STATE AGENCY OF AZERBAIJAN AUTOMOBILE ROADS THIRD HIGHWAY PROJECT Loan No. 7889- International Bank for Reconstruction and Development Loan No. 8602- International Bank for Reconstruction and Development Loan No. 4723- International Development Association INDEPENDENT AUDITORS' REPORT AND SPECIAL PURPOSE PROJECT FINANCIAL STATEMENTS For the year ended 31 December 2018 CONTENTS Page Independent Auditors' Report 2-3 Special Purpose Project Statement of Financial Position 4 Special Purpose Project Statement of Sources and Uses of Funds 5 Special Purpose Project Statement of Project Activities 6 Special Purpose Project Statement of Special and Project Accounts 7 Notes to the Special Purpose Project Financial Statements 8-13 I. . . . MOORE STEPHENS Moore Stephens Azerbaijan Limited 13, Zeynalabdin Taghiyev Street Baku AZ10OS, Azerbaijan +994 12 490 77 47/48/49 +994 12 490 77 50 INDEPENDENT AUDITORS' REPORT To the Management of the State Agency of Azerbaijan Automobile Roads Opinion We have audited the accompanying special purpose project financial statements of the Third Highway Project and Additional Financing (the "Project"), implemented by the State Agency of Azerbaijan Automobile Roads (the 'Project Executing Agency"), which comprise the special purpose projectstatement of financial position, the special purpose project statement of sources and uses of funds, the special purpose project statement of project activitiesand special purpose project statement of special and project accountsas of and for the year ended 31 December 2018and notes, comprising a summary of significant accounting policies and other explanatory information, In our opinion, the accompanying special purpose project financial statements for the year ended 31 December 2018 are prepared in all material respects, in accordance with financial reporting provisions of the Loan agreement No. 7889 dated 11 August 2010 between Government of the Republic of Azerbaijan ("Borrower") and International Bank for Reconstruction and Development ("IBRD") and Loan agreement No. 8602 dated 7 April 2016 between Government of the Republic of Azerbaijan ("Borrower"), International Bank for Reconstruction and Development ("IBRD') and International Development Association ("IDA"), and Financial agreement for Credit No. 4723- dated 11 August 2010 betweenGovernment of the Republic of Azerbaijan ("Borrower") and the International Development Association ("IDA"), collectively the "Financing Agreements". Basis for opinion We conducted our audit in accordance with International Standards on Auditing (ISAs)applicable to the audit of financial statements and to compliance auditing, with special reference to ISA 800. Our responsibilities under those standards are further described in the Auditor's Responsibilities for the Audit of the Financial Statements section of our report. We are independent of the Project in accordance with the ethical requirements that are relevant to our audit of the financial statements in Azerbaijan, and we have fulfilled our other ethical responsibilities in accordance with these requirements. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our opinion. Responsibilities of Management and Those Charged with Governance for the Special Purpose Financial Statements Management is responsible for the preparation and fair presentation of the special purpose projectfinancial statements in accordance with the financial reporting provisions of the Financial agreements and for such internal control as management determines is necessary to enable the preparation of the special purpose projectfinancial statements that are free from material misstatement, whether due to fraud or error.Those charged with governance are responsible for overseeing the Project's financial reporting process. 2 MOORE STEPHENS Auditor's Responsibility for the Audit of the Special Purpose Project Financial Statements Our objectives are to obtain reasonable assurance about whether the special purpose projectfinancial statements as a whole are free from material misstatement, whether due to fraud or error, and to issue an auditors report that includes our opinion. Reasonable assurance is a high level of assurance, but is not a guarantee that an audit conducted in accordance with ISAs will always detect a material misstatement when it exists. Misstatements can arise from fraud or error and are considered material if, individually or in the aggregate, they could reasonably be expected to influence the economic decisions of users taken on the basis of these special purpose project financial statements. As part of our audit in accordance with ISAs, we exercise professional judgement maintain professional scepticism throughout the audit, We also: * identify and assess the risks of material misstatement of the special purpose project financial statements, whether due to fraud or error, design and perform audit procedures responsive to those risks, and obtain evidence that is sufficient and appropriate to provide a basis for our opinion. The risk of not detecting a material misstatement resulting from fraud is higher than for one resulting from error, as fraud may involve collusion, forgery, international omissions, misrepresentations, or the override of internal control. * obtain an understanding of internal control relevant to the audit in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Fund's internal control. * evaluate the appropriateness of accounting policies used and the reasonableness of accounting estimates and related disclosures made by management. * - evaluate the overall presentation, structure and content of the special purpose project financial statements, including the disclosures, and whether the special purpose project financial statements represent the underlying transactions and events in a manner that achieves fair presentation. The engagement partner of the audit report resulting in this independent auditors' report is: Hikmet Allahverdiyev Moore and Stephens Azerbaijan Baku, Azerbaijan 28 June 2019 3 THIRD HIGHWAY PROJECT AND ADDITIONAL FINANCING SPECIAL PURPOSE PROJECT STATEMENT OF FINANCIAL POSITION AS AT 31 DECEMBER 2018 (Expressed in US dollars) Cumulative as Cumulative as at 31 December at 31 December Note 2018 2017 ASSETS AND CUMULATIVE EXPENDITURE Cash in bank 3 5,771,290 458,470 Cumulative expenditures: IBRD Loan No. 7889 6 171,641,350 171,377,732 IBRD Loan No. 8602 6 31,640,819 350,000 IDA Loan No. 4723 6 64,684,139 57,330,951 Government of the Republic of Azerbaijan 140,604,182 123,725,078 414,341,780 353,242,231 SOURCES OF FUNDS Project financing: IBRD Loan No. 7889 171,600,000 171,600,000 IBRD Loan No. 8602 35,983,948 350,000 IDA Loan No. 4723 64,685,309 57,330,951 Government of the Republic of Azerbaijan 142,647,148 124,461,763 Accumulated foreign exchange difference (574,625) (500,483) 414,341,780 353,242,231 Mehman Babakhanov Rafig\G liyev Project Director Project inance Manager 28 June 2019 The notes set out on pages 8-13 form an integral part of these special purpose project financial statements 4 THIRD HIGHWAY PROJECT AND ADDITIONAL FINANCING SPECIAL PURPOSE PROJECT STATEMENT OF SOURCES AND USES OF FUNDS AS AT AND FOR THE YEAR ENDED 31 DECEMBER 2018 (Expressed in US dollars) Cumulative as 31 December 31 December at 31 December 2018 2017 2018 OPENING BALANCES (Note 3) IBRD Loan No 7889 265,225 6,888,199 IBRD Loan No-8602 - . IDA Loan No.4723 - . Government of Azerbaijan 193,245 4307,265 458,470 11,195,464 ADD: FUNDS RECEIVED BY SOURCES IBRD Loan No 7889 - 792,872 42,525,052 IBRD Loan No.7889 (direct payments) - - 128,645,948 IBRD Loan No.7889 (front-end fee) - - 429,000 IBRD Loan No.8602 9,410,345 - 9,410,345 IBRD Loan No.8602 (direct payments) 26,223,603 - 28,223,603 IBRD Loan No.8602 (front-end fee) - - 350,000 IDA Loan No,4723 3,900,000 - 3,900,000 IDA Loan No.4723(direct payments) 3,454,358 55,324,109 60,785,309 Government of the Republic of Azerbaijan 18,185,385 30,240,436 142,647,148 61,173,691 86,357,417 414,916,405 ADDI(LESS):EXCHANGE DIFFERENCE IBRD Loan No. 7889 (1,607) 471,030 41,350 IBRD Loan No. 8602 28,008 - 28,008 IDA Loan No. 4723 (1,170) (1,170) Government of the Republic of Azerbaijan (99,373) (377,791 (642,813) (74,142) 93,239 (674,625) (LESS): EXPENDITURE Goods 124,618 908,250 1,064,924 Training - 978 2,715 Civil works - 3,252,924 152,265,336 Consulting services 139,000 3,552,815 17,345,234 Incremental operating cost - 171,909 534,141 Front end fee - - 429,000 IBRD Loan Designated Account No. 7889 263,618 7,886,876 171,641,360 Goods 2,731,727 - 2,731,727 Civil works 26,223,603 - 26,223,603 Consulting services 2,266,763 2,266,763 Incremental operating cost 68,726 - 68,726 Front end fee - 350,000 350,000 IBRD Loan Designated Account No. 8602 31,290,819 350,000 31,640,819 Goods 3,039,630 791,115 3,830,745 Training 1,921 - 1,921 Civil works 3,454,358 53,839,676 58,370,805 Consulting services 827,469 693,318 2,450,858 Incremental operating cost 29,810 - 29,810 IDA Loan No. 4723 7,353,188 55,324,109 64,684,139 Goods 2,876,968 765,877 3,661,223 Training 640 326 2,330 Civil works 12,760,920 30,750,453 125,321,717 Consulting services 1,194,670 2,372,255 11,286,323 Incremental operating cost 45,906 87,754 332,589 Government of the Republic of Azerbaijan 16,879,104 33,976,665 140,604,182 TOTAL EXPENDITURE 55,786,729 97.187,650 408,570,490 CLOSING BALANCES (Note 3) IBRD Loan No.7889 - 265,225 IBRD Loan No.8602 4,371,137 - IDA Loan No.4723 Government of the Republic of Azerbaijan 1,400,153 193,245 5,771,290 45 470 Mehman Babakhanov R Guiye Project Director Project inance Manager 28 June 2019 The notes set out on pages 8-13 form an integral part of these special purpose project financial statements 5 THIRD HIGHWAY PROJECT AND ADDITIONAL FINANCING SPECIAL PURPOSE PROJECT STATEMENT OF PROJECT ACTIVITIES AS AT AND FOR THE YEAR ENDED 31 DECEMBER 2018 (Expressed in US dollars) Cumulative as at Project Component/Activity 31 December 31 December 31 December 2018 2017 2018 Component 1: Upgrading M3 highway, rehabilitation of the M4 road & key access road M4 highway between Baku and Shamakhi 21,836,527 59,037,485 239,706,224 Alat-Masalli section 1C and 2 16,007,610 36,953,777 147,188,277 37,844,137 95,991,262 386,894,501 Component 2: Provision of technical assistance, training and goods and project management Front end fee - - 779,000 Technical assistance and training 1,274,892 505,758 2,437,448 Project implementation 794,830 690,630 2,586,671 VAT for contractors 8,261,138 - 8,261,138 Vehicles for road maintenance units 7,254,251 - 7,254,251 Selection of Route Alternatives and Feasibility Study for Shamaki-Agsu 357,481 - 357,481 17,942,592 1,196,388 21,675,989 Total Project Expenditure 55,786,729 97,187,650 408,570,490 Mehman Babakhanov Rafig uliyev Project Director Project Finance Manager 28 June 2019 The notes set out on pages 8-13 form an integral part of these special purpose project financial statements 6 THIRD HIGHWAY PROJECT AND ADDITIONAL FINANCING SPECIAL PURPOSE PROJECT STATEMENT OF SPECIAL AND PROJECT ACCOUNTS AS AT AND FOR THE YEARS ENDED 31 DECEMBER 2018 (Expressed in US dollars) Special Special Account Special Account Project IBRD 7889 Account IBRD IBRD 4723 Account AZ 8602 AZ AZ Borrower Total Balance as at 31 December 2016 6,888,199 - - 4,307,265 11,195,464 Add: Project funds received 792,872 - - 30,240,436 31,033,308 Less: Project eligible expenditure 7,886,876 - - 33,976,665 41,863,541 Foreign Exchange Difference (Loss)/Gain 471,030 - - (377,791) 93,239 Balance as at 31 December 2017 265,225 - - 193,245 458,470 Add: Project funds received - 35,633,948 7,354,358 18,185,385 61,173,691 Less: Project eligible expenditure 263,618 31,290,819 7,353,188 16,879,104 55,786,729 Foreign Exchange Difference (Loss)/Gain (1,607) 28,008 (1,170) (99,373) (74,142) Balance as at 31 December 2018 - 4,371,137 - 1,400,153 5,771,290 fiman Babakhanov Rafig Gdliyev Project Director Project inance Manager 28 June 2019 The notes set out on pages 8-13 form an integral part of these special purpose project financial statements 7 THIRD HIGHWAY PROJECT AND ADDITIONAL FINANCING NOTES TO THE SPECIAL PURPOSE PROJECT FINANCIAL STATEMENTS AS AT AND FOR THE YEARS ENDED 31 DECEMBER 2018 (Expressed in US dollars) 1. BACKGROUND The Third Highway Project (the "Project") was established in Azerbaijan in accordance with the Loan Agreement No. 7889 AZ signed on 11 August 2010 between the Republic of Azerbaijan (Borrower) and the International Bank for Reconstruction and Development ("IBRD") and Financing agreement No. 4723- AZ signed on 11 August 2010 between the Republic of Azerbaijan and the International Development Association ("IDA"). The Project is implemented by the State Agency of Azerbaijan Automobile Roads (the "Project Implementing Entity"). The Project Implementing Entity has been established by Presidential degree on the Measures to Improve Management of Transport and Road Complex No. 1992 dated 22 February 2007. The objectives of the Project aretocontribute to a more efficient and safer Baku-Shamakhi road and higher quality road services as part of the general network upgrading to motorway standard, and to improve the management of the nascent motorway network.The Project consists of the following parts: Part A. Motorway Improvement Upgrading the existing two lane Baku-Shamakhi road to a four lane motorway and the related road safety activities, through the carrying out of works and provision of goods and consultants' services. Provision of consultants' services for the supervision and technical audit of the above mentioned road and the design of priority investments of the main road network. Part B: Institutional Development Preparation of a study to explore options for a policy on management and financing and efficient allocation of resources for Azerbaijan's motorways, through the provision of consultants' services and training. Institutional development of the ARS in motorway operation and maintenance by: (a) establishing motorway guidelines: (b) testing a small experimental motorway management unit at ARS; and (c) carrying out an operations and maintenance pilot on sections of existing motorways, through the provision of goods, consultants' services and training. Part C: Proiect Management Supporting the Project management capacity of the PIU, through the provision of goods, consultants' services and training. Below stated details of funding Financial agreements of the Project: % of expenditure Note Amount to be financed International Bank for Reconstruction and Development: -6LoanNo 7889, USD A 171,800,000 7% International-Bankfor Reconstruction and Developnieit and Internationalf Development Associaition: Loan No.8602, USD B 140,000,000 90% International Development Association: Loan No.4723, SDR C 46,200,000 75% The Loan agreement No. 7889 and Financing agreement No. 4723 was signed on 11 August 2010 between respectively, Republic of Azerbaijan (Borrower) and International Bank for Reconstruction and Development ("IBRD") and between Republic of Azerbaijan (Borrower) and International Development Association ("IDA"), while Loan agreement No. 8602 was signed on 7 April 2016 between Republic of Azerbaijan (Borrower) and International Bank for reconstruction and Development ("IBRD") and International Development Association ("IDA") (the "Financial agreements"). 8 THIRD HIGHWAY PROJECT AND ADDITIONAL FINANCING NOTES TO THE SPECIAL PURPOSE PROJECT FINANCIAL STATEMENTS (CONTINUED) AS AT AND FOR THE YEARS ENDED 31 DECEMBER 2018 (Expressed in US dollars) 1. BACKGROUND (CONTINUED) Part C: Project Management (continued) A. The financing of Loan No. 7889 is implemented through the following categories: Amount of the Loan % of expenditure to be Allocated, USD financed 1. Goods, works, consultants' services including Audit, training, 171,171,000 75% and incremental operating costs Amount payable pursuant to 2. Front-end Fee 429,000 Section 2,03 of the Loan Agreement No. 7889 AZ. 3. Premia for Interest Rate Caps Amount due under Section ~ 2.07 (c) of the Loan and Interest Rate Collars Agreement o. 7889Lan Agreement No. 7889 AZ, Total Amount 171,600,000 The Borrower pays to the bank a front-end fee in an amount equal to one quarter of one percent (0.25%) of the amount of the Loan. After the effective date of the Project, the IBRD, on behalf of the Borrower, withdrawn from the Loan Account and paid to itself the amount of such fee. The Project was expected to be completed by 31 March 2016, B. The Additional Financing for Third Highway Project of the Republic of Azerbaijan (the "Project") was established in Azerbaijan in accordance with the Loan Agreement No. 8602 AZ signed on 7 April 2016 between the Republic of Azerbaijan (Borrower) and the International Bank for Reconstruction and Development ("IBRD")and the International Development Association ("IDA").The financing of Loan No. 8602 is implemented through the categories: Amount of the Loan % of expenditure to be Allocated, USD financed 1. Goods, works, consultants' services, non-consulting services, Training and Incremental Operating Costs under the Project Amount payable pursuant to 2. Front-end Fee 350,000 Section 2.03 of the Loan Agreement No. 8602 AZ. 3. Interest Rate Caps and Interest Amount due under Section Rate Collars premium - 2.08 (c) of the Loan Agreement No. 8602 AZ. Total Amount 140,000,000 C. International Development Association (IDA") extends the Credit No. 4723 AZ in an amount SDR The I ihaning ofrd(ifi te folwngctgois Amount of the Amount of the % of expenditure to Loan Allocated, Loan Allocated, be financed SDR USD be financed___ 1. Goods, works, consultants' services including Audit, training, and incremental operating costs Total Amount 46,200,000 70,000,000 At the date of Financial agreement signature, the exchange rate for SDR was USD 1.515 as at signed agreement. D. The Government of Azerbaijan is 100% of responsible for Value added tax (VAT). 9 THIRD HIGHWAY PROJECT AND ADDITIONAL FINANCING NOTES TO THE SPECIAL PURPOSE PROJECT FINANCIAL STATEMENTS (CONTINUED) AS AT AND FOR THE YEARS ENDED 31 DECEMBER 2018 (Expressed in US dollars) 2. SIGNIFICANT ACCOUNTING POLICIES 2.1 Basis of Accounting These special purpose project financial statements are prepared in accordance with the International Public Sector Accounting Standard ("IPSAS") Financial Reporting under the Cash Basis of Accounting issued by the International Public Sector Accounting Standards Board ("IPSASB"), an independent standard-setting body within the International Federation of Accountants CIFAC") and incorporate the following principal accounting policies, which have been consistently followed in all material respects and comply with the "Guidelines: Annual Financial Reporting and Auditing for World Bank - Financed Activities" issued by the World Bank's Financial Management Sector Board. These Special Purpose Financial Statements have been prepared under the historical cost convention. Project financing is recognised as a source of project funds when the cash is received. Project expenditure is recognised as a use of project funds when payment is made. 2.2 Period of accounts These special purpose financial statements cover the years ended 31 December 2018. 2.3 Transactions and balances in foreign currencies The national currency of the Republic of Azerbaijan, where the Project is implemented, is the Azerbaijani manat ("AZN"). The special purpose project financial statements are presented in US dollar. All financial information presented in US dollar has been rounded to the nearest US dollar. Transactions in other currencies are treated as transactions in foreign currencies. Cash receipts and payments arising from transactions in a foreign currency are recorded in the Project's reporting currency by applying to the foreign currency amount the exchange rate between the reporting currency and the foreign currency at the date of receipt and payment. Cash balances held in a foreign currency are reported using the closing rate, which is the spot exchange rate at the reporting date. Unrealised gains and losses arising from changes in foreign currency exchange rates are not cash receipts and payments. The effect of exchange rate changes on cash held in a foreign currency is reported in the statement of sources and uses of funds and other statements in order to reconcile cash at the beginning and the end of the period. These amounts are presented separately from cash receipts and payments and include the differences, if any, had those cash receipts and payments and balances been reported at end-of-period exchange rates. At 31 December 2018, the official AZN/USD exchange rate set by the Central Bank of Azerbaijan ("CBAR") was AZN 1.7000 (31 December 2017: AZN 1,7001). 2.4 Method of withdrawal The Project applies the following methods of withdrawal: 2.4.1 [BRD Special Account:Special Account is a designated disbursement account of the Project to effect the payment of eligible expenditure, within defined limits, which does not require individual authorisation from the IBRD. The Project maintains a Special Account with the International Bank of Azerbaijan. Available amounts were drawn down within the limits determined by the relevant loan agree'ment for the paymeht of eligible expenditure forthe projetfroi the Special Accoirt 2.4.2 Direct paymehts, from' the IDA Loan account:Under this method; the Project Manage ment -'prepares ApplicatidNs based on supporting documents hich are subtted to th' IDA Durirg2018 payment of USD 3,454,358(2017: USD 55,324,109) has been made from the Loan Account No. 4723 directly to the contractors. 2.4.3 Project account:The Project maintains a separate account where the Government of Azerbaijan funds are accumulated. The funds are further disbursed to contractors based on the shares of expenditure to be incurred by each. The accumulated project financing is disclosed under "Funds" in the Special Purpose Project Statement of Sources and Uses of Funds. 2.4.4 Statement of expenditure ("SOE"): The Project forwards to the Kapital Bank an Application for reimbursement of payments already made using an Application for Withdrawal with SOE forms as the only documentation. 10 THIRD HIGHWAY PROJECT AND ADDITIONAL FINANCING NOTES TO THE SPECIAL PURPOSE PROJECT FINANCIAL STATEMENTS (CONTINUED) AS AT AND FOR THE YEARS ENDED 31 DECEMBER 2018 (Expressed in US dollars) 2. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) 2.5 Incremental Expenses Incremental expenses incurred on account of project implementation, management and monitoring, including office supplies, travel and salaries, but excluding the salaries of the civil servants. 3. CASH IN BANK 31 December 31 December 2018 2017 IBRD No. 7889 AZ Special Account, USD - 265,225 IBRD No. 8602 AZ Special Account, USD 4,371,137 - IDA No.4723 AZ Special Account, USD - - Borrower Project Account, USD 1,400,153 193,245 5,771,290 458,470 4. CLOSING DATE OF THE PROJECT The Project is expected to be completed by 31 December 2019. 5. STATEMENT OF EXPENDITURE WITHDRAWAL SCHEDULE For the year ended 31 December 2018 IBRD Loan Special Account No. 8602 Application Required for Category Date # Advance Goods Works Consultant Salary Bank Reimbursed services charges 1812.2018 17 - 2,731,727 - 1,580,545 94,808 3,266 - 4,410,346 1807.2018 7 5,000,000 - - - - - - 5,000,000 Total 5,000,000 2,731,727 1,580,545 94,808 3,266 - 9,410,346 IDA Loan Special Account No. 4723 Application Required for Category Date # Advance Goods Works Consultan Salary Bank 100 Reimbursed t services charges 13,03.2018 44 3,900000 - --- - 3.900,000 Total 393,00,000 :or the,yearended 31 December,2017 IBRD Loan Designated Account No. 7889 Application Required for Category Date # Advance Goods Works Consultant Salary Bank Reimbursed services charges 14.03,2017 87 - - 6.200,203 218,916 9,383 792,872 Total --6,200,203 218,916 9,383 792,872 11 THIRD HIGHWAY PROJECT AND ADDITIONAL FINANCING NOTES TO THE SPECIAL PURPOSE PROJECT FINANCIAL STATEMENTS (CONTINUED) AS AT AND FOR THE YEARS ENDED 31 DECEMBER 2018 (Expressed in US dollars) 6. PROJECT EXPENDITURES Statement of Project Activities for the year ended 31 December 2018: Cumulative use of funds from the beginning of the Balance of the Project as at 31 budget as at 31 Total project budget, December 2018, December 2018, SDR USD ISD USD IBRD Loan No.7889 1. Goods, works, consultants' services including Audit, training, and incremental operating costs - 171,171,000 171,212,350 (41,350) 2. Front-end Fee - 429,000 429,000 - 3. Premia for interest rate caps and interest rate collars - - - - - 171,600,000 171,641,350 (41,350) IBRD Loan No. 8602 1. Goods, works, consultants' services including Audit, training, and incremental operating costs - 139,650,000 31,290,819 108,359,181 2. Front-end Fee - 350,000 350,000 3. Interest rate cap or interest rate collar premium - - - - - 140,000,000 31,640,819 108,359,181 IDA Loan No.4723 1. Goods, works, consultants' services including Audit, training, and incremental operating costs 46,200,000 70,000,000 64,684,139 5,315,861 Effect of change in x-rate for SDR - (5,315,861) - (5,315,861) 46,200,000 64,684,139 64,684,139 - Total 46,200,000 376,284,139 267,966,308 108,317,831 Atthe date of Financial agreement (IDA Credit No. 4723) signature, the exchange rate for SDR was USD 1515 6At3- December2018, theexchangeat forSDR asU SD 1 4001 7- 7 COMMITMENTS AND CONTINNGTECIES Management is not aware of any commitments and contingencies which would have a material impact on this special purpose project financial statements as at 31 December 2018 and for the year then ended. 12 THIRD HIGHWAY PROJECT AND ADDITIONAL FINANCING NOTES TO THE SPECIAL PURPOSE PROJECT FINANCIAL STATEMENTS (CONTINUED) AS AT AND FOR THE YEARS ENDED 31 DECEMBER 2018 (Expressed in US dollars) 8. OPERATING ENVIRONMENT The Project's principal activities are within Republic of Azerbaijan. Consequently, the Project is exposed to economic and financial markets of Republic of Azerbaijan, which display characteristics of an emerging market. The legal, tax and regulatory frameworks continue development, but are subject to varying interpretations and frequent changes which together with the other legal and fiscal impediments contribute to the challenges faced by entities operating in Republic of Azerbaijan. The special purpose project financial statements reflect management's assessment of the impact of the operating environment in Republic of Azerbaijan on the operations of the Project. The future operating environment may differ from management's assessment. 9. POST BALANCE SHEET EVENTS There were not any adjusting or significant non-adjusting events between the reporting date and the date of these special purpose projects financial statements. 13