UkrProduct
Annual Report 2010

Plain-text annual report

TABLE OF CONTENTS Chairman and Chief Executive Statement..................................................................3 Financial Highlights 2010..........................................................................................5 Ukrproduct at a Glance..............................................................................................7 Financial Review........................................................................................................8 The Board of Directors ............................................................................................10 Directors’ Report.....................................................................................................11 Remuneration Committee Report ...........................................................................13 Corporate Governance Report.................................................................................15 Corporate Social Responsibility Report...................................................................17 Statement of Directors’ Responsibility ....................................................................19 Independent Auditors' Report .................................................................................21 Consolidated Income Statement .............................................................................23 Consolidated Statement of Comprehensive Income................................................24 Consolidated Statement of Financial Position .........................................................25 Consolidated Statement of Changes In Equity.........................................................26 Consolidated Statement of Cash Flows ...................................................................27 Notes to Consolidated financial statements ............................................................28 Corporate Advisors .................................................................................................71 Shareholder Information .........................................................................................72 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 C H A I R M A N A N D C H I E F E X E C U T I V E S T A T E M E N T Over the year, gross profit in branded goods held steady at 6.55 million, up 1.1% on 2009 “I’am delighted to present you with our Annual Report providing an overview of Ukrproduct Group’s operating and financial performance in 2010” Jack Rowell Chairman “In 2010 Ukrproduct achieved a posi- tive result with revenue growth of 4.3% and net profit growth of 5.1%” 3 CHAIRMAN AND CHIEF EXECUTIVE STATEMENT Market environment Ukrproduct continued to face a challenging external environment in 2010. The purchasing power of Ukrainian consumers was squeezed by low real wage growth and high inflation. The Ukrainian economy grew 4.2% following a contraction of over 15% in 2009. Raw milk prices were on average double their 2009 levels. The Russian government continued to impose restrictions on imports of dairy products from Ukraine, which resulted in overstock- ing by Ukrainian producers and intense competitive pressure in the domestic market. Overview Against this challenging backdrop, Ukrproduct achieved a positive result with revenue growth of 4.3% and net profit growth of 5.1%. There was a strong contrast between the first and second halves of the year. The first half (H1 2010) saw profits of branded products suffering in the face of intense domestic competition, whilst SMP was strong on the back of favourable world prices. In the second half (H2 2010), sales and profits of branded products rebounded thanks to a successful realignment of the product mix and strong marketing activity. Over the year, gross profit in branded goods held steady at £6.55 million, up 1.1% on 2009. Given the current market conditions, Ukrproduct’s strategy is to adjust the product offering to match shifting consumer preferences into cheaper goods, whilst maintaining a robust presence in the medium and premium segments as well as keeping a keen eye on costs. The Group max- imised the profitability of its milk protein supplies, alternating between SMP and hard cheese production as relative prices shifted over the course of the year. Ukrproduct also leveraged its distribution network by expanding distribution of the third party products. The more stringent tax regime meant the Group’s tax burden increased in 2010. This will con- tinue in 2011. Branded Products In 2010, Ukrproduct maintained its market leadership in packaged butter, which accounts for over half of all branded products sales. Average raw milk prices were double their 2009 levels, which eroded profit margins on packaged butter in the first half of 2010 particularly. In the sec- ond half (H2), the Company was able to raise packaged butter prices above the rate of inflation in Ukraine along with the world trend and thus recover some profitability. Ukrproduct faced extreme competitive pressure in the mass market processed cheese segment this year. Although market share declined in the first half (H1), the Group responded swiftly with a strong marketing drive and regained most of the lost market share by the year end. Sales of hard cheese in 2010 were below 2009 levels, but profitability improved significantly. The Group adjusted its hard cheese product mix to create a more sustainable business model for this sector area going forward. Ukrproduct launched an aggressive marketing campaign for the middle market ‘Our Dairyman’ brand in the fourth Quarter of 2010 (Q4 2010), including strong in-store marketing. The effort was highly effective – sales were up between 100% and 400% on ‘Our Dairyman’ products during the campaign. Sergey Evlanchik Chief Executive Officer Skimmed Milk Powder (SMP) SMP contributed strongly to both revenue and gross profit in H1 as the Company benefited UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 4 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 from high world SMP prices. H2 was a different story: world SMP prices fell in response to falling milk consumption and rising exports from the European Union (EU); rising domestic raw milk prices eroded the international competitiveness of Ukrainian SMP; and the government rattled exporters by complicating the VAT refund system. The Company therefore redirected milk protein supplies to the production of hard cheese, which was more profitable than SMP export. Overall, gross profits from SMP grew more than two fold y-o-y, despite a 27.9% fall in revenue. Third Party Distribution Ukrproduct further leveraged its nationwide distribution network by distributing third-party products. In 2010, the Company started distributing kvass (a traditional fermented drink) and imported frozen fish products to leading Ukrainian retailers. Gross profit from third party distri- bution grew more than two fold in 2010. The Company expects further strong growth in this segment in 2011, though it will be concentrated in Q2 and Q3 as distribution is seasonal. Management and Staff In 2010, Ukrproduct significantly strengthened its senior management team by appointing highly experienced professionals to the roles of Chief Financial Officer, Director of Sales and Director of Marketing. We have every confidence that the new team will drive forward Ukrproduct’s strategy to increase sales and improve profitability. On behalf of the Board, we would like to thank all the staff of Ukrproduct for their commitment and hard work in what con- tinues to be a challenging economic environment. Post-balance sheet events Early in 2011 the Group sold the assets of the previously mothballed Zhmerynka Plant. The proceeds from the sale were directed to the working capital. Outlook and Strategy Looking forward, we see a period of relative stability and modest growth in Ukraine thanks to political stability and improving public finances. Nevertheless, it is anticipated that, consumers’ budgets will remain tight. The Group will therefore continue to realign the product mix to take advantage of the shift of consumer demand towards more affordable products. It will reinforce the new offering with strong sales and marketing activity. Ukrproduct will also seek to boost sales in the profitable premium segment, including a re-launch of its “Molendam” branded products. Ukrproduct will continue to pursue cost reductions in order to improve profitability. The Group also plans significant capital expenditure projects to upgrade equipment and streamline pro- duction processes. Ukrproduct will continue to seek opportunities to leverage its Ukraine-wide distribution net- work by distributing third-party goods. The Group will also continue to export SMP when market conditions are favourable, and will seek to expand exports of branded goods into neighbouring countries. The Group continues to look for appropriate acquisition targets and keeps potential opportuni- ties under ongoing review. Jack Rowell Chairman Sergey Evlanchik CEO 5 FINANCIAL HIGHLIGHTS 2010 The Ukrainian economy limped to a weak recovery in 2010: • Real GDP rose 4.2% in 2010 following a 15% contraction in 2009. However, consumer disposable incomes continued to be squeezed. Despite these difficult economic conditions, Ukrproduct managed to grow its business: • Revenue grew 4.3% to £45.02 million • Gross Profit grew 10.7% to £7.67 million • Net Profit grew 5.1% to £1.094 million The second half (H2 2010) was particularly strong, compared to the first half (H1 2010) which bodes well for a sustained recovery in 2011: • Gross profit was up 40.9% in H2 compared to H1 • Gross profit in Branded Goods – which accounts for over 70% of Group revenues – was up 92% in H2 compared to H1 • Profitability improved significantly, from 15.4% in H1 2010 to 18.4% in H2 2010. The Group ended the year in a strong financial position: • Positive cash flow with year-end cash balance of GBP £0.676 million (2009: GBP £ 0.236 million) • Ukrproduct has access to additional banking facilities if required Sergey Evlanchik Chief Executive Officer UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 U K R P R O D U C T A T A G L A N C E In 2010 Ukrproduct Group delivered positive performance with the revenue increasing by 4.3% year on year to GBP 45 million 7 UKRPRODUCT AT A GLANCE KEY FIGURES Year ended 31 December 2010 % change from 2009 Revenue Gross Profit Net Profit £45.020 million £7.671 million £1.094 million Earnings per share 2.7p + 4.3% + 10.7% + 5.1% 8.0% PRODUCTS & SERVICES Contribution to Group Revenue Branded Goods 71% Others 10% Skimmed Milk Powder 19% Contribution to Group Gross Profit C Others 6% SMP 9% PRODUCTION & DISTRIBUTION Two major manufacturing plants are • ISO-certified • Annual production capacity of 70,000 tonnes of dairy products • Ukraine-wide distribution network • Provides distribution and logistics services to third parties Ukraine Distribution Centre Manufacturing Plant MARKET POSITION Packaged Butter Market Share: 22.0% (1st place)* Ukrproduct is the market leader for packaged butter in Ukraine. Processed Cheese Market Share: 15.6% (2nd place)** Branded Goods 85% Ukrproduct offers a range of processed cheese products under well-recognised brands which focus on the mass, middle and premium markets. Spreads Market Share: 2.1% (7th place)** The Group sells butter-oil mix spreads under the “Farmers” and “People’s Product” brands. * Expert estimates ** State Statistics Committee UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 8 FINANCIAL REVIEW In 2010 Ukrproduct Group delivered positive performance with the revenue increasing by 4.3% year on year to GBP 45 million (2009: GBP 43.2 million). The Group continued to derive the majority of its revenue from the branded products segment which accounted for 70.7% of its total sales. Branded products segment revenues increased by 6.6% year on year and con- tributed GBP 31.8 million (2009: GBP 29.9 million) to Group’s results. Skimmed milk powder revenues declined by 27.9% as a result of decreased profitability in the second half following the correction in global prices and contributed GBP 8.7 million (2009: GBP 12.0 million). Sales Share in Sales 2010 2010 £ `000 Sales Share in Sales 2009 2009 £ `000 Gross Profit Gross margin 2010 2010 £ `000 Gross Profit 2009 £ `000 Gross margin 2009 Branded 31,828 SMP Other Total 8,669 4,523 45,02 70.7% 19.3% 10.0% 100.0% 29,864 12,026 1,277 43,167 69.2% 27.9% 2.9% 6,549 20.6% 703 418 8.1% 9.2% 6,48 267 182 100.0 % 7,671 17.0% 6,929 21.7% 2.2% 14.2% 16.1% Gross Profit and Selling, Distribution & Administrative expenses (SG&A) The Group’s gross profit increased by 10.7% year on year in 2010 with gross profit margin of 17.0% compared to 16.1% in 2009. The gross profit in branded products segment in 2010 was 20.6% compared to 21.7% in 2009 as result of margin pressure in the processed cheese seg- ment. SMP gross profit margin increased to 8.1% compared to 2.2% in 2009 as the Group benefited from favourable pricing environment in skimmed milk powder in the first half of 2010. The Group’s Administrative, Selling and Distribution expenses increased by 8.1% to GBP 5.6 million (2009: GBP 5.2 million) in line with the inflation but the proportion of these expenses to total expenses remained constant at the level of 6% compared to the prior year. EBITDA and Profit after tax Group EBITDA declined by 17.0% year on year in 2010. Depreciation and amortisation ex- penses declined by 24.1% year on year from GBP 1.4 million in 2009 to GBP 1.1 million in 2010 following a change of depreciation method for some items of plant and equipment. Profit after tax increased by 5.09% year on year in 2010. In 2010 the group showed the signs of growth as the increase rate of the revenue was lower than the increase rate in net income and higher than increase rate in total assets. Average Total Assets Revenue Net Income Rate of Increase 2010/2009 2.4% < 4.3% < 5.1% Earnings per share and dividends The Group’s basic earnings per share (EPS) and the diluted earnings per share increased 8% year on year from 2.5 pence in 2009 to 2.7 pence in 2010. UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 9 “The Group continued to derive the majority of its revenue from the branded products segment which ac- counted for 70.7% of its total sales” The Board of Directors has proposed to pay a final dividend of 0.50 pence per ordinary share for 2010, resulting in the total dividend payment of 0.50 pence per ordinary share for the full year 2010 (0.4 pence). The final dividend is expected to be paid on June 24, 2011 to shareholders of record as at May 20, 2011, subject to the approval by the shareholders at the Annual General Meeting (AGM). Cash flow Net cash generated by the operating activity totalled GBP 465 k in 2010 (GBP 2.2 million). Net cash used in investing activities totalled GBP 0.72 million in 2010 (GBP 0.1 million). During the year, Ukrproduct invested in maintaining its production capacities and purchase of property, plant and equipment. Net cash used in financing activities amounted to GBP 0.79 million in 2010 compared to GBP 2.35 million used in 2009. The Group’s cash balance stood at GBP 0.68 million as at 31 December 2010 compared to GBP 0.24 million as at 31 December 2009. The Group’s cash level is sufficient to meet current debt obligations in the short and medium term. Further information is disclosed in note 6. Bank facilities The Group maintained a working capital facility in Ukrainian Hryvnia with OTP Bank equivalent to up to GBP 3.3 million. As at 31 December 2010 the Group has drawn down GBP 2.9 million (2009: GBP 1.6 million) of the available facility. Ukrproduct also has available additional over- draft facilities for up to GBP 0.6 million. Financial reporting The financial statements included in this report were prepared in accordance with International Financial Reporting Standards as adopted by the European Union (‘‘IFRS’’). Olena Yakovenko Chief Financial Officer 5 April 2011 Olena Yakovenko Chief Financial Officer UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 10 THE BOARD OF DIRECTORS As of the date of the 2010 Annual Report approval, the Board members are as follows: Position Date appointed Non-executive Chairman November 2004 April 2008 September 2010 November 2004 Name Jack Rowell Sergey Evlanchik Olena Yakovenko CEO CFO Alexander Slipchuk Executive Director Jack Rowell (73) Non-executive Chairman Dr. Rowell has acted as Chairman of a number of companies in the public and private sector, mainly within the food production industry. He was previously an executive director on the board of Dalgety plc responsible for the consumer foods division. Jack also served as Chair- man of Celsis plc. He has also been Manager of Bath Rugby, then the Champions of England and the English national team. Prior to this, Dr. Rowell was CEO of Golden Wonder Ltd. and Lucas Food Ingredients (also part of the Dalgety Food Group). He was educated at Oxford Uni- versity and is a Chartered Accountant. Sergey Evlanchik (35) Chief Executive Officer Sergey Evlanchik is responsible for the Group’s overall performance and strategy implementa- tion and is a founder of Ukrproduct Group. He studied at Vladivostok State University of Eco- nomics & Service in the Russian Federation and at Oxford University in the UK, where he received his MBA degree. Together with Alexander Slipchuk, he established the equity trading company, Alfa-Broker in 1994 in the Far East of the Russian Federation. After the recess of the Russian and Ukrainian equity markets in 1998, Mr Evlanchik refocused his activities on busi- ness development in the industrial sector of Ukraine, particularly within the dairy industry, where he joined the companies that would subsequently form Ukrproduct Group in 2004. Sergey then led the Group to its successful listing on AIM market of the London Stock Ex- change in 2005. Olena Yakovenko (49) Chief Financial Officer Olena Yakovenko was appointed Chief Financial Officer in September 2010. She rejoined the Company in August 2009 as Head of Controlling and Risks Analysis Department, having pre- viously served as Head of Finance of the Group between 2001 and 2004. From February 2008 to July 2009, she was an Executive Director and Deputy General Director in charge of Finance of ViDi Group Limited, a diversified Ukrainian holding company. Prior to that, she held senior management positions at ViDi Group Limited between July 2006 and February 2008, and served as Finance Director at UTL-COM Limited between 2005 and 2006 and as Deputy Finan- cial Director of Ukrtechnoprom, one of the leading suppliers of heating equipment in Ukraine, between 2004 and 2005. Olena is a graduate of Donetsk National University with a degree in Economics. UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 11 Alexander Slipchuk (45) Executive Director Alexander Slipchuk studied at Far-Eastern High Engineering Marine School in Russia and gra- duated as a maritime navigator in 1989. Together with his partner Sergey Evlanchik, Alexander established the securities house Alfa-Broker in 1994, developed the equity trading business in the far east of the Russian Federation, and acquired initial stakes in the companies that later became part of Ukrproduct Group. Later in 1998, Alexander took on the executive positions at the Molochnik and the Starakonstantinovskiy Dairy plants, Ukrproduct’s two main operating as- sets. He serves as the Group’s Executive Director in an advisory capacity. DIRECTORS’ REPORT The Directors present their report and the audited consolidated financial statements of Ukrproduct Group Ltd for the year ended 31 December 2010. Principal Activities and business review Ukrproduct Group Ltd (the Company) is a holding company for a group of dairy based FMCG (fast moving consumer goods) businesses located in Ukraine. The principal activities of Ukrproduct Group are the production and distribution of highly branded dairy foods in Ukraine and the export of milk powder. The Group is one of the leading branded food producers in Ukraine with its own nationwide distribution network. More detailed commentary on the Group’s activities during the year, its financial performance, future plans, and prospects are outlined in the Chairman and Chief Executive Statement and in the Financial Review. Results and Dividends The results of the Group for the period are set out on page 23 and show a profit for the period of 1,094 million (2009: GBP 1,041 million). Based on the Group’s financial performance in 2010, the Group did not pay any interim divi- dend. The Board of Directors proposed to pay a final dividend of 0.5 pence per ordinary share for 2010, which would lead to 0.5 pence per ordinary share for the full year (2009: 0.40 pence). The final dividends will be paid on June 24, 2011 to shareholders on the register as at May 20, 2011, subject to shareholders’ approval at the 2011 Annual General Meeting. Directors Details of members of the Board of Directors are shown on page 10 The Directors’ interests in the share capital of the Company as at 31 December 2010 and 31 December 2009 are shown below: Shares 2010 2009 Share options 2010 2009 Executive Sergey Evlanchik 14,422,383 14,422,383 Alexander Slipchuk 14,487,383 14,487,383 - - - - Non-executive Dr Jack Rowell 38,690 38,690 130,290 130,290 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 12 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 Powers of the Directors Subject to the Company’s Memorandum and Articles of Association, the Law and any direc- tions given by special resolution, the business of the Company shall be managed by the Direc- tors who may pay all expenses incurred in setting up and registering the Company and who may exercise all such powers of the Company. The rules in relation to the appointment and re- placement of Directors are set out in the Company’s Articles of Association. Financial Risks Facing the Group The principal risks of the business are credit risk, liquidity risk and market risk, including fair value or cash flow interest-rate risk and foreign exchange risk. The main purpose of the Group's risk management programme is to evaluate, monitor and manage these risks and to minimise potential adverse effects on the Group's financial performance and shareholders. The Chief Financial Officer of the Group is in charge of risk management and introduction of all policies as approved by the Board of Directors. For further details of the Group’s risk management please see note 5 on page 46 Employees The Group is committed to ensuring provision of equal opportunities for all employees, which is reflected by its selection, recruitment and training policies. The Group considers its emplo- yees to be one of its most valuable assets and rewards high performance through competitive remuneration and incentive schemes. The Directors also consider it a priority to give emplo- yees the opportunity to communicate their ideas and opinions to all levels of management, both directly and through various surveys. The average number of employees totalled 1,857 in 2010 (2009: 1,925). Payment Policy The Group has a general set of guidelines for paying its suppliers based on specific criteria. However, it is normal practice to agree payment terms with a specific supplier when entering into a purchase contract. The Group seeks to abide by the payment terms agreed whenever it is satisfied that the goods or services have been provided in accordance with the agreed terms and conditions. Going concern Following a review of the Group’s financial position and its budgets and plans, the directors have concluded that the Group has sufficient financial resources to meet working capital re- quirements for a period of up to 12 month from the date of these financial statements. Annual General Meeting Ukrproduct’s AGM will be held on 9 June, 2011. The Notice of AGM and agenda will be sent to shareholders no less than 23 days prior to the date of the meeting. Auditors Baker Tilly Channel Islands Limited was re-appointed as the Group’s auditors for the 2010 fi- nancial year by the resolution of the Annual General Meeting of Shareholders held on June 24, 2010. Statement as to disclosure of information to the auditor All of the current Directors have taken the necessary steps to make themselves aware of any information needed by the Company's auditors for the purposes of their audit and to establish that the auditors are aware of that information. The directors are not aware of any relevant audit information of which the auditors are unaware. Jack Rowell Chairman 5 April 2011 13 REMUNERATION COMMITTEE REPORT This report is prepared by the Remuneration Committee of the Board and sets out the Group’s policy on the remuneration of the Directors, with a description of service agreements and re- muneration packages for each Director. Remuneration Committee The Remuneration Committee comprises one non-executive Director, Jack Rowell. This Com- mittee is scheduled to meet at least twice per annum to advise the Board on the Group’s remu- neration strategy and to determine the terms of employment and total remuneration of the respective Executive Directors of the Group and of its subsidiary companies, including the granting of share options. Among others, the objective of this Committee is to attract, retain and motivate Executives capable of delivering the Group’s objectives. The Remuneration Com- mittee is also responsible for the evaluation of the performance of Executive Directors. The Remuneration Committee held two meetings during 2010. Remuneration Policy The Company’s remuneration policy is to provide remuneration packages which: • • • • • are designed to attract, motivate and retain high calibre Executives; are competitive and in line with comparable businesses; are rooted in practices exercised in countries where the Group operates; intend to align the interests of the Executives with those of the shareholders by means of fixed and performance related remuneration; and set challenging performance targets and motivate Executives to achieve those targets both in the short and long-term. Base salary The Committee on an annual basis reviews base salaries of the respective Executive Directors of Group and its subsidiary companies, taking into account job responsibilities, competitive market rates and the performance of the Executive concerned. Consideration is also given to the cost of living and the Director’s professional experience. While determining the base salaries, the Committee also considers general aspects of the employment terms and condi- tions of employees elsewhere in the Group. Incentive bonus plans and equity arrangements The Committee plans to consider developing long-term equity incentive arrangements to make the overall Executive Remuneration structure more performance-related, more competitive and aligned with shareholders’ interests. Service contracts The appointments of the respective Executive Directors of the Group and its subsidiary compa- nies are valid for an indefinite period and may be terminated with three months notice given by either party at any time. The Group or subsidiary company’s provision for compensation for loss of office is to provide compensation which reflects the Group or that subsidiary company’s contractual obligations. Bonus Scheme The Committee has established a cash bonus scheme for Executive Directors based on the overall performance of the Group and/or respective subsidiary company and attainment of the operating profit targets. UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 14 Non-executive directors The appointments of non-executive Directors are valid for an indefinite period and may be ter- minated with three months notice given by either party at any time. The decision to re-appoint, as well as the determination of the fees of the non-executive Directors, rests with the Board. The non-executive Directors may accept appointments with other companies, although any such appointment is subject to the Board’s approval and terms and conditions of Service Agreements. Directors’ remuneration Details of the Directors’ cash remuneration are outlined below: GBP Annual Salary/fee 2009 2010 £ ‘000 £ ‘000 Bonus Non-cash compensation Total cash remuneration 2010 £ ‘000 2009 £ ‘000 2010 £ ‘000 2009 £ ‘000 2010 £ ‘000 2009 £ ‘000 Executive Roman Prannychuk (resigned) Olena Yakovenko Alexander Slipchuk Sergey Evlanchik Non-executive Dr Jack Rowell 30 10 70 90 45 40 - 70 90 45 - - - - - - - - - - - - - - - - - - - - 30 10 70 90 45 40 - 70 90 45 Share based payments In 2009 the Company granted share options to Jack Rowell, the Chairman. Details of the op- tions outstanding at 31 December 2010 are shown below. The Directors’ Remuneration dis- closed above does not include any amounts for the value of options to acquire shares of the Company. Directors Share Options Exercise Price, pence Exercise Period Jack Rowell 130,290 12.8 to 06/07/2013 As at the year end date, these options were not exercised. UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 15 CORPORATE GOVERNANCE REPORT Corporate Governance Policy Effective corporate governance is a priority of the Board and outlined below are details of how the Company has applied the principles set out in The Combined Code on Corporate Gover- nance (the “Code”) revised in July 2006 by the Financial Reporting Council. Under the rules of AIM, a market operated by the London Stock Exchange, the Company is not required to comply with the Code and the Board considered that the size of the Group does not warrant compliance with all of the Code’s requirements. The Board fully supports the principles on which the Code is based and seeks to comply with best practice in such respects as they consider appropriate for a Group of its size and nature. The Board has a wide range of experience directly relevant to the Group and its activities and its structure ensures that no one individual or Group dominates the decision making process. The Board The Board consists of one non-executive and three Executive Directors. The roles of the Chair- man of the Board and the Chief Executive of the Group are held separately with a clear division of responsibility between them. The Chairman of the Board is an independent non-executive Di- rector. Within the scope of the corporate governance procedures, the Board meets regularly to con- sider the financial results, budgets, and major items of capital expenditure of all the Group’s companies. This body is also responsible for formulating, reviewing and approving the Group’s strategy and the phases of its development. The Board met five times during 2010 and all the directors attended all meetings, with the ex- ception of Mr Alexander Slipchuk, who attended four of five meetings, missing one by prior arrangement. Board Committees The Board is assisted by the Audit and Remuneration Committees. Audit Committee The Audit Committee consists of one non-executive Director, Jack Rowell. The member of the Audit Committee has relevant financial experience. This Committee, inter alia, is responsible for reviewing the Annual and Interim financial statements, in addition to the systems of internal control and risk management, and also for ensuring the integrity of the financial information re- ported to the shareholders. The Audit Committee met twice during 2010. Remuneration Committee The Remuneration Committee comprises one non-executive Director, Jack Rowell. This Com- mittee is scheduled to meet at least twice per annum to advise the Board on the Group’s remu- neration strategy and to determine the terms of employment and total remuneration of the Executive Directors, including the granting of share options. Among others, the objective of this Committee is to attract, retain and motivate Executives capable of delivering the Group’s objectives. The Remuneration Committee is also responsible for the evaluation of the perfor- mance of Executive Directors. The Remuneration Committee held two meetings during 2010. Relations with shareholders The Group maintains regular contact with its institutional and private shareholders, fund UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 managers, financial analysts and brokers through a series of presentations, conference calls and meetings. All corporate materials, including annual reports, financial results statements and other information, are available on the Group’s website www.ukrproduct.com The Chief Executive Officer and Chief Financial Officer hold conference calls and meetings with major shareholders on a regular basis. The Board believes that it is essential to discuss with its major shareholders and keep them updated with regards to the Group’s financial performance, strategy and business developments. The Chairman is also accessible to major shareholders, if such meetings are required. The Board invites all shareholders to attend the Company’s Annual General Meeting and en- courages them to exercise their voting right and participate with questions. Internal Control The Group adheres to comprehensive and strictly regulated budgeting and reporting proce- dures that are aimed at more efficient internal control and risk management. The Board is re- sponsible for the Group’s system of internal control and for reviewing its effectiveness, however, it is recognised that any control system can only provide reasonable and not absolute assurance against material misstatement or loss. The principal elements of the internal control system are as follows: • • • • documented policies, procedures and authorisation levels; clearly defined lines of responsibility in the organisational structure of the Group; a management structure which facilitates ease of communication both vertically and hori- zontally; annual budgeting and monthly reporting procedures. The annual budgets consist of monthly budgets, which are updated each month once actual figures become available. Due to the dynamic development of the macroeconomic environment of the country the Group operates in, variances in actual figures for sales, prices and other underlying assumptions from those forecasted may occur. Hence, the budget is flexed to better reflect the future of the Group. Such variances by each company within the Group are disco- vered and recommendations for further actions are formulated. The internal control system is further enforced by the Group’s internal audit department. The main objectives of the internal audit function are to ensure the safety of the Company’s assets and the reliability of accounting records. The internal audit department is responsible for audi- ting the financial statements and accounting procedures of the companies within the Group, as well as for disclosing and reducing various types of risks related to Group operations. Each company within the Group has a designated auditor, who systematically performs the audits. The Group’s controlling and risks analysis department is responsible for identifying the possible issues in the Group’s processes, the ongoing optimization of operations and risk management. 16 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 17 CORPORATE SOCIAL RESPONSIBILITY REPORT Corporate Social Responsibility The Board is committed to developing and implementing corporate social responsibility (CSR) policies aimed at: Ensuring safe working conditions • Promoting equality and fairness among employees, partners and suppliers • • Maintaining the Group’s corporate reputation and dedication to business ethics • Supporting the communities in which the Group operates • Establishing long-term and healthy relationships with the Group’s partners, customers and other affiliated parties. The main elements of the Group’s approach towards fulfilling the above objectives are as fol- lows: Employees The Group is committed to ensuring equal opportunities to all its employees, both current and prospective. Each employee’s efforts are highly valued and the Board believes that a diverse mix of the workforce facilitates innovation, efficiency and teamwork. As a matter of corporate policy, regular training and development workshops are conducted for Ukrproduct’s staff. These are aimed at all employee groups, including managerial, technical and production per- sonnel. The training programmes encourage staff to progress up the career ladder and are cen- tral to the Group’s continuing growth and success. Health and safety Management at business units within the Group are responsible for developing and maintaining the underlying practices that provide for a safe working environment. Special attention is given to the production facilities, where the equipment, including lighting, air conditioning, work- space and other constituents, undergo constant reviews and improvements. Regular monitor- ing is carried out to ensure that the required standards are met and that employees use the provided communication channels to further improve their surrounding working conditions. Customers Customer satisfaction is at the core of the Group’s business model. Therefore, the Board is keen to continue supplying the customers with high quality, affordable products required by current market demands. The Group’s segmentation practices are aimed at segregating various customer groups in order to meet their respective needs with maximum efficiency. In addition, regular market research and surveys are conducted to ensure maximum value is consistently offered to customers. UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 Environment The Group recognises the importance of good environmental practices and seeks to minimise a negative impact that its operations or products might have on the production sites and sur- rounding areas. The Group adopted the environmental laws and regulations of Ukraine to re- duce, control and eliminate various types of pollution and to protect natural resources. Ukrproduct monitors and controls all its production facilities regularly in order to ensure that air quality is not adversely impacted by its operations. The Group focuses on cutting water and energy consumption, as well as reducing the volumes of waste. Collection and processing of waste have been organised through the local waste collection plants. The Group’s development programme of 2008-2012 puts specific emphasis on acquiring and installing only the most ad- vanced and environmentally-friendly production and auxiliary equipment. Food safety Food safety is one of key priorities for the Group. Ukrproduct is committed to produce high quality and safe food and ensures that high standards are maintained within its supplier base. The certified food safety management system in compliance with ISO 22000:2005 was imple- mented by the Group. This system provides the possibility to fully monitor all production stages – from forage control and sound health of the cattle to the final product distribution. Community support The Group is keen to further enhance and maintain its partnership with local communities by supporting their initiatives and charitable events. The Group contributes cash donations and gifts, as well as employee time, by encouraging staff to participate as volunteers. 18 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 19 STATEMENT OF DIRECTORS RESPONSIBILITIES FOR THE PREPARATION AND APPROVAL OF THE CONSOLIDATED FINANCIAL STATEMENTS FOR THE YEARS ENDED 31 DECEMBER 2010 The directors are responsible for the preparation of the consolidated financial statements in ac- cordance with applicable Jersey law and other regulations and enactments in force at the time. The Companies (Jersey) Law 1991, as amended requires the directors to prepare financial statements for each year in accordance with General Accepted Accounting Principles. Under that law, the directors have elected to prepare the consolidated financial statements in accor- dance with International Financial Reporting Standards (IFRS) as adopted by the European Union. Under company Law, the directors must not approve the financial statements unless they are satisfied that they give a true and fair view of the state of affairs of the Group and of its profit or loss for the period ended. In preparing these consolidated financial statements, the directors are required to: select suitable accounting policies and then apply them consistently; • • make judgments and estimates that are reasonable and prudent; • state that the financial information comply with IFRS, subject to any material departures disclosed and explained in the financial information; prepare the financial information on the going concern basis unless it is inappropriate to presume that the Group will continue in business. • The Board of Directors confirms that the Group has complied with the above mentioned re- quirements in preparing its Consolidated financial statements. The directors are also responsible for: • • • • implementing and maintaining an efficient and reliable system of internal controls in the Group; keeping proper accounting records that disclose with reasonable accuracy at any time the financial position of the Group; taking reasonable steps to safeguard the assets of the Group and to prevent and detect fraud and other irregularities; and the maintenance and integrity of the Group's website. Jack Rowell Chairman Ukrproduct Group Ltd 5 April 2011 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 C O N S O L I D A T E D F I N A N C I A L S T A T E M E N T S We have audited the consolidated financial statements of Ukrproduct Group Limited for the year ended 31 December 2010 which comprise the consolidated income statement, consolidated statement of comprehensive income, consolidated statement of financial position, consolidated statement of changes in equity, consolidated statement of cash flows and the related notes 21 INDEPENDENT AUDITORS’ REPORT We have audited the consolidated financial statements of Ukrproduct Group Limited for the year ended 31 December 2010 which comprise the consolidated income statement, consoli- dated statement of comprehensive income, consolidated statement of financial position, con- solidated statement of changes in equity, consolidated statement of cash flows and the related notes (the financial statements). The financial reporting framework that has been applied in their preparation is applicable Jersey law and International Financial Reporting Standards (IFRS) as adopted by the European Union. This report is made solely to the company's members, as a body, in accordance with Article 113A of the Companies (Jersey) law 1991, as amended. Our audit work has been undertaken so that we might state to the company's members those matters we are required to state to them in an auditor's report and for no other purpose. To the fullest extent permitted by law, we do not accept or assume responsibility to anyone other than the company and the company's members as a body, for our audit work, for this report, or for the opinions we have formed. Respective responsibilities of directors and auditor As explained more fully in the Statement of Directors' Responsibilities, the directors are re- sponsible for the preparation of the financial statements and for being satisfied that they give a true and fair view. Our responsibility is to audit and express an opinion on the financial statements in accordance with applicable law and International Standards on Auditing (UK and Ireland). Those standards require us to comply with the Auditing Practices Board’s Ethical Standards for Auditors. Scope of the audit of the financial statements An audit involves obtaining evidence about the amounts and disclosures in the financial state- ments sufficient to give reasonable assurance that the financial statements are free from mate- rial misstatement, whether caused by fraud or error. This includes an assessment of: whether the accounting policies are appropriate to the company’s circumstances and have been consis- tently applied and adequately disclosed; the reasonableness of significant accounting estimates made by the directors; and the overall presentation of the financial statements. UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 22 Opinion on the financial statements In our opinion the financial statements: • • • give a true and fair view of the state of the Group’s affairs as at 31 December 2010 and of its profit for the year then ended; have been properly prepared in accordance with IFRS as adopted by the European Union; and have been prepared in accordance with the requirements of the Companies (Jersey) Law, 1991 as amended. Matters on which we are required to report by exception We have nothing to report in respect of the following matters where the Companies (Jersey) Law 1991 requires us to report to you if, in our opinion: • • • proper accounting records have not been kept; or proper returns adequate for our audit have not been received from branches not visited by us; or the financial statements are not in agreement with the accounting records and returns. Ewan John Spraggon For and on behalf of Baker Tilly Channel Islands Limited Chartered Accountants St Helier, Jersey 5 April 2011 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 23 CONSOLIDATED INCOME STATEMENT Note year ended 31 December 2010 £ ‘000 year ended 31 December 2009 £ ‘000 Revenue Cost of sales GROSS PROFIT Administrative expenses Selling and distribution expenses Other operating income expenses PROFIT FROM OPERATIONS Finance income / (expenses), net Effect of foreign currency translation PROFIT BEFORE TAXATION Income tax expenses PROFIT FOR THE YEAR Attributable to: Owners of the Parent Non-controlling interests Earnings per share: Basic Diluted 8 9 9 9 9 10 13 45,020 (37,349) 7,671 (2,899) (2,701) (502) 1,569 (367) (5) 1,197 (103) 1,094 1,104 (10) 2.69 2.69 43,167 (36,238) 6,929 (2,578) (2,601) 20 1,770 (426) (249) 1,095 (54) 1,041 1,064 (23) 2.50 2.50 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 24 CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME PROFIT FOR THE YEAR OTHER COMPREHENSIVE INCOME: Exchange differences on translation to the presentation currency Gain on revaluation of property, plant and equipment Tax on revaluation gains OTHER COMPREHENSIVE INCOME, NET OF TAX TOTAL COMPREHENSIVE INCOME FOR THE YEAR Attributable to: Total for owners of the Parent Total non-controlling interests year ended 31 December 2010 £ ‘000 year ended 31 December 2009 £ ‘000 1,094 1,041 351 4,112 (1,028) 3,435 4 529 4,539 (10) (1,954) - - (1,954) (913) (890) (23) Notes on pages 28-69 are an integral part of these consolidated financial statements. The independent auditors' report is presented on page 21-22. UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 25 CONSOLIDATED STATEMENT OF FINANCIAL POSITION ASSETS Non-current assets Property, plant and equipment Intangible assets Available for sale investments Deferred tax assets Current assets Inventories Trade and other receivables Current taxes Other financial assets Cash and cash equivalents TOTAL ASSETS EQUITY AND LIABILITIES Equity attributable to owners of the parent Share capital Other reserves Retained earnings Non-controlling interests Non-Current Liabilities Deferred tax liabilities Current liabilities Bank loans and overdrafts Trade and other payables Taxes payable Current income tax liabilities TOTAL EQUITY AND LIABILITIES Note 14 15 16 17 18 19 20 21 22 23 24 16 25 26 As at As at 31 December 2010 31 December 2009 £ ‘000 £ ‘000 12,263 1,000 89 248 13,600 3,985 5 605 1,094 220 676 11,580 25,180 4,082 2,068 12,817 18,967 20 18,987 1,434 1,434 2,938 1,715 38 68 4,759 25,180 8,534 1,065 86 63 9,748 2,445 4,738 1,031 79 236 8,529 18,277 4,107 (1,283) 11,744 14,568 30 14,598 459 459 1,581 1,575 32 32 3,220 18,277 These financial statements were approved and authorized for issue by the Board of Directors on 1 April 2011 and were signed on its behalf by: Olena Yakovenko Chief Financial Officer UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 26 CONSOLIDATED STATEMENT OF CHANGES IN EQUITY Attributable to owners of the parent Share capital £ ‘000 Share premium Options £ ‘000 £ ‘000 Merger Revaluation Retained Translation reserve reserve earnings reserve £ ‘001 £ ‘000 £ ‘000 £ ‘000 Total £ ‘000 Non- Total controlling interests Equity £ ‘000 £ ‘000 As at 1 January 2009 4,282 4,621 24 (1,427) 1,428 10,814 (3,823) 15,919 82 16,001 Profit for the year Other comprehensive income 1,064 1,064 (23) 1,041 (1,954) (1,954) (1,954) Total comprehensive income - - - - - 1,064 (1,954) (890) (23) (913) Depreciation on revaluation Dividends paid Acquiring of shares (Note 22) (175) (33) (95) 95 (253) Decrease of Non-controlling interests Reduction of options reserve (Note 23) (24) 24 - (253) (208) - - - - (253) - (208) (29) (29) - - As at 31 December 2009 4,107 4,588 - (1,427) 1,333 11,744 (5,777) 14,568 30 14,598 Profit for the year Other comprehensive income 1,104 3,084 Total comprehensive income - - - - 3,084 1,104 1,104 3,435 4,539 351 351 (10) 1,094 - 3,435 (10) 4,529 Depreciation on revaluation of property, plant and equipment Reduction of revaluation reserve Dividends paid (Note 28) Acquiring of shares (Note 22) (25) (33) (50) 50 (1) 1 (82) - - (82) (58) - - (82) (58) - - - As at 31 December 2010 4,082 4,555 - (1,427) 4,366 12,817 (5,426) 18,967 20 18,987 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 27 CONSOLIDATED STATEMENT OF CASH FLOWS Cash flows from operating activities Profit for the year Adjustments for: Exchange difference Depreciation and amortization Loss/(profit) of disposal of property, plant and equipment Impairment of trade receivables Interest income Interest expense Income tax expense (Increase) / decrease in inventories Increase in trade and other receivables (Increase) / decrease in trade and other payables Cash generated from operations Interest received Income tax paid Net cash generated by operating activities Cash flows from investing activities Payments for property, plant and equipment Proceeds from sale of property, plant and equipment Purchase of available for sale investments Puchase / sale of investments Repayments of loans issued Net cash used in investing activities Cash flows from financing activities Own shares acquisition Dividends paid Interest paid Note 11 13 22, 23 28 10 Increase / (decrease) in short term borrowing Net cash used in financing activities Net increase in cash and cash equivalents Effect of exchange rate changes on cash and cash equivalents Cash and cash equivalents at the beginning of the year Cash and cash equivalents at the end of the year 21 year ended year ended 31 December 2010 31 December 2009 £ ‘000 £ ‘000 1,094 - 5 1,068 74 129 (20) 387 103 (1,468) (1,082) 492 783 20 (338) 465 - (357) 16 (203) (24) (139) (707) (58) (82) (387) 1,312 785 543 (103) 236 676 1,041 - 249 1,405 (7) - (1) 427 54 667 (1,290) (194) 2,351 1 (150) 2,202 - (616) 96 - 492 (50) (78) (210) (253) (427) (1,461) (2,351) (227) (228) 691 236 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 28 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. GROUP AND PRINCIPAL ACTIVITIES The Company is a public limited liability entity registered in Jersey with a registered office at 26 New Street, St Helier, Jersey, JE2 3RA, Channel Islands. The Group's overall management and production facilities are based in Ukraine, with the HQ in Kyiv. The Group commands leading positions in the Ukrainian processed cheese and packaged butter markets and owns a range of widely recognisable trademarks in Ukraine, including “Nash Molochnik” (translated as Our Dairyman), “Narodniy Product” (People’s Product) “Molendam” and “Vershkova Dolina” (Creamy Valley). The average number of employees of the Group during the year ended 31 December 2010 was 1,857 (2009: 1,925). 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES 2.1. Basis of preparation The consolidated financial statements have been prepared on a historical cost basis, except for property, plant and equipment, derivative financial instruments and available-for-sale financial assets that have been measured at fair value. The consolidated financial statements are pre- sented in British pounds sterling and all values are rounded to the nearest thousand (£000) ex- cept where otherwise indicated. Accounts have been prepared on a going concern basis. (а) Statement of compliance These consolidated financial statements have been prepared in accordance with International Financial Reporting Standards, International Accounting Standards and Interpretations (collec- tively IFRS) issued by the International Accounting Standards Board (IASB) as adopted by the European Union. The majority of companies making up the Group maintain their accounting records in accor- dance with Ukrainian regulations. The financial information has been prepared from those ac- counting records and adjusted as considered necessary in order to comply with IFRS. Accounting records of the Operating Group are maintained in Ukrainian Hryvnia ("UAH"). The Hryvnia is the functional currency for the purpose of the consolidated financial statements. Since the Ukrainian Hryvnia is not a major convertible or recognisable currency outside of Ukraine, and also because the Group’s public shareholder base has been located mostly in the UK, the financial information has been translated into British pounds sterling (hereinafter “GBP” or £) as the Group’s presentational currency. The preparation of financial statements in conformity with IFRS requires the use of certain critical accounting estimates. It also requires management to exercise its judgment in the process of applying the Group’s accounting poli- cies. (b) Consolidation principles The consolidated financial statements comprise the financial statements of Ukrproduct Group Limited and its subsidiaries as at 31 December 2010. Subsidiaries are consolidated from the date of acquisition, being the date on which the Group obtains control, and continue to be consolidated until the date that such control ceases. The fi- 29 nancial statements of subsidiaries are prepared for the same reporting period as the parent company, using consistent accounting policies. All intra-group balances, income and expenses and unrealised gains and losses resulting from intra-group transactions are eliminated in full on consolidation. A change in the ownership in- terest of a subsidiary, without a change of control, is accounted for as an equity transaction. Losses incurred by the Group were attributed to the non-controlling interests. Any further ex- cess losses were attributable to the parent, unless the non-controlling interests had a binding obligation to cover these. Upon loss of control, the Group accounted for the investment re- tained at its proportionate share of net asset value at the date control was lost. If the Group loses control over a subsidiary, it: • Derecognises the assets (including goodwill) and liabilities of the subsidiary • Derecognises the carrying amount of any non-controlling interests • Derecognises the cumulative translation differences, recorded in equity • Recognises the fair value of the consideration received • Recognises the fair value of any investment retained • Recognises any surplus or deficit in profit or loss • Reclassifies the parent’s share of components previously recognised in other comprehen- sive income to profit or loss. Consolidated financial statements of the Group include following companies: Effective ownership ratio* Country of incorporation As at 31 December Principal 2009 2010 Consolidation activities method Ukraine Ukraine Ukraine Ukraine Ukraine Ukraine Ukraine Ukraine Ukraine Ukraine Ukraine Ukraine Ukraine Ukraine Ukraine Ukraine Ukraine Ukraine Ukraine 97.6% 97. 6% Production Acquisition 100% 100% 100% 100% 100% 100% 100% 100% 100% 100% 100% 100% 100% - 100% 100% 100% 100% - 100% 100% 100% 100% 100% 100% 100% - - Production Acquisition Production Acquisition Owner of property & equipment Acquisition Production Acquisition Production Acquisition Production Acquisition To be constructed Acquisition Owner of equipment Acquisition Owner of equipment Acquisition Owner of equipment Acquisition 100% Owner of fleet of vehicles Acquisition 100% Owner of fleet of vehicles Acquisition 100% 100% 100% 100% 100% 100% Owner of property & equipment Acquisition Export operations Acquisition Export operations Acquisition Logistics Acquisition Former Distribution Acquisition Former Distribution Acquisition Continued on page 30 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 Group's company Molochnik OJSC* Molochnik LLC* Starokonstantinovskiy Molochniy Zavod SC* Starkon-Moloko LLC* Krasilovsky Molochny Zavod Private Enterprise SC* Zhmerinsky Maslosyrzavod Private Enterprise SC * Letichivsky Maslozavod Private Enterprise SC* Teofipolskiy Dairy Plant Private Enterprise SC* Milk investments Private Enterprise SC* Invest Garantiya Private Enterprise* Favorit-Konsulting Private Enterprise* Avtopark Starokonstantinov LLS** ATP Centr LLC** Tekhnomolprom Private Enterprise SC** Ukrprodexpo SC* Ukrprodexport Private Enterprise SC* Ukrproduct-Logistic LLC * Agrospetsresursy LLC* Nash Molochnik Private Enterprise SC*** 30 Group's company Ukreuroprodukt SC*** Agrospetsresursy Dnipro SC*** Torgoviy Dom Maslayana SC*** Torgoviy Dom Milko SC*** Agrospetsresursy Lviv SC*** Ukrproduct - Kharkov SC*** Effective ownership ratio* Country of incorporation As at 31 December Principal 2009 2010 Consolidation activities method Beginning on page 29 Ukraine Ukraine Ukraine Ukraine Ukraine Ukraine 100% 100% Former Distribution Acquisition - - - - - 100% 100% 100% 100% 100% Former Distribution Acquisition Former Distribution Acquisition Former Distribution Acquisition Former Distribution Acquisition Former Distribution Acquisition Premierproduct-Donetsk Private Enterprise SC**** Ukraine 100% 100% Sales&Distribution Acquisition Premierproduct-Mikolaiv Private Enterprise SC**** Ukraine 100% 100% Sales&Distribution Acquisition Premierproduct-Dnipro Private Enterprise SC**** Ukraine 100% 100% Sales&Distribution Acquisition Premierproduct-Jitomir Private Enterprise SC**** Ukraine 100% 100% Sales&Distribution Acquisition Premierproduct-Lviv Private Enterprise SC**** Premierproduct-Harkiv Private Enterprise SC**** Premierproduct-Centr Private Enterprise SC**** Ukrproduct Group CJSC Ukraine Ukraine Ukraine Ukraine 100% 100% Sales&Distribution Acquisition 100% 100% Sales&Distribution Acquisition 100% 100% Sales&Distribution Acquisition 100% 100% Holder of some assets and operating companies Merger Merger LinkStar Limited Cyprus 100% 100% Holder of Group's trademarks and assets Dairy Trading Corporation Limited St. Invest Holding LTD Ukrproduct Group LTD BVI BVI Jersey 100% 100% Export operations Merger 100% 100% Holder of distribution network Acquisition Listed on LSE Parent * The companies are held through Ukrproduct Group CJSC which is a 100%-owned subsidiary of the Company. ** The companies are held through LinkStar Limited which is a 100%-owned subsidiary of the Company. *** Subsidiaries of Agrospetsresursy LLC. **** Subsidiaries of St. Invest Holding LTD, the Group's specialised distribution compa- nies. ***** The company is held through Starkon-Moloko LLC which is a 100%-owned sub- sidiary of the Company. (c) Reorganisation Ukrproduct Group CJSC was renamed Ukrproduct Group PJSC in compliance with Ukrainian legislation. A reorganisation of the Group’s legal structure took place in 2010 and resulted in: • following the transfer of principal business and assets to the subsidiaries of St. Invest Holding LTD, the Group’s new specialized distribution companies, the subsidiaries of UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 31 Agrospetsresursy LLC (the Group's former specialized distribution companies) were ex- cluded from the Group; the new distribution companies were created to replace the former ones in line with the Group’s marketing strategy aimed at better recognition of the brand through the names of the subsidiaries; new subsidiaries of Ukrproduct Group PJSC and LinkStar Limited were established and these became the owners of the Group’s production assets. • (d) Subsidiaries Subsidiaries are all entities over which the Group has the power to govern the financial and operating policies generally accompanying a shareholding of more than one half of the voting rights. The existence and effect of potential voting rights that are currently exercisable or con- vertible are considered when assessing whether the Group controls another entity. The acquisition method of accounting is used to account for the acquisition of subsidiaries by the Group. The cost of an acquisition is measured as the fair value of the assets given, shares issued or liabilities undertaken at the acquisition date, and any costs directly related to the acquisition of the company are expensed. (e) Non-controlling interests Non-controlling interests represent a portion of profits or losses and net assets not owned by the Group. Non-controlling interests are presented separately from parent share capital in equity in the Consolidated statement of financial position. (f) Change in accounting estimate Starting from 01 January 2010 the Group applied production method of depreciation for some items of cheese-making equipment. Management believes this method reflects more reliable information on consumption of economic benefits of these facilities as they are not operational at full capacity and are not influenced by moral depreciation. Change of the accounting esti- mate is applied prospectively. The effect resulted in a decrease of depreciation charge of GBP 313.958 for the year. (d) Comparative information Certain information in the consolidated statement of changes in equity, consolidated statement of comprehensive income, the consolidated statement of financial position and in the underlying notes has been reclassified to conform with the presentation format adopted in the current year. The restatement has no effect on the financial results or financial position of the Group. (h) Segment reporting Operating segments are reported in a manner consistent with the internal reporting provided to the chief operating decision-maker. The chief operating decision maker, who is responsible for allocating resources and assessing performance of the operating segments, has been identified as the board of directors. 2.2. Significant accounting policies Significant accounting policies given below have been consistently applied by the Group in the preparation of these financial statements. 2.2.1. Foreign currency transactions (а) Functional and presentation currency Management has considered what would be the most appropriate functional and presentational currencies for these financial statements. As a result of this review management has concluded that: UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 32 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 • • the Ukrainian Hryvnia is the currency of the primary economic environment in which the Group operates. Consequently the Ukrainian Hryvnia is the most appropriate functional currency for the Group; the Group should use British pounds sterling as the presentational currency for its consoli- dated IFRS financial statements. Transactions in currencies that differ from the Group's functional currency are considered to be foreign currency transactions. (b) Transactions and balances Foreign currency transactions are translated into the functional currency using the exchange rates prevailing at the dates of the transactions or valuation where items are re-measured. Foreign exchange gains or losses resulting from the settlement of such transactions and from the translation at the year-end exchange rates of monetary assets and liabilities denominated in foreign currencies are recognized in the statement of comprehensive income, except when de- ferred in equity as qualifying cash flow hedges and qualifying net investment hedges. Foreign exchange gains and losses are presented in the income statement within "Finance income and expenses, net". Financial results and financial position of the Group's companies are translated into the presen- tation currency as follows: • • • For current year, all assets and liabilities are translated at the rate effective at the reporting date. Income and expense items are translated at rates approximating to those ruling when the transactions took place. Equity items are translated into the presentation currency using the historical rate. For comparative figures, all assets and liabilities are translated at the closing rate existing at the relevant reporting date. Income and expense items are translated at rates approxi- mating to those ruling when the transactions took place. • • All exchange differences resulting from the application of the translation methods de- scribed above are recognised directly in equity as a separate component of equity. Income and expenses for each income statement are translated at average exchange rates (unless this average is not a reasonable approximation of the cumulative effect of the rates prevailing on the transaction dates, in which case income and expenses are translated at the rate on the dates of the transactions); and • All resulting exchange differences are recognised as a separate component of equity within "Translation reserve". The principal UAH exchange rates used in the preparation of Consolidated financial statements are as follows: Currency UAH/GBP UAH/USD 31 December Average exchange rate for 2010 2010 31 December 2009 Average exchange rate for 2009 12.29 7.96 12.26 7.93 12.66 7.99 12.23 7.80 • Foreign currency can be freely converted within Ukraine at a rate close to the rate of the National Bank of Ukraine. At present, the UAH is not a freely convertible currency outside Ukraine. 2.2.2. Cash and cash equivalents Cash and cash equivalents comprise cash on hand, deposits held at call with banks and other short-term highly liquid investments with original maturities of three months or less. Bank 33 overdrafts are included in current liabilities in the statement of financial position. 2.2.3. Inventories Inventories are stated at the lower of cost and net realizable value. Cost is determined using the weighted average method. Net realizable value is the estimated selling price in the ordinary course of business less applicable variable selling expenses. The Group identifies the following types of inventories: raw and other materials (including main and auxiliary operating supply and materials); • • work in progress (including semi-finished products); • • finished goods; other inventories (including fuel, packaging, building materials, spare parts, other materi- als, goods of little value and high wear goods). The cost of finished goods and semi-finished products comprises raw materials, direct labor, other direct costs and related production overheads (based on normal operating capacity) but excludes borrowing costs. The cost of raw materials and other inventories comprises all costs of purchase, costs of conversion and other costs incurred in bringing the inventories to their present location and condition. At each reporting date the Group analyses inventories to determine whether they are damaged, obsolete or slow-moving or whether their net realizable value has declined. If such situation oc- curred, the sum lessening the cost of inventories is reflected in the Consolidated income state- ment within item "Other income/(expenses), net". 2.2.4. Property, plant and equipment (а) Recognition and measurement of property, plant and equipment The cost of an item of property, plant and equipment shall be recognized as an asset only if: it is probable that future economic benefits associated with the item will flow to the Group and the cost of the item can be measured reliably and entity expects to use items during more than one period (more than 12 months). The Group adopted the revaluation model (as defined in IAS 16: Property, Plant and Equip- ment) for all classes of assets, except office equipment which is carried at cost. Management believe that this policy provides more reliable and relevant financial information because it bet- ter reflects the value in use of such assets to the Group. In accordance with the provisions of that standard, the revaluation model has not been applied retrospectively. All significant categories of property, plant and equipment are subsequently carried at fair value at the date of revaluation, less any subsequent accumulated depreciation and subsequent accu- mulated impairment losses. Changes in fair value are recognised in equity (the "revaluation re- serve"). An appropriate transfer is made from the revaluation reserve to the retained earnings when assets are expensed through the income statement (e.g. through depreciation, impair- ment or sale). Subsequent costs that increase future economic benefits of the item of property, plant and equipment also increase its carrying amount. Otherwise, the Group recognizes subsequent costs as expenses of the period in which they were incurred. The Group classifies costs, asso- ciated with property, plant and equipment, for the following categories: repairs and mainte- nance; capital repairs, including modernization. (b) Impairment of property, plant and equipment At each reporting date the Group assesses the carrying value of its property, plant and equip- UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 34 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 ment to determine whether there is any evidence that the assets have lost part of their value as a result of impairment. If such evidence exists, the expected recoverable amount of such an asset is calculated to determine the amount of impairment loss, if any, In case it is not practi- cable to determine the expected recoverable amount of a separate asset, the Group determines the expected recoverable amount of a cash generating unit, to which the asset belongs. When, according to estimates, the expected recoverable amount of an asset (or a cash generat- ing unit) is lower than its carrying value, the carrying value of an asset (or a cash generating unit) is reduced to its expected recoverable amount. Impairment losses are immediately recog- nized as expenses, except when the asset is carried at revalued price. In such cases, the im- pairment loss is considered as a decrease in the revaluation reserve. If the impairment loss is subsequently reversed, the asset’s carrying value (or a cash generating unit) is increased to the revised estimate of its expected recoverable amount. In such a case, the increased carrying value should not exceed the carrying value that could be determined in case if the impairment loss for an asset (or a cash generating unit) was not recognized in previous years. The reversal of the impairment loss is immediately recognized as income. Gains and losses on disposals are determined by comparing proceeds with the carrying amount and are included in operating profit. (c) Depreciation and useful life Depreciation of asset begins when it becomes available for use. Depreciation of an asset termi- nates with the termination of its recognition. Depreciation does not terminate when an asset is idle or if it is removed from active use and is intended for disposal, unless it is already fully de- preciated. Depreciation is applied to all items of property, plant and equipment with the exception of land. Until December 31, 2009 the Group calculated the depreciation using the declining-balance method to allocate their cost or revalued amounts to their residual values over their estimated useful lives. As of January 1, 2010 the Group separated the Plant and machinery used for pro- duction of hard and processed cheese into a separate group and applied to it the production method of depreciation. The useful live of property, plant and equipment is as follows: Terms of useful lives by groups of property, plant and equipment (except for those depreciated under production method) are listed below: Group of property, plant and equipment Buildings and constructions Plant and machinery Equipment and motor vehicles Useful life 20 - 40 years 7 - 15 years 3 - 10 years The assets’ residual values, useful lives and methods of depreciation are reviewed at each fi- nancial year end and adjusted prospectively, if appropriate. 2.2.5. Assets under construction Assets under construction are reported at their cost of construction including costs charged by third parties and the capitalisation of the Group's material costs incurred. No depreciation is charged on assets during construction. Upon the completion, the Group assess whether there is any indication that an asset may be impaired. If any such indication exists, the Group per- forms impairment testing as described in note 2.2.20. In case no indication exists that the asset may be impaired, all accumulated costs of the asset are transferred to the relevant fixed asset category and depreciated at applicable rates from the time the asset is completed and ready for use. 35 2.2.6. Intangible assets (а) Recognition and measurement of intangible assets Intangible assets are accounted at for historical cost less accumulated amortization and accu- mulated impairment losses, except the customer list which is initially carried at fair value and subsequently ammortised. The Group recognizes an item as an intangible asset, if it meets the following criteria for recog- nition: it is probable that the Group will receive future economic benefits associated with the asset and costs of the asset can be reasonably estimated. The Group identifies the following types of intangible assets: • Computer software licenses; • • Trademarks; The Customer list. Acquired computer software licenses are capitalised on the basis of the costs incurred to acquire and bring to use the specialised software. Trademarks are shown at historical cost. The Customer list was initially measured at fair value at the date of revaluation obtained by using the estimates of the independent valuers. An intangible asset is derecognized at disposal, or when the Group no longer expects receipt from this asset of any economic benefits. The profit from cancellation or disposal is defined by the difference between net proceeds on the sale and the carrying value of intangible assets. If the intangible asset is exchanged for a similar asset, the value of the acquired asset is equal to the value of the disposed asset. (b) Amortization and useful life Costs of computer software licenses are amortized over their estimated useful lives using the straight-line method (7 years). The amortization expense is included within Administrative ex- penses in the Consolidated Income Statement. Trademarks have finite useful lives and are carried at cost less accumulated amortization. Amortization is calculated using the straight-line method to allocate the cost of trademarks over their estimated useful lives (20 years). The amortization expense is included within Selling & Distribution expenses in the Consolidated Income Statement. Amortization is calculated using the straight-line method to allocate the cost of the customer list over its estimated useful lives (20 years). The amortization expense is included in Other operating expenses in the Consolidated Income Statement. (c) Business combinations and goodwill Business combinations are accounted for using the acquisition method. The cost of an acquisition is measured as the aggregate of the consideration transferred, measured at acquisition date fair value and the amount of any non-controlling interests in the acquiree. For each business combination, the acquirer measures the non-controlling interest in the acquiree either at fair value or at the proportionate share of the acquirer's identifiable net assets. Acquisition costs incurred are expensed. When the Group acquires a business, it assesses the financial assets and liabilities assumed for appropriate classification and designation in accordance with the contractual terms, eco- UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 36 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 nomic circumstances and pertinent conditions as at the acquisition date. This includes the separation of embedded derivatives in host contracts by the acquire. If the business combination is achieved in stages, the acquisition date fair value of the ac- quirer’s previously held equity interest in the acquire is remeasured to fair value as at the acquisition date through profit and loss. Any contingent consideration to be transferred by the acquirer will be recognised at fair value at the acquisition date. Subsequent changes to the fair value of the contingent consideration which is deemed to be an asset or liability, will be recognised in accordance with IAS 39 “Fi- nancial Instruments: Recognition and Measurement: Eligible Hedged Items” either in profit or loss or as change to other comprehensive income. If the contingent consideration is classified as equity, it shall not be remeasured until it is finally settled within equity. Goodwill is initially measured at cost being the excess of the consideration transferred over the Group’s net identifiable assets acquired and liabilities assumed. If this consideration is lower than the fair value of the net assets of the subsidiary acquired, the difference is recognised in profit or loss. Goodwill is not amortized but is subject to testing for impairment as at the reporting date or more frequently, if events or changes in circumstances indicate the possibility of reducing its usefulness. At the acquisition date, goodwill is allocated to each asset or group of assets that generate cash, and benefits from which are expected to be received upon Consolidation. The amount of impairment is determined by assessing the recoverable amount, which may be ob- tained for a cash generating asset (group of cash generating assets) to which goodwill relates. Where the recoverable amount is less than the book value of cash generating asset (group of cash generating assets), impairment is recognized. 2.2.7. Financial assets The Group classifies its financial assets as: financial assets at fair value through profit or loss, loans and receivables, held-to-maturity investments, available for-sale financial assets. Management determines the classification of financial assets at initial recognition and re- evaluates this designation at every reporting date. (і) Financial assets at fair value through profit or loss This category comprises only “in-the-money” derivatives. They are carried at the reporting date at fair value with changes in fair value recognised in the income statement. The Group does not have any assets held for trading nor does it voluntarily classify any financial assets as being at fair value through profit or loss. (іі) Loans and receivables These assets are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market. They arise principally through the provision of goods and ser- vices to customers (trade receivables), but also incorporate other types of contractual mone- tary asset. They are carried at amortized cost using the effective interest method less any impairment. From time to time, the Group may renegotiate the terms of trade receivables due from cus- tomers with which it has previously had a good trading history. Such renegotiations will lead to changes in the timing of payments rather than changes to the amounts owed and, in conse- quence, the new expected cash flows are discounted at the original effective interest rate. The Group has not classified any of its financial assets as held to maturity. 37 (iii) Available-for-sale financial assets "Non-derivative financial assets not included in the above categories are classified as available- for-sale and comprise principally the Group's investments in entities not qualifying as sub- sidiaries as well as investment certificates. They are carried at fair value with changes in fair value recognised directly in a separate component of equity (available-for-sale reserve). Where there is a significant or prolonged decline in the fair value of an available for sale financial asset (which constitutes objective evidence of impairment), the full amount of the impairment, in- cluding any amount previously charged to equity, is recognised in the profit or loss. (а) Initial recognition Financial assets at fair value through profit and loss are initially recorded at fair value. All other financial assets are initially recorded at fair value plus transaction costs. Fair value at initial recognition is best evidenced by the transaction price. A gain or loss on initial recognition is only recorded if there is a difference between fair value and transaction price which can be evi- denced by other observable current market transactions in the same instrument or by a valua- tion technique whose inputs include only data from observable markets. All purchases and sales of financial instruments that require delivery within the time frame es- tablished by regulation or market convention (“regular way” purchases and sales) are recorded at trade date, which is the date that the Group commits to deliver a financial instrument. All other purchases and sales are recognized on the settlement date with the change in value be- tween the commitment date and settlement date not recognized for assets carried at cost or amortized cost; recognized in the income statement for trading investments; and recognized in equity for assets classified as available-for-sale. (b) Fair value estimation principles Fair value of financial instruments is based at their market value, established at the reporting date, less transaction costs. If market value is not available, fair value of the instrument is de- termined by means of pricing and discounted cash flow models use. If a discounted cash flow model is applied, the determination of future cash flows is based on optimal management estimations and discounting rate is market rate for similar financial in- struments predominated as at reporting date. If the price model is used entering figures are based on average market data predominated as at reporting date. (c) Subsequent measurement Subsequent to initial recognition all financial assets at fair value through profit or loss and all available-for-sale instruments are measured at fair value, except that any instrument that does not have a quoted market price in an active market and whose fair value cannot be reliably measured is stated at cost, including transaction costs, less impairment losses. Loans and receivables are measured at amortized cost less impairment losses. Amortized cost is calculated using the effective interest rate method. Premiums and discounts, including initial transaction costs, are included in the carrying amount of the related instrument and amortized based on the effective interest rate of the instrument. (d) Impairment of financial assets The Group assesses at each reporting date whether there is any objective evidence that a finan- cial asset or a group of financial assets is impaired. A financial asset or a group of financial as- sets is deemed to be impaired if, and only if, there is objective evidence of impairment as a result of one or more events that has occurred after the initial recognition of the asset (an in- curred ‘loss event’) and that loss event has an impact on the estimated future cash flows of the financial asset or the group of financial assets that can be reliably estimated. Evidence of im- pairment may include indications that the debtors or a group of debtors is experiencing signifi- cant financial difficulty, default or delinquency in interest or principal payments, the probability UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 38 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 that they will enter bankruptcy or other financial reorganization and where observable data indi- cate that there is a measurable decrease in the estimated future cash flows, such as changes in arrears or economic conditions that correlate with defaults. (e) Derecognition Financial assets are derecognized when the rights to receive cash flows from the financial as- sets have expired or where the Group has transferred substantially all risks and rewards of ownership. 2.2.8. Financial liabilities The Group classifies its financial liabilities into categories depending on the purpose for which the liability was acquired. The Group has not classified any of its liabilities at fair value through profit and loss. Financial liabilities held at amortized cost include the following items: Trade payables and other short-term monetary liabilities, which are recognised at amortized cost. Bank borrowings, overdrafts, promissory notes and bonds issued by the Group are initially car- ried at fair value, being the amount advanced net of any transaction costs directly attributable to the issue of the instrument. Such interest bearing liabilities are subsequently measured at amortised cost using the effective interest rate method, which ensures that any interest ex- pense over the period to repayment is at a constant rate on the balance of the liability carried in the balance sheet. "Interest expense" in this context includes initial transaction costs and inter- est payable on redemption, as well as any interest or coupon payable while the liability is out- standing. (а) Initial recognition Financial liabilities are initially recognized at fair value, adjusted in case of borrowings for di- rectly attributable transaction expenses. (b) Subsequent measurement Trade and other accounts payable initially recognized at fair value, are subsequently accounted for at amortized cost at effective interest rate method. Borrowings, liabilities initially recognized at fair value less transaction costs, are subsequently measured at amortized cost; any difference between amount of received resources and sum of repayment is represented as interest cost the effective interest rate method during the period, when borrowings were received. (c) Derecognition A financial liability is derecognised when the obligation under the liability is discharged or can- celled or expires. 2.2.9. Share capital Ordinary shares are classified as share capital. The difference between fair value of considera- tion received and nominal value of issued share capital is charged to share premium. 2.2.10. Revenue recognition Revenue is recognised to the extent that it is probable that the economic benefits will flow to the Group and the revenue can be reliably measured. Revenue is measured simultaneously with an increase in asset or decrease in liabilities, which causes the increase in shareholders' equity 39 (excluding the capital increase through contributions from members of the enterprise), pro- vided that the amount of income can be reasonably estimated. Revenue reflected in the amount of the fair value of assets received. Revenue is the amount of cash or cash equivalents received or receivable. However, in case of delay in receipt of cash or cash equivalents, the fair value of the consideration may be less than received or expected to be received nominal amount of cash. When the arrangement effectively constitutes a financing transaction, the fair value of the consideration is determined by dis- counting all future receipts using an imputed rate of interest. Revenue (proceeds) from sale of products (goods, works and services) is not corrected by an amount of related doubtful and uncollectible receivables. The amount of such debt is recognized as expenses of the Group. Revenue comprises the invoiced value of sales of goods and services net of value added tax, rebates and discounts after eliminating sales within the Group. Revenues and expenses are recognised on an accruals basis. The income is recognized when cash compensations are eliminated and paid to distributed after the goods sold. (а) Revenue from sale of goods (products) Revenue from the sale of goods (products) is recognized when all the following conditions are satisfied: • • • • • The significant risks and rewards of ownership of the goods have passed to the buyer; The Group is no longer involved in the management to the extent that is usually associated with ownership, and has no control over the goods sold; the amount of revenue can be measured reliably; it is probable that the economic benefits associated with the transaction will flow to the Group; the costs incurred or to be incurred in respect of the transaction can be measured reliably. (b) Revenue from rendering of services The revenue from rendering of services is recognized when all the following conditions are sat- isfied: • • • • the amount of revenue can be reliably measured; inflow of economic benefits related to the transaction is possible; reliable measurement of stage of transaction completeness at the balance sheet is possible; there is a possibility for reliable measuring of cost, applied for transaction carrying out and cost, which are required for its completing. 2.2.11. Expenses recognition Expenses are recognized by the Group when the following conditions are met: the amount of expenses can be reliably measured, it is probable that future economic benefits, relating to asset decrease or liability increase. Expenses which can not be related directly to gain of a certain period, are shown as a part of expenses of the period they were incurred in. If an asset provides economic benefits receiving during several reporting periods, expenses are calculated by allocating its value on a systematic basis over respective reporting periods. Writing off of deferred expenses is made on a straight-line basis within periods, which they ac- cordingly relate to, during which the receipt of economic benefits receiving is expected. UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 40 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 Expenses which were incurred in the reporting period but relate to production of semi-finished products which will be further processed to finished goods and sold in future reporting periods, are accounted for in the current period in the item "Work-in-progress", included within "Inventories" of the Consolidated statement of financial position. 2.2.12. Financial expenses Interest expenses and other costs on borrowings to finance construction or production of qual- ifying assets are capitalized, during the period of time that is required to complete and prepare the asset for its intended use. All other borrowing costs are expensed. Net financial expenses are recorded in the Consolidated statement of comprehensive income as a separate line item "Financial income/(expenses), net." 2.2.13. Value added tax VAT is levied at two rates: 20% on Ukrainian domestic sales and imports of goods, works and services and 0% on export of goods and provision of works or services to be used outside Ukraine. VAT output equals the total amount of VAT collected within a reporting period, and arises on the earlier of the date of shipping goods to a customer or the date of receiving payment from the customer. VAT input is the amount that a taxpayer is entitled to offset against his VAT liabil- ity in the reporting period. Rights to VAT input arise on the earlier of the date of payment to the supplier or the date goods are received. 2.2.14. Tax Taxation has been provided for in the financial statements in accordance with relevant legisla- tion currently in force. The charge for taxation in the Income Statement for the year comprises current tax and changes in deferred tax. Current tax is the amount of income tax payable (recoverable) in respect of taxable profit (tax loss) for the period determined in accordance with rules established by the tax authorities in respect of which income tax shall be paid (refundable). Current tax liabilities and assets are measured at the amount expected to be paid to or recov- ered from the taxation authorities, using the tax rates and laws that have been enacted, or sub- stantively enacted, by the reporting date. Deferred tax assets and liabilities are calculated in respect of temporary differences using the liability method. Deferred income taxes are provided on all temporary differences arising be- tween the tax bases of assets and liabilities and their carrying amounts for financial reporting purposes, except in situations where the deferred tax arising on initial recognition of goodwill or of an asset or liability in a transaction that is not a deal to merge companies and which, at the time of its commission, has no effect on accounting or taxable profit or loss. Assessment of deferred tax liabilities and deferred tax assets reflects the tax consequences that would arise depending on the ways in which the Group assumes the reporting date of realiza- tion or settlement of the carrying value of its assets or liabilities. A deferred tax asset is recognized only to the extent to which there is a substantial probability that future taxable profit, which may be reduced by the amount of deductible temporary differ- ences, will be received. Deferred tax assets and liabilities are measured at tax rates, the use of which is expected in the period of the asset or liability is settled, based on the provisions of the legislation enacted, or declared (and practically adopted) at that date. 41 Deferred income taxes are recognized for all temporary differences associated with invest- ments in subsidiaries and associated companies and joint activities, except in cases where the Group controls the timing of the reversal of temporary differences, and where there is a signifi- cant probability that the temporary difference will not will be reduced in the foreseeable future. The Group reviews the carrying amount of deferred tax assets at each reporting date and re- duces it to the extent to which it is no longer the probability that it will be sufficient taxable profits, which allows to realize the benefits of part or all of this deferred tax asset. Any such re- duction is restored to the extent to which there is the likelihood that sufficient taxable profit. Deferred tax assets and liabilities are not discounted. 2.2.15. Share-based payments Where share options are awarded to employees, the fair value of the options at the date of grant is charged to the income statement over the vesting period. Where the terms and condi- tions of options are modified before they vest, the increase in the fair value of the options, measured immediately before and after the modification, is also charged to the income state- ment over the remaining vesting period. Where equity instruments are granted to persons other than employees, the income statement is charged with the fair value of goods and ser- vices received. Where fair value of goods and services received from persons other than employees is difficult to identify, the fair value of the instruments granted is charged to the in- come statement over the vesting period. The fair value of options to be expensed is determined on the basis of adjusted Black-Scholes model as set out in note 29. 2.2.16. Short-term employee benefits Short-term employee benefits are recognised in the period in which an employee has rendered service to the Group. The Group recognises the undiscounted amount of short-term employee benefits a liability (accrued expense), after deducting any amount already paid. 2.2.17. Pension costs The Group contributes to the Ukrainian mandatory state pension scheme, social insurance and employment funds in respect of its employees. The Group's pension scheme contributions are expensed as incurred and are included in staff costs. The Group doesn’t operate any other pen- sion schemes. 2.2.18. Share issue costs All qualifying transaction costs in respect of the issue of shares are accounted for as a deduc- tion from share premium, net of any related tax deduction. Qualifying transaction costs include costs of preparing the prospectus, accounting, tax and legal expenses, underwriting fees and valuation fees in respect of the shares and of other assets. 2.2.19. Leases Lease is classified as a finance lease if it transfers substantially all the risks and rewards inci- dental to ownership. Leases other than finance leases are classified as operating leases. (а) Group as a lessee Operating lease expenses are recognized as expenses of the period to which they relate, on a straight‐line basis over the lease period. (b) Group as a lessor Operating lease income is recognized in "Revenue" as income of the period to which it relates, over the lease term on a systematic and rational basis. UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 42 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 2.2.20. Impairment of assets In respect of all assets, except for inventories, assets resulting from fees to employees, finan- cial assets, assets held for trading, the Group conducts the following procedures ensuring ac- counting for these assets at the amount, not exceeding their recoverable amount: • • at each reporting date the condition of these assets is analyzed for impairment. in case any impairment indicators exist, the amount of expected recovery of such asset is calculated to determine the amount of losses from impairment, if any. If it is impossible to determine the amount of losses from impairment of a separate asset, the Group deter- mines the amount of estimated impairment of the cash-generating unit, to which the asset belongs. The amount of expected recovery is the higher of two estimates: net selling price and value in use of asset. In estimating value in use of asset, estimated future cash flows are discounted to their current value using a pre-tax discount rate that reflects current market estimates of time value of money and risks related to the asset. If according to estimates the amount of expected recovery of assets (or a cash-generating unit) is less than its book value, the book value of asset (or a cash-generating unit) is reduced to the amount of expected recovery. Losses from impairment are recognized as expenses directly in the Consolidated statement of comprehensive income. 2.2.21. Contingent liabilities and assets Contingent liabilities are potential liabilities of the Group arising from past events the existence of which will be confirmed only by the occurrence or non-occurrence of one or more future events, which are not under the complete control of the Group, or current obligations resulting from past events are not recognized in the financial reporting in connection with the fact that the Group does not consider an outflow of resources embodying economic benefits, and re- quired to settle liabilities as probable, or the value of liabilities can not be reliably determined. The Group does not recognize contingent liabilities in the financial statements. The Group dis- closes information about contingent liabilities in the notes to the financial statements except when the probability of outflow of resources required to settle the obligation, is unlikely. Contingent assets are not recognized in the Consolidated financial statements, but disclosed in the Notes where there is a sufficient probability of future economic benefits. 2.2.22. Related parties For the purposes of these financial statements according to IFRS, parties are considered to be related if one of parties has a possibility to control or considerably influence the operational and financial decisions of another company, which is defined in IAS 24 "Related Party Disclo- sures". While considering any relationship which can be defined as related party transactions it is ne- cessary to take into consideration the substance of the operation not only its legal form. The Group classifies the related parties according to existing criteria in the following cate- gories: а) companies that directly or indirectly through one or more intermediaries, exercise control over the Group, are controlled by it, or together with it are under common control (this in- cludes holding companies, subsidiaries and fellow subsidiaries of the parent company); b) associates are companies whose activities are significantly influenced by the Group, but 43 are neither subsidiaries, nor joint ventures of the investor; c) individuals, directly or indirectly holding ordinary shares that give them a possibility to sig- nificantly influence the Group's activities; d) key management personnel are persons having authority and responsibility for planning, managing and controlling the activities of the Group, including directors and senior offi- cials (as well as the non-executive director and close relatives of these individuals); e) companies, large blocks of shares with voting rights of which are owned directly or indi- rectly by any person described in paragraphs (c) or (d), or a person influenced signifi- cantly by such persons. This includes enterprises owned by directors or major shareholders of the Group, and companies which have a common key management mem- ber with the Group. 2.2.23. Dividends Equity dividends are recognised in the Consolidated financial statements when they become legally payable. In the case of interim dividends are recognised when they are paid. In the case of final dividends, this is when approved by the shareholders at the AGM. 3. SIGNIFICANT ACCOUNTING JUDGEMENTS, ESTIMATES AND ASSUMPTIONS The preparation of the Group's Consolidated financial statements requires management to make judgments, estimates and assumptions that affect the reported amounts of revenues, ex- penses, assets and liabilities, and the disclosure of contingent liabilities, at the end of the re- porting period. However, uncertainty about these assumptions and estimates could result in outcomes that require a material adjustment to the carrying amount of the asset or liability af- fected in future periods. In the process of applying the Group's accounting policies, management has made the follow- ing judgments, which have the most significant effect on the amounts recognised in the finan- cial statements: (а) Estimates of fair value of property, plant and equipment based on revaluation The Group is required, periodically as determined by the directors, to conduct revaluations of its property, plant and equipment. Such revaluations are conducted by independent valuers who employ the valuation methods in accordance with International Valuation Standards such as cost method, comparison (market) method and revenue (income) method. (b) Useful lives of intangible assets and property, plant and equipment Intangible assets and property, plant and equipment are amortized or depreciated over their useful lives. Useful lives are based on the management’s estimates of the period that the assets will generate revenue, which are periodically reviewed for continued appropriateness. Due to the long life of certain assets, changes to the estimates used can result in significant variations in the carrying value. Further information is contained in notes 14 and 15. (c) Impairment of goodwill The Group is required to test, on an annual basis, whether goodwill has suffered any impair- ment. The recoverable amount is determined based on value in use calculations. The use of this method requires the estimation of future cash flows and the choice of a discount rate in order to calculate the present value of the cash flows. Actual outcomes may vary. Further infor- mation is contained in note 15. UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 44 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 (d) Inventory The Group reviews the net realisable value of, and demand for, its inventory on a quarterly basis to ensure recorded inventory is stated at the lower of cost or net realisable value. Factors that could impact estimated demand and selling prices are the timing and success of future technological innovations, competitor actions, supplier prices and economic trends. Further in- formation is contained in note 17. (e) Legal proceedings In accordance with IFRS the Group only recognises a provision where there is a present obliga- tion from a past event, a transfer of economic benefits is probable and the amount of costs of the transfer can be estimated reliably. In instances where the criteria are not met, a contingent liability may be disclosed in the notes to the financial statements. Realisation of any contingent liabilities not currently recognised or disclosed in the financial statements could have a material effect on the Group’s financial position. Application of these accounting principles to legal cases requires the Group’s management to make determinations about various factual and legal matters beyond its control. The Group reviews outstanding legal cases following develop- ments in the legal proceedings and at each reporting date, in order to assess the need for pro- visions in its financial statements. Among the factors considered in making decisions on provisions are the nature of litigation, claim or assessment, the legal process and potential level of damages in the jurisdiction in which the litigation, claim or assessment has been brought, the progress of the case (including the progress after the date of the financial state- ments but before those statements are issued), the opinions or views of legal advisers, experi- ence on similar cases and any decision of the Group’s management as to how it will respond to the litigation, claim or assessment. (f) Income taxes The Group is subject to income tax in several jurisdictions and significant judgment is required in determining the provision for income taxes. During the ordinary course of business, there are many transactions and calculations for which the ultimate tax determination is uncertain. As a result, the company recognises tax liabilities based on estimates of whether additional taxes and interest will be due. These tax liabilities are recognised when, despite the company’s belief that its tax return positions are supportable, the company believes that certain positions are likely to be challenged and may not be fully sustained upon review by tax authorities. The company believes that its accruals for tax liabilities are adequate for all open audit years based on its assessment of many factors including past experience and interpretations of tax law. This assessment relies on estimates and assumptions and may involve a series of complex judgments about future events. To the extent that the final tax outcome of these matters is dif- ferent than the amounts recorded, such differences will impact income tax expense in the pe- riod in which such determination is made. Further information is contained in notes 13 and 16. (g) Quality cla ims The Group supplies the consumers and industrial customers in Ukraine with dairy products manufactured in accordance with the current laws, food safety standards and technical require- ments of the relevant Ukrainian authorities. The Group voluntarily applies non-domestic stan- dards – ISO and HASSP – to some of the Group’s operations. For the industrial customers both domestically and outside of Ukraine, the food products are manufactured to the technical spec- ifications agreed with the buyers in advance of the sale. In instances where the quality criteria and/or technical specifications are not met or the delivery of products are made close to expiry date, a quality claim may arise and the corresponding contingent liability may be disclosed in the notes to the financial statements. Realisation of any such contingent liabilities not currently recognised or disclosed in the financial statements could have a material effect on the Group’s financial position. Application of these accounting principles to quality claims requires the Group’s management to make determinations about the future matters that may, at the time of determination, be beyond management’s control. Among the factors considered in making de- cisions on quality claims provisions are: the nature of the claim, the quantifiable variances in 45 quality giving rise to a claim, the potential loss from satisfying the claim and any decision of the Group’s management as to how it will respond to the claim. 4. ADOPTION OF NEW AND REVISED IFRS 4.1. Standards and Interpretations adopted by the EU (a) New and amended standard and interpretations mandatory for the first time for the finan- cial year beginning 1 January 2010 but not currently relevant to the Group (although they may affect the accounting for future transactions and events). Amendments to IAS 32 ''Classification of rights issues'' (effective for annual periods beginning on or after 1 February 2010). Amendment to IAS39 ''Financial Instruments: Recognition and Measurement: Eligible Hedged Items'' (effective for annual periods beginning on or after 1 July 2009). Amendment to IFRIC 9 and IAS 39 regarding embedded derivatives (effective for annual periods beginning on or after 30 June 2009). Improvements to IFRSs 2008 - Amendments to IFRS 5 ''Non-current assets held for sale and discontinued operations (effective for annual periods beginning on or after 1 July 2009). IFRIC 12: ''Service Concession Arrangements'' (effective for annual periods beginning on or after 1 January 2008, (EU: 30 March 2009)). IFRIC 15, Agreements for the Construction of Real Estate (effective for annual periods begin- ning on or after 1 January 2009). IFRIC 16, Hedges of a Net Investment in a Foreign Operation (effective for annual periods on or after 1 October 2008, (EU: 30 June 2009)). IFRIC 17:''Distributions of Non Cash Assets to Owners'' (effective for annual periods beginning on or after 1 July 2009). IFRIC 18 ''Transfers of Assets from Customers'' (effective for annual periods beginning on or after 1 July 2009). 4.2. Standards and Interpretations not adopted by the EU Improvements to IFRSs (effective for annual periods beginning on or after 1 July 2009 or 1 January 2010). 4.3. Standards and Interpretations not yet effective and not yet adop- ted by the EU Improvements to IFRS (IFRS 3, IFRS 7, IAS 1, IAS 34, IFRIC 13) (effective date 1 January 2011) IFRS 7: Financial Instruments: Disclosures-Amendments, Disclosures-Transfers of Financial As- sets (effective 1 July 2011) IAS 12: Income Taxes- Amendment; Deferred Tax; Recovery of Underlying Assets (effective 1 January 2012) IFRS 9: Financial Instruments (effective 1 January 2013) The Group has not yet completed the expected impact of applying these standards and amend- ments. UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 46 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 5. FINANCIAL RISK MANAGEMENT The principal risks facing the Group’s business are credit risk, liquidity risk and market risk, in- cluding fair value or cash flow interest-rate risk and foreign exchange risk. The main purpose of the Group's risk management programme is to evaluate, monitor and manage these risks and to minimise potential adverse effects on the Group's financial performance and shareholders. The Chief Financial Officer of the Group is in charge of risk management and in- troduction of all policies as approved by the Board of Directors. The Group’s budget for 2011 incorporates the forecasted inflation rates. The Group considers that there are no material risks related to the inflation. (а) Principal financial instruments The principal financial instruments used by the Group, from which financial instrument risk arises, are as follows: • • • • • • • trade and other receivables Investments in unquoted equity securities in Ukraine loans issued cash and cash equivalents bank overdrafts promissory notes trade and other payables The principal financial instruments are as follows: year ended 31 December 2010 £ ‘000 year ended 31 December 2009 £ ‘000 Financial assets Loans and receivables: - trade and other receivables (excluding non-financial assets) - cash and cash equivalents - loans issued Available for sale investments - unquoted investments Financial liabilities Held at amortised cost: - bank loans - overdrafts - trade and other payables (excluding non-financial liabilities) 4,874 676 220 89 5,859 2,842 96 1,079 4,017 4,264 236 79 86 4,665 1,574 7 1,475 3,056 (b) General objectives, policies and processes The Group's overall risk management programme recognises the unpredictability of financial markets and seeks to minimise potential adverse effects on the Group's financial performance. Risk management is carried out by the Group Chief Financial Officer (CFO) under policies ap- proved by the Board of Directors. The Group CFO identifies and evaluates financial risks in close co-operation with the Group's operating units. The management board provides broad guidance and operating principles for overall risk management, as well as written policies covering specific areas, such as foreign exchange risk, interest-rate risk, credit risk, and invest- ing excess liquidity. The Board has overall responsibility for the determination of the Group’s risk management ob- jectives and polices and, whilst retaining ultimate responsibility for them, it has delegated the 47 authority for designing and operating processes that ensure the effective implementation of the objectives and policies to the group’s finance function. The Board receives monthly updates from the Group CFO and Head of Internal Audit through which it reviews the effectiveness of the processes put in place and the appropriateness of the objectives and policies it sets. The Group’s internal operating auditors review the risk management policies and processes and re- port their findings to CEO and the Audit Committee, if and when necessary. The overall objec- tive of the Board is to set polices that seek to reduce risk as far as possible without unduly affecting the Group’s competitiveness and flexibility. Further details regarding these policies are laid out below. (c) Credit risk Credit risk is the risk that a counterparty will not be able to meet its obligations in full when due. Ukrproduct Group is mainly exposed to credit risk from credit sales to the customers in Ukraine. The Group manages its credit risk through the Group’s risk assessment policy by evaluating each new customer before signing a contract using the following criteria: trading history and the strength of own balance sheet. The Group attempts to reduce credit risk by conducting periodic review which includes obtaining external ratings and in certain cases bank references. According to the Group’s risk assessment policy, implemented locally, every new customer is appraised before entering contracts; trading history and the strength of the own balance sheet being the main indicators of creditworthiness. While starting the commercial relationship with the Group, a new customer is offered the terms that are substantially tighter than those for the existing customers and stipulate, as a rule, the cash-on-delivery payments terms and no-re- turns policy (quality-related claims exempted). If the relationship progresses successfully, the terms are gradually relaxed to fall in line with the Group’s normal business practices and local specifics as required by the market. The Group’s periodic review includes external ratings, when available, and in some cases bank references. Purchase limits are established for each customer, which represents the maximum open amount without requiring approval from the CEO. These limits are reviewed quarterly. Customers that fail to meet the Group’s benchmark creditworthiness may transact with the Group on a prepayment basis only. Quantitative disclosures of the credit risk exposure in relation to Trade and other receivables, which are neither past due nor impaired, are made in note 18. The Group does not rate trade receivables by category or recoverability as the Group’s historical default rates have been negli- gible in the past (less than 0.01%); essentially all trade receivables due to the Group had been recovered. In the future, the default rate on trade receivables overdue is expected to remain stable or even fall because in Ukraine the Group deals increasingly with the modern-format re- tailers whose creditworthiness is conducive to the payment discipline required by the Group. Maximum exposure to the Trade and other receivables component of credit risk at the reporting date is the fair value of Trade and other receivables. There is no collateral held as security or other credit enhancements. The Group’s credit controllers monitor the utilisation of the credit limits on a daily basis by cus- tomer and apply the delivery stop orders immediately if the individual limits are exceeded. The Group’s procedure for recovery of the trade receivables past due includes the following steps: • • • identification of the date and exact amount of the receivable past due, termination of all further deliveries and forwarding to the customer of the details of the amount due and the notice of the failure to pay - 3 days after the past due date delivery to the customer of the formal claim for the amount overdue and the visit of the representative of the commercial credit control department to the customer premises- 2 weeks thereafter filing a claim to the commercial court for repayment of the amount overdue and late pay- UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 48 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 • ment fees - 2 weeks thereafter obtaining a court order for repayment of the amount due and collaboration with bailiff - 2 weeks thereafter. As a result of the credit control and risk assessment procedures, the Group does not expect any significant losses from non-performance by the counterparties at the reporting date from any of the financial instruments currently employed in the business. Credit risk also arises from cash and cash equivalents and deposits with banks and financial in- stitutions. The Group reviews the banks and financial institutions it deals with to ensure that standards of credit worthiness are maintained. Maximum exposure to the cash and cash equivalents and deposits with banks and financial in- stitutions component of credit risk at the reporting date is the fair value of the cash balances due from such banks and financial institutions. There is no collateral held as security or other credit enhancements. The Group does not enter into derivatives to manage credit risk, although in certain isolated cases may take steps to mitigate such risks if it is sufficiently concentrated. (d) Liquidity risk Liquidity risk is a function of the possible difficulty to be encountered in raising funds to meet financial obligations. The Group’s policy is to ensure that it will always have sufficient cash to enable it to meet its obligations as they fall due by maintaining the minimum cash balances and agreed overdraft facilities. The Group also seeks to reduce liquidity risk by fixing interest rates and hence cash flows on substantially all of its borrowings. The Group’s operating divisions (plants) have different liquidity requirement profiles. As the Group’s products have short- and long-cycled production, the liquidity risk of each plant is monitored and managed centrally by the Group Treasury function. Each plant has a cash facility based on cash budgets with the Group Treasury. The cash budgets are set locally and agreed by the CFO in advance. The main element of the Group’s liquidity management is to reduce liquidity risk by fixing interest rates and hence cash flows on substantially all of its long-term borrowings The CEO (and the Board, if requested) receives rolling quarterly cash flow projections on a monthly basis as well as information regarding the daily cash balances at each plant and over- all. In the ordinary course of business, the Group relies on a combination of the available over- draft facilities and cash balances to fund the on-going liquidity needs. Capital expenditures are usually funded though longer-term bank loans. In case of the inadequate cash balances and the overdraft facilities close to the agreed ceilings, the Group is expected to revert to the emer- gency funding made available through temporary freeze to the current portion of capital spend- ing, immediate operating cost reductions, postponement of payments to the third parties, and expansion of the overdraft ceilings. Although undesirable and never occurring in the past, such emergency funding is the last resort on which the Group may have to draw while ensuring the ongoing continuity of the business. Maturities of the Group’s financial instruments are disclosed further in the notes 18, 20, 21, 25 of these financial statements. (e) Market risk Market risk may arise from the Group’s use of interest bearing, tradable and foreign currency financial instruments. Market risk comprises fair value interest rate risk, foreign exchange risk and commodity price risk and is further assessed below: 49 (i) Cash flow and fair value interest-rate risk As the Group has no significant interest-bearing assets, the Group's income and operating cash flows are substantially independent of changes in market interest rates. The Group's interest- rate risk arises only from overdrafts, and is considered to be insignificant. The Group analyses the interest rate exposure on a monthly basis. A sensitivity analysis is performed by applying various interest rate scenarios to the borrowings at fixed rates. Various methods and assumptions are used in the analysis, in particular the like- lihood of the change in interest rates, supplementary (alternative) funding and the cost of ar- ranging the back-up funding facilities (As at 31 December 2010 the maximum exposure (impact on profit or loss and net assets) of a 700 basis-point shift (being the maximum reason- ably possible expectation of changes in interest rates) would be an increase of GBP 200,000 or a decrease of GBP 200,000 ). (ii) Foreign exchange risk All of the Group’s production facilities are located in Ukraine and the Board believes that the foreign exchange risk is minimal. The Group's international operations consist primarily of the export of milk powders to the various markets around the world. The primary currency for ex- port sales is the US Dollar. The Group's established corporate policy towards minimising the potential foreign exchange risk is to require the customers to pay for the export shipments of the skimmed milk powders in full and in advance. The Group’s purchases of the raw milk, semi-processed materials and other components of the manufacturing cost are made in Ukraine and are entirely Hryvnia-denominated. All outstanding balances of trade payable by the Group are in Hryvnias. Currency analysis is provided in note 30 Management believes that foreign exchange risk is immaterial at present and is likely to remain so in the future. No sensitivity analysis is required under circumstances. (iii) Commodity price risk The Ukraine economy has been characterized by high rates of inflation. The Group tends to ex- perience inflation-driven increase in certain of its costs, including salaries and rents, fuel costs which are sensitive to rises in the general price level in Ukraine. In this situation, due to com- petitive pressures, it may not able to raise the prices charged for products and services suffi- ciently to preserve operating margins. Accordingly, high rates of inflation in Ukraine could increase the Group's cost and decrease its operating margins. The Group controls the prices for branded products through timely changes of sales prices ac- cording to the market development and competition. The Group is also exposed to commodity price risk for skimmed milk powder. The price for this product is predominately determined by the world market and the activities of large inter- national trading companies in this market. Ukrproduct benefited from a favourable pricing envi- ronment in skimmed milk powder (“SMP”) in the first half of 2010, however the profitability of this segment has significantly deteriorated in the second half due to the correction in global prices of dairy commodities. A 10% change in the SMP prices would lead to the change in Gross Profit of GBP 500,000. However the Group’s management will not allow the loss-making as it has alternative ways of realizing the proteins such as sale of skimmed milk and production of hard cheese. The Group took measures in order to reduce its dependence on volatile commodity prices by increasing production of other products, which were more stable. (f) Operational risk Operational risk is a risk arising from systems failure, human error, fraud or external events. When controls fail to perform, operational risks can damage goodwill, have legal consequences UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 50 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 or lead to financial losses. The Group can not expect that all operational risks have been elimi- nated, but with the help of control system and by monitoring the reaction to potential risks, the Group may manage such risks. The control system provides an effective separation of duties, access rights, approval and verification, personnel training, and valuation procedures. 6. CAPITAL MANAGEMENT POLICIES The Group’s definition of the capital is ordinary share capital, share premium, accumulated re- tained earnings and other equity reserves. The Directors view their role as that of corporate guardians responsible for preservation and growth of the capital, as well as for generation of the adequate returns to shareholders. The Group’s objectives when maintaining and growing capital are: • • • to safeguard the Group's ability to continue as a going concern, so that it can continue to provide returns for shareholders and benefits for other stakeholders, to identify the appropriate mix of debt, equity and partner sharing opportunities in order to balance the highest returns to shareholders overall with the most advantageous timing of investment flows, to provide an adequate return to shareholders by delivering the products in demand by the customers at prices commensurate with the level of risk and expectations of shareholders. The Group sets the amount of capital it requires in proportion to risk. The Group manages its capital structure and makes adjustments to it in the light of changes in economic conditions and the risk characteristics of the current trading environment. The Group’s core assets consist predominantly of the property, plant and equipment – the resources that have proven their abil- ity to withstand the competitive erosion and inflationary pressure. In order to maintain or adjust the capital structure, the Group may issue new shares, adjust the amount of dividends paid to shareholders, repay the debt, return capital to shareholders or sell assets to improve the cash position. Historically, the first three methods were used to achieve and support the desired capital structure. The Group monitors capital on the basis of the net debt to equity ratio (D/E ratio). This ratio is calculated as net debt to shareholder equity. Net debt is calculated as total debt (as shown in the balance sheet) less cash and cash equivalents. Traditionally, the Group’s conservative strategy was to maintain the D/E ratio at 0.6 (60%) max- imum. In 2010, as well as in the prior years, the D/E ratio did not exceed this level. The Direc- tors believe that for the Group, as an operating company and a public entity, the maintenance of the prudent debt policy is crucial in preserving the capital of the business. Excessive lever- age – defined by the Group as D/E ratio in excess of 0.6 – could be justified only under excep- tional circumstances and requires the full Board’s consent. The D/E ratios at 31 December 2010 and at 31 December 2009 were as follows. Total debt Less: Cash and cash equivalents Net debt Total equity D/E ratio year ended 31 December 2010 £ ‘000 2,938 676 2,262 18,987 11.9% year ended 31 December 2009 £ ‘000 1,581 236 1,345 14,598 9.2% 51 7. SEGMENT INFORMATION At 31 December 2010, the Group was organised internationally into three main business seg- ments: 1) Branded product – (processed cheese, hard cheese, packaged butter and spreads) 2) Skimmed milk powder 3) Other (transport services and resale of third-party goods). The segment results for the year ended 31 December 2010 are as follows: Sales, Total Sales to internal customers Sales to external customers Gross profit Administrative expenses Selling and distribution expenses Other operating expenses Profit from operations Finance expenses, net Loss from exchange differences Profit before taxation Taxation Profit for the year Segment assets Unallocated corporate assets Unallocated deferred tax Consolidated total assets Segment liabilities Unallocated corporate liabilities Unallocated deferred tax Consolidated total liabilities Other segment information: Depreciation and amortisation Capital expenditure Branded products £ ‘000 81,331 49,503 31,828 6,550 (1,942) (2,471) (125) 2,012 - - 2,012 - 2,012 15,209 - - 15,209 1,027 - - 1,027 679 252 Skimmed milk powder £ ‘000 17,081 8,412 8,669 703 (272) (61) - 370 - - 370 - 370 2,662 - - 2,662 79 - - 79 288 107 Other Unallocated Total £ ‘000 13,069 8,546 4,523 418 (91) (105) - 222 - - 222 - 222 612 - - 612 147 - - 147 16 32 £ ‘000 - - - - (594) (64) (377) (1,035) (367) (5) (1,407) (103) (1,510) - 6,449 248 6 697 - 3,506 1,434 4,940 85 80 £ ‘000 111,481 66,461 45,020 7,671 (2,899) (2,701) (502) 1,569 (367) (5) 1,197 (103) 1,094 18,483 6,449 248 25,180 1,253 3,506 1,434 6,193 1,068 471 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 52 Sales, Total Sales to internal customers Sales to external customers Gross profit Administrative expenses Selling and distribution expenses Other operating expenses Profit from operations Finance expenses, net Loss from exchange differences Profit before taxation Taxation Profit for the year Segment assets Unallocated corporate assets Unallocated deferred tax Consolidated total assets Segment liabilities Unallocated corporate liabilities Unallocated deferred tax Consolidated total liabilities Other segment information: Depreciation and amortisation Capital expenditure UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 The segment results for the year ended 31 December 2009 are as follows: Branded products £ ‘000 72,757 42,893 29,864 6,480 (1,686) (2,218) - 2,576 - - 2,576 - 2,576 11,626 - - 11,626 933 - - 933 989 588 Skimmed milk powder £ ‘000 28,177 16,151 12,026 267 (210) (29) - 28 - - 28 - 28 1,661 - - 1,661 - - - - 280 110 Other Unallocated Total £ ‘000 8,138 6,861 1,277 182 (14) (24) - 144 - - 144 - 144 505 - - 505 - - - - 10 6 £ ‘000 - - - - (668) (330) 20 (978) (426) (249) (1,653) (54) (1,707) - 4,422 63 4,485 - 2,287 459 2,746 126 15 £ ‘000 109,072 65,905 43,167 6,929 (2,578) (2,601) 20 1,770 (426) (249) 1,095 (54) 1,041 13,792 4,422 63 18,277 933 2,287 459 3,679 1,405 719 The unallocated corporate liabilities represent bank loans, overdrafts and accruals. The basis of pricing of the inter-segment transfers is the current market price at which the goods could be bought on the spot market externally but not lower than the full production costs plus the accompanying transport expenses. Secondary reporting format – geographical segments: Sales by country (consignees) Ukraine Holland Germany Singapore Kazakhstan Azerbaijan Other countries Total year ended 31 December 2010 £ ‘000 38,040 2,377 1,529 1,058 676 383 957 45,020 year ended 31 December 2009 £ ‘000 30,827 4,480 1,810 1,366 1,141 793 2,750 43,167 The majority of the Group's assets and liabilities are in Ukraine. Sales to the countries in Eu- rope represent sales to international traders of milk powders located in Europe. These traders consequently resell the milk powders to other countries worldwide. The Group has no customers volume of sales to which exceeds 10% from the total amount. 53 8. REVENUE For the years ended 31 December 2010 and 31 December 2009, sales revenue was presented as follows year ended 31 December 2010 £ ‘000 year ended 31 December 2009 £ ‘000 General revenue Branded (including bonuses) Charge of bonuses Branded (excluding bonuses) SMP Other Total revenue (excluding bonuses) 45,721 32,529 (701) 31,828 8,669 4,523 45,020 43,679 30,375 (511) 29,864 12,026 1,277 43,167 Bonuses are compensation granted to the Group’s main customers within its distribution net- work. Bonuses are accounted for based on a fixed percentage of the product sold by customers who comprise retail networks and distributors. Cash compensation is paid on a periodic basis during the year. Sales by country (consignees) at end of 2010 Ukraine Germany Holland Other countries UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 54 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 9. EXPENSES BY NATURE For the years ended 31 December 2010 and 31 December 2009, items of expenses were pre- sented as follows: Cost of sales Including: Raw materials and consumables used, cost of goods sold, manufacture overheads etc. Wages and salaries, social security costs (Note 12) Depreciation (Note 11) Administrative exp Including: year ended 31 December 2010 £ ‘000 year ended 31 December 2009 £ ‘000 (37,349) (36,238) (34,468) (1,968) (913) (2,899) (32,867) (2,107) (1 264) (2,578) Wages and salaries, social security costs (Note 12) (1,348) (1,124) Lease and current repair and mainenance PR, nominated broker, secretary, legal services etc. Bank service Security Taxes and compulsory payments Communication Office expenses Audit fees Amortization and depreciation (Note 11) Other Selling and distribution Including: (286) (340) (175) (159) (122) (121) (74) (67) (58) (149) (2,701) Wages and salaries, social security costs (Note 12) (1,105) Delivery costs Lease and current repair and mainenance Promotion Amortization and depreciation (Note 11) Other Other operating exp Including: Profit from sale of foreign currencies Bad debts write-off Impairment of assets (as a result of revaluation) Amortization and depreciation (Note 11) Wages and salaries, social security costs (Note 12) Other (784) (469) (201) (48) (94) (502) 1 (128) (37) (49) (20) (269) (310) (317) (150) (160) (76) (110) (60) (73) (63) (135) (2,601) (890) (770) (430) (350) (40) (121) 20 264 (75) - (38) (29) (102) 55 10. FINANCIAL INCOME/(EXPENSES), NET For the years ended 31 December 2010 and 31 December 2009, financial income/(expenses) were presented as follows: year ended 31 December 2010 £ ‘000 year ended 31 December 2009 £ ‘000 Finance income Interest income on bank deposit Total interest income Finance expense Interest expense on bank loans Other finance expense Total finance expense Net finance expense recognised in income statement 20 20 (387) (387) (367) 1 1 (427) (427) (426) 11. AMORTIZATION AND DEPRECIATION For the years ended 31 December 2010 and 31 December 2009, amortization and depreciation were presented as follows: Cost of sales Administrative expenses Selling and distribution expenses Other operating expenses Total amortization and depreciation year ended 31 December 2010 £ ‘000 (913) (58) (48) (49) (1,068) year ended 31 December 2009 £ ‘000 (1,264) (63) (40) (38) (1,405) 12. EMPLOYEE BENEFIT EXPENSE For the years ended 31 December 2010 and 31 December 2009, employee benefit expense were presented as follows: Wages and salaries (including key management personnel) Social security costs Average number of employees Wages and salaries of operating personnel Wages and salaries of administrative personnel Wages and salaries of distribution personnel Wages and salaries of personnel related to other operating expenses year ended 31 December 2010 £ ‘000 (3,325) (1,116) (4,441) 1,857 year ended 31 December 2010 £ ‘000 (1,968) (1,348) (1,105) year ended 31 December 2009 £ ‘000 (3,132) (1,018) (4,150) 1,925 year ended 31 December 2009 £ ‘000 (2,107) (1,124) (890) (20) (4,441) (29) (4,150) Wages and salaries of key management personnel: For the year ended 31 December 2010, remuneration of the Group's key management person- nel amounted to GBP 250,000 (2009: GBP 247,000). The key management personnel are those persons remunerated by the Group who are mem- bers of the Board of Directors of the Company (Ukrproduct Group Ltd) and Senior Management. UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 56 13. INCOME TAX EXPENSES For the years ended 31 December 2010 and 31 December 2009, income tax expenses were presented as follows: Current tax charge – Ukraine Current tax charge – non-Ukraine Deferred tax relating to the origination and reversal of temporary differences Total income tax expenses year ended 31 December 2010 £ ‘000 82 38 year ended 31 December 2009 £ ‘000 72 18 (17) 103 (36) 54 Differences in treatment of certain elements of financial statements by IFRS and Ukrainian statutory taxation regulations give rise to temporary differences. The tax effect of the move- ment on these temporary differences is recognised at the rate of 25% (2009: 25%). The numerical reconciliation between tax charge and the product of accounting profit multi- plied by the applicable tax rate(s) is provided in the following table. year ended 31 December 2010 £ ‘000 year ended 31 December 2009 £ ‘000 Profit before tax: (1,263) Ukraine 1 Cyprus 2,459 Other (BVI, Jersey) Profit before tax, total 1,197 Tax calculated at domestic tax rates applicable to profits in the relevant countries - Ukraine (25%) 0.1 Cyprus (10%) - BVI, Jersey (0%) 0.1 Tax calculated at domestic tax rates applicable to net income not subject to tax and expenses not de- ductible for tax purposes Ukraine Cyprus BVI, Jersey (834) 584 1,345 1,095 - 58 - 58 36 (40) - (4) - 36 18 - 54 Nil 10% Nil 5.3% 65 38 - 103 - 65 38 - 103 Nil 10% Nil 0% Tax charge Ukraine Cyprus BVI, Jersey The weighted average applicable tax rate Ukraine Cyprus BVI, Jersey There are a number of laws related to various taxes imposed by both central and regional governmental authorities. Although laws related to these taxes have not been in force for sig- nificant periods, the practice of taxation and implementation of regulations are well established, documented with a sufficient degree of clarity and adhered to by the taxpayers. Nevertheless, there remain certain risks in relation to the Ukrainian tax system: few court precedents with re- gard to tax related issues exist; different opinions regarding legal interpretation may arise both among and within government ministries and regulatory agencies; tax compliance practice is subject to review and investigation by a number of authorities with overlapping responsibilities. UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 57 Generally, tax declarations remain subject to inspection for an indefinite period. In practice, however, the risk of retroactive tax assessments and penalty charges decreases significantly after three years. The fact that a year has been reviewed does not preclude the Ukrainian tax service performing a subsequent inspection of that year. The Group's management believes that it has adequately provided for tax liabilities in the ac- companying financial statements; however, the risk remains that those relevant authorities could take different positions with regard to interpretive issues. During the period under review, the Ukrainian companies within the Group paid royalties and interest charge on the outstanding credits and bonds to another Group company – Linkstar Limited (Cyprus). These payments were not taxable in Ukraine due to the existing Double Taxa- tion Treaty between Ukraine and Cyprus. 14. PROPERTY, PLANT AND EQUIPMENT In accordance with IAS 16 "Property, Plant and Equipment", the Group carries out revaluations on a regular basis and conducts a full valuation exercise if there is an indication of impairment. The Group carried out the revaluation of assets in 2010 at the effective valuation date of 31 Oc- tober 2010. The revaluation was carried out by independent appraisers “B.G.S-Assets” LLC (Ukraine) using different methods namely cost, comparables and the asset cash generating method. The revaluation resulted in the 49% appraisal of total assets. The recoverable amount of the cash-generating unit was determined on the basis of value-in use. The amount of value in use for the cash generating unit was determined on the basis of the most recent budget estimates prepared by management and application of the income ap- proach of valuation. Under the income approach, the discounted cash flow method has been applied with discount rate of 22.3%. As of January 1, 2010 the Group separated Plant and machinery used for production of hard and processed cheese into a separate asset group and applied to it the units of production method of depreciation. The basis for the change is as follows: • • • In 2010 a significant change in the expected structure of future economic benefits took place. It became clear that the equipment of the hard and processed cheese production units would be used less intensively than expected. The production method will ensure that the unit cost reflects the reality and the products are competitive on the market. There is no obsolescence of the equipment UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 58 Cost or valuation At 1 January 2009 Additions Transfers to/from AUC Exclusion from Group Disposals Exchange differences on translation to the presentation currency At 31 December 2009 Accumulated depreciation At 1 January 2009 Depreciation charge Exclusion from Group Disposals Exchange differences on translation to the presentation currency At 31 December 2009 Cost or valuation At 1 January 2010 Additions Gain on revaluation Transfers to/from AUC Exclusion from Group Disposals Exchange differences on translation to the presentation currency At 31 December 2010 Accumulated depreciation At 1 January 2010 Depreciation charge Gain on revaluation Exclusion from Group Disposals Exchange differences on translation to the presentation currency At 31 December 2010 Net book amount at 31 December 2010 Net book amount at 31 December 2009 Net book amount at 31 December 2008 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 As at 31 December 2010 and 31 December 2009, property, plant and equipment were pre- sented as follows: s g n d i l i u B d n a d n a L i y r e n h c a M d n a t n a P l f o d o h t e m n o i t c u d o r p r e d n u s t e s s a . l c n i i n o i t a c e r p e d r e d n u s t e s s A n o i t c u r t s n o C r e h t o d n a l s e c h e V i f o d o h t e m n o i t c u d o r p r e d n u s t e s s a . l c n i i n o i t a c e r p e d t n e m p u q e i l a t o T £ ‘000 £ ‘000 £ ‘000 £ ‘000 £ ‘000 £ ‘000 £ ‘000 191 585 (194) (2) - (107) 473 - - - - - - 473 471 164 (418) - (92) 14 612 - - 29 - - (0,1) 29 583 473 191 7,485 - - - (2) (856) 6,627 2,155 277 - - (335) 2,097 6,627 - 1,596 51 - (151) 201 8,324 2,097 295 246 - (22) 60 2,676 5,648 4,530 5,330 5,328 - 169 - (90) (635) 4,772 2,268 546 - (6) (312) 2,496 4,772 1 1,362 101 - 41 109 6,386 2,496 323 171 - (24) 40 3,006 3,380 2,276 3,060 2,962 - 76 - - (359) 2,680 1,234 335 - - (160) 1,408 2,680 - 742 24 - - 80 3,526 1,408 88 333 - - 42 1,871 1,655 1,271 - 4,103 120 25 (2) (183) (939) 3,124 2,157 516 (1) (136) (667) 1,869 3,124 45 1,918 266 - (233) 79 5,199 1,869 374 519 - (255) 40 2,547 2,652 1,255 1,946 434 - - - - (52) 382 51 71 - - (9) 113 382 - 147 5 - - 11 545 113 4 44 - - 3 164 381 269 - 17,107 705 - (4) (275) (2,537) 14,996 6,580 1,339 (1) (142) (1,314) 6,462 14,996 517 5,040 - - (435) 403 20,521 6,462 992 965 - (301) 140 8,258 12,263 8,534 10,527 Fixed assets with a net book value of GBP 9,036,176 at 31 December 2010 (GBP 6,507,967 at 31 December 2009) were pledged as collateral for loans. 15. INTANGIBLE ASSETS As at the reporting dates intangible assets were presented as follows: Computer software £ ‘000 Trade marks £ ‘000 Customer list £ ‘000 Goodwill £ ‘000 Cost or valuation At 1 January 2009 Additions Disposals Exchange differences on translation to the presentation currency At 31 December 2009 Accumulated amortisation At 1 January 2009 Amortisation charge for the year Disposals Exchange differences on translation to the presentation currency At 31 December 2009 Cost or valuation At 1 January 2010 Additions Disposals Exchange differences on translation to the presentation currency At 31 December 2010 Accumulated amortisation At 1 January 2010 Amortisation charge for the year Disposals Exchange differences on translation to the presentation currency At 31 December 2010 Net book amount at 31 December 2010 Net book amount at 31 December 2009 Net book amount at 31 December 2008 42 14 (1) (13) 42 24 9 (1) (11) 21 42 3 (6) 1 40 21 10 (5) 1 27 13 21 18 500 - - (44) 456 97 23 - (9) 111 456 - - 12 468 111 25 - 4 140 328 345 403 752 - - - 752 122 34 - 1 157 752 - - - 752 157 41 - (1) 197 555 595 630 104 - - - 104 - - - - - 104 - - - 104 - - - - - 104 104 104 59 Total £ ‘000 1,398 14 (1) (57) 1,354 243 66 (1) (19) 289 1,354 3 (6) 13 1,364 289 76 (5) 4 364 1,000 1,065 1,155 The remaining amortization periods of the intangible assets are as follows: • Computer software 3-7 years; • Trademarks 15 years; • Customer list 15 years. Acquired intangible assets and Goodwill. The intangible asset “Customer list” represents the captive individual suppliers of raw milk in the vicinity of Letichivsky Maslozavod OJSC and Zhmerinsky Maslosyrzavod LLC. In Ukraine, where about 80% of the entire milk comes from the individual producers, the existing supplier base is very important for the dairy producers and thus is valuable. The acquired asset “Cus- tomer list” was recognised in the accounts on the basis of the Purchase Price Allocation (PPA) exercise conducted within the 12-month period following the acquisitions of two plants. The asset was valued by an independent valuer Uvecon using the sales comparison method and de- preciated replacement cost (DRC) methods (for tangible assets) and income and cost advan- tage methods (intangible assets). UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 60 The Group regularly monitors the carrying value of its acquired intangible assets, goodwill and events or changes in circumstances that indicate there may be an impairment. The result of the review, undertaken at 31 December 2010, was that no impairment needs to be recognised and the carrying value of the acquired intangible assets and goodwill is considered appropriate. After having analysed all key factors the Group`s Management decided that as of December 31, 2010 the Goodwill of Letichiv Dairy Plant did not lose any of its value. Besides, this asset has unlimited useful life duration and has been tested as part of Group`s single cash generating unit. The Group`s production plans are based on the established practice of production and distribu- tion of dairy products in the raw material zone of Letichiv Dairy Plant and it foresees the use of this asset for an unlimited period of time. Maintenance of Goodwill does not require considerable costs and the Group does not plan such inputs in the future. Taking into consideration all the factors mentioned above, the Group`s Management does not see any reasons for Goodwill impairment as of December 31, 2010 and considers that the amount of GBP 0.1 million is its fair value. 16. DEFERRED TAX ASSETS AND LIABILITIES For the year ended 31 December 2010, deferred tax assets and liabilities were presented as fol- lows: As at 31 December 2010 £ ‘000 As at 31 December 2009 £ ‘000 Deffered tax asset at the beginning of the year Deffered tax liability at the beginning of the year Deferred tax asset recognised in income statement during the year Defered tax liability recognised in income statement during the year Increase in deferred tax due to increase in property, plant and equipment revaluation reserve Reduction in deferred tax due to decrease in property, plant and equipment revaluation reserve because of amortisation Exclusion from Group Exchange differences on translation to the presentation currency Deferred tax asset at the end of the year Deferred tax liability at the end of the year (63) - (184) - - - - (1) (248) - - 459 - (49) 1 028 (19) - 15 - 1 434 (117) - 42 - - - - 12 (63) - - 697 - (78) - (32) (14) (114) - 459 17. INVENTORIES As at the reporting dates inventories were presented as follows: Raw materials Work in progress Finished goods Other inventories As at 31 December 2010 £ ‘000 850 507 1,954 674 3,985 As at 31 December 2009 £ ‘000 722 28 1,206 489 2,445 Certain information in the note has been reclassified to conform with the presentation format adopted in the current year. The restatement has no effect on the financial results or financial position of the Group. UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 61 18. TRADE AND OTHER RECEIVABLES As at the reporting dates receivables (excluding non-financial assets) were presented as fol- lows: Trade receivables Other receivables As at 31 December 2010 £ ‘000 4,587 287 4,874 As at 31 December 2009 £ ‘000 4,221 43 4,264 The Group’s management believes that the carrying value for trade and other receivables is a reasonable approximation of their fair value. The amount of overdue but unimpaired accounts receivable is insignificant and is not disclosed in this note. There is concentration of credit risk due to high share (around 22%) of total trade receivables is being with three clients. Maturity of trade receivables as at 31 December 2010 and 31 December 2009 is presented as follows: In less then 1 year As at 31 December 2010 £ ‘000 4,874 4,874 As at 31 December 2009 £ ‘000 4,264 4,264 As at 31 December 2010, there were no trade and other receivables past due not impaired (2009: Nil) 19. CURRENT TAXES As at the reporting dates current taxes were presented as follows: VAT receivable Other prepaid taxes As at 31 December 2010 £ ‘000 1,091 3 1,094 As at 31 December 2009 £ ‘000 1,029 2 1,031 At the reporting date the Group has accumulated a substantial tax asset being VAT receivable. Management intends to recover this amount by way of offsetting it against VAT liabilities that will arise from the regular business activities during the first half of 2011 Loans and receivables Loans issued to related parties Loans issued to employees As at 31 December 2010 £ ‘000 141 79 220 As at 31 December 2009 £ ‘000 - 79 79 Loans issued are denominated in Hryvnia, are short term in nature, and are interest free. UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 62 21. CASH AND CASH EQUIVALENTS (EXCLUDING BANK OVERDRAFTS) As at the reporting dates cash and cash equivalents were presented as follows: Cash - in UAH Bank - in UAH Cash - in other currencies Bank - in other currencies As at 31 December 2010 £ ‘000 10 306 2 358 676 As at 31 December 2009 £ ‘000 7 162 2 65 236 As at 31 December 2010 short-term deposits (less than 3 months) were presented as follows: Bank Currency of deposit Interest rate Deposit opening date Deposit termination date Raiffeisen Bank Aval OJSC Raiffeisen Bank Aval OJSC UAH UAH 12%-15% 12%-15% 2010-06-16 2010-05-06 2011-06-17 2011-05-10 As at 31 December 2010 £ ‘000 1.2 1.6 2.8 22. SHARE CAPITAL As at the reporting dates share capital was presented as follows: Authorised As at 31 December 2010 Number '000 60,000 As at 31 December 2010 £ ‘000 6,000 As at 31 December 2009 Number '000 50,000 As at 31 December 2009 £ ‘000 5,000 By the special resolution of the AGM of July 5, 2010 the Group increased the authorised share capital from GBP 5,000,000 divided into 50,000,000 ordinary shares of ten pence (£0.10) nom- inal value each to GBP 6,000,000 divided into 60,000,000 ordinary shares of ten pence (£0.10) nominal value each. Issued and fully paid at beginning and end of the year As at 31 December 2010 Number '000 As at 31 December 2010 £ ‘000 As at 31 December 2009 Number '000 As at 31 December 2009 £ ‘000 41,068 (250) 40,818 4,107 (25) 4,082 42,818 (1,750) 41,068 4,282 (175) 4,107 As at 31 December 2010 Number '000 Held as treasury shares As at 31 December 2010 £ ‘000 As at 31 December 2009 Number '000 As at 31 December 2009 £ ‘000 1,750 250 2,000 175 25 200 - 1,750 1,750 - 175 175 Ordinary shares of 10p each Ordinary shares of 10p each At beginning of the year Own shares acquired At end of the year (excluding shares held as treasury shares) Ordinary shares of 10p each At beginning of the year Own shares acquired At end of the year UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 63 In December 2010 the Company acquired 250,000 ordinary shares of 10 pence each at 23 pence per share. These shares are held as treasury shares. The total consideration paid was GBP 57,500. As at 31 December 2010 the Company held a total of 2,000,250 Ordinary Shares as treasury shares and the total number of Ordinary Shares in issue (excluding shares held as treasury shares) was 40,817,599. 23. OTHER RESERVES At 1 January 2009 Own shares acquisition Depreciation on revaluation of property, plant and equipment Reduction of options reserve Exchange differences on translation to the presentation currency At 31 December 2009 Own shares acquisition Gain on revaluation of fixed assets Depreciation on revaluation of property, plant and equipment Reduction of revaluation reserve Exchange differences on translation to the presentation currency At 31 December 2010 Share premium £ '000 4,621 (33) - - - 4,588 (33) - - - - 4,555 Merger reserve £ '000 (1,427) - - - - (1,427) - - - - - (1,427) Share option reserve £ '000 24 - - Translation reserve £ '000 (3,823) - - Revaluation reserve £ '000 1,428 - (95) Total other reserves £ '000 823 (33) (95) (24) - - - - - - - - - (1,954) (5,777) - - - - 351 (5,426) - - (24) (1,954) 1,333 - 3,084 (50) (1) - 4,366 (1,283) (33) 3,084 (50) (1) 351 2,068 The following describes the nature and purpose of each reserve within owners’ equity. Reserve Share premium Revaluation Merger Share option Retained earnings Translation Description and purpose Amount subscribed for share capital in excess of nominal value. Gains arising on the revaluation of the Group’s property. The balance on this reserve is wholly undistributable. Losses arising on the application of the pooling of interests method of consolidation used to account for the merger of Ukrproduct Group Ltd and its subsidiaries. Amount arising from share based payments (issue of share options). Cumulative net gains and losses recognised in the consolidated in- come statement. Amount of all foreign exchange differences arising from the transla- tion of the financial information of foreign subsidiaries. 24. NON-CONTROLLING INTERESTS At 1 January Net profit for the period Decrease of Non-controlling interests At 31 December As at 31 December 2010 £ ‘000 30 (10) - 20 As at 31 December 2009 £ ‘000 82 (23) (29) 30 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 64 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 25. BANK LOANS AND OVERDRAFTS Bank loans include a secured 3-year credit line of up to UAH 40,000,000 (GBP 3,255,000) from OTP Bank CJSC denominated in Ukrainian Hryvnia (UAH) and US dollars (USD). As at 31 De- cember 2010 an amount of GBP 2,842,600 was drawn from this credit line (2009: GBP 1,574,000). The Group has an overdraft facility with Ukrsibbabnk of up to UAH 5,000,000 (GBP 406,800). As at 31 December 2010 an amount of GBP 96,100 was used from this overdraft. The Group also has an additional overdraft facility of UAH 1,900,000 (GBP 154,597) with Raiffeisen Bank Aval OJSC. As at December 31, 2010 the Group does not have any debt liability under this overdraft. The average interest rate as at 31 December 2010 was 19.5% (2009: 19.0%). This loan is se- cured by the assets of the company's subsidiaries: Invest Garantiya Private Enterprise, Milk in- vestments Private Enterprise and Starkon-Moloko LLC. Maturity of financial liabilities On demand In less then 1 year year ended year ended 31 December 2010 31 December 2009 £ ‘000 96 2,842 2,938 £ ‘000 7 1,574 1,581 Interest rate profile of financial liabilities Floating rate Fixed rate As at As at 31 December 2010 31 December 2009 £ '000 96 - 96 £ '000 - 2,842 2,842 £ ‘000 96 2,842 2,938 £ ‘000 7 1,574 1,581 On demand Expiry within 1 year The currency profile of the Group's financial liabilities is as follows: Floating rate Fixed rate Total as at Total as at liabilities £ '000 96 - 96 liabilities 31 December 2010 31 December 2009 £ '000 2,678 164 2,842 £ '000 2,775 164 2,938 £ '000 1,581 - 1,581 UAH USD The book value and fair value of financial liabilities are as follows: Book value as at Fair value as at Book value as at Fair value as at 31 December 2010 31 December 2010 31 December 2009 31 December 2009 Bank loans Bank overdrafts £ '000 2,842 96 2,938 £ '000 2,842 96 2,938 £ '000 1,574 7 1,581 £ '000 1,574 7 1,581 65 26. TRADE AND OTHER PAYABLES Trade payables Other payables Prepayments received Accruals As at 31 December 2009 £ ‘000 1,190 113 52 220 1,575 The Group’s management believes that the carrying value for trade and other payables is a rea- sonable approximation of their fair value. As at 31 December 2010 £ ‘000 1,052 204 204 255 1,715 27. EARNINGS PER SHARE Basic earnings per share has been calculated by dividing net profit attributable to the ordinary shareholders by the weighted average number of shares in issue. year ended 31 December 2010 £ ‘000 1,104 41,052,531 2.69 41,052,531 2.69 year ended 31 December 2009 £ ‘000 1,064 41,997,869 2.5 41,997,869 2.5 Net profit attributable to ordinary shareholders Weighted number of ordinary shares in issue Basic earnings per share, pence Diluted average number of shares Diluted earnings per share, pence 28. DIVIDENDS As at April 1, 2011, the Board of Directors proposed the final dividend payment of 0.50 pence per ordinary share for the full year ended December 31, 2010 in the amount of GBP 210,000. If approved at the AGM, the final dividend will be paid on June 24, 2011 to the shareholders on the register as at May 20, 2011. No tax consequences for the Group will arise out of this transaction as the Group’s parent com- pany is an entity registered under Jersey laws. year ended 31 December 2010 £ ‘000 year ended 31 December 2009 £ ‘000 Final dividend for 2009 of 0.20 pence (2008 - 0.40 pence) per ordinary share proposed and paid during the year relating to the previous year's results Interim dividend for 2009 of 0.20 pence per ordinary share paid during the year 82 - 82 172 82 254 The final dividend for the year ended 31 December 2010 has not been accrued at the reporting date. UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 29. SHARE-BASED PAYMENTS The Company operates an equity-settled share based remuneration scheme for employees. 2010 Weighted average exercise price 2010 2009 Weighted average exercise price 2009 £ Number £ Number Outstanding at beginning of the year Granted during the year Forfeited during the year Exercised during the year Lapsed during the year Outstanding at the end of the year Exercisable at the end of the year 0.128 130,290 - - - - 0.128 0.128 - - - - 130,290 130,290 0.570 0.128 - - 0.570 0.128 0.128 130,290 130,290 - - 130,290 130,290 130,290 During the period under review the Company did not grant options to any parties. All options granted to the Directors are exercisable over a period of four years. Taking into account the fair value of options granted estimated at the grant date no remunera- tion charge was recognised in statement of comprehensive income in 2010. The fair value of options granted in 2009 was calculated based on the following data Item Option pricing model used Weighted average share price at the grant date Exercise price Weighted-average contractual life, years Expected volatility Expected dividend yield Expected dividehd growth rate Weighted-average risk-free interest rate 2009 Adjusted Black-Scholes 0.1275 0.1280 4.0 25% 5% 0% 1.9% 66 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 Assets Trade and other receivables Current taxes Other financial assets Cash and cash equivalents Total assets Liabilities Bank loans and overdrafts Trade and other payable Taxes payable Current income tax liabilities Total Liabilities Assets Trade and other receivables Current taxes Other financial assets Cash and cash equivalents Total assets Liabilities Bank loans and overdrafts Trade and other payable Taxes payable Current income tax liabilities Total Liabilities 67 30. CURRENCY ANALYSIS Currency analysis for the year ended 31 December 2010 is set out below: UAH USD RUR GBP EUR Total 4,986 1,094 220 315 6,615 2,938 1,498 38 68 4,542 598 - - 318 916 - 64 - - 64 - - - - - - 97 - - 97 - - - 43 43 - - - - - 21 - - - 21 - 56 - - 56 5,605 1,094 220 676 7,595 2,938 1,715 38 68 4,759 Currency analysis for the year ended 31 December 2009 is set out below: UAH USD RUR GBP EUR Total 4,310 1,031 79 170 5,590 1,581 1,506 32 32 3,151 425 - - 17 442 - - - - - - - - - - - - - - - 3 - - 40 43 - - - - - - - - 9 9 - 69 - - 69 4,738 1,031 79 236 6,084 1,581 1,575 32 32 3,220 10 % strengthening of Hryvnia rate against the following currencies as at 31 December 2010 and 2009, would increase (decrease) the amount of profits (or losses) for the period by the amounts mentioned below. This analysis was conducted based on the assumption that all other variables, in particular, interest rates, remained unchanged. The change of GBP exchange rate does not have impact on the result as all the balances in GBP are attributable to the Group’s companies where GBP is a functional currency. Increase/ decrease Effect on income Effect on income in rate before tax in 2010 before tax in 2009 £ ‘000 £ ‘000 10% 10% 10% -10% -10% -10% 85 (4) (10) (85) 4 10 44 (6) - (44) 6 - USD EUR RUR USD EUR RUR UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 68 UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 31. RELATED PARTY TRANSACTIONS Parties are considered to be related if one party has the ability to control the other party or ex- ercise significant influence over the other party in making financial or operational decisions as defined by IAS 24 "Related Party Disclosures". In considering each possible related party rela- tionship, attention is directed to the substance of the relationship, not merely the legal form. Transactions and balances between the Group companies and other related parties are set out below. Remuneration of key management personnel is disclosed in note 12. Sales of goods and services to related parties and purchases from related parties are sum- marised below. All sales and purchases were with related parties under common control of the ultimate beneficiaries of the Company. Sales Other operational incomes Purchase year ended 31 December 2010 £ ‘000 504 33 (678) year ended 31 December 2009 £ ‘000 143 - (108) Balances due from/(to) related parties at each period end are shown below. Receivables and prepayments Loans issued Trade and other payable As at 31 December 2010 £ ‘000 252 141 (205) As at 31 December 2009 £ ‘000 113 - (51) In 2010, the Group’s commercial relationships with the related parties comprised sales, pur- chases, provision, issue and repayment of loans. The terms and conditions for the contracts with the related parties were similar to the terms and conditions applied in dealings with unre- lated parties. There were no guarantees given to or provided by from the Group to related par- ties and vice versa. The ultimate controlling owners and beneficiaries of the related parties were Messrs Alexander Slipchuk and Sergey Evlanchik. 32. COMMITMENTS AND CONTINGENCIES (a) Economic environment The Group carries out most of its operations in Ukraine. Laws and other regulatory acts affect- ing the activities of Ukrainian enterprises may be subject to changes and amendments within a short period of time. As a result, assets and operating activity of the Group may be exposed to the risk in case if any unfavorable changes take place in political and economic environment. (b) Taxation As a result of the unstable economic environment in Ukraine the Ukrainian tax authorities pay increasing attention to business communities. In this regard, local and national tax legislation are constantly changing. Provisions of various legislative and regulatory legal acts are not al- ways clearly-worded, and their interpretations depend on opinion of tax authority officers and the Ministry of Finance. It is a common practice when disagreements between local, regional 69 and republican taxation authorities take place. A system of fines and penalties for claimed or revealed violations exists in corresponding regulatory legal acts, laws and decisions. Penalties include confiscation of amount in dispute (in case of law violation) and as well as fees. These facts create tax risks, that is, that the Group may therefore be exposed to the risk of additional tax liabilities, fines and penalties. These risks far exceed risks in the countries with advanced tax systems. (c) Retirement and other liabilities Employees of the Group receive pension benefits from the Pension Fund, a Ukrainian Govern- ment organization in accordance with the applicable laws and regulations of Ukraine. The Group is required to contribute a specified percentage of the payroll to the Pension Fund to fi- nance the benefits. The only obligation of the Group with respect to this pension plan is to make the specified contributions from salaries. As at 31 December 2010 and 2009 the Group's had no liabilities for supplementary pensions, health care, insurance benefits or retirement in- demnities to its current or former employees. The amount of uncancellable lease commitments is insignificant. As of December 31, 2010 the Group does not possess any finance lease and hire purchase commitments, capital commitments and guarantees. As at 31 December 2010 the Company had an outstanding legal claim to Starokonstantinovskiy Dairy plant from the tax authorities amounting to GBP 1,270,000. As of the date of this report the claim is considered by the court of appeal. The court of first appearance pronounced in favor of the Company. Company’s management does not see any risks of material cash out- flow. 33. SUBSEQUENT EVENTS In 2011 the Group sold the assets of Zhmerinsky Maslosyrzavod LLC. The result of this trans- action will be reflected in the financial statements for 2011 year. The Ukrainian government has adopted a new Tax Code. Effective April 1, 2011, expenses in- curred by legal entities for the purchase of goods and services from private entrepreneurs, such as small wholesale customers of Ukrproduct, who pay a unified tax (a lump sum), will not be deductible for the purpose of calculating corporate profit tax. The Group believes that the level of bad debt in 2011 may increase, compared to 2010, as certain small wholesale cus- tomers of the Group may experience significant working capital constraints. UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 C O R P O R A T E A D V I S E R S A N D S H A R E H O L D E R I N F O R M A T I O N 71 Jersey legal advisers Bedell Cristin PO Box 75 26 New Street St Helier Jersey JE2 3RA Principal bankers Deutsche Bank International Limited PO Box 727 St. Paul’s Gate New Street St Helier Jersey JE4 8ZB Registrars Capita Registrars The Registry 34 Beckenham Road Beckenham Kent BR3 4TU CORPORATE ADVISERS Company secretary Bedell Secretaries Limited PO Box 75 26 New Street St Helier Jersey JE2 3RA Nominated adviser W H Ireland Limited 11 St James’s Square Manchester M2 6WH Nominated broker Metropol (UK) Limited Princes House 38 Jermyn street London, SW1Y 6DN Independent auditors Baker Tilly Channel Islands Limited PO Box 437 13 Caste Street St Helier Jersey JE4 0ZE UK legal advisers Cobbetts 70 Gray’s Inn Road London WC1X 8BT UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 72 SHAREHOLDER INFORMATION Registered office PO Box 75 26 New Street St Helier Jersey JE2 3RA Registered number 88352 in Jersey Financial Calendar Date Event 31 December 2010 Financial year end 5 April 2011 9 June 2011 24 June 2011 Announcement of full year 2010 results Annual General Meeting Final Dividend Payment Analysis of shareholding – at 31 December 2010 Size of shareholdings Number of holders % of total Total holdings, shares % of total 9 23 19 11 62 14.5% 37.0% 30.7% 17.8% 100% 14,165 456,661 2,203,620 38,143,153 40,817, 599 0.01% 1.1% 5.4% 93.5% 100.0% The ultimate controlling parties of Ukrproduct Group Ltd are Messrs Sergey Evlanchik and Alexander Slipchuk who collectively controlled, as of 31 December 2010, 68.51% of the com- mon shares of the Company. Share price (pence) – year to 31 December 2010 At end of year: 24 p Lowest: 22.5 p Highest: 41.2 p Administrative enquiries All enquiries relating to individual shareholder matters should be made to the registrar at: Capita Registrars Shareholders Services Department, The Registry, 34 Beckenham Road, Beck- enham, Kent, BR3 4TU. The registrar will assist with enquiries regarding any change of circum- stances (e.g. name, address, bank account details, bereavement, lost certificates, dividend payment and transfer of shares). All correspondence should be clearly marked “Ukrproduct Group Ltd” and quote the full name and address of the registered holder of the shares. Share- holder information, together with a range of online services for Ukrproduct Group Ltd shareholders is also available at the registrar’s website www.capitaregistrars.com. Investor Relations The PBN Company – Ukraine Media Public Relations 10G Starokyivska Street 04655, Kyiv, Ukraine Tel. +38 044 586 63 50 Email: oksana.monastyrska@pbn.kiev.ua The PBN Buchanan Financial Public Relations 45 Moorfields London EC2Y9AE, UK Tel. + 44 (0) 20 7466 5000 E-mail: laura.citron@pbn.ru Up to 5,000 shares 5,001 to 50,000 shares 50,001 to 200,000 shares Over 200,000 shares Total UKRPRODUCT GROUP LTD ANNUAL REPORT 2010 

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