreements which may not take the specific form of a finance lease, but call for the essential transfer of the benefits and risks of ownership, are recorded at the lower of fair value less fees payable by the lessee or the present value of minimum lease payments, under property, plant and equipment as a counter-entry to the financial debt to the lessor.

The assets are depreciated using the criteria and rates used for property, plant and equipment. When there is no reasonable certainty that the right of redemption can be exercised, the depreciation is made in the shortest period between the term of the lease and the useful life of the asset.

Intangible assets

Intangible assets are those assets without identifiable physical form which are controlled by the company and capable of producing future economic benefits, as well as goodwill when purchased for consideration. The ability to identify these assets rests in the ability to distinguish intangible assets purchased from goodwill. Normally this requirement is satisfied when: (i) the intangible assets are related to a legal or contractual right, or (ii) the asset is separable, i.e. it can be sold, transferred, leased or exchanged independently, or as an integral part of other assets. The company’s control consists of the power to utilise future economic benefits deriving from the asset and the ability to limit their access to others.

Intangible assets are recorded at cost, which is determined using the criteria indicated for property, plant and equipment. They may not be revalued, even through the application of specific laws.

Intangible assets with a finite useful life are regularly amortised over their useful life, meaning the estimate of the period during which the assets will be used by the company. The recoverability of their book value is tested by using the criteria indicated under the paragraph “Property, plant and equipment”.

Goodwill and other intangible assets with an indefinite useful life are not amortised. The recoverability of their book value is tested at least annually, and in any case when events occur leading to an assumption of impairment. Goodwill is tested at the level of the smallest aggregate, on the basis of which the company’s management directly or indirectly assesses the return on investment including goodwill. When the book value of the cash-generating unit, including the goodwill attributed to it, exceeds the recoverable value, the difference is subject to impairment, which is attributed by priority to the goodwill up to its amount; any surplus in the impairment with respect to the goodwill is attributed pro rata to the book value of the assets which constitute the cash-generating unit. Impairment losses cannot be reversed.

Technical development costs are allocated to the balance sheet assets when: (i) the cost attributable to the intangible asset can be determined reliably; (ii) there is the intent, availability of financial resources and technical capability to make the asset available for use or sale; and (iii) it can be shown that the asset is capable of producing future economic benefits.

Intangible assets also include service concession agreements between the public and private sectors for the development, financing, management and maintenance of infrastructures under concession in which: (i) the grantor controls or regulates the services provided by the operator through the infrastructure and the related price to be applied; (ii) the grantor controls any significant remaining interest in the infrastructure at the end of the concession by owning or holding benefits, or in some other way.

Based on the terms of the agreements, the operator holds the right to use the infrastructure, which is controlled by the grantor, for the purposes of providing the public service⁴.

The value of storage concessions, which is determined as indicated by the Ministry of Production Activities in its decree of 3 November 2005, is allocated to the item “Concessions, licences, trademarks and similar rights”, and is not amortised.

Grants

Capital grants are recognised when there is reasonable certainty that the conditions imposed by the granting government agencies for their allocation will be met, and they are recognised as a reduction to the purchase price or production cost of their related assets. Operating grants are recognised in the income statement.

Equity investments

Investments in subsidiaries not included in the scope of consolidation, in subsidiaries controlled jointly with other shareholders and in associates are accounted for using the equity method⁵. If there is objective evidence of impairment (see also section above “Current assets”), recoverability is tested by comparing the book value with the related recoverable value determined using the criteria indicated in the section on “Property, plant and equipment”.

When there is no significant impact on the balance sheet, financial position and income statement, subsidiaries not included in the scope of consolidation, subsidiaries controlled jointly with other shareholders and associates are accounted for at cost adjusted for impairment. When the reasons for the impairment losses carried out no longer apply, equity investments accounted for at cost are revalued up to the amount of the impairment losses applied with the impact posted to the income statement under “Other income (expense) from equity investments”.

Other equity investments are measured at fair value with allocation of the impact to the shareholders’ equity reserve for “Other components of comprehensive income”; changes in fair value which are recognised in shareholders’ equity are posted to the income statement at the time of write-down or sale. When equity investments are not listed in a regulated market, and fair value cannot be reliably determined, such investments are accounted for at cost adjusted for impairment; impairment cannot be reversed.⁶

The amount of any impairment of the investment relating to the parent company, greater than the investment’s book value, is recognised in a special provision to the extent the parent company is committed to fulfilling its legal or implied obligations to the subsidiary/associate, or, in any event, to covering its losses.

Non-current assets held for sale

Non-current assets and current and non-current assets of groups held for sale are classified as held for sale if the relative book value will be recovered by the sale rather than through its continued use. Non-current assets held for sale, current and non-current assets related to disposal groups and directly related liabilities are recognised in the balance sheet separately from the company’s other assets and liabilities. Non-current assets held for sale are not depreciated, and are accounted for at the lower of book value and the related fair value reduced by any sales costs. The classification of investments valued using the net equity method as held for sale implies the suspension of the application of this measurement criterion.

Any difference between the book value and fair value reduced by sales costs is posted to the income statement as an impairment loss; any subsequent recoveries in value are recognised up to the amount of the previously recognised impairment losses, including those recognised prior to the asset being classified as held for sale.

Other non-current assets

Other current and non-current assets are initially measured at fair value, and subsequently at the amortised cost previously described.

FINANCIAL LIABILITIES, TRADE AND OTHER PAYABLES, OTHER LIABILITIES

Financial liabilities, trade and other payables and other liabilities are initially recorded at fair value reduced by any transaction-related costs; they are subsequently recognised at amortised cost using the effective interest rate for discounting.

Recording and elimination of financial liabilities

Financial liabilities are recorded under balance sheet liabilities at the time the company becomes a party to agreements related to such liabilities. Financial liabilities sold are eliminated from balance sheet liabilities when the right to disburse cash flows is transferred together with all risks and benefits associated with ownership.

PROVISIONS FOR RISKS AND CHARGES

Provisions for risks and charges concern costs and charges of a certain nature which are certain or likely to be incurred, but whose amount or date of occurrence cannot be determined at the end of the year. Provisions are recognised when: (i) the existence of a current legal or implied obligation deriving from a past event is likely; (ii) it is likely that the fulfilment of the obligation will involve a cost; and (iii) the amount of the obligation can be reliably determined. Provisions are recorded at a value representing the best estimate of the amount that the company would reasonably pay to fulfil the obligation or to transfer it to third parties at the end of the reporting period. Provisions related to contracts with valuable consideration are recorded at the lower of the cost necessary to fulfil the obligation, less the expected economic benefits deriving from the contract, and the cost to terminate the contract.

When the financial impact of time is significant, and the payment dates of the obligations can be reliably estimated, the provision is calculated by discounting the anticipated cash flows in consideration of the risks associated with the obligation at the company’s average debt rate; the increase in the provision due to the passing of time is posted to the income statement under “Financial income (expense)”.

When the liability is related to property, plant and equipment (e.g. site dismantlement and restoration), the provision is recognised as a counter-entry to the related asset; posting to the income statement is accomplished through amortisation.

The costs that the company expects to incur to initiate restructuring programmes are recorded in the period in which the programme is formally defined, and the parties concerned have a valid expectation that the restructuring will take place.

Provisions are periodically updated to reflect changes in cost estimates, selling periods and the discount rate; revisions in provision estimates are allocated to the same item of the income statement where the provision was previously reported or, when the liability is related to property, plant and equipment (e.g. site dismantlement and restoration), as a counter-entry to the related asset.

The notes to the financial statements describe contingent liabilities represented by: (i) possible (but not probable) obligations resulting from past events, the existence of which will be confirmed only if one or more future uncertain events occur which are partially or fully outside the company’s control; and (ii) current obligations resulting from past events, the amount of which cannot be reliably estimated, or the fulfilment of which is not likely to involve costs.

EMPLOYEE BENEFITS

Benefits following termination of employment are defined according to plans, including non-formalised, which depending on their characteristics are “defined-contribution” and “defined-benefit” plans. In defined-contribution plans the company’s obligation is calculated, limited to the payment of state contributions or to equity or a legally separate entity (fund), based on contributions due.

The liability relating to defined-benefit plans, excluding any assets servicing the plan, is calculated based on actuarial assumptions and recognised for each period according to the period of work necessary to obtain the benefits.

Actuarial profits and losses relating to defined-benefit plans deriving from changes in the actuarial assumptions used or amendments to the conditions of the plan are recognised pro rata in the income statement, for the remaining average working life of the employees participating in the plan, if and insofar as their net value not recognised at the end of the previous period exceeds the greater of 10% of the liabilities relating to the plan and 10% of the fair value of the assets servicing the plan (corridor method).

The obligations relating to long-term benefits are calculated using actuarial assumptions; the effects deriving from the amendments to the actuarial assumptions or the characteristics of the benefits are recognised entirely in the income statement.

TREASURY SHARES

Treasury shares are recognised at cost and entered as a reduction of shareholders’ equity. The economic effect deriving from any subsequent sales are recognised in shareholders’ equity.

REVENUE AND COSTS

Revenue from sales and the provision of services is recognised upon the effective transfer of the risks and benefits typically relating to ownership or on the fulfilment of the service and when it is likely that the financial benefits deriving from the transaction will be realised by the vendor or the provider of the service.

As regards the activities carried out by Snam the moment of recognition of the revenue coincides with the provision of the service.

Revenue provisions relating to services partially rendered are recognised by the fee accrued, as long as it is possible to reliably determine the stage of completion and there are no significant uncertainties over the amount and the existence of the revenue and the relative costs, otherwise they are recognised within the limits of the actual recoverable costs.

Property, plant and equipment, unlike assets used under concession, transferred from customers (or realised with the assets transferred from customers) and functional to their connection to a network for the provision of a supply are recognised at fair value as a counter- entry to the revenue in the income statement. When the agreement stipulates the provision of multiple services (e.g. connection and supply of goods) it is checked against which service provided the asset was transferred from the customer and, accordingly, the disclosure of the revenue is recognised on connection or along the lower of the term of the supply and the useful life of the asset .

Revenues are recorded net of returns, discounts, allowances and bonuses, as well as directly related taxes.

Since they do not represent sales transactions, exchanges between goods or services of a similar nature and value are not recognised in revenues and costs.

The costs are recognised when they relate to goods and services sold or consumed during the period or by systematic allocation, or when it is not possible to identify their future use.

Costs relating to emissions shares, calculated based on the average of the current prices on the main European markets at the close of the period, are disclosed in the amount of the carbon dioxide emission share in excess of the shares assigned, the costs of the purchase of the emission rights are capitalised and disclosed as intangible assets net of any negative balance between emissions made and shares assigned. Earnings relating to emissions shares are disclosed at the point of realising the earnings by the transfer. In the case of transfers, if applicable, the emission rights purchased are considered sold first. The monetary receivables assigned in place of the free assignment of emissions shares are disclosed as a counter-entry to the item, “Other income” in the income statement.

Fees relating to operating leases are charged to the income statement for the duration of the contract.

Costs for the acquisition of new knowledge or discoveries, investigations into products or alternative processes, new techniques or models, the design and construction of prototypes, or incurred for other scientific research or technological developments, which do not meet the conditions for disclosure under balance sheet assets are considered current costs and charged to the income statement for the period they are incurred.

Costs sustained for share capital increases are recorded as a reduction of shareholders’ equity, net of taxes.

STOCK OPTIONS

Personnel expenses include, consistent with the substantial nature of the remuneration that they comprise, stock options assigned to executives. The cost is determined with reference to the fair value of the option assigned to the executive at the time of making the commitment and is not subject to any subsequent adjustment; the portion due for the year is determined pro rata temporis over the period to which the incentive refers (the vesting period)⁷. The fair value is represented by the value of the option determined by applying appropriate valuation techniques which take account of the conditions of exercise of the option, the current share value, the expected volatility and the risk-free interest rate, and is recorded with offsetting in the item “Other reserves”.

EXCHANGE RATE DIFFERENCES

The assets and liabilities included in the balance sheet are represented in the currency of the main economic environment in which the company operates. The consolidated data are represented in Euros, which is the working currency of the company and the group.

Revenues and costs relating to transactions in currencies other than the working currency are recognised at the exchange rate in effect on the day when the transaction was carried out.

Monetary assets and liabilities in currencies other than the working currency are converted into Euros by applying the exchange rate in effect on the reporting date, with attribution of the impact to the income statement. Non-monetary assets and liabilities in currencies other than the working currency and valued at cost are recognised at the initially recorded exchange rate; when the measurement is made at fair value or recoverable or realisable value, the exchange rate used is the one in effect on the date of determination of the value.

DIVIDENDS RECEIVED

Dividends are recognised at the date of the resolution passed by the Shareholders’ Meeting, unless it is not reasonably certain that the shares will be sold before the ex-dividend date.

DISTRIBUTION OF DIVIDENDS

The distribution of dividends to the company’s shareholders entails the recording of a payable in the financial statements for the period in which the distribution was approved by the company’s shareholders or, in the case of interim dividends, by the Board of Directors.

INCOME TAXES

Current income taxes are calculated by estimating the taxable income. Receivables and payables for current income taxes are recognised based on the amount which is expected to be paid/recovered to/from the tax authorities under the prevailing tax regulations and rates or those essentially approved at the reporting date.

In particular, with regard to corporate income tax (IRES), since 2004 the company, jointly with Eni S.p.A., has exercised the option offered by the national tax consolidation scheme, which allows IRES to be determined on a taxable base corresponding to the algebraic sum of the positive and negative taxable amounts of the individual companies included in the scope of consolidation.

The economic relations, as well as the reciprocal responsibilities and obligations, between Eni S.p.A. and the other group companies entering the scope of consolidation are defined in the “Regulations on participation in the national tax consolidation scheme by companies of the Eni group”, under which: (i) subsidiaries with positive taxable income transfer to Eni the financial resources corresponding to the additional tax payable by Eni due to their participation in the national tax consolidation scheme; and (ii) those with negative taxable income receive a payment equal to the relevant tax saving made by Eni S.p.A. if and insofar as they have profitability prospects which would have made it possible, in the absence of the national tax consolidation scheme, to recognise prepaid tax assets. Consequently, the relevant tax, net of payments made on account and withholdings applied, is recognised under the item “Trade and other payables”/“Trade and other receivables”.

Regional production tax (IRAP), net of payments made on account, is recognised under the item “Current income tax liabilities”/“Current income tax assets”.

Deferred and prepaid income taxes are calculated on the timing differences between the values of the assets and liabilities entered in the balance sheet and the corresponding values recognised for tax purposes. The recording of prepaid tax assets is made when their recovery is regarded as probable.

Prepaid tax assets and deferred tax liabilities are classified under non-current assets and liabilities and are offset at individual company level if they refer to taxes which can be offset. The balance of the offsetting, if it results in an asset, is recognised under the item “Prepaid tax assets”; if it results in a liability, it is recognised under the item “Deferred tax liabilities”.

When the results of the operations are recorded directly under shareholders’ equity, the current taxes, prepaid tax assets and deferred tax liabilities are also attributed to shareholders’ equity.

DERIVATIVES

Derivatives are assets and liabilities recognised at fair value. The fair value of the derivatives is calculated based on the market listings or, in their absence, is estimated based on appropriate valuation techniques which use financial variables updated and used by market operators and, where possible, in consideration of the prices of recent transactions on similar financial instruments. If there is objective evidence of impairment the derivatives are disclosed net of the allocation made to the relative provision for impairment losses.

Derivatives are classified as hedging instruments when the relationship between the derivative and the hedged item is formally documented and the effectiveness of the hedge, verified periodically, is high. When hedging derivatives hedge the risk of changes in the fair value of the hedged instruments (“fair value hedge”; e.g. hedge of the risk of fluctuations in the fair value of fixed-rate assets/liabilities), the derivatives are recognised at fair value with attribution of the effects on the income statement; by the same token, the hedged instruments are adjusted to reflect the changes in fair value associated with the hedged risk. When derivatives hedge the risk of changes in cash flows from the hedged instruments (“cash flow hedge”; e.g. hedge of changes in cash flows from assets/liabilities due to fluctuations in interest rates), the changes in the fair value of the derivatives are initially recognised in shareholders’ equity and subsequently attributed to the income statement in the same way as the economic effects produced by the hedged operation.

Satisfaction of the requirements defined by IAS39 for hedge accounting is verified periodically.

Changes in the fair value of derivatives which do not satisfy the requirements to be classed as hedging instruments are recognised in the income statement.

SEGMENT INFORMATION

The information about business segments has been prepared in accordance with the provisions of IFRS8 “Operating segments”, which requires the information to be presented in a manner consistent with the procedures adopted by the company’s management when taking operational decisions. Consequently, the identification of the operating segments and the information presented are defined on the basis of the internal reporting used by the company’s management for allocating resources to the different segments and for analysing the respective performances.

An operating segment is defined by IFRS 8 as a component of an entity: (i) that engages in business activities from which it may earn revenues and incur expenses (including revenues and expenses relating to transactions with other components of the same entity); (ii) whose operating results are regularly reviewed by the entity’s most senior decision-makers for purposes of making decisions about resources to be allocated to the segment and assessing its performance; and (iii) for which separate financial information is available.

The declared operating segments are as follows: (i) natural gas transportation; (ii) liquefied natural gas (LNG) regasification; (iii) natural gas storage; and (iv) natural gas distribution. They relate to activities carried out predominantly by Snam Rete Gas, GNL Italia, Italgas and Stogit, respectively.

FINANCIAL STATEMENTS⁸

The items on the balance sheet are classified as “current” and “non-current”, while those on the income statement are classified according to their nature.

The statement of comprehensive income shows the integrated income statement of income and expense which are disclosed directly in shareholders’ equity through the express IFRS provisions.

The statement of changes in shareholders’ equity reports the total comprehensive income (expense) for the period, shareholder transactions and the other changes in shareholders’ equity.

The statement of cash flows is prepared using the “indirect” method, adjusting the profit for the period from non-monetary components.

It is considered that these statements adequately represent the group’s situation with regard to its balance sheet, income statement and financial position.