IMPORTANT NOTICE NOT FOR DISTRIBUTION TO ANY U.S. PERSON OR TO ANY PERSON OR ADDRESS IN THE U.S. IMPORTANT: You must read the following before continuing. The following applies to the prospectus following this page and you are therefore advised to read this carefully before reading, accessing or making any other use of the prospectus. In accessing the prospectus, you agree to be bound by the following terms and conditions, including any modifications to them any time you receive any information from us as a result of such access. NOTHING IN THIS ELECTRONIC TRANSMISSION CONSTITUTES AN OFFER TO SELL OR THE SOLICITATION OF AN OFFER TO BUY THE SECURITIES OF THE ISSUER IN THE UNITED STATES OR ANY OTHER JURISDICTION WHERE IT IS UNLAWFUL TO DO SO. THE SECURITIES HAVE NOT BEEN, AND WILL NOT BE, REGISTERED UNDER THE U.S. SECURITIES ACT OF 1933, AS AMENDED (THE SECURITIES ACT), OR THE SECURITIES LAWS OF ANY STATE OF THE U.S. OR OTHER JURISDICTION AND THE SECURITIES MAY NOT BE OFFERED OR SOLD WITHIN THE U.S. OR TO, OR FOR THE ACCOUNT OR BENEFIT OF, U.S. PERSONS (AS DEFINED IN REGULATION S UNDER THE SECURITIES ACT), EXCEPT PURSUANT TO AN EXEMPTION FROM, OR IN A TRANSACTION NOT SUBJECT TO, THE REGISTRATION REQUIREMENTS OF THE SECURITIES ACT AND APPLICABLE STATE OR LOCAL SECURITIES LAWS. THE FOLLOWING PROSPECTUS MAY NOT BE FORWARDED OR DISTRIBUTED TO ANY OTHER PERSON AND MAY NOT BE REPRODUCED IN ANY MANNER WHATSOEVER, AND IN PARTICULAR, MAY NOT BE FORWARDED TO ANY U.S. PERSON OR TO ANY U.S. ADDRESS. ANY FORWARDING, DISTRIBUTION OR REPRODUCTION OF THIS DOCUMENT IN WHOLE OR IN PART IS UNAUTHORISED. FAILURE TO COMPLY WITH THIS DIRECTIVE MAY RESULT IN A VIOLATION OF THE SECURITIES ACT OR THE APPLICABLE LAWS OF OTHER JURISDICTIONS. This prospectus has been delivered to you on the basis that you are a person into whose possession this offering circular may be lawfully delivered in accordance with the laws of the jurisdiction in which you are located. By accessing the prospectus, you shall be deemed to have confirmed and represented to us that (a) you have understood and agree to the terms set out herein, (b) you consent to delivery of the prospectus by electronic transmission, (c) you are not a U.S. person (within the meaning of Regulation S under the Securities Act) or acting for the account or benefit of a U.S. person and the electronic mail address that you have given to us and to which this e-mail has been delivered is not located in the United States, its territories and possessions (including Puerto Rico, the U.S. Virgin Islands, Guam, American Samoa, Wake Island and the Northern Mariana Islands) or the District of Columbia and (d) if you are a person in the United Kingdom, then you are a person who (i) has professional experience in matters relating to investments or (ii) is a high net worth entity falling within Article 49(2)(a) to (d) of the Financial Services and Markets Act (Financial Promotion) Order 2005. This prospectus has been sent to you in an electronic form. You are reminded that documents transmitted via this medium may be altered or changed during the process of electronic transmission and consequently neither SSB No. 1 PLC, Joint Stock Company ‘‘State Savings Bank of Ukraine’’, Credit Suisse Securities (Europe) Limited (Credit Suisse), Morgan Stanley & Co. International plc (together with Credit Suisse, the Lead Managers) nor any person who controls any of them nor any director, officer, employee nor agent of any of them or affiliate of any such person accepts any liability or responsibility whatsoever in respect of any difference between the prospectus distributed to you in electronic format and the hard copy version available to you on request from the Lead Managers. Proof7:3.3.11 U.S.$500,000,000 8.25 per cent. loan participation notes due 2016 issued by, but without recourse to, SSB No.1 PLC (incorporated under the laws of England and Wales) on a limited recourse basis for the sole purpose of financing a U.S.$500,000,000 loan to JOINT STOCK COMPANY ‘‘STATE SAVINGS BANK OF UKRAINE’’ (incorporated under the laws of Ukraine) Issue Price: 100 per cent. SSB No. 1 Plc., incorporated under the laws of England and Wales (the Issuer or the Lender), is issuing an aggregate principal amount of U.S.$500,000,000 8.25 per cent. loan participation notes due 2016 (the Notes) for the sole purpose of financing a five year loan (the Loan) to Joint Stock Company ‘‘State Savings Bank of Ukraine’’ (the Borrower or the Bank) pursuant to a loan agreement dated 4 March 2011 (the Loan Agreement) between the Issuer and the Borrower. The Notes will be constituted by, and have the benefit of, a trust deed dated 4 March 2011 (the Trust Deed) between the Issuer and BNY Corporate Trustee Services Limited as trustee (the Trustee). Pursuant to the Trust Deed, the Issuer will charge in favour of the Trustee, for the benefit of the holders of the Notes (the Noteholders) as security for its payment obligations in respect of the Notes, (a) its right as lender to all payments under the Loan Agreement and (b) amounts received pursuant to the Loan in an account of the Issuer, in each case other than in respect of the Reserved Rights (as defined in ‘‘Terms and Conditions of the Notes’’). See ‘‘Description of the Transaction’’. The Issuer will also assign certain of its administrative rights under the Loan Agreement to the Trustee. The Notes are limited recourse obligations of the Issuer. In each case where amounts are stated to be payable in respect of the Notes, the obligation of the Issuer to make any such payment shall constitute an obligation only to account to the Noteholders, on each date upon which such amounts are due in respect of the Notes, for all amounts, if any, actually received and retained by or for the account of the Issuer pursuant to the Loan Agreement less amounts in respect of the Reserved Rights: any shortfall will remain due but will be deferred and (unless sufficient additional amounts are received under the Loan) ultimately written off. The Issuer will have no other financial obligation under the Notes. Noteholders will be deemed to have accepted and agreed that they will be relying solely and exclusively on the credit and financial standing of the Borrower in respect of the financial servicing of the Notes. Interest on the Notes will be payable semi-annually in arrear in equal instalments on 10 September and 10 March in each year commencing on 10 September 2011 as described under ‘‘Terms and Conditions of the Notes – Interest’’. The Issuer shall account to Noteholders for an amount equivalent to amounts of interest actually received by or for the account of the Issuer pursuant to the Loan Agreement, which interest under the Loan is equal to 8.25 per cent. per annum. Except as set forth herein, payments in respect of the Notes will be made without any deduction or withholding for or on account of taxes of the Ukraine or the United Kingdom (save as required by law). See ‘‘Taxation’’. This Prospectus has been approved by the Central Bank of Ireland (the Central Bank) as competent authority under the Directive 2003/ 71/EC (the Prospectus Directive). The Central Bank only approves this Prospectus as meeting the requirements imposed under Irish and EU law pursuant to the Prospectus Directive. Application has been made to the Irish Stock Exchange (the Irish Stock Exchange) for the Notes to be admitted to the Official List (the Official List) and trading on its regulated market. This Prospectus constitutes a ‘‘prospectus’’ for the purpose of the Prospectus (Directive 2003/71/EC) Regulations 2005 (the Prospectus Regulations) (which implement the Prospectus Directive in Ireland). Reference in this Prospectus to being ‘‘listed’’ (and all date references) shall mean that such Notes have been admitted to trading on the regulated market of the Irish Stock Exchange. AN INVESTMENT IN THE NOTES INVOLVES A HIGH DEGREE OF RISK. INVESTORS SHOULD CAREFULLY CONSIDER THE RISK FACTORS BEGINNING ON PAGE 11 OF THIS PROSPECTUS BEFORE INVESTING IN THE NOTES. THE NOTES AND THE LOAN HAVE NOT BEEN, AND WILL NOT BE, REGISTERED UNDER THE UNITED STATES SECURITIES ACT OF 1933, AS AMENDED (THE SECURITIES ACT), OR WITH ANY SECURITIES REGULATORY AUTHORITY OF ANY STATE OF OTHER JURISDICTION OF THE UNITED STATES. THE NOTES MAY NOT BE OFFERED OR SOLD WITHIN THE UNITED STATES OR TO, OR FOR THE ACCOUNT OR BENEFIT OF, U.S. PERSONS EXCEPT PURSUANT TO AN EXEMPTION FROM, OR IN A TRANSACTION NOT SUBJECT TO, THE REGISTRATION REQUIREMENTS OF THE SECURITIES ACT. THE NOTES ARE BEING OFFERED AND SOLD OUTSIDE THE UNITED STATES TO NON U.S. PERSONS IN RELIANCE ON REGULATION S UNDER THE SECURITIES ACT (REGULATION S)). FOR A DESCRIPTION OF THE RESTRICTIONS ON OFFERS, SALES AND TRANSFERS OF THE NOTES AND THE DISTRIBUTION OF THE PROSPECTUS, SEE ‘‘SUBSCRIPTION AND SALE’’. The Notes are expected on issue to be rated B by Fitch Deutschland GmbH and B2 by Moody’s Investors Service, Inc. (Moody’s). Moody’s and Fitch Deutschland GmbH have also issued ratings in respect of the Bank as set out in this Prospectus. Moody’s, Fitch Ratings Ltd. and Standard & Poor’s Credit Market Services Europe Limited (S&P) have also issued ratings in respect of Ukraine. A rating is not a recommendation to buy, sell or hold securities and may be subject to revision, suspension or withdrawal at any time by the assigning rating organisation. The Notes will be issued in registered form in denominations of U.S.$200,000 and integral multiples of U.S.$1,000 in excess thereof. The Notes will be represented by a global registered note certificate (the Global Note Certificate) registered in the name of The Bank of New York Depository (Nominees) Limited as nominee for and deposited with a common depositary for Euroclear Bank S.A./N.V. (Euroclear) and Clearstream Banking, société anonyme (Clearstream, Luxembourg) on or about 10 March 2011 (the Issue Date). Individual note certificates (Individual Note Certificates) evidencing holdings of Notes will be available only in certain limited circumstances described under ‘‘Summary of Provisions Relating to the Notes in Global Form’’. Lead Managers Credit Suisse Morgan Stanley The date of this Prospectus is 4 March 2011 This Prospectus constitutes a prospectus for the purpose of Article 5 of the Prospectus Directive and for the purpose of giving information with regard to the Issuer, the Borrower and its unconsolidated subsidiaries taken as a whole (the Group) and the Notes which, according to the particular nature of the Issuer, the Borrower and the Notes, is necessary to enable prospective investors to make an informed assessment of the assets and liabilities, financial position, profit and losses and prospects of the Issuer and the Borrower and of the rights attaching to the Notes. None of the Lead Managers, the Trustee nor any of their directors, affiliates, advisers or agents has made an independent verification of the information contained in this Prospectus in connection with the issue or offering of the Notes and no representation or warranty, express or implied, is made by the Lead Managers, the Trustee or any of their directors, affiliates, advisers or agents with respect to the accuracy or completeness of such information. Nothing contained in this Prospectus is, is to be construed as, or shall be relied upon as, a promise, warranty or representation, whether to the past or the future, by the Lead Managers, the Trustee or any of their respective directors, affiliates, advisers or agents in any respect. The contents of this Prospectus are not, are not to be construed as, and should not be relied on as, legal, business or tax advice and each prospective investor should consult its own legal and other advisers for any such advice relevant to it. The Borrower accepts responsibility for the information contained in this Prospectus. To the best of the knowledge of the Borrower (which have taken all reasonable care to ensure that such is the case), the information contained in this Prospectus is in accordance with the facts and contains no omission likely to affect the import of such information. The Issuer accepts responsibility in respect of the information contained in the section entitled ‘‘The Issuer’’ only. To the best of the knowledge of the Issuer (which has taken all reasonable care to ensure that such is the case), the information contained in the section entitled ‘‘The Issuer’’ is in accordance with the facts and contains no omission likely to affect the import of such information. No person is authorised to give any information or make any representation not contained in this Prospectus in connection with the issue and offering of the Notes and, if given or made, such information or representation must not be relied upon as having been authorised by any of the Issuer, the Borrower, the Trustee or the Lead Managers or any of their directors, affiliates, advisers or agents. The delivery of this Prospectus does not imply that there has been no change in the business and affairs of the Issuer or the Borrower since the date hereof or that the information herein is correct as of any time subsequent to its date. This Prospectus does not constitute an offer to sell or a solicitation of an offer to buy the Notes by any person in any jurisdiction where it is unlawful to make such an offer or solicitation. The distribution of this Prospectus and the offering or sale of the Notes in certain jurisdictions is restricted by law. This Prospectus may not be used for, or in connection with, and does not constitute, any offer to, or solicitation by, anyone in any jurisdiction or under any circumstance in which such offer or solicitation is not authorised or is unlawful. In particular, this Prospectus is only being distributed to and is only directed at (i) persons who are outside the United Kingdom or (ii) to investment professionals falling within Article 19(5) of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005 (the Order) or (iii) high net worth entities, and other persons to whom it may lawfully be communicated, falling within Article 49(2)(a) to (d) of the Order (all such persons together being referred to as ‘‘relevant persons’’). The Notes are only available to, and any invitation, offer or agreement to subscribe, purchase or otherwise acquire such Notes will be engaged in only with, relevant persons. Any person who is not a relevant person should not act or rely on this document or any of its contents. Persons into whose possession this Prospectus may come are required by the Issuer, the Borrower, the Trustee and the Lead Managers to inform themselves about and to observe such restrictions. Further information with regard to restrictions on offers, sales and deliveries of the Notes and the distribution of this Prospectus and other offering material relating to the Notes is set out under ‘‘Subscription and Sale’’ and ‘‘Summary of Provisions Relating to the Notes in Global Form’’. This Prospectus has been filed with and approved by the Central Bank as required by the Prospectus Regulations. The Prospectus, as approved by the Central Bank, will be filed with the Irish Companies Registration Office in accordance with Regulation 38(l)(b) of the Prospectus Regulations. THE NOTES ARE NOT GUARANTEED BY, AND DO NOT CONSTITUTE THE OBLIGATION OF, UKRAINE (UKRAINE OR THE STATE), EITHER DIRECTLY OR ACTING THROUGH ANY STATE AUTHORITY, NOR DOES UKRAINE HAVE ANY RESPONSIBILITY TO FACILITATE ENFORCEMENT IN THE EVENT OF A DEFAULT ON THE NOTES. c104221pu010Proof7:3.3.11B/LRevision:0OperatorChoD 2 Any investment in the Notes does not have the status of a bank deposit and is not within the scope of the deposit protection scheme operated by the Central Bank. The Issuer is not now and will not in the future be regulated by the Central Bank as a result of issuing the Notes. IN CONNECTION WITH THE ISSUE OF THE NOTES, CREDIT SUISSE SECURITIES (EUROPE) LIMITED AS THE STABILISING MANAGER (THE STABILISING MANAGER), FOR ITS OWN ACCOUNT (OR PERSONS ACTING ON BEHALF OF THE STABILISING MANAGER) MAY OVER ALLOT NOTES OR EFFECT TRANSACTIONS WITH A VIEW TO SUPPORTING THE MARKET PRICE OF THE NOTES AT A LEVEL HIGHER THAN THAT WHICH MIGHT OTHERWISE PREVAIL. HOWEVER, THERE IS NO ASSURANCE THAT THE STABILISING MANAGER (OR PERSONS ACTING ON BEHALF OF THE STABILISING MANAGER) WILL UNDERTAKE STABILISING ACTION. ANY STABILISING ACTION MAY BEGIN ON OR AFTER THE DATE ON WHICH ADEQUATE PUBLIC DISCLOSURE OF THE TERMS OF THE OFFERING OF THE NOTES IS MADE AND, IF BEGUN, MAY BE ENDED AT ANY TIME, BUT IT MUST END NO LATER THAN THE EARLIER OF 30 DAYS AFTER THE DATE OF THE ISSUE OF THE NOTES OR 60 DAYS AFTER THE DATE OF THE ALLOTMENT OF THE NOTES. ANY STABILISATION ACTION OR OVER ALLOTMENT SHALL BE CONDUCTED IN ACCORDANCE WITH ALL APPLICABLE LAWS AND RULES. The language of the Prospectus is English. Certain legislative references and technical terms have been cited in their original language in order that the correct technical meaning may be ascribed to them under applicable law. c104221pu010Proof7:3.3.11B/LRevision:0OperatorChoD 3 TABLE OF CONTENTS Page FORWARD-LOOKING STATEMENTS................................................................................ ENFORCEABILITY OF JUDGMENTS................................................................................. 5 6 RESPONSIBILITY STATEMENT .......................................................................................... PRESENTATION OF FINANCIAL AND OTHER INFORMATION ................................ 7 8 OVERVIEW .............................................................................................................................. 9 RISK FACTORS....................................................................................................................... THE OFFERING...................................................................................................................... 11 46 DESCRIPTION OF THE TRANSACTION ........................................................................... USE OF PROCEEDS ............................................................................................................... 50 51 CAPITALISATION AND INDEBTEDNESS ......................................................................... 52 SELECTED FINANCIAL AND OPERATING INFORMATION ....................................... MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS................................................................................... 53 BUSINESS................................................................................................................................. MANAGEMENT STRUCTURE............................................................................................. 74 97 ASSET, LIABILITY AND RISK MANAGEMENT .............................................................. SELECTED STATISTICAL INFORMATION ....................................................................... 101 114 RELATED PARTY AND GOVERNMENT RELATED TRANSACTIONS ....................... 126 THE ISSUER ............................................................................................................................ THE LOAN AGREEMENT .................................................................................................... 127 129 TERMS AND CONDITIONS OF THE NOTES .................................................................... SUMMARY OF PROVISIONS RELATING TO THE NOTES IN GLOBAL FORM........ 158 173 SUBSCRIPTION AND SALE.................................................................................................. 175 TAXATION............................................................................................................................... GENERAL INFORMATION .................................................................................................. 178 182 56 APPENDIX 1. THE BANKING SECTOR AND BANKING REGULATIONS IN UKRAINE........... A1-A6 FINANCIAL STATEMENTS AUDITED CONDENSED INTERIM FINANCIAL INFORMATION FOR THE NINE MONTHS ENDED 30 SEPTEMBER 2010......................................................................... AUDITED FINANCIAL STATEMENTS FOR THE YEARS ENDED 31 DECEMBER 2009 AND 2008..................................................................................................................... 4 F1-F64 F65-F128 FORWARD-LOOKING STATEMENTS Some statements in this Prospectus may be deemed to be ‘‘forward-looking statements’’. Forwardlooking statements include statements concerning the Bank’s plans, objectives, goals, strategies, future operations and performance and the assumptions underlying these forward-looking statements. The Bank uses the words ‘‘anticipates’’, ‘‘estimates’’, ‘‘expects’’, ‘‘believes’’, ‘‘intends’’, ‘‘plans’’, ‘‘may’’, ‘‘will’’, ‘‘should’’ and any similar expressions to identify forward-looking statements. These forwardlooking statements are contained in ‘‘Summary’’, ‘‘Risk Factors’’, ‘‘Financial Review’’, ‘‘Business’, ‘‘Asset, Liability and Risk Management’’ and other sections of this Prospectus. The Bank has based these forward-looking statements on the current views of its management with respect to future events and financial performance. These views reflect the best judgement of the Bank’s management but involve uncertainties and are subject to certain risks the occurrence of which could cause actual results to differ materially from those predicted in the Bank’s forward-looking statements and from past results, performance or achievements. Although the Bank believes that the expectations, estimates and projections reflected in its forward-looking statements are reasonable, if one or more of the risks or uncertainties materialise or occur, including those which the Bank has identified in this Prospectus, or if any of the Bank’s underlying assumptions prove to be incomplete or incorrect, the Bank’s actual results of operations may vary from those expected, estimated or projected. These forward-looking statements speak only as of the date of this Prospectus. Except to the extent required by law, the Bank is not obliged to and does not intend to update or revise any forwardlooking statements made in this Prospectus whether as a result of new information, future events or otherwise. All subsequent written or oral forward-looking statements attributable to the Bank, or persons acting on the Bank’s behalf, are expressly qualified in their entirety by the cautionary statements contained throughout this Prospectus. As a result of these risks, uncertainties and assumptions, a prospective purchaser of the Notes should not place undue reliance on these forwardlooking statements. c104221pu010Proof7:3.3.11B/LRevision:0OperatorChoD 5 ENFORCEABILITY OF JUDGMENTS Courts in Ukraine will not recognise and/or enforce any judgment obtained in a court established in a country other than Ukraine unless such enforcement is provided for in an international treaty to which Ukraine is a party, and then only in accordance with the terms of such treaty. There is no such treaty or arrangement in effect between Ukraine and the United Kingdom. In the absence of such treaty, the courts of Ukraine may only recognise or enforce a foreign court judgment on the basis of the principle of reciprocity. Under Article 390 of the Civil Procedure Code, unless proven otherwise the reciprocity is deemed to exist in relations between Ukraine and the country where the judgment was rendered. The Civil Procedure Code does not provide for any clear rules on the application of the principle of reciprocity and there is no official interpretation or court practice of these provisions of the Civil Procedure Code. Accordingly, there can be no assurance that the courts of Ukraine will recognise or enforce a judgment rendered by the courts of the United Kingdom on the basis of the principle of reciprocity. Furthermore, the courts of Ukraine might refuse to recognise or enforce a foreign court judgement on the basis of the principle of reciprocity on the grounds provided in the Civil Procedure Code. Ukraine is a party to the 1958 New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards (the New York Convention) with a reservation to the effect that, in respect of the awards made in a state which is not a party to the New York Convention. Ukraine will only apply the New York Convention on a reciprocal basis. Consequently, a foreign arbitral award obtained in a state which is party to the New York Convention should be recognised and enforced by a Ukrainian court (under the terms of the New York Convention). The Loan Agreement contains a provision allowing for arbitration of disputes with London, United Kingdom, designated as the seat of arbitration. Since the United Kingdom is a party to the New York Convention, arbitral awards in relation to those disputes may be enforced in Ukraine under the provisions of the New York Convention. c104221pu010Proof7:3.3.11B/LRevision:0OperatorChoD 6 RESPONSIBILITY STATEMENT The Borrower accepts responsibility for the information contained in this Prospectus. To the best of the knowledge of the Borrower (which has taken all reasonable care to ensure that such is the case), the information contained in this Prospectus is in accordance with the facts and contains no omission likely to affect the import of such information. In addition, the Borrower, having made all reasonable enquiries, confirms that (i) this Prospectus contains all information with respect to the Borrower, the Loan and the Notes that is material in the context of the issue and offering of the Notes (including all information which, according to the particular nature of the Borrower and of the Notes, is necessary to enable investors to make an informed assessment of the assets and liabilities, financial position, profits and losses and prospects of the Borrower and of the rights attaching to the Notes); (ii) the statements of fact contained in this Prospectus are in every material particular true and accurate and not misleading and there are no other facts the omission of which would, in the context of the issue and offering of the Notes, make any statement in this Prospectus misleading in any material respect; (iii) the opinions, expectations and intentions expressed in this Prospectus with regard to the Borrower are honestly held, have been reached after considering all relevant circumstances and are based on reasonable assumptions; and (iv) all reasonable enquiries have been made by the Borrower to ascertain such facts and to verify the accuracy of all such information and statements. Accordingly, save as set out in the immediately preceding sentence and below, the Borrower accepts responsibility for the information contained in this Prospectus. The Issuer accepts responsibility in respect of the information contained in the section entitled ‘‘The Issuer’’ only. To the best of the knowledge of the Issuer (which has taken all reasonable care to ensure that such is the case), the information contained in the section entitled ‘‘The Issuer’’ is in accordance with the facts and contains no omission likely to affect the import of such information. The statistical information and other data contained in Appendix 1 to this Prospectus entitled ‘‘The Banking Sector and Banking Regulations in Ukraine’’ has been extracted from publicly available data (such as information contained on official websites and in publications of governmental agencies of Ukraine, including the National Bank of Ukraine (the NBU), and from the Ukrainian Government or mass media sources). The Borrower accepts responsibility for accurately extracting and reproducing such data published by third parties and no facts have been omitted which would render the reproduced information inaccurate or misleading. The Borrower accepts no further responsibility in respect of such data. c104221pu010Proof7:3.3.11B/LRevision:0OperatorChoD 7 PRESENTATION OF FINANCIAL AND OTHER INFORMATION Financial Information The financial information of the Bank set forth herein, has unless otherwise indicated, been derived from its statements of financial position and statements of comprehensive income, cash flows and changes in equity for the years ended 31 December 2009 and 2008 (the Financial Statements) and from its condensed interim financial information for the nine months ended 30 September 2010 and 2009 (the Condensed Interim Financial Information). The Financial Statements have been prepared in accordance with International Financial Reporting Standards (IFRS). The Condensed Interim Financial Information has been prepared in accordance with International Accounting Standard (IAS) 34 ‘‘Interim Financial Reporting". The Financial Statements have been audited by the Bank’s independent auditors, PJSC ‘‘Deloitte & Touche USC’’, in accordance with International Standards on Auditing. The Financial Statements, together with the auditor’s reports of PJSC ‘‘Deloitte & Touche USC’’ are set forth elsewhere in this Prospectus. The Interim Condensed Financial Information has been audited by PJSC ‘‘Deloitte & Touche USC’’ in accordance with International Standards on Auditing. Currency In this Prospectus all references to ‘‘hryvnia’’ and ‘‘UAH’’ are to the currency of Ukraine, all references to ‘‘dollars’’, ‘‘U.S. dollars’’, ‘‘USD’’ and ‘‘U.S.$’’ are to the currency of the United States of America and all references to ‘‘euro’’, ‘‘EUR’’ or ‘‘c’’ are to the currency introduced at the start of the third stage of European economic and monetary union, and as defined in Article 2 of Council Regulation (EC) No 974/98 of 3 May 1998 on the introduction of the euro as amended. Translations of amounts from hryvnia to dollars are solely for the convenience of the reader and are made at exchange rates established by the NBU and effective as at the dates of the respective financial information presented elsewhere in this Prospectus in respect of statements of financial position items. Comprehensive income statement items are translated at average exchange rates for reporting periods. No representation is made that the hryvnia or dollar amounts referred to herein could have been converted into dollars or hryvnia as the case may be, at any particular exchange rate or at all. The NBU’s hryvnia/dollar exchange rate as reported on 31 December 2008 was UAH 7.70 per U.S. dollar, on 31 December 2009 it was UAH 7.985 per U.S. dollar and on 30 September 2010 it was UAH 7.9135 per U.S. dollar. The average exchanges rates were UAH 5.2693 per U.S. dollar for the year ended 31 December 2008, UAH 7.7916 per U.S. dollar for the year ended 31 December 2009 and UAH 7.9366 per U.S. dollar for the nine months ended 30 September 2010. These are rates used for the respective conversions in ‘‘Selected Financial Information and Operating Information’’. The NBU’s hryvnia/dollar exchange rate as reported on 10 February 2011 was UAH 7.94 per U.S. dollar. Rounding Some numerical figures included in this Prospectus have been subject to rounding adjustments. Accordingly, numerical figures shown as totals in certain tables may not be arithmetic aggregation of the figures that preceded them. Unless otherwise specified, all percentages have been rounded to the nearest one-tenth of one per cent. c104221pu010Proof7:3.3.11B/LRevision:0OperatorChoD 8 OVERVIEW This overview may not contain all the information that may be important to prospective purchasers of the Notes. Prospective purchasers of the Notes should read this entire Prospectus, including the more detailed information regarding the Borrower’ business and the Financial Statements included elsewhere in this Prospectus. Investing in the Notes involves risks. The information set forth under ‘‘Risk Factors’’ should be carefully considered. Certain statements in this Prospectus include forward-looking statements that also involve risks and uncertainties as described under ‘‘Forward-Looking Statements’’. The Bank The Bank is a State-owned Ukrainian bank headquartered in Kyiv. According to information published by the NBU, as at 30 September 2010, the Bank was the second largest bank in Ukraine in terms of equity capital (UAH 16.6 billion), authorised share capital (UAH 13.9 billion), retail deposits (UAH 18.2 billion) and profit after tax (UAH 431.3 million), and the third largest bank in terms of total assets (UAH 59.5 billion), all as calculated under accounting standards generally acceptable in Ukraine (Ukrainian Accounting Standards, unaudited). As at 30 September 2010, the Bank held 7.0 per cent. of all retail deposits and provided 2.4 per cent. of all retail loans in Ukraine, according to NBU statistics. The Bank’s principal businesses are: * Corporate Banking (including corporate lending and project finance) and the provision of loans made available to State-owned entities in Ukraine and services for corporate clients; * Retail Banking; and * Treasury operations. Overview As at 31 December 2009, the Bank had total assets of UAH 57,390,511 thousand, total customer accounts of UAH 24,672,908 thousand and total net customer loans of UAH 45,716,277 thousand, compared to total assets of UAH 56,365,000 thousand, total customer accounts of UAH 17,492,921 thousand and total net customer loans of UAH 33,891,518 thousand as at 31 December 2008. For the year ended 31 December 2009, the Bank had net profit of UAH 109,041 thousand, compared to UAH 39,293 thousand for the year ended 31 December 2008. As at 30 September 2010, the Bank had total assets of UAH 55,872,606 thousand, total customer accounts of UAH 23,002,137 thousand and total net customer loans of UAH 39,272,676 thousand. For the nine month period ended 30 September 2010, the Bank had income before tax of UAH 665,625 thousand and net profit of UAH 255,465 thousand, compared to income before tax of UAH 305,588 thousand and net profit of UAH 83,576 thousand for the same period of 2009. During the second half of 2008 and 2009, disruptions in the global financial markets had a severe impact on the economy of Ukraine and significantly affected the financial markets, including the availability of credit and the terms and cost of funding in Ukraine, which adversely affected the liquidity of Ukrainian banks and other financial institutions. Ukrainian banks, including the Bank, experienced a reduction in both demand from customers and in available financing in both the interbank and short-term funding markets, as well as in longer-term capital markets. The Bank believes that the political and economic situation in Ukraine has begun to stabilise since the Presidential elections earlier in 2010. Strategy The Bank’s strategic goal is to strengthen its market position as a provider of comprehensive banking products and services to retail and corporate customers through its extensive network of branches and outlets, to provide support to domestic producers (primarily small and medium business enterprises), to promote economic development and structural transformation of the Ukrainian economy, to support domestic manufacturing and trade sectors and to develop a savings network for individual customers. c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 9 Credit Ratings Currently, the Bank is rated by two rating agencies, Fitch Deutschland GmbH and Moody’s Investors Service, Inc., which have issued the following credit ratings: Fitch Moody’s Long-term issuer rating Foreign currency ....................................... B Foreign currency long-term deposit rating ................................................ B3/NP Domestic currency ........................... B Outlook ................................................ stable Outlook ........................................... stable Foreign currency short-term deposit rating ................................................ NP Foreign currency short-term issuer Default Rating ............................. B Bank financial strength rating.............. E+ Individual Rating ............................ D/E Support Rating................................ 4 As of the date of this Prospectus, each of Fitch Deutschland GmbH, Fitch Ratings Ltd. and S&P is established in the European Union and has applied for registration under Regulation (EU) No 1060/ 2009 (the CRA Regulation), although notification of the corresponding registration decision has not yet been provided by the relevant competent authority. Moody’s is not established in the European Union and has not applied for registration under Regulation (EC) No. 1060/2009. However, the application for registration under Regulation (EC) No. 1060/2009 of Moody’s Investors Service, which is established in the European Union, disclosed the intention to endorse credit ratings of Moody’s Investors Service, Inc. In general, European regulated investors are restricted under the CRA Regulation from using credit ratings for regulatory purposes unless such ratings are issued by a credit rating agency established in the European Union and registered under the CRA Regulation (and such registration has not been withdrawn or suspended) subject to transitional provisions that apply in certain circumstances whilst the registration application is pending. Such general restriction will also apply in the case of credit ratings issued by non-EU credit rating agencies, unless the relevant credit ratings are endorsed by an EU-registered credit rating agency or the relevant non-EU rating agency is certified in accordance with the CRA Regulation (and such endorsement action or certification, as the case may be, has not been withdrawn or suspended). c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 10 RISK FACTORS Investment in the Notes involves a high degree of risk. Potential investors should carefully review this entire Prospectus and in particular should consider all the risks inherent in making such an investment, including the risk factors set forth below, before making a decision to invest. The materialisation of the risks highlighted below, individually or together, could have a material adverse effect on the Bank’s business, results of operations, financial condition and prospects which, in turn, could have a material adverse effect on its ability to service payment obligations under the Loan Agreement and, as a result, the Issuer’s ability to pay amounts due on the Notes. In addition, the value of the Notes could decline due to any of these risks, and the Noteholders may lose some or all of their investment. Risks Relating to Ukraine General Since obtaining independence in 1991, Ukraine has undergone a substantial political transformation from a constituent republic of the former Union of Soviet Socialist Republics to an independent sovereign state. Concurrently with this transformation, Ukraine has transitioned from a centrallyplanned, command economy to a market-based economy. Its achievements in this respect have been recognised by the European Union (the EU), which gave Ukraine market economy status at the end of 2005, followed by the United States, which granted Ukraine such status in February 2006. In May 2008, Ukraine joined the World Trade Organisation (the WTO). Although some progress has been made since independence towards reforming Ukraine’s economic, political and judicial systems, to some extent Ukraine still lacks the necessary legal and regulatory framework that are essential to supporting market institutions, the effective transition to a market economy and broad-based social and economic reforms. The pace of economic, political and judicial reforms has been adversely affected by political instability caused by continuing disagreement among the Government, the Parliament and the President of Ukraine. Furthermore, the Ukrainian economy has been negatively affected by the recent global financial downturn, a slowdown in the real economy, lack of liquidity in the financial sector and an increase in energy prices. Ukraine’s economy is vulnerable to fluctuations in the global economy Ukraine’s economy is vulnerable to market downturns and economic slowdowns elsewhere in the world. The impact of the global financial crisis that began in the second half of 2008 on Ukraine’s economy was particularly severe. Since Ukraine is a major producer and exporter of metal and agricultural products, the Ukrainian economy is especially vulnerable to decreases in world commodity prices and the imposition of import tariffs by the United States, the EU or by other countries that are major export markets for Ukrainian producers. Principally as a result of the impact of the global financial and economic crisis, Ukraine’s industrial output has decreased dramatically starting from the fourth quarter of 2008: the full-year decline in industrial output in 2008 amounted to 5.2 per cent., compared to growth of 7.6 per cent. in 2007. Throughout 2009, industrial output further declined by 21.9 per cent., although in 2010, industrial output increased by 11.0 per cent. Ukraine’s relatively strong reliance on exports of ferrous and non-ferrous metals and their products (32.3 per cent. and 34.2 per cent. of total goods exports value in 2009 and the eleven months ended 30 November 2010, respectively) makes the country’s export revenues and, by extension, its broader macroeconomic performance, vulnerable to declines or fluctuations in global metal demand or prices. In line with a decline in industrial output, real gross domestic product (GDP) declined by 15.1 per cent. in 2009. However, a recovery of industrial production in 2010 led to an increase in Ukraine’s real GDP of 4.9 per cent. during the first quarter of 2010, compared to a 20.2 per cent. decline for the first quarter of 2009. In the second quarter of 2010 real GDP increased by 5.9 per cent., compared to 17.8 per cent. decline for the second quarter of 2009. In the third quarter of 2010, the real GDP increased by 3.4 per cent. compared to a 16.0 per cent. decline for the third quarter of 2009. The economic crisis has also contributed to an increase in Ukraine’s State Budget deficit as a percentage of its GDP. Although this percentage remains relatively low in absolute terms, it increased significantly from 1.3 per cent. at year-end 2008 to 3.9 per cent. at year-end 2009. The 2010 State Budget Law initially contemplated a State Budget deficit of approximately 5.3 per cent. of GDP for 2010. However, in the second half of 2010, the Parliament passed a number of amendments to the 2010 State Budget Law providing for a decrease of the 2010 State Budget deficit to 4.99 per cent. of GDP. The 2011 State Budget Law provides for a budget deficit of 3.1 per cent. of GDP. c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 11 Consumer price inflation in Ukraine was 16.6 per cent. in 2007, 22.3 per cent. in 2008 and 12.3 per cent. in 2009, in each case as compared to the previous year-end. Consumer price inflation for 2010 was 9.1 per cent. as compared to the year end 2009. Wholesale prices are also vulnerable to the increases in world prices for metal products and grain, as well as natural gas and oil. Wholesale price inflation (WPI) has a direct bearing on consumer price, and WPI levels have also been high (at yearends 2008, 2009 and 2010, Ukraine had WPI of 23.0 per cent., 14.3 per cent. and 18.7 per cent. respectively compared with the end of the previous year). The external funding sources that supported the growth of Ukraine’s economy in previous years were significantly affected by the global liquidity crisis that began in 2007 and which then evolved into a full-scale financial and economic crisis, as a result of which international capital markets became largely inaccessible to Ukrainian borrowers until the first quarter of 2010. Prior to the global liquidity crisis, relatively easy access to liquidity, both from within Ukraine and internationally, was a significant factor facilitating growth in Ukraine’s GDP. The reduced external financing available to Ukrainian companies prior to the onset of the global financial crisis contributed to a decline in industrial production and reduction of investment projects and capital expenditure generally. Although the Ukrainian economy showed some positive trends in 2010 (in particular, GDP growth rates in the first, second and third quarters of 2010 were 4.9 per cent., 5.9 per cent. and 3.4 per cent., respectively, industrial output increased by 11.0 per cent. for 2010, and high quality Ukrainian borrowers have been able to access the international financial markets), renewed weakness and a deterioration of global or regional economic conditions including a so-called ‘‘double dip’’ recession may stall any current recovery or lead to a return of the financial crisis in Ukraine. Any such developments, including continued unavailability of external funding and increases in world prices for goods imported to Ukraine or decreases in world prices for goods exported from Ukraine, may have or continue to have a material adverse effect on the economy and thus may adversely affect the Bank’s business, results of operations, financial condition and prospects. Investments in emerging market countries such as Ukraine carry risks not typically associated with risks in more mature markets Investors in emerging markets such as Ukraine should be aware that these markets are subject to greater risk than more developed markets, including in some cases significant legal, economic and political risks. Although some progress has been made since independence in 1991 in reforming Ukraine’s economy and political and judicial systems, to a large extent Ukraine still lacks the necessary legal and regulatory framework that are essential to support market institutions, the effective transition to a market economy and broad-based social and economic reforms. In addition, Ukraine may be subject to heightened volatility due to regional economic, political or military conflicts. As a consequence, an investment in Ukraine carries risks that are not typically associated with investing in more mature markets. Investors should also note that emerging economies such as Ukraine are subject to rapid change and that the information set out in this Prospectus may become outdated relatively quickly. Accordingly, investors should exercise particular care in evaluating the risks involved and must decide for themselves whether, in light of those risks, their investment is appropriate. Generally, investment in emerging markets is suitable only for sophisticated investors who fully appreciate the significance of the risks involved in, and are familiar and able to bear the potential losses associated with, investing in emerging markets. Investors are urged to consult with their own legal and financial advisers before making an investment in the Notes. The disruptions experienced since 2008 in the international capital markets have led to reduced liquidity, an increased level of non-performing loans and increased credit risk premiums for certain market participants, and a reduction of available financing. Companies located in emerging market countries may be particularly susceptible to these disruptions and reductions in the availability of credit or increases in financing costs, which could result in them experiencing financial difficulty. In addition, the availability of credit to entities operating within emerging markets is significantly influenced by levels of investor confidence in such markets as a whole and so any factors that impact market confidence (for example, a decrease in credit ratings or state or central bank intervention in one market) could affect the price or availability of funding for entities within any of these markets. c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 12 Ukraine’s Government potentially faces the deterioration of political consensus, which may result in political instability Since achieving independence in 1991, Ukraine has undergone a substantial political transformation from a constituent republic in a federal socialist state, the former Soviet Union, to an independent sovereign democracy. In parallel with this transformation, Ukraine has been transitioning from a centrally planned economy to a market economy. However, this process is far from complete. Historically, Ukraine was divided along political, historical, linguistic and ideological lines, all of which have prevented political consensus in the Parliament and made it consistently difficult for the Government to sustain a stable coalition of parliamentarians to secure the necessary support to implement a variety of policies intended to foster economic reform and financial stability. The first round of the recent presidential elections was held on 17 January 2010. However, no candidate won 50 per cent. or more of the popular vote and the two highest polling candidates, Viktor Yanukovych, leader of Partiya Regioniv (the Party of Regions), and Yuliya Tymoshenko, leader of Yuliya Tymoshenko’s Bloc, took part in the second round of elections. According to the results of the second round held on 7 February 2010, Viktor Yanukovych won the presidential race. Although Yuliya Tymoshenko contested the results of the election, Viktor Yanukovych was inaugurated as the President of Ukraine on 25 February 2010. The close results of the presidential election and the significantly different ideological platforms on which the candidates based their campaigns are indicative of a significant split in popular opinion amongst the general public over the best path forward for Ukraine. For example, Yuliya Tymoshenko won popular support mainly from the central and western parts of Ukraine, which are generally considered to be pro-Western, while Viktor Yanukovych won the popular support mainly from the more densely populated eastern and southern parts of Ukraine, which are generally considered to be pro-Russian. On 11 March 2010, the Parliament appointed Mykola Azarov, a member of the Party of Regions, as the new Prime Minister of Ukraine and endorsed the new members of the Government. Currently, the Government consists mainly of members of the President’s Party of Regions with a few positions being occupied by representatives of other political forces. On 13 July 2010, 252 members of the Parliament submitted an application to the Constitutional Court of Ukraine (CCU) questioning the constitutionality of the adoption of the Law of Ukraine ‘‘On Amendments to the Constitution of Ukraine’’ dated 8 December 2004 (the Constitution Amendment Law), which was the basis for the constitutional reform of 2006 limiting the powers of the President and transferring certain powers of the President to the Parliament and the Cabinet of Ministers. On 30 September 2010, the CCU issued a ruling against the constitutionality of the Constitution Amendment Law, on the basis of non-compliance with the constitutional procedure for its adoption. Pursuant to this ruling, the Constitution Amendment Law ceased to be effective from 30 September 2010. The CCU also noted in its decision that the Constitution that was in effect before the enactment of the Constitution Amendment Law would resume legal force from 30 September 2010. Accordingly, following the decision of the CCU, certain current Ukrainian legislation may contradict the Constitution of Ukraine and require amendment to be constitutionally valid. This may result in uncertainty in the distribution of powers among State authorities and may lead to further political instability in Ukraine. In particular, the term of powers of the current Parliament has become unclear. On 4 February 2011, the newly-enacted law aimed at amending the Constitution to unify the terms of powers of the President, the Parliament and local councils came into effect (the 2011 Constitution Amendment Law). The 2011 Constitution Amendment Law provides, inter alia, for reinstating the five-year term of powers of the Parliament which was reduced to four years as a result of the CCU ruling against the constitutionality of the Constitution Amendment Law. Following these amendments to the Constitution, the next parliamentary elections will take place in October 2012 (as opposed to March 2011, as was provided in the Constitution prior to the amendments). However, on 9 February 2011, 53 members of Parliament requested the Constitutional Court to opine on the constitutionality of the 2011 Constitution Amendment Law. As at 9 February 2011, this request was before the Secretariat of the Constitutional Court. The majority in the Parliament and the new Government headed by Prime Minister Azarov are closely aligned with President Yanukovych. Therefore the Government currently has a stronger political base and is better able to focus on improving the economic and social conditions in Ukraine. During 2010 and since the appointment of the new Cabinet of Ministers of Ukraine, substantial progress has been achieved in various areas including macroeconomic stability, fiscal policy, cooperation with the International Monetary Fund (the IMF), banking system stability and social stability. c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 13 There is no certainty that good relations between the President, the Government and the majority in the Parliament will continue in the future. Such relations are subject to change through the normal process of political alliance-building or, if the required action is taken, through constitutional amendments and decisions of the CCU. Recent political developments have also highlighted potential inconsistencies between the Constitution of Ukraine and various laws and presidential decrees. Whilst the long-term consequences of the recent judgment of the CCU in respect of the Constitution Amendment Law are not yet clear, the decision may result in political instability in Ukraine which, in turn, could impair efforts to implement all the necessary reforms as described in this Prospectus. Furthermore, such developments have raised questions regarding the judicial system’s independence from economic and political influences. A number of additional factors could adversely affect political stability in Ukraine, including: * lack of agreement within the factions and amongst individual deputies that form a majority of the deputies in Parliament; * disputes between factions that form a majority and opposition factions on major policy issues, including Ukraine’s foreign and energy policy; * court action taken by opposition parliamentarians against decrees and other actions of the President or Government or the majority factions; and * court action by the President against Parliamentary or Governmental resolutions or actions. No assurances can be given that the political initiatives necessary to achieve reforms described in this Prospectus will continue, will not be reversed or will achieve their intended aims. Any significant changes in the political climate in Ukraine may have negative effects on the economy as a whole and, as a result, a material adverse effect on the Bank’s business, results of operations, financial condition and prospects. Positive developments in the economy may not be achieved if certain important economic and financial structural reforms are not made In recent years, the Ukrainian economy has been characterised by a number of features that contribute to economic instability, including a relatively weak banking system providing limited liquidity to Ukrainian enterprises, tax evasion, significant capital flight and low wages for a large portion of the Ukrainian population. Although the Ukrainian economy grew at an average rate of approximately 7.0 per cent. each year between 2000 and 2007, this growth was driven mainly by a rapid increase in foreign demand for Ukrainian products, rising commodity prices on external markets and the availability of foreign financing. While positively affecting the pace of Ukrainian economic growth in those years, these factors made the Ukrainian economy particularly vulnerable to adverse external shocks. Thus, as the global economic and financial situation started to deteriorate, Ukraine’s economy was one of the most heavily affected by the downturn. The negative impact of the global financial crisis has been compounded by weaknesses in the Ukrainian economy, which is sensitive to external and internal events. In particular, the implementation of reform has been impeded by lack of political consensus, controversies over privatisation (including privatisation of land in the agricultural sector and privatisation of large industrial enterprises), restructuring of the energy sector and removal of exemptions and privileges for certain state-owned enterprises or for certain industry sectors. According to the State Statistics Service of Ukraine, the rate of consumer price inflation was 12.3 per cent. in 2009, 22.3 per cent. in 2008 and 16.6 per cent. in 2007. The rate of consumer price inflation for 2010 amounted to 9.1 per cent. According to the Ministry of Finance of Ukraine, the Ukrainian Government incurred a State budget deficit of UAH 35.5 billion in 2009 and a State budget deficit incurred for the eleven months ended 30 November 2010 was UAH 52.2 billion. In 2009, GDP, as calculated in hryvnia, decreased by 20.2 per cent. in the first quarter of the year, 17.8 per cent. in the second quarter of the year, 16.0 per cent. in the third quarter of the year and 6.8 per cent. in the fourth quarter of the year, each as compared to the corresponding period in 2008. GDP for 2009 decreased by 15.1 per cent. compared with 2008. In the first and second quarters of 2010, Ukraine’s GDP, calculated in hryvnia, increased by 4.9 per cent. and 5.9 per cent., respectively, compared to the corresponding periods in 2009. In the third quarter of 2010, the real GDP, calculated in hryvnia, increased by 3.4 per cent. compared to the corresponding period in 2009. However, it should be noted that the international investment markets generally evaluate Ukrainian GDP in U.S. dollar terms. Pursuant to an estimate made by the IMF in October 2010, Ukraine’s c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 14 GDP amounted to U.S.$117.4 billion in 2009 as compared to U.S.$180.1 billion in 2008, a decrease of 34.8 per cent. year-on-year. The IMF’s estimate for Ukraine’s GDP for 2010 is U.S.$136.6 billion, an increase of 16.4 per cent. compared to 2009. The negative trends in the Ukrainian economy may continue while commodity prices in the external markets remain low and access to external funding remains limited, unless Ukraine undertakes certain important economic and financial structural reforms. The most critical structural reforms that need to be implemented or continued include: (i) comprehensive reforms of Ukrainian tax legislation with a view to broadening the tax base by bringing a substantial portion of the shadow economy into the reporting economy; (ii) reform of the energy sector through the introduction of uniform market-based energy prices and improvement in collection rates (and, consequently, the elimination of the persistent deficits in that sector); and (iii) reform of social benefits and pensions. Failure to achieve the political consensus necessary to support and implement such reforms could adversely affect the country’s economy. Furthermore, future potential political instability in the executive or legislative branches could hamper efforts to implement necessary reforms. The political initiatives necessary to achieve these or any other reforms described elsewhere in this Prospectus may not continue, may be reversed or may not achieve their intended aims. Rejection or reversal of reform policies favouring privatisation, industrial restructuring and administrative reform may have negative effects on the economy and, as a result, on the Bank’s business, results of operations, financial condition and prospects. In addition, the current global financial crisis has led to the collapse or bailout of several Ukrainian banks and to significant liquidity constraints for others. The crisis has prompted the Government to inject substantial funds into the banking system amid reports of difficulties among Ukrainian banks and other financial institutions. A significant worsening situation in global financial markets, further insolvencies of Ukrainian banks or the failure to maintain a robust system of banking regulation that achieves an increased degree of soundness and stability in the nation’s banking system could have a material adverse effect on the economy of Ukraine and thus may adversely affect the Bank’s business, results of operations, financial condition and prospects. The Ukrainian currency is subject to volatility and depreciation In view of the high dollarisation of the Ukrainian economy and increased activity of Ukrainian borrowers in external markets in 2005-2007, Ukraine has become increasingly exposed to the risk of hryvnia exchange rate fluctuations. Since September 2008, the interbank U.S. dollar/hryvnia exchange rate has fluctuated significantly. The official U.S. dollar/hryvnia exchange rate increased from UAH 4.86 per U.S. dollar as at 24 September 2008 to UAH 7.88 per U.S. dollar as at 19 December 2008. In total, in 2008, the hryvnia depreciated against the U.S. dollar by 52.5 per cent. and against the euro by 46.4 per cent. as compared to year-end 2007, and further depreciated against these currencies in 2009 by 3.8 per cent. and 5.4 per cent., respectively, as compared to year-end 2008. The official exchange rate was UAH 7.99 to U.S.$1.00 as at 31 December 2009. The fluctuations in the U.S. dollar/hryvnia exchange rate have negatively affected the ability of Ukrainian borrowers to repay their indebtedness to Ukrainian banks (approximately 50 per cent. of domestic loans are denominated in foreign currency) as well as to external lenders. Although the value of the hryvnia against the U.S. dollar stabilised since the beginning of 2010 due to the growing export demand for Ukrainian products, high rollover rates of external corporate debt and increased foreign currency revenues amongst Ukrainian exporters, the hryvnia may depreciate further against the U.S. dollar in the near future if significant currency inflow from exports and foreign investment do not continue, as well as due to the need for borrowers to repay a substantial amount of short-term external private debt (estimated by the NBU to be approximately U.S.$22.0 billion as at 30 September 2010). The NBU sought to address the hryvnia exchange rate instability by taking administrative measures (including certain foreign exchange market restrictions), and used approximately U.S.$3.9 billion and U.S.$10.4 billion of its foreign exchange reserves to support the Ukrainian currency in 2008 and 2009, respectively. In 2010, due to increased supply, and resulting surplus, of foreign currency in the market, the hryvnia appreciated against the U.S. dollar by 0.29 per cent. and against the euro by 7.65 per cent. The official exchange rate was UAH 7.94 to U.S.$1.00 as at 10 February 2011. Gradual exchange rate liberalisation is one of the key elements in the IMF 2010 SBA (as defined below). The liberalisation process could result in a period of greater currency volatility. Any further currency fluctuations may negatively affect the Ukrainian economy in general and, as a result, have a material adverse effect on the Bank’s business, results of operations, financial condition and prospects. c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 15 Any adverse changes in Ukraine’s relationships with western governments and institutions may adversely affect the Ukrainian economy and thus the Bank’s business With effect from 16 May 2008, Ukraine became a member of the WTO. In addition, prior to President Yanukovych’s inauguration in February 2010, Ukraine pursued membership in the North Atlantic Treaty Organisation (NATO). According to the Law of Ukraine ‘‘On Principles of Internal and External Policy’’ which became effective on 20 July 2010, whilst Ukraine will continue to cooperate with NATO and other military and political alliances in various matters of mutual interest, it is not pursuing membership. This law prevents Ukraine from becoming dependent on any state, group of states or international organisations. With effect from 30 December 2005, Ukraine was given market economy status by the EU, although without any immediate prospect of EU membership for Ukraine. On 1 March 2010, the newly-elected President of Ukraine held a meeting with the President of the European Commission, where the parties agreed the priorities for the EU-Ukraine relationship for the near future. Such priorities include finalisation of negotiations on the EU-Ukraine association agreement (including the establishment of a free trade area) and introduction of visa-free regime between Ukraine and the EU member-states. These priorities were reconfirmed at the 14th EU-Ukraine Summit held by the President of the European Council, President of the European Commission and President of Ukraine in Brussels on 22 November 2010. At the same time, there can be no assurance that the present policy with respect to seeking closer relationship between Ukraine and the EU will continue in the future. While Ukraine’s relationships with international and European institutions, organisations and western governments have generally improved in recent years, any major changes in Ukraine’s relationship with western governments and institutions introduced by President Yanukovych or otherwise, in particular any such changes adversely affecting the ability of Ukrainian manufacturers to access or to fully compete in world export markets, may have a material adverse effect on the Bank’s business, results of operations, financial condition and prospects. Any unfavourable changes in Ukraine’s regional relationships, especially with Russia, may adversely affect the Ukrainian economy Ukraine’s economy relies heavily on its trade with Russia and the other members of the Commonwealth of Independent States (the CIS), largely because Ukraine imports a large proportion of its energy requirements, primarily from Russia (or from countries that transport energy-related exports through Russia). In addition, a large share of Ukraine’s services receipts comprise transit charges for oil, gas and ammonia from Russia. As a result, Ukraine’s relations with Russia are of strategic importance to Ukraine. However, relations between Ukraine and Russia cooled to a certain extent in recent years due to disagreements: * over the prices and methods of payment for gas delivered by the Russian gas supplier OJSC Gazprom (Gazprom) to, or for transportation through, Ukraine; * as well as to unresolved issues relating to the temporary stationing of the Russian Black Sea Fleet (Chernomorskyi Flot) (the Black Sea Fleet) in the territory of Ukraine. Russia has in the past threatened to cut off the supply of oil and gas to Ukraine in order to apply pressure on Ukraine to settle outstanding gas debts and maintain low transit fees for Russian oil and gas through Ukrainian pipelines to European consumers. The most recent large-scale conflict occurred in early January 2009, when Gazprom substantially decreased natural gas supplies to Ukraine, reportedly due to a failure by the National Joint-Stock Company ‘‘Naftogaz’’ (Naftogaz) to timely repay all outstanding debt owed to Gazprom for natural gas supplied to Ukraine for domestic consumption in 2008. Following negotiations between the governments of Russia and Ukraine and the signing on 19 January 2009 of agreements between Naftogaz and Gazprom setting out the terms of further natural gas supplies and transit through the territory of Ukraine (the Agreements on Gas), Gazprom resumed natural gas supplies to Ukraine and other European countries on 20 January 2009. Since that date, there have been no further disruptions in the supply of Russian gas to Ukraine and other European countries through the territory of Ukraine. Prices for natural gas supplied by Gazprom for domestic consumption in Ukraine increased during the 2005 to 2008 period from U.S.$50 per 1,000 cubic metres as at 1 January 2005 to U.S.$179.5 per 1,000 cubic metres as at 1 January 2008. The price for natural gas supplied to Ukraine for domestic consumption and the tariff for transit of natural gas through the territory of Ukraine is to be determined pursuant to formulas set out in the Agreements on Gas. The price of natural gas supplied c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 16 for domestic consumption in Ukraine increased further in 2009. Reportedly, Ukraine paid U.S.$305.68 per 1,000 cubic metres for Russian gas in the first quarter of 2010, compared with U.S.$208.12 in the fourth quarter of 2009 and U.S.$198.34 in the third quarter of 2009. On 21 April 2010, the Presidents of Ukraine and Russia reached agreement in relation to the price of natural gas imported into Ukraine from Russia and the term for which the Black Sea Fleet will remain stationed in Ukrainian territory. Based on this agreement amendments to the contracts for natural gas supplies were signed, under which Gazprom agreed to give Naftogaz certain discounts on the otherwise applicable price for the natural gas supplied for domestic consumption in Ukraine. In particular, the discount will amount to U.S.$100 if the price for natural gas is equal to or greater than U.S.$333 per 1,000 cubic metres, or 30 per cent. of the price if the price is below U.S.$333 per 1,000 cubic metres. Under the agreement, the price of gas reportedly fell to U.S.$232.86 per 1,000 cubic meters in the second quarter of 2010, U.S.$248.72 in the third quarter and U.S.$252.11 in the fourth quarter. Ukrainian Government officials have repeatedly stated that further revision of the gas supply agreements between Naftogaz and Gazprom with the aim of reducing the price for natural gas supplied by Gazprom is a priority task for the Ukrainian Government. Also on 21 April 2010, Ukraine and Russia signed a new agreement on the stationing of the Black Sea Fleet in Ukrainian waters. Under the agreement, the term for the stationing of the Black Sea Fleet was extended for a further 25-year period (starting upon expiration of the previous term in 2017) with an additional 5 year extension option, and the amount of the lease charges payable for the Black Sea Fleet stationing was increased. The agreement also provides that a portion of the lease charges payable for the stationing of the Black Sea Fleet will be set off against the discounts to the price of natural gas supplied by Gazprom for domestic consumption in Ukraine referred to above. As at 31 December 2010, over 25 per cent. of Ukrainian exports go to Russia, while much of Russia’s exports of energy resources are delivered to the EU via Ukraine. The increase in the price of natural gas by Russia has adversely affected the pace of economic growth of Ukraine due to the considerable dependence of the Ukrainian economy on Russian exports of energy resources. Although the election of President Yanukovych has generally improved relations with Russia, if bilateral trade relations were to deteriorate, if Russia were to stop transiting a large portion of its oil and gas through Ukraine or if Russia halted supplies of natural gas to Ukraine, Ukraine’s balance of payments and foreign currency reserves could be materially and adversely affected. Any further adverse changes in Ukraine’s relations with Russia, in particular any such changes adversely affecting supplies of energy resources from Russia to Ukraine or Ukraine’s revenues derived from transit charges for Russian oil and gas, may have negative effects on the Ukrainian economy as a whole and thus on the Bank’s business, results of operations, financial condition and prospects. Official statistics and other data published by Ukrainian State authorities may not be reliable Official statistics and other data published by Ukrainian State authorities (including the NBU and the State Statistics Service of Ukraine) may not be as complete or reliable as those of more developed countries. Official statistics and other data may also be produced on a different basis than those criteria used in more developed countries. The Bank has not independently verified such official statistics and other data, and prospective investors should be aware that any discussion of matters relating to Ukraine in this Prospectus is, therefore, subject to uncertainty due to questions regarding the completeness or reliability of such information and may not be fully in accordance with international standards. Furthermore, standards of accuracy of statistical data may vary from agency to agency and from period to period due to application of different methodologies. Since the first quarter of 2003, Ukraine has produced data in accordance with the IMF Special Data Dissemination Standard. It is possible, however, that this IMF standard has not been fully implemented or correctly applied. The existence of a sizeable unofficial or shadow economy may also affect the accuracy and reliability of statistical information. In addition, Ukraine has experienced variable rates of inflation, including periods of hyperinflation. Unless indicated otherwise, the macroeconomic data presented in this Prospectus has not been restated to reflect such inflation and, as a result, period-to-period comparisons may not be meaningful. Prospective investors should be aware that certain statistical information and other data contained in this Prospectus have been extracted from official governmental sources in Ukraine and were not prepared or independently verified by any person in connection with the preparation of this Prospectus. The Bank only accepts responsibility for the correct extraction and reproduction of such information. c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 17 Restricted access to international capital markets may adversely affect the Ukrainian economy Ukraine’s internal debt market remains relatively illiquid and underdeveloped as compared to markets in most Western countries. In the wake of the emerging market crisis in the autumn of 1998 and until the second half of 2002, loans from multinational organisations such as the European Bank for Reconstruction and Development (the EBRD), the World Bank, the EU and the IMF comprised Ukraine’s only significant sources of external financing. Prior to the global financial crisis in the autumn of 2008, Ukraine was able to access the international capital markets, raising new financing in each year between 2003 and 2008. However, since the second half of 2008, prospects for raising new financing on international capital markets have worsened substantially. Following downgrades of Ukrainian credit ratings in 2008, in February 2009, Fitch Ratings Ltd. (Fitch) and S&P revised their long-term foreign currency sovereign credit ratings on Ukraine to B (negative) and CCC+ (negative), respectively, and, in May 2009, Moody’s downgraded Ukraine’s credit rating from B1 to B2 (negative). In November 2009, Fitch further revised its longterm foreign currency credit rating on Ukraine to B- (negative). In March 2010, however, following recent presidential elections and appointment of the new Government, S&P and Fitch have upgraded their long-term foreign currency sovereign credit ratings on Ukraine to B- (positive) and B- (stable), respectively. Following approval of the 2010 SBA (as defined below) by the IMF in July 2010, S&P and Fitch further upgraded Ukraine’s long-term foreign currency credit rating to B+ (stable) and B (stable), respectively. In October 2010, Moody’s upgraded Ukraine’s long-term credit rating to B2 (stable). As a result of the global financial crisis and the resulting absence of liquidity in the Ukrainian credit markets, Ukraine sought IMF financing. In November 2008, the IMF approved a two-year Stand-By Arrangement (the 2008 SBA) with Ukraine for approximately U.S.$16.4 billion to assist the Ukrainian Government in restoring financial and economic stability. In 2008 and 2009, total disbursements under the 2008 SBA amounted to approximately U.S.$10.6 billion. In accordance with the terms of the 2008 SBA, Ukraine had received three tranches of the IMF financing with the fourth suspended due to an increased level of political instability and controversies between the President, the Government and Parliament on the eve of the presidential elections. Following inauguration of the new President Yanukovych in late February 2010, the newly-formed Government has resumed negotiations with the IMF. From March to July 2010, the IMF missions visited Ukraine to review the macroeconomic situation and budgetary, fiscal and monetary policy of the Government and the NBU, and to consider possible resumption of IMF support. On 28 July 2010, the IMF Executive Board noted the cancellation of the 2008 SBA, and on the same date approved a new U.S.$15.15 billion Stand-By Arrangement for Ukraine (the 2010 SBA) to be drawn in ten tranches in 2010-2012, with two tranches expected to be received in 2010 and four tranches expected to be received in each of 2011 and 2012, subject to Ukraine’s compliance with the 2010 SBA terms. On 2 August 2010, Ukraine received the first tranche of approximately U.S.$1.89 billion with U.S.$1.0 billion earmarked for the financing of the State Budget deficit. The goal of the Ukrainian economic programme supported by the 2010 SBA is to entrench fiscal and financial stability, advance structural reforms and put Ukraine on a path of sustainable and balanced growth. To achieve these aims, the 2010 SBA established a number of requirements for the Ukrainian Government in fiscal policy, monetary and exchange rate policy, and financial sector policy. In addition, the 2010 SBA sets out quantitative and continuous performance criteria that are to be met by Ukraine as of each of 30 September and 31 December 2010. Such criteria include, among other things, a ceiling on the cash deficit of the Government, a floor on net international reserves of the NBU, a ceiling on the net domestic assets and a ceiling on the state-guaranteed debt. The first review of Ukraine’s compliance with the 2010 SBA terms commenced in November 2010 and was completed in mid December of 2010. On 22 December 2010, following the first review, the IMF Executive Board approved the second tranche to be provided to Ukraine in the amount of approximately U.S.$1.5 billion with about U.S.$1.0 billion earmarked for the financing of the State Budget deficit. The second review is proposed for March 2011 using year-end 2010 targets. If, despite the new IMF financing arrangements and attendant economic reforms, Ukraine’s access to international debt markets became limited, the Government would have to rely to a significant extent on official or multilateral borrowings to finance part of the budget deficit, fund its payment obligations under domestic and international borrowings and maintain foreign exchange reserves. Additionally, Ukraine has indicated that, as part of its debt management policy, it plans to develop the internal debt market and to reduce its reliance on external debt financing. However, reliance on c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 18 internal debt and unavailability of external financing may place additional pressure on Ukraine’s ability to meet its payment obligations. Borrowings from multinational organisations such as the IMF, the EBRD, the World Bank or the EU may be conditioned on Ukraine’s satisfaction of certain requirements, which may include, among other things; * implementation of strategic, institutional and structural reforms; * reduction of overdue tax arrears; * absence of increase of budgetary arrears; * improvement of sovereign debt credit ratings; and * reduction of overdue indebtedness for electricity and gas. If Ukraine is unable to access international capital markets or syndicated loan markets, a failure by official creditors and of multilateral organisations to grant adequate financing including the refusal by the IMF to make available the remaining funds under the 2010 SBA, could adversely affect Ukraine’s financing of its budget deficit, the level of inflation and/or the value of the hryvnia, which, in turn, could have a material adverse effect on the Bank’s business, financial condition, results of operations and prospects. Ukraine’s business environment is adversely affected by weak financial infrastructure and the lack of liquidity Ukrainian enterprises have limited experience of operating in globalised, free-market conditions. When compared to businesses operating in more developed jurisdictions, Ukrainian enterprises have limited capital resources with which to develop operations and are often characterised by management that lacks experience in responding to changing market conditions and, in particular, economic disruptions. In addition, Ukraine has a limited infrastructure to support a market system, and communications, banks and other financial infrastructure are less well developed and less well regulated than their counterparts in more developed jurisdictions. Ukrainian enterprises, most of which were adversely affected by the global financial crisis, face significant liquidity problems due to, inter alia, a limited supply of domestic savings, few foreign funding sources, high taxes and limited lending by the banking sector to the industrial sector. Many Ukrainian enterprises cannot make timely payments for goods or services and owe large amounts in taxes, as well as wages to employees. Any further deterioration in the business environment in Ukraine could have a material adverse effect on the Bank’s business, results of operations, financial condition and prospects. Adverse changes in global or Ukrainian economic conditions have resulted in several restructurings of Ukrainian commercial debt and a significant liquidity risk In 2007 and 2008, Ukraine’s total debt as a percentage of GDP, including both State debt (direct debt) and State-guaranteed debt (contingent liabilities), was at a relatively moderate level, amounting to 12.3 per cent. at the end of 2007 and 20.0 per cent. at the end of 2008. Ukraine’s total debt as a percentage of GDP increased to 34.8 per cent. as at 31 December 2009 and increased further to 38.9 per cent. as at 30 September 2010. Pursuant to the 2011 State Budget Law, the total State direct debt threshold is set at the level of UAH 375.64 billion (being 30 per cent. of GDP) and current authorisations permit issuance of new State-guaranteed debt up to an aggregate of UAH 15.0 billion. The substantial payment obligations of Ukraine and many state-owned companies that fell due in 2009 and 2010 (including debt repayments, payments for natural gas supplied for domestic consumption to Ukraine) have exerted additional pressure on Ukraine’s liquidity. In particular, during 2009, Naftogaz began negotiations with its lenders to restructure its debts to foreign banks by extending payment terms and amending other substantial terms of its loan undertakings. On 5 November 2009, Naftogaz completed the restructuring of its term loan facilities from foreign banks of approximately U.S.$1.6 billion. Further, the State Railway Administration of Ukraine (Ukrzaliznytsya) began negotiations with its lenders to reschedule certain of its debts to foreign banks amounting to approximately U.S.$440 million with the aim of extending payment terms of its loan undertakings. In addition, it should be noted that many enterprises in the Ukrainian private sector have significant levels of indebtedness, and as a result of the ongoing financial crisis may experience difficulty accessing new financing. Although private-sector debt, unlike State debt, does not have a direct negative effect on the State’s foreign currency reserves or liquidity, high levels of indebtedness of, and limited availability of new credit to, the private sector may complicate economic recovery and pose a significant risk in an already challenging economic environment. Any further deterioration in the c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 19 economic environment in Ukraine could have a material adverse effect on the Bank’s business, results of operations, financial condition and prospects. Failure to fulfil privatisation plans will adversely affect the achievement of financing levels anticipated in the State Budget The State Budget is dependent to a significant extent on proceeds from privatisations. For 2008, actual privatisation proceeds were UAH 482.0 million, or 79.4 per cent. of the revised annual target. For 2009, target privatisation proceeds were set at approximately UAH 8.5 billion but actual privatisation proceeds were only UAH 814.9 million, or 9.6 per cent. of the annual target. For 2010, target privatisation proceeds were initially set at UAH 10.0 billion, but were subsequently decreased in July 2010 to UAH 6.35 billion. In the nine months ended 30 September 2010, actual privatisation proceeds were UAH 517.9 million, or approximately 8.2 per cent. of the annual target. For 2011, target privatisation proceeds are set at UAH 10.0 billion. In light of the failure to fulfil privatisation plans in 2008-2010, no assurance can be made that budgeted privatisation proceeds will be met in 2011. A significant shortfall in actual privatisation proceeds compared to budgeted privatisation proceeds may have negative effects on the performance of the State Budget and adversely affect Ukraine’s economy. The success of future privatisations will depend on the implementation of structural and other reforms. Meeting future privatisation proceeds targets may also require the Government (with approval from the Parliament of Ukraine) to allow privatisation of additional state-owned enterprises that are currently excluded from privatisation, as these enterprises may prove more attractive to investors as compared to those currently subject to privatisation. In the absence of a clear privatisation programme, not all of the budgeted privatisation proceeds may be realised, which may create or contribute to future budget deficits. Litigation and court proceedings may also delay the successful completion of certain privatisations, as has occurred in the past, or prevent them altogether. In addition, the failure to privatise key state-owned assets may prejudice the willingness of multilateral organisations to provide financial support to Ukraine. All of this may have a negative effect on the Ukrainian economy as a whole and thus on the Bank’s business, results of operations, financial condition and prospects. The Ukrainian banking system may be vulnerable to stress due to fragmentation, undercapitalisation and a potential increase in non-performing loans, all of which could have a material adverse effect on the real economy The recent global financial crisis has led to the collapse or bailout of some Ukrainian banks and significant liquidity constraints for others. The crisis has prompted the Government to inject substantial funds into the banking system amid reports of difficulties among Ukrainian banks and other financial institutions. The Government’s policy has been to intervene in support only of certain banks whose size is such that their failure would create systemic risk for the Ukrainian economy. Despite progress with the restructuring and recapitalisation of Ukrainian banks, problems with asset quality and indebtedness persist. Asset quality was affected significantly by the devaluation in the hryvnia in 2008 (52.5 per cent. against the dollar and 46.3 per cent. against the Euro) and was further exacerbated by the 15.1 per cent. contraction of the economy in 2009. Despite Government and NBU intervention and progress in stabilising the foreign exchange market by the end of 2009 and during the first half of 2010, the high dollarisation in the Ukrainian financial system increased exchange rate risks and could contribute to a worsening of banks’ asset quality. Overdue loans also affect the asset quality of Ukrainian banks. The proportion of loans represented by overdue loans was 2.3 per cent. and 9.4 per cent. as at 31 December 2008 and 2009, respectively, and 11.9 per cent. as at 30 November 2010. Although the rate of growth of the share of overdue loans in banks’ credit portfolios has slowed, a future increase in this rate could place additional strain on the banking system. Furthermore, the IMF, in connection with the approval in July 2010 of the 2010 SBA (see ‘‘Risks relating to Ukraine – Restricted access to international capital markets may adversely affect the Ukrainian economy’’ above) provided two estimates for loans which could be categorised as nonperforming. Under a broad definition of non-performing loans that includes loans classified as substandard, doubtful and loss, the IMF estimated that 41.6 per cent. of loans held by Ukrainian banks were non-performing as at 31 March 2010. Under a narrower definition that does not count as non-performing those substandard loans that are serviced in a timely manner, the IMF estimated that 15 per cent. of loans were non-performing as at 31 March 2010. c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 20 The continuation or worsening of the financial crisis, further insolvencies of Ukrainian banks, growth in the share of overdue loans, the need for the Ukrainian Government to inject more capital into the banking system and the failure to adopt and implement a system of banking regulation that achieves an increased degree of soundness and stability in the nation’s banks could each have a material adverse effect on the Ukrainian economy and thus may adversely affect the Bank’s business, results of operations, financial condition and prospects. Ukraine may not be able to increase or maintain access to foreign investment Notwithstanding improvements in the Ukrainian economy in recent years, cumulative foreign direct investment remains low for a country of Ukraine’s size. An increase in the perceived risks associated with investing in Ukraine could reduce foreign direct investment in Ukraine and adversely affect the Ukrainian economy. No assurance can be given that Ukraine will be able to increase or maintain access to foreign investment. Furthermore, any future attempts to re-nationalise previously privatised enterprises could adversely affect the climate for foreign direct investment and have an adverse effect on the economy of Ukraine which, in turn, may adversely affect the Bank’s business, results of operations, financial condition and prospects. Corruption and money laundering may have an adverse effect on the Ukrainian economy External analysts have identified corruption and money laundering as problems in Ukraine. In accordance with the Ukrainian anti-money laundering legislation that came into force in Ukraine in June 2003, the NBU and other State authorities as well as various entities carrying out financial services are now required to monitor certain financial transactions more closely for evidence of money laundering. As a result of the adoption of this legislation, in February 2004, Ukraine was removed from the list of non-cooperative countries and territories by the Financial Action Task Force on Money Laundering (the FATF) and, in January 2006, the FATF discontinued its formal monitoring of Ukraine. To address the remaining deficiencies in the Ukrainian anti-money laundering legislation, Ukraine has made a high-level political commitment to work with FATF and the Committee of Experts on the Evaluation of Anti-Money Laundering Measures and the Financing of Terrorism (MONEYVAL) and developed an action plan to address these deficiencies. The FATF closely monitors progress of Ukraine and the implementation of its action plan. On 21 August 2010, a new law entered into force significantly amending the Ukrainian anti-money laundering legislation and implementing 40 revised recommendations and nine special recommendations of the FATF, as well as the directive of the European Parliament on the prevention of the use of the financial system for the purpose of money laundering and terrorist financing. In particular, the law extends the list of entities that are required to monitor financial transactions at the primary level, extends the list of State agencies authorised to conduct State financial monitoring, and broadens the list of grounds on the basis of which a financial transaction may be subject to monitoring. In June 2009, the Parliament adopted several laws setting forth a general framework prevention and counteraction of corruption in Ukraine, which were to become effective January 2011. However, in December 2010 the Parliament abolished the package of earlier anti-corruption laws with effect from 5 January 2011, while at the same time adopting in reading a new draft anti-corruption law. for the from 1 adopted the first Although this new legislation, if adopted, is expected to facilitate anti-corruption efforts in Ukraine upon its entry into force, there can be no assurance that the law will be effectively applied and implemented by the relevant supervising authorities in Ukraine. Any future allegations of corruption in Ukraine or evidence of money laundering could have a negative effect on the ability of Ukraine to attract foreign investment and on the economy of Ukraine in general which, in turn, may adversely affect the Bank’s business, results of operations, financial condition and prospects. Weaknesses relating to the legal system and legislation may create an uncertain environment for investment and business activity The Ukrainian legal system remains subject to greater risks and uncertainties than more mature legal systems. In particular, risks associated with the Ukrainian legal system include: * inconsistencies between and among the Constitution of Ukraine and various laws, presidential decrees, governmental, ministerial and local orders, decisions and resolutions and other acts; c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 21 * provisions in laws and regulations that are ambiguously worded or lack specificity and thereby raise difficulties when implemented or interpreted; * lack of judicial and administrative guidance on the interpretation of Ukrainian legislation, including the complicated mechanism of exercising constitutional jurisdiction by the Constitutional Court of Ukraine; * general inconsistency in the judicial interpretation of Ukrainian legislation in the same or similar cases; and * corruption within the judiciary. Furthermore, several fundamental Ukrainian laws either have only relatively recently become effective or are still pending hearing or adoption by the Parliament. For example, with effect from 2004 and 2005, Ukraine adopted a new civil code, a new civil procedural code, a new economic code, a new code on administrative procedure, new mortgage finance laws, a new law on State registration of proprietary rights to immovable property and a new law on international private law. In June 2005, Ukraine adopted a new law on credit histories and credit bureaus which entered into force in January 2006. With effect from 2006, a new law on securities and stock markets, a new law on holding companies and a new law on mortgage bonds were adopted and the laws on mortgage and real estate construction financing schemes were significantly amended. In January 2006, Ukraine ratified the UNIDROIT Convention on International Financial Leasing and the UNIDROIT Convention on International Factoring. In addition, a new law on joint stock companies that significantly revamps Ukrainian corporate law became effective in 2009. In 2010, the new law on court system and status of judges entered into force, and a new Budget Code was adopted by the Parliament which entered into force on 1 January 2011. On 2 December 2010, the Parliament adopted the Tax Code which, subject to certain exceptions, became effective on 1 January 2011. The relative immaturity of Ukrainian legislation, the lack of consensus about the scope, content and pace of economic and political reform and the rapid evolution of the Ukrainian legal system in ways that may not always coincide with market developments place the enforceability and underlying constitutionality of laws in doubt, and result in ambiguities, inconsistencies and anomalies. In addition, Ukrainian legislation often contemplates implementing regulations. Often such implementing regulations have either not yet been promulgated, leaving substantial gaps in the regulatory infrastructure, or have been promulgated with substantial deviation from the principal rules and conditions imposed by the respective legislation, which results in a lack of clarity and growing conflicts between companies and regulatory authorities. These weaknesses in the Ukrainian legal system could make it difficult for the Bank to implement its policies or could lead to conflicts between the NBU and the Bank, which may have a negative effect on the Bank’s business, results of operations, financial condition and prospects. Additionally, those and other factors that have an impact on Ukraine’s legal system make an investment in the Notes subject to greater risks and uncertainties than an investment in a country with a more mature legal system. The judiciary’s lack of independence and overall inexperience, difficulty in enforcing court decisions and governmental discretion in enforcing claims could prevent the Bank or the Bank’s investors from obtaining effective redress in a court proceeding The independence of the judicial system and its immunity from economic and political influences in Ukraine remain questionable. Although the Constitutional Court of Ukraine is the only body authorised to exercise constitutional jurisdiction and has mostly been impartial, the system of constitutional jurisdiction itself remains too complicated to ensure smooth and effective removal of discrepancies between the Constitution of Ukraine and various laws of Ukraine. The court system is understaffed and underfunded. Judges and courts are generally inexperienced in the area of business and corporate law and judicial precedents generally have no binding effect on subsequent decisions. Moreover, courts themselves are not bound by earlier decisions taken under the same or similar circumstances, which results in the inconsistent application of Ukrainian legislation to resolve the same or similar disputes. Not all Ukrainian legislation is readily available to the public or organised in a manner that facilitates understanding. For each particular law made by different government authorities, there are many sub-laws, regulations and resolutions, which can make the laws difficult to understand. Furthermore, a limited number of judicial decisions are publicly available, and therefore, the role of judicial decisions as guidelines in interpreting applicable Ukrainian legislation to the public at large is limited. However, according to the Law of Ukraine c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 22 ‘‘On Access to Court Decisions’’ that became effective on 1 June 2006, decisions of courts of general jurisdiction in civil, economic, administrative and criminal matters issued from 1 June 2006 and, in the case of local courts of general jurisdiction, from 1 January 2007 are becoming available to the public. On 30 July 2010, a new Law of Ukraine ‘‘On Court System and Status of Judges’’ entered into effect (with the effectiveness of certain provisions postponed). The new law provides for the establishment of a High Specialised Court of Ukraine on Civil and Criminal Matters, which will have the status of the cassation court together with the High Administrative Court of Ukraine and High Commercial Court of Ukraine, and limits the powers of the Supreme Court of Ukraine. The law also establishes new procedures for the appointment of judges and introduces a clear list of grounds for imposing disciplinary liabilities on judges. No assurance can be given however, that the new law will positively affect the Ukrainian judicial system and cure currently existing deficiencies. Enforcement of court orders and judgments can in practice be difficult in Ukraine. The State Execution Service, a body independent of the Ukrainian courts, is responsible for the enforcement of court orders and judgments in Ukraine. Often, enforcement procedures are very time-consuming and may fail for a variety of reasons, including the defendant lacking sufficient funds, the complexity of auction procedures for the sale of the defendant’s property or the defendant undergoing bankruptcy proceedings. In addition, the State Execution Service has limited authority to enforce court orders and judgments quickly and effectively. The State Execution Service is bound by the method of execution provided for by the relevant court order or judgment and may not independently change such method even if it proves to be inefficient or unrealisable. Furthermore, notwithstanding successful execution of a court order or a judgment, a higher court can reverse a court order or judgment and require that the relevant funds or property be restored to the defendant. Moreover, in practice the procedures employed by the State Execution Service do not always comply with applicable legal requirements, resulting in delays or failures in enforcement of court orders and judgments. These uncertainties also extend to certain rights, including investor rights. In Ukraine, there is no established history of investor rights or responsibility to investors and in certain cases the courts may not enforce such rights. In the event courts do seek to protect rights of investors granted under applicable Ukrainian legislation, there nevertheless remains the risk that the government and/or the legislature of Ukraine may attempt legislatively to overrule any such court decisions by implementing legislation changes which have retroactive effect. These and other factors that impact Ukraine’s judicial system make an investment in the Notes subject to greater risk and uncertainty than an investment in a country with a more developed judicial system. The Ukrainian tax system is undeveloped and subject to frequent change, which may create an uncertain environment for investment and business activity Historically, Ukraine had a number of laws related to various taxes imposed by both central and regional governmental authorities. These taxes include value added tax, corporate income tax (profits tax), customs duties and payroll (social) taxes. The tax legislation in Ukraine is not always clearly written or explained and is subject to the interpretation of the tax authorities and other government bodies. Unlike the tax laws of more developed market economies, Ukraine’s tax laws have not been in force for a significant period of time, often resulting in unclear or non-existent implementing regulations. On 21 September 2010, a draft of the new tax code (the Tax Code) was submitted to the Parliament by the Cabinet of Ministers of Ukraine. The Tax Code was passed into law by the Parliament on 18 November 2010 but vetoed by the President on 30 November 2010. On 2 December 2010, the Parliament passed a revised version of the Tax Code taking into account the President’s proposals. The Tax Code was signed by the President on 3 December 2010 and officially promulgated on 4 December 2010. The majority of the Tax Code provisions took effect from 1 January 2011. The Tax Code aims to create a comprehensive legal framework for tax reform and provides for a wide range of changes to the existing tax system in the areas of tax collection and administration. Among other things, the Tax Code provides for a gradual decrease in the rate of the corporate income tax from the current 25 per cent. to 16 per cent. in the period 2011 to 2014. Under the Tax Code, the value added tax rate will decrease from 20 per cent. to 17 per cent. from 1 January 2014. The Tax Code also introduces a form of taxation of interest accrued on bank deposits, which will take effect from 1 January 2015. The Tax Code has attracted wide public criticism and protests from private entrepreneurs throughout Ukraine. These and other factors that impact on the Ukrainian tax system c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 23 make an investment in the Notes subject to greater risk and uncertainty than an investment in a country with a more developed tax system. Differing opinions regarding legal interpretations often exist both among and within governmental ministries and organisations, including tax authorities, creating uncertainties and areas of conflict in relation to taxation. Tax declarations or returns, together with other matters of legal compliance (for example, customs and currency control matters), are subject to review and investigation by a number of authorities, which may impose fines, penalties and interest charges for non-compliance. These circumstances generally create tax risks in Ukraine that are more significant than those typically found in countries with more developed tax systems. Generally, the Ukrainian tax authorities may reassess tax liabilities of taxpayers only within three years after the filing of the relevant tax declarations. However, this statutory limitation period may not be observed or may be extended in certain circumstances. Moreover, the fact that a period has been reviewed does not exempt this period, or any tax declaration/return applicable to that period, from further review. While the Bank believes that it is currently in compliance in all material respects with the tax laws affecting its operations, it is possible that the relevant tax authorities could, in the future, take differing positions with regard to issues of interpretation, which may result in a material adverse effect on the Bank’s business, results of operations, financial condition and prospects. Disclosure and reporting requirements and fiduciary duties remain less developed than in more developed markets Disclosure and reporting requirements have only recently been enacted in Ukraine. Anti-fraud legislation has only recently been adapted to the requirements of a free market economy and remains largely untested. Most Ukrainian companies do not have corporate governance procedures that are in line with Western European standards. Ukrainian banking laws introduced the concept of fiduciary duties owed by a bank’s management to the bank and its clients, which was further elaborated in the ‘‘Guidelines for the Improvement of Corporate Governance in Ukrainian Banks’’ approved by the NBU in March 2007. However, the concept of fiduciary duties of management or members of the management board to their companies or shareholders remains underdeveloped in Ukraine. Violations of disclosure and reporting requirements or breaches of fiduciary duties by the Bank’s directors could significantly affect the receipt of material information or result in inappropriate management decisions, which may have a material adverse effect on the Bank’s business, financial condition, results of operations and prospects. Risks Relating to the Bank The Bank’s exposure to credit risk The Bank’s net loan portfolio demonstrated high growth rates in the period preceding the onset of the global financial crisis in the second half of 2008. In the first nine months of 2010, the Bank’s net loan portfolio decreased from UAH 45,716 million as at 31 December 2009 to UAH 39,273 million as at 30 September 2010, after a substantial growth in 2009 from UAH 33,892 million as at 31 December 2008. The growth of the Bank’s loan portfolio in 2009 was principally due to a substantial increase in the amount of loans provided to the related State-owned companies Naftogaz, Ukraine’s largest company in the fuel and energy sector involved in the production, importation and distribution of natural gas and oil, and its subsidiary OJSC ‘‘Ukrtransnafta’’ (Ukrtransnafta), operator of Ukraine’s oil pipeline and transportation system. In addition, there was a moderate increase of new loans issued to existing customers, as well as certain new customers which satisfied the Bank’s stringent assessment criteria, in energy, construction, real estate, trade, agriculture and transport sectors. As at 30 September 2010, loans issued to Naftogaz and Ukrtransnafta amounted to UAH 21,385 million, compared to UAH 29,090 million as at 31 December 2009 and UAH 18,767 million as at 31 December 2008. See ‘‘Exposure to Naftogaz’’ below for discussion of the risks related to the Bank’s high exposure to Naftogaz. The concentration in the Bank’s lending portfolio remains high. As at 30 September 2010, the aggregate gross amount of loans provided to the ten largest borrowers or group of borrowers was UAH 32,704 million, or 73 per cent. of the Bank’s total gross loan portfolio, compared to UAH 37,225 million, or 75 per cent. of the Bank’s total gross loan portfolio as at 31 December 2009 and UAH 23,089 million, or 66 per cent. of total loans to customers as at 31 December 2008. These amounts included loans to Naftogaz and Ukrtransnafta in an aggregate gross amount of UAH 21,385 million, or 47 per cent. of total loans to customers as at 30 September 2010, compared to UAH 29,090 million, or 58 per cent. of total loans to customers as at 31 December 2009 and UAH 18,767 c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 24 million, or 54 per cent. of total loans to customers as at 31 December 2008. This represents a significant concentration. See ‘‘Risk Factors – Risks Relating to the Bank – Substantial levels of concentration in the Bank’s customer accounts and loan portfolio’’ below. As at 30 September 2010, allowance for loan impairment as a percentage of total gross loans increased to 12.8 per cent. from 8.3 per cent. as at 31 December 2009 and 3.1 per cent. as at 31 December 2008. The growth in allowance for loan impairment reflected the impact of the significant depreciation of the hryvnia vis-à-vis the U.S. dollar in the second half of 2008 and deterioration of the financial position of corporate and individual borrowers as a result of the economic crisis in Ukraine. As a result of the Bank’s application of conservative credit risk policies, as well as enhanced loan performance monitoring functions and implementation of active management aimed at preventing the deterioration of the credit portfolio, the Bank managed to keep the level of nonperforming loans relatively low, with the impairment allowance covering about 100 per cent. of such loans. The increased level of impairment for the nine months ended 30 September 2010 reflects the increase in the allowance for impairment of loans and advances to customers. The Bank’s allowance for loan impairment is estimated by the Bank’s management based on the analysis of individual exposures for individually significant loans and collectively for those loans that are not individually significant or those individually significant loans for which no objective evidence of impairment was identified. Factors taken into consideration include borrower-related factors based on qualitative analysis of particular borrowers’ risk profiles and performance described in more detail in ‘‘Asset, Liability and Risk Management – Lending Policies and Procedures – Loan Classification and Allowances’’, as well as historical data on default probabilities and ultimate recoveries and current economic conditions. The limited range of data for the period from the onset of the global financial crisis in the second half of 2008 to the present results in a limited back-testing capability of the models that are currently being used and, therefore, the ability of such models to accurately predict losses remains largely untested. If a further downturn in the Ukrainian economy materialises, the Bank is likely to become subject to increasing risks in respect of the credit quality of, and the recovery on, loans to customers, which are negatively affected by deterioration in general economic conditions. Increased unemployment, rising inflation, reduced corporate liquidity and profitability and increased number of corporate insolvencies and inability of individuals to service personal debt, all of which are likely to result from any further deterioration in the Ukrainian economy, can reduce the Bank’s customers’ ability to repay loans. In addition, there can be no assurance that the Bank will be able to accurately assess default risk on loans provided to its customers due to the unpredictability of economic conditions in Ukraine and abroad. While the Bank requires periodic disclosure of its customers’ financial statements, such financial statements may not always present a meaningful indication of each customer’s financial condition. Failure by the Bank to manage its existing loan portfolio would have a material adverse effect on the Bank’s business, results of operations, financial condition and prospects. Relations with its shareholder and related party transactions The entire issued share capital of the Bank is currently owned by the State and controlled by the Ukrainian Government. Moreover, the Bank’s Charter lists among its objectives, in addition to the Bank’s purely commercial aims, the furtherance of certain wider, macroeconomic goals. Such goals include facilitating economic development and supporting domestic producers, in particular SME businesses, financing structural transformation of the economy, increasing production and trading potential of the various sectors of Ukraine’s economy, and developing the Ukrainian savings system. According to the Bank’s Charter and relevant Ukrainian legislation, the Bank is constituted as an autonomous entity, and is fully independent from the State in day-to-day decision-making and the performance of its normal business activities. The Ukrainian Government exercises its rights as sole shareholder through the Bank’s management bodies, including the Bank’s Supervisory Board (which supervises the activity of the Management Board of the Bank with the aim to safeguard deposits, protect interests of the State as the Bank’s shareholder and determine guidelines for the Bank’s business) and the Management Board (which is responsible for the Bank’s operational management and efficiency). Accordingly, while the State has respected the Bank’s operational independence, the Bank’s strategic goals are set by the State and are closely aligned with the State’s priorities. All State-owned (where the State owns at least 50 per cent. + 1 share) are considered as related parties of the Bank. The Bank has many State-owned entities among its customers and provides banking services and loan financing for such clients on the same commercial terms and conditions applicable to its private company clients. As at 30 September 2010, gross loans to State-owned c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 25 entities comprised 69.2 per cent. of the Bank’s gross loan portfolio (equivalent to UAH 31,163,921 thousand) compared to 72.2 per cent. as at 31 December 2009 (equivalent to UAH 35,978,497 thousand). For a more detailed description of the Bank’s related party transactions see ‘‘Related Party and Government Related Transactions’’. From time to time, certain transactions have been entered into by the Bank taking into account priorities of the Ukrainian Government or its agencies. For this reason, the Bank may have extended financing to financially fragile borrowers (including, as the case may be, certain State and municipal enterprises) which it would not have done had decision-making been based on purely commercial criteria, including the Bank’s own consideration of the relevant business risks and benefits. Such transactions may be entered into in the future. For example, when the liquidity position of Naftogaz was severely affected by rising gas import prices and reduced revenues following the onset of the global financial crisis, the Bank implemented an extensive financing programme for Naftogaz in December 2008 due to the fact that no other sources of funding were available for Naftogaz at that time and taking into account the strategic importance of Naftogaz to Ukraine’s economy. Naftogaz and other State-owned entities are among the main customers of the Bank’s Corporate Banking. In particular, as at 30 September 2010, the loan financing provided to the related state-owned companies Naftogaz and Ukrtransnafta amounted to UAH 21,385 million, or 47 per cent. of the Bank’s gross loan portfolio. The Bank’s second largest exposure to a State-owned entity represents 7.4 per cent. of the Bank’s gross loan portfolio, and the Bank’s third largest exposure represents 4.7 per cent. of the Bank’s gross loan portfolio. Each of the loans to the 90 remaining related parties which are Stateowned entities comprises 2.2 per cent. or less, of the Bank’s gross loan portfolio. See ‘‘Substantial levels of concentration in the Bank’s customer accounts and loan portfolio’’ and ‘‘Exposure to Naftogaz’’ below for further discussion of the risks related to the Bank’s high exposure to large State-owned entities, including Naftogaz. Under Ukrainian law, State authorities are forbidden from intervening in the commercial operations of banks. Ukrainian law also provides that banks which suffer from unlawful State intervention must be compensated for any resulting losses, however to date no procedure for such compensation has been adopted in Ukraine and no practice of claiming such compensation exists. In addition, under Ukrainian law and the Bank’s Charter, the Bank’s Supervisory Board is prohibited from interfering with the Bank’s day-to-day operations. Despite such prohibitions, the State may seek to rely on the Bank to support State or municipal enterprises experiencing liquidity problems in the future. While the Bank has negotiated competitive commercial terms in respect of the existing Naftogaz loans, there is no guarantee that it will be able to do so in the future. Given the comparatively strong historical performance of the State-related lending compared to other non-State sector lending, the Bank’s management believes that it is able to combine the role of a State-owned bank with that of a profitable commercial enterprise. However, with the Bank’s substantial exposure to State-owned entities (and therefore the economic condition of the State), it may be more sensitive to any slowdown or downturn in Ukraine’s economy than some of its competitors which have a lower exposure to the State sector. Such risks are described in more detail under ‘‘Risks Relating to Ukraine’’ above. The foregoing may impact the profitability of the Bank and have an adverse effect on the Bank’s business, results of operations, financial condition and prospects. Changes to the State ownership of the Bank and the State guarantee of retail deposits in the Bank The Bank is currently the only financial institution in Ukraine which provides a State-backed, 100 per cent. guarantee to individual customers of their deposits. This State-guarantee makes the Bank attractive to individual customers. Should the State cease to be a 100 per cent. shareholder in the Bank, the Bank may lose the benefit of the State guarantee which applies to its retail deposits. Such withdrawal of the State guarantee may have a negative impact on the way in which retail customers regard the Bank, leading to a possible decrease in retail deposits or making it difficult to attract new retail deposits, factors which may in turn have a negative impact on the Bank’s liquidity and funding position. In addition, Terms and Conditions of the Notes provide that the Bank may be required to prepay the Loan following a Change of Control (as defined in the Loan Agreement). See Condition 5(c) of the ‘‘Terms and Conditions of the Notes’’ and Clause 7.3 of the Loan Agreement. Although no relevant announcements have been made by the State authorities since the Bank’s establishment, there can be no assurance that the State will not cease to be a 100 per cent. shareholder in the Bank during the term of the Notes. c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 26 Substantial levels of concentration in the Bank’s customer accounts and loan portfolio The level of concentration in the Bank’s customer accounts has decreased since 2009. As at 30 September 2010, the aggregate amount of customer accounts from the Bank’s ten largest customers was UAH 1,855 million, or 8 per cent. of the Bank’s total customer accounts, compared to UAH 7,501 million, or 30 per cent. of total customer accounts as at 31 December 2009 and UAH 2,143 million, or 12 per cent. of total customer accounts as at 31 December 2008. At the same time, the level of concentration in the Bank’s lending portfolio remains high. As at 30 September 2010, the aggregate amount of loans provided to the ten largest borrowers or groups of borrowers was UAH 32,704 million, or 73 per cent. of the Bank’s total gross loan portfolio, compared to UAH 37,225 million, or 75 per cent. of the Bank’s total gross loan portfolio as at 31 December 2009 and UAH 23,089 million, or 66 per cent. of total gross loan portfolio as at 31 December 2008. The above stated amounts include loans to Naftogaz and Ukrtransnafta in the aggregate gross amount of UAH 21,385 million, or 47 per cent. of total gross loan portfolio as at 30 September 2010, compared to UAH 29,090 million, or 58 per cent. of total gross loan portfolio as at 31 December 2009 and UAH 18,767 million, or 54 per cent. of total gross loan portfolio as at 31 December 2008. In view of anticipated significant lending to Naftogaz as part of the State financing programme, the NBU, by special decision, raised the Bank’s permitted maximum single customer concentration exposure threshold in respect of Naftogaz to a level in excess of that which is generally applicable to all Ukrainian banks (25 per cent. of the regulatory capital of a bank) and exempted the Bank from the requirement to make provisions with respect to lending to Naftogaz as required by Ukrainian Accounting Standards (UAS). The Bank chose not to rely on such exemption and set up provisions for Naftogaz in order to bring the level of its statutory impairment reserves close to the level of IFRS reserves. The Bank’s compliance with the above individual ratio is monitored by the NBU on a daily basis. The fact of such higher than average concentration, if combined with a deterioration in Naftogaz’s ability to service its loans, may have a material adverse effect on the Bank’s business, results of operations, financial condition and prospects. Exposure to Naftogaz In 2008, the liquidity position of Naftogaz, one of Ukraine’s largest and most strategically important companies, was severely diminished by an increase in gas supply prices and a reduction in revenues. As a result, Naftogaz required substantial further financing in order to secure sufficient gas supplies from Russia during the winter of 2008-2009, until the State was in a position to assist Naftogaz directly. Most of such financing was provided by the Bank through direct loans or under reverse repurchase transactions between the Bank and Naftogaz in respect of the Ukrainian Government debt securities (treasury bills) held by Naftogaz. See ‘‘Risk Factors – Relations with its shareholder and related party transactions’’. As at 30 September 2010, the Bank’s aggregate credit exposure to Naftogaz was UAH 21,243 million, comprising 47.2 per cent. of the Bank’ gross loan portfolio. This makes Naftogaz the largest borrower of the Bank. See ‘‘Business – Exposure to Naftogaz’’ below for discussion of the Bank’s Naftogaz financing programme. In parallel to the financing programme implemented by the Bank, the Ukrainian Government provided financial support to Naftogaz, including through equity injections. In 2009-2010, the Ukrainian Government passed Resolutions to approve contributions into the authorised share capital of Naftogaz in the total aggregate amount of UAH 36,776,191 thousand, although some of these contributions were not completed as at 31 December 2010. In view of such financial support by the State, the liquidity position of Naftogaz has improved and it complied with all of its payment obligations towards the Bank. However, there can be no assurance that, to the extent Naftogaz remains among the Bank’s largest borrowers, any deterioration of its financial situation will not adversely affect the Bank’s business, results of operations and financial condition. In addition, the Bank’s transactions with Naftogaz generated a substantial part of the Bank’s total interest income in 2009 and 2010, which had a material impact on the overall profitability of the Bank. The interest income attributable to the Bank’s financing of Naftogaz amounted to UAH 2,276,452 thousand for the nine months ended 30 September 2010 (being 40 per cent. of the Bank’s total interest income as at that date), UAH 3,393,211 thousand for the year ended 31 December 2009 (being 44 per cent. of the Bank’s total interest income as at that date) and UAH 98,601 thousand for the year ended 31 December 2008 (being 4 per cent. of the Bank’s total interest income as at that date). In order to mitigate the liquidity risks of repayment of these loans and in order to enhance the marketability of the exposure to Naftogaz, on 15 December 2010, the Cabinet of Ministers of c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 27 Ukraine passed Resolution No. 1207 authorising Naftogaz to issue bonds in the nominal amount of UAH 20,416,000 thousand, with the proceeds of such issue to be used to repay the existing loan facilities with the Bank. The Bank envisages that it will purchase the majority of the new Naftogaz bonds so that its exposure to Naftogaz is restructured into more liquid instruments with diversified maturities. If any proceeds of the repayment of Naftogaz loans are not invested in the new Naftogaz bonds, the Bank intends to apply such proceeds towards repayment of the existing NBU refinancing provided to the Bank in order to implement the Naftogaz financing programme. However, any reduced exposure to Naftogaz under the loan agreements may result in the reduction of the Bank’s interest income. Furthermore, the Bank may be unable to reinvest any proceeds that are not applied towards the purchase of new Naftogaz bonds or the repayment of NBU financing on the commercial terms which are as attractive as the terms of the existing Naftogaz loans, which may have an adverse effect on the Bank’s business, financial condition and results of operation. In addition, while the existing Naftogaz loans are secured any new Naftogaz bonds may be unsecured. Significant levels of NBU funding As at 30 September 2010, the total indebtedness of the Bank under the NBU refinancing loans, which includes loans received by the Bank from the NBU for the purpose of financing Naftogaz, is UAH 15,532 million. The Bank’s NBU refinancing loans bear an average weighted interest rate of 9.9 per cent. per annum and are to be repaid from 2011 to 2015. In accordance with Ukrainian legislation, all such loans are secured on a first ranking basis by the Bank’s rights under loans extended to its customers, securities held by the Bank in its portfolio and cash in the correspondent account with the NBU. If the Bank were to default under the NBU refinancing loans, under Ukrainian law and in accordance with the terms of the relevant loan agreements, the NBU may exercise its statutory right to debit funds from the Bank’s accounts with the NBU on an irrevocable basis. In such event, the NBU would also be entitled to enforce the security related to such loans. On the liquidation of the Bank, the NBU’s claims arising as a result of depreciation of the value of any pledge to secure NBU refinancing loans would rank senior to the claims of any unsecured creditors of the Bank, including claims under the Loan Agreement. Accordingly, there is a risk that, in case of the Bank’s liquidation prior to the repayment of the NBU refinancing loans, the satisfaction of the Lender’s or Trustee’s claims under the Loan Agreement may be limited. Furthermore, any withdrawal of the funding support by the NBU may have a material adverse effect on the Bank’s business, financial condition or results of operations. Complex information technology systems The Bank’s information technology (IT) systems are critical to its business operations and are essential to achieving the Bank’s strategic objectives, maintaining operational efficiencies, enhancing its risk management systems and meeting the needs of the Bank’s customer base. The Bank currently does not operate a single, integrated operating system which allows for real-time reporting of the Bank’s financial position. The Bank has started the implementation of its new unified automatic banking system (ABS) across the entire network. As at 30 September 2010, the new ABS was implemented in nine out of 25 regional branches. In addition, the Bank continues to implement its data transmission network across the majority of its locations, allowing for the timely transfer of information within the Bank’s network. This network currently connects 1,090 locations, with a further 2,000 locations expected to join the network in 2011-2012. However, if the Bank is unable to further strengthen and centralise its IT systems, implement the new ABS and roll out the data transmission network across the Bank, it may be unable to achieve its strategic objectives and its ability to compete successfully with other Ukrainian banks may be adversely affected. With five existing core accounting systems and 252 separate balance sheets (as at 31 December 2010) being collated throughout the Group, the Bank experiences a reporting delay between closing of individual balance sheets and their consolidation into a single Bank-wide balance sheet. This delay can be up to 24 hours. The Bank is reorganising its financial reporting to reduce the number of balance sheets across the Bank. Once the reorganisation is complete, only regional branches of the Bank and its head office will have their own balance sheets consolidated into the Bank’s central balance sheet for financial reporting purposes. However, the failure by the Bank to centralise its reporting, standardise accounting operations and streamline information processing may result in a failure to improve operational efficiencies and affect the Bank’s ability to analyse financial information in order to identify potential problems. Furthermore, the failure to implement the Bank’s c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 28 IT strategy, or its implementation on a partial or defective basis, may cause its IT systems to fall behind the IT systems used by its competitors. In addition, the Bank does not have a centralised IT security policy. Currently, the Bank’s office for the protection of electronic information (the IT Security Office) is responsible for the information security at the Bank’s head office and regional branches as well as monitoring compliance with information security requirements throughout the Bank. However similar functions are performed by the relevant information security administrators in the sub-branches and outlets who are subordinated to the management of the relevant Bank branch and not the IT Security Office. Such lack of direct subordination may negatively affect the level of co-ordination between the IT Security Office and local information security administrators. This lack of co-ordination may result in security issues being overlooked, with potential implications for the Bank’s operations. In addition, certain functions related to the management of information security processes are performed by the Information Technology Department (the IT Department) rather than the IT Security Office. Such functions include granting access to the Bank’s information systems, managing systemic software updates, monitoring integrity of the Bank’s information systems, monitoring internet access, information technology procurement, managing security breaches and protecting information in local and corporate networks. The Bank’s Management Board approved a merger of the IT Security Office and the IT Department, to take effect on 11 February 2011. However, until such integration is complete, limited involvement of the IT Security Office in information security process may affect the level of information security at the Bank, which may impact on the results of operation, financial condition and prospects of the Bank. In common with other financial institutions, data integrity and disaster recovery are of key importance to the Bank’s ability to operate efficiently and maintain its reputation. Currently, all of the Bank’s daily transactions are backed up both at its head office level and at all of the Bank’s branches. However, the Bank’s main back-up facility is located in the same building as the Bank’s main servers, which presents a risk to the Bank should its main facility be compromised. To minimise this risk, and prevent data loss, the Bank periodically creates copies of its data on removable storage media which are stored off-site. The Bank’s IT budget for 2011 provides for the acquisition of hardware and lease of offsite premises for the Bank’s main back up facility. However, until such plans are implemented, a force majeure event affecting both the main servers and the back-up servers would result in a substantial disruption of the Bank’s normal operations, which may in turn have a material adverse effect on the future financial condition, results of operations and prospects of the Bank. In addition, the Bank experiences occasional disruption of communication lines within Ukraine. The Bank is currently setting up independent back-up communication lines between its head office, regional offices and sub-branches. However, until this project is implemented in full in 2011-2012, the Bank remains exposed to any interruptions due to the failure of local communication lines provided by current suppliers. Such interruptions may prevent the Bank from functioning as required, leading to a reduction in operational efficiency, and potential loss of revenue or customer goodwill, all of which may impact on the results of operations, financial condition and prospects of the Bank. The Bank’s Financial Statements for the years ended 31 December 2009 and 31 December 2008 and Condensed Interim Financial Information for the nine months ended 30 September 2010 include qualifications relating to the adequacy of disclosure relating to liquidity risk, the revaluation of buildings, hyper-inflationary accounting and segment reporting The Bank’s Financial Statements for each of the years ended 31 December 2009 and 31 December 2008 include a qualification relating to the adequacy of disclosure on liquidity risk. IFRS 7 ‘‘Financial Instruments: Disclosures’’ requires the Bank to determine the contractual remaining maturities of customer accounts and contractual remaining maturities of undiscounted cash flows of customer accounts as of each year end. The Bank’s IT systems do not currently allow for an accurate determination of such maturities and the failure to make such determination marks a departure from IFRS 7. The Bank is therefore only able to estimate core current accounts, with statistical methods applied to historic information on fluctuations of customer accounts balances. The Bank applies a going concern assumption which results in maturities of customer accounts being undefined. As a result, the Bank’s auditors, PJSC ‘‘Deloitte & Touche USC’’, have not been able to measure the overall effect of the Bank’s non-compliance with IFRS 7 on the Bank’s financial statements. If IFRS 7 was to be fully applied by the Bank, with the determination of contractual maturities other than by way of estimation this may have an effect on the position as stated in the Financial Statements for each of the years ended 31 December 2009 and 31 December 2008. c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 29 In accordance with its internal accounting policy, the Bank revalues buildings included in the line item ‘‘Property, equipment and intangible assets’’. In accordance with the requirements of IAS 16 ‘‘Property, Plant and Equipment’’, these revaluations should be made with sufficient regularity to ensure that the carrying amount does not differ materially from that which would be determined using fair value as at the reporting date. No revaluations were made as at 31 December 2009 and 2008. The Bank performed the most recent revaluations of its buildings as at 1 November 2008. However, the revaluations do not take into account changes in market values of buildings that occurred after 1 November 2008. It is possible that such infrequent revaluation may lead to variance, possibly significant, between the values of buildings as shown in the historic financial statements and actual current value. PJSC ‘‘Deloitte & Touche USC’’ were unable to determine the effect of this departure from the requirement of IFRS on the carrying amount of buildings, property revaluation reserve, and retained earnings as at 31 December 2009 and 2008, and the depreciation charge, changes in property revaluation reserve and taxation for the years then ended. The Bank intends to carry out revaluation of its buildings in 2011. In accordance with IAS 29 ‘‘Financial Reporting in Hyperinflationary Economies’’, the economy of Ukraine prior to and including the year 2000 was considered to be hyper-inflationary. The Bank did not apply the requirements of IAS 29, which requires restatement of non-monetary assets and equity to account for the effects of inflation up to 31 December 2000, in preparing its financial results. Such failure to apply IAS 29 means that the inflationary effects on some non-monetary assets may not be accurately reflected in the Bank’s financial statements. The Bank’s auditors were unable to determine the exact effect of this departure from IAS 29 on share capital, revaluation surplus and retained earnings as at 31 December 2009 and 2008, although they have stated that this is a technical qualification only as the total equity balance will not be changed after application of IAS 29. In accordance with IFRS 8 ‘‘Operating Segments’’ information about the Bank’s operating segments, products and services, the geographical areas in which it operates, and its major customers is required to be disclosed if an entity files, or is in the process of filing, its financial statements with a securities commission or other regulatory organisation for the purpose of issuing any class of instruments in a public market. In the past the Bank did not apply provisions of IFRS 8 as the management considered it was not relevant for the Bank. As discussed in Note 2 to the Condensed Interim Financial Information, the Bank did not disclose information about the Bank’s operating segments. The Bank intends to apply IFRS 8 for the annual financial statements as at 31 December 2010. If the Bank fails to continue further development of its system of internal control over financial reporting, it might not be able to accurately report its financial results In common with other banks in Ukraine and other CIS countries, the Bank’s current system of internal control over financial reporting was not originally designed for the preparation of complete monthly IFRS-based financial statements and IFRS-based management accounts. These shortcomings could adversely impact the quality of decision making by Bank’s senior management due to delays in producing complete management accounts on the basis consistent with IFRS. Historically, the Bank’s senior management has largely based its decisions on management accounts and financial statements based on UAS rather than complete IFRS monthly financial statements. The main weakness of the Bank’s current system is that the preparation of the Bank’s IFRS-based financial statements is a partially manual process which involves the transformation and reclassification of the Bank’s statutory financial statements into IFRS through accounting adjustments, and requires an ongoing review and update of applicable IFRS and related pronouncements that should be applied to the underlying Ukrainian accounting principles transactions. This process is complicated, time-consuming and requires significant attention and time of the Bank’s senior accounting personnel. In addition to that, in Ukraine there is a limited pool of accounting personnel with IFRS expertise, which make it difficult for the Bank to hire and retain such personnel. There is a risk that any inability to hire or to retain qualified accounting staff could have a material adverse effect on the Bank’s ability to prepare accurate financial information in a timely manner. However, following the receipt of management letters from the Bank’s external auditors highlighting such deficiencies, management is taking steps to improve the internal procedures. These steps include, but are not limited to, hiring additional qualified personnel, increasing training for current personnel, implementing additional information system capabilities to support the IFRS reporting requirements and attempting to better harmonise the sometimes conflicting requirements of statutory reporting, Ukraine regulatory reporting, tax reporting and financial reporting under IFRS. c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 30 A failure by the Bank to adequately address any such deficiencies or to strengthen its internal controls could increase the risks associated with the Bank’s operations, which in turn could have a material adverse effect on the Bank’s business, results of operations, financial condition and prospects. Lack of information for credit risk assessments The often insufficient statistical, corporate and financial information, including audited financial statements, available to the Bank relating to its prospective corporate borrowers or other clients makes the assessment of their credit risk and the evaluation of collateral more difficult. The legislative framework for establishment and operation of credit bureaus, which deliver information to Ukrainian banks to assist them in evaluating and minimising the credit risk of prospective borrowers, only came into effect in January 2006. Several credit bureaus have obtained licences required by the legislation for collecting, processing, storing and utilising of credit information and have commenced operations. Although they are gradually expanding their coverage, the amount of data available from such credit bureaus is not as comprehensive as in developed economies. In addition, credit rating agencies that provide information regarding participants in the Ukrainian securities market operate in Ukraine. The information provided by the credit rating agencies is publicly available. However, Ukraine’s system for gathering and publishing statistical information relating to the Ukrainian economy in general or specific sectors of the Ukrainian or corporate or financial information relating to companies, is not as comprehensive as those of developed economies. Although the Bank believes that it has adequate risk evaluation procedures in place and, in particular, ordinarily estimates the net realisable value of collateral in determining applicable provisioning and collateralisation requirements, the absence of additional statistical, corporate and financial information may decrease the accuracy of the Bank’s assessments of credit risk, thereby increasing the risk of borrower default and decreasing the likelihood that the Bank would be able to enforce any security in respect of the corresponding loan or that the relevant collateral will have a value commensurate to the loan secured by such collateral. See ‘‘Asset , Liability and Risk Management – Credit Risk’’. The Bank may face liquidity risks Adverse economic conditions in Ukraine resulted in a partial withdrawal of deposits with the Bank by Ukrainian retail customers, especially in the fourth quarter of 2008. In addition, due to the generally low liquidity of the Ukrainian market, there are limited opportunities to sell or factor some of the Bank’s assets other than highly-liquid assets. The decreases in corporate client deposits and/or significant levels of withdrawals of retail deposits may result in liquidity gaps that the Bank will need to cover. The Bank may also be exposed to maturity mismatches between its assets and liabilities, which may lead to a lack of liquidity at certain times. See ‘‘Asset , Liability and Risk Management – Liquidity Risk’’. Deterioration of Ukrainian companies’ liquidity, or of conditions in the Ukrainian and international capital, syndicated loan and interbank markets, significant withdrawals of corporate and retail deposits and maturity mismatches between the Bank’s assets and liabilities may, together or separately, have a material adverse effect on the Bank’s business, results of operations, financial condition and prospects. See ‘‘Asset, Liability and Risk Management – Liquidity Risk’’. The Bank’s exposure to exchange rate risk The Bank’s open currency position is constituted of such currencies and bank metals as US dollars, euros, pounds sterling, Russian roubles and gold. The open currency position is generally based on the mismatch between the Bank’s claims to debtors and the Bank’s liabilities. This includes the adequacy of the currency position in order to make provisions in respect of lending transactions and non-trading activities with foreign currencies. As the Bank maintains limited open currency positions, this may give rise to exposure to currency risk. Currently, due to various Ukrainian law restrictions there is no active market for foreign currency hedging in Ukraine. In late 2008, there has been significant downward pressure on the hryvnia against both the U.S. dollar and the euro. In October-December 2008, the NBU official UAH/USD exchange rate weakened by approximately 60 per cent. as a result of, among other things, capital outflows. During 2009 and 2010, the UAH/USD exchange rate remained relatively stable and was UAH 7.985 per U.S. dollar as at 31 December 2009 and UAH 7.9617 per U.S. dollar as at 31 December 2010. As at 10 February 2011, the NBU official UAH/USD exchange rate was UAH 7.94 per U.S. dollar. Future changes in the hryvnia exchange rate depend on the level of further capital outflows, the current account deficit and inflation, all of which are conditional on domestic monetary and fiscal policies, as well as on c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 31 global financial situation. See ‘‘Risk Factors – Risks Relating to Ukraine – The Ukrainian currency is subject to volatility and depreciation’’. The Bank has established and implemented internal policies and procedures to measure and manage its currency risk exposure. Under these policies and procedures, the Management Board of the Bank empowered the Assets and Liabilities Management Committee (ALMC) to manage general currency risks. The ALMC determines limits and restrictions on currency positions and on certain currency operations. The Main Operations Department and the Treasury Department, in each case under the supervision of the Risk Management Department (RMD), monitor the Bank’s currency position on a daily basis with the aim to match requirements set by the NBU as well as internal limits and restrictions. In general, changes in foreign exchange rates do not significantly influence the net operating income and net profit of the Bank; this can be seen from the amount of the Bank’s open currency positions. The Bank has limits in place aimed at reducing currency risk and adheres to the NBU limits on open currency positions, exchange rates and the volatility of the hryvnia or any major international currency to which the Bank is exposed (mainly U.S. dollar and euro). The Bank assesses its foreign exchange risk as not significant and as a risk which will not have a material adverse effect on the Bank’s business, results of operations, financial condition and prospects, however no assurances can be given that this will not change in the future or that the management of such risks in the future will be sufficient to neutralise foreign exchange risks. Regulation of the banking industry The NBU’s Board Resolution No. 368, dated 28 August 2001, which authorised the Instruction on Ukrainian Banking Activity Regulation (the Banking Regulation Instruction), sets forth capital adequacy ratios and other ratios and various limits, including credit risk limits, investment limits, liquidity ratios and rules upon which the calculations of such ratios and limits are based. The Banking Regulation Instruction also provides general rules regarding the submission by banks of statistical information to the NBU. In addition the NBU has established and revises from time to time mandatory levels of provisioning for different groups of assets classified according to the NBU regulations. The NBU has adopted a number of regulations aimed at countering the effects of the global financial crisis, supporting the national currency and limiting deposit outflow. Such recent changes include rules requiring that currency purchases by bank-borrowers with the purpose of redemption of the principal of its cross-border loans may only be made in an amount that does not exceed the amount of borrowed foreign currency funds that were previously exchanged to Ukrainian hryvnia in the interbank market. There are also other rules restricting the Bank’s ability to purchase foreign currency on the interbank market. These and other changes in currency regulation may affect the Bank’s ability to deal with its liquidity and currency risks. In addition, the NBU currently restricts Ukrainian banks from entering into forward foreign exchange contracts with international counterparties. This limits the Bank’s ability to conduct foreign exchange hedging operations, and as a result the Bank manages its foreign exchange exposures by matching assets and liabilities in each currency. Failure of the Bank to comply with the requirements of the laws and regulations governing banking activity may lead to application by the NBU of sanctions provided for in the Law of Ukraine ‘‘On Banks and Banking Activity’’ and other NBU regulations which will depend on the nature and the extent of the violation. Generally, regulatory standards applicable to banks in Ukraine and the oversight and enforcement thereof by Ukrainian regulators may differ from those applicable to banking operations in more developed regulatory regimes. It is unclear how numerous legal and regulatory developments may affect the competitive banking landscape in Ukraine and whether they will improve certain banking activities. There can be no assurance that the NBU will not implement regulations or policies, including policies or regulations or legal interpretations of existing banking or other regulations, relating to or affecting taxation, interest rates, inflation, exchange controls, or otherwise take action that could have a material adverse effect on the Bank’s business, result of operations, financial condition or prospects. In addition, Ukrainian banks are exposed to the general risks connected with the Ukrainian judicial system. Regulatory rules for banking activities may be interpreted by Ukrainian courts in a way that differs from the existing practice of their application supported by the NBU and/or other relevant c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 32 regulators. In particular, there are recent conflicting court rulings with respect to extension of foreign currency loans by Ukrainian banks, some of which establish that an individual payment license is required for each separate loan in a foreign currency. While judicial precedents in Ukraine generally have no binding effect on subsequent decisions, as at the date of this Prospectus, it is difficult to predict what implications, if any, such court practice could have for the Bank and other Ukrainian banks that are directly involved in respective litigations or for the Ukrainian banking system in general. See ‘‘Risks relating to Ukraine – The judiciary’s lack of independence and overall inexperience, difficulty in enforcing court decisions and governmental discretion in enforcing claims could prevent the Bank or the Bank’s investors from obtaining effective redress in a court proceeding’’. Capital adequacy The Basel Committee on Banking Supervision (the Basel Committee) has set international standards for capital adequacy for banks. The NBU has also established minimum capital adequacy ratios that are mandatory for Ukrainian banks, based on a methodology which is generally consistent with the applicable standards of the Basel Committee (although the NBU has assigned higher risk to certain assets in comparison with the standards of the Basel Committee). With effect from 1 March 2004, the NBU’s mandatory minimum capital adequacy ratio was increased from 8 per cent. to 10 per cent. of a bank’s risk weighted assets. Further, the Basel Committee has issued a new capital adequacy framework (the Basel Accord) to replace the previous capital accord issued in 1988. With regard to the risk measurement requirements relating to credit risk ratings applied to exposures to sovereign states, the Basel Committee proposes replacing the existing approach with a system that would use both external and internal credit ratings for determining risk weightings or the amount of credit exposures. Such an approach will also apply, either directly or indirectly and to varying degrees, to the risk measurement for exposures to banks, securities firms and corporate entities. The new framework could require financial institutions lending to Ukrainian banks to be subject to higher capital requirements as a result of the credit risk rating of Ukraine, possibly resulting in a higher cost of borrowing for Ukrainian banks. Following the period of sustained growth in the period of 2005-2007, capital adequacy ratios were relatively low in the beginning of 2008, and in the light of the global financial crisis it was evident that capital increases would be required in the future. State support in the form of several capital contributions was of critical importance for the Bank in 2008 as it allowed the Bank to continue growing its loan book and simultaneously significantly increased its capital adequacy ratios. In 2008, the Bank’s share capital was increased by the aggregate amount of UAH 13.0 billion through three additional contributions of cash and Ukrainian Government debt securities in accordance with the Resolutions of the Cabinet of Ministers of Ukraine dated 9 July 2008, 26 November 2008 and 29 December 2008. As a result of the capital contributions from the State in 2008, the Bank’s total regulatory capital expressed as a percentage of total risk-weighted assets and calculated in accordance with the Basel Capital Accord 1988 increased from 22.03 per cent. as at 31 December 2007 to 41.47 per cent. as at 31 December 2008 and the Bank’s Tier 1 capital expressed as a percentage of total risk-weighted assets increased from 11.01 per cent. as at 31 December 2007 to 36.81 per cent. as at 31 December 2008. The growth of the Bank’s loan book continued in 2009. The Bank’s net loans to customers increased from UAH 33,892 million as at 31 December 2008 to UAH 45,716 million as at 31 December 2009, the growth mainly driven by the financing provided to Naftogaz and Ukrtransnafta and a number of new corporate customers. Due to the growth of the Bank’s loan book, the Bank’s total regulatory capital expressed as a percentage of total risk-weighted assets and calculated in accordance with the Basel Capital Accord 1988 decreased from 41.47 per cent. as at 31 December 2008 to 32.26 per cent. as at 31 December 2009 and the Bank’s Tier 1 capital expressed as a percentage of total riskweighted assets decreased from 36.81 per cent. as at 31 December 2008 to 28.41 per cent. as at 31 December 2009. The Bank expects its capital adequacy ratios to gradually decline as it expands its lending activities in line with its stated business strategy, provided that the favourable developments in the Ukrainian economy continue. Although the Bank’s capital adequacy ratios are, as at 30 September 2010, significantly above the minimum capital adequacy ratio set by the Basel Committee and the NBU requirements, if the Bank fails to maintain the sufficient level of capital adequacy ratios, in particular as required by the NBU, in future, it may be subject to sanctions by the NBU (including the revocation of its banking licence), which may have a material adverse effect on the Bank’s business, results of operations, financial condition and prospects. c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 33 Increasing competition Despite the adverse impact of the global financial crisis on the Ukrainian banking system, the Ukrainian market for financial services remains highly competitive in respect of standard commercial banking activities. The Bank principally competes with a number of other national and regional banks. According to the official statistics of the NBU, as at 31 December 2010, there were a total of 194 commercial banks registered in Ukraine, of which 176 have been granted licences by the NBU to perform banking transactions. The Bank’s most significant competitors include PrivatBank, Raiffeisen Bank Aval, Ukrsibbank, Ukreximbank, Ukrsotsbank and OTP Bank. Currently, the competition among Ukrainian banks is principally focused on attracting corporate and retail deposits. The Bank believes that it is well-positioned in the banking market and its competitive strengths include stateowned status, strong reputation in the market, the largest branch network in Ukraine and its ability to offer competitive products to its customers. The Bank expects the Ukrainian banking market to remain competitive in the future due to the impact of the financial crisis and the absence of restrictions on the opening of branch offices by foreign banks, which were abolished from the date of Ukraine’s accession to the WTO on 16 May 2008. As at 31 December 2010, out of 176 banks, 55 banks had foreign ownership, of which 20 were 100 per cent. -owned by foreign entities. Acquisitions of Ukrainian banks or controlling stakes therein by foreign banks and financial groups that occurred in recent years may further increase competition among Ukrainian banks in both deposit taking and lending activities. If the Bank is unable to continue to compete successfully in the Ukrainian banking sector or to execute its strategy, this could have a material adverse effect on the Bank’s business, results of operations, financial condition and prospects. See ‘‘Business – Competition’’. Dependence on key management, many of whom have only recently joined the Bank, and retaining qualified personnel The Bank is dependent on members of its Management Board and other key members of the management teams, many of whom have only recently joined the Bank, for the development and implementation of its strategy. Should members of the current management team opt to leave the Bank or, in the case of recently appointed members of the management, not prove able to quickly integrate in the organisation, then the operational efficiency of the management team may be compromised, which in turn may have an adverse effect on the Bank’s efficiency. The Bank’s continued success will depend, in part, on its ability to continue to retain, motivate and attract, in cases where needed, qualified and experienced personnel. Competition in the Ukrainian banking sector for personnel is considerable. While the Bank believes it has a strong management team and effective staff recruitment, training and incentive programmes in place, a failure to recruit, train and/or retain necessary personnel could have a material adverse effect on the Bank’s business, results of operations, financial condition and prospects. See ‘‘Employees’’. Interest rate volatility Net interest income (after allowances for impairment of interest earning assets) represents a significant portion of the Bank’s operating profit. The Bank’s dependence on net interest income may challenge the stability of its earnings during periods of high interest rate volatility. Fluctuations in interest rates could adversely affect the Bank’s net interest income in a number of different ways. An increase in interest rates generally may decrease the value of the Bank’s fixed rate loans and increase the Bank’s funding costs. Such an increase could also generally decrease the value of fixed rate debt securities in the Bank’s securities portfolio. In addition, an increase in interest rates may increase the risk of customer default, while general volatility in interest rates may result in a gap between the Bank’s interest-rate sensitive assets and liabilities. As a result, the Bank may incur additional costs and expose itself to other risks by adjusting such asset and liability positions. Interest rates are highly sensitive to many factors beyond the Bank’s control, including the reserve policies of the NBU, domestic and international economic and political conditions and other factors. There can be no assurance that the Bank will be able to protect itself from the negative effects of future interest rate fluctuations. Further changes in market interest rates could affect the interest rates earned on interest-earning assets differently, leading to a reduction in the Bank’s net interest income and having a material adverse effect on its business, results of operations, financial condition and prospects. c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 34 The Bank’s exposure to prices of investment securities The Bank’s financial condition and operating results are also affected by changes in market values in the Bank’s securities portfolio. As at 30 September 2010, the carrying value of the Bank’s investments available for sale (mainly comprised of the Ukrainian Government debt securities) was UAH 7,513 million, which represented 13.4 per cent. of the Bank’s total assets, compared to UAH 4,012 million, or 7.0 per cent. of the Bank’s total assets, as at 31 December 2009 and UAH 15,712 million, or 27.9 per cent. of the Bank’s total assets, as at 31 December 2008. The Bank’s income from securities operations depends on numerous factors, some of which are beyond its control, including overall market trading activity, interest rate levels, fluctuations in currency exchange rates and general market volatility. Although the Bank has put in place limits for its securities portfolio, securities transactions, including specific limits on transactions with or by certain individual issuers, market price fluctuations, particularly affecting the Bank’s Ukrainian Government debt securities, may adversely affect the value of the Bank’s securities portfolio. Investment in the Ukrainian Government securities As at 30 September 2010, the Bank held Ukrainian Government debt securities, issued by the Ministry of Finance of Ukraine, with an aggregate carrying value of UAH 5,831,907 thousand, compared to holdings of UAH 2,348,360 thousand as at 31 December 2009 and holdings of UAH 13,619,196 thousand as at 31 December 2008. Any circumstances adversely affecting the discharge of Ukraine’s sovereign debt obligations may adversely affect on the Bank’s business, results of operations, financial condition and prospects. See ‘‘Risks – Risks relating to Ukraine’’. Instability of the Ukrainian and international banking sector, including a deterioration of the soundness or the perceived soundness of other financial institutions Since the second half of 2007, against the backdrop of the limited liquidity and high cost of funds in the international and Ukrainian domestic interbank lending markets, the Bank has been and remains subject to the risk of deterioration of the soundness and/or perceived soundness of other financial institutions within and outside Ukraine. Financial institutions that transact with each other are interrelated as a result of trading, investment, clearing, counterparty and other relationships. This risk, sometimes referred to as ‘‘systemic risk’’, may adversely affect financial intermediaries, such as clearing agencies, clearing houses, banks, securities firms and exchanges with which the Bank interacts on a daily basis. A failure of such entities to interact efficiently with Bank may adversely affect the Bank’s operations. The Bank routinely executes a high volume of transactions with counterparties in the financial services industry, including brokers and dealers, commercial banks, investment banks and other financial institutions. As a result, the Bank is exposed to counterparty risk, and this counterparty risk is exacerbated due to the impact of the global financial crisis, notwithstanding the anti-crisis measures taken by the Bank in this regard. A default by, or concerns about the stability of, one or more financial institutions (whether or not a counterparty of the Bank) could lead to further significant systemic liquidity problems, or losses or defaults by other financial institutions, which could have a material adverse effect on the Bank’s business, result of operations, financial condition and prospects. A decline in the value or liquidity of the collateral securing the Bank’s loans may adversely affect its loan portfolio A substantial portion of the Bank’s loans to corporate customers and individuals is secured by collateral such as property, production equipment, vehicles and inventory. Downturns in the relevant markets or a general deterioration of economic conditions, both of which have recently occurred in the Ukrainian markets and economy, have resulted and may continue to result in declines in the value of collateral securing a number of loans to levels below the amounts of the outstanding principal and accrued interest on those loans. As the bulk of the Bank’s collateral portfolio is in land and property, downturn in the real estate and construction sectors will have an adverse effect on the value of the Bank’s collateral portfolio. While the Bank requires that the amount of collateral provided in respect of each loan should be sufficient to cover both the loan principal and interest even in the event that the value of such collateral falls, this declining collateral values may not be sufficient to cover uncollectible amounts on the Bank’s secured loans. This may require the Bank to downgrade the relevant loans, and establish additional allowances. A failure to recover the expected value of collateral may expose the Bank to losses, which may materially adversely affect the Bank’s business, results of operations, financial condition and prospects. c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 35 The Bank’s business entails operational risk The Bank is exposed to many types of operational risk, including the risk of fraud by employees or outsiders, unauthorised transactions by employees or operational errors, including clerical or record keeping errors or errors resulting from faulty computer or telecommunications systems. The Bank maintains a system of controls designed to keep operational risk at appropriate levels. However, there can be no assurance that it will not suffer a material adverse impact on its business, results of operations, financial condition or prospects if these controls fail to detect or contain operational risk in the future. Change of the Bank’s organisational form According to recent amendments in Ukrainian legislation regulating joint stock companies, the Bank is required to change its organisational form from that of the current ‘‘open joint stock company’’ to ‘‘public joint stock company’’ (PJSC) by 29 April 2011. Failure by the Bank to comply with this requirement may result in the imposition of sanctions by the State Commission on Securities and the Stock Market of Ukraine (the Commission) and, including such sanctions as a maximum one year suspension of issuance or circulation of the Bank’s domestic securities and/or licences issued to the Bank. The Bank is undertaking actions required to implement such change and believes that its transformation into a PJSC will be completed by the above specified statutory deadline. However, failure to complete the change to the PJSC form and any resulting sanctions imposed by the Commission may have an adverse effect on the operations of the Bank, its financial condition and prospects. Risks Related to the Notes and the Trading Market The Notes may not be a suitable investment for all investors In addition to the risks associated with investing in emerging markets such as Ukraine, each potential investor in the Notes must determine the suitability of that investment in light of its own circumstances. In particular, each potential investor should: * have sufficient knowledge and experience to make a meaningful evaluation of the Notes, the merits and risks of investing in the Notes and the information contained in this Prospectus; * have access to, and knowledge of, appropriate analytical tools to evaluate, in the context of its particular financial situation, an investment in the Notes and the impact the Notes will have on its overall investment portfolio; * have sufficient financial resources and liquidity to bear all of the risks of an investment in the Notes; * understand thoroughly the terms of the Notes and be familiar with the behaviour of financial markets; and * be able to evaluate (either alone or with the help of a financial adviser) possible scenarios for economic, interest rate and other factors that may affect its investment and its ability to bear the applicable risks. The Notes may be considered complex financial instruments. Sophisticated institutional investors generally do not purchase complex financial instruments as stand alone investments. They purchase complex financial instruments as a way to reduce risk or enhance yield with an understood, measured, appropriate addition of risk to their overall portfolios. A potential investor should not invest in the Notes unless it has the expertise (either alone or with a financial adviser) to evaluate how the Notes will perform under changing conditions, the resulting effects on the value of the Notes and the impact this investment will have on the potential investor’s overall investment portfolio. Noteholders’ rights to receive payment on the Notes will be limited to payments received from the Borrower under the Loan Agreement The Issuer is obliged to make payments under the Notes to Noteholders only to (the extent of the amount of principal, interest, Additional Amounts (as defined in the Loan Agreement), if any, and Indemnity Amounts (as defined in the Loan Agreement), if any, actually received by or for the account of the Issuer under the Loan Agreement, less any amount in respect of the Reserved Rights. Consequently, if the Borrower fails to fully meet its obligations under the Loan Agreement, Noteholders will, on the relevant due date, receive less than the scheduled amount of principal, interest and/or additional amounts (if any) due and payable under the Notes. c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 36 The Borrower may be unable to repay the Loan at maturity At maturity, the Borrower may not have the funds to fulfil its obligations under the Loan Agreement and it may not be able to arrange for additional financing. If the maturity date of the Loan occurs at a time when other arrangements prohibit the Bank from repaying the Loan, the Borrower would try to obtain waivers of such prohibitions from the lenders under those other arrangements, or it could attempt to refinance the borrowings that contain the restrictions. If the Borrower cannot obtain the waivers or refinance these borrowings it may be unable to repay the Loan. The Notes may be redeemed prior to maturity In certain circumstances the Borrower may require or be required to prepay the Loan prior to maturity (see Clause 7.1 (Repayment for Tax Reasons and Change in Circumstances) of the Loan Agreement and Clause 7.2 (Repayment for Illegality) of the Loan Agreement), and in such circumstances the outstanding Notes would be redeemed early (see Condition 5(b) (Redemption by the Issuer:) of the ‘‘Terms and Conditions of the Notes’’). Such circumstances include the Borrower being required to increase the amounts payable under the Loan Agreement (by way of Additional Amounts and/or Indemnity Amounts (each as defined in the Loan Agreement)), including as a result of the application of or any amendment to or change in the Double Tax Treaty (as defined herein) or the laws or regulations of Ukraine or the United Kingdom. It may not be possible to reinvest the proceeds from the redemption of the Notes at an effective interest rate as high as the interest rate on the Notes and this may only be possible at a significantly lower rate. Any Notes acquired by the Borrower or any of its subsidiaries may be surrendered through the Issuer to the Principal Paying Agent for cancellation, and the Loan shall be deemed to have been prepaid in an amount corresponding to the aggregate principal amount of the Notes surrendered for cancellation. The Borrower may not have the ability to raise the funds necessary to finance the repayment of the loan under a Change of Control Offer Pursuant to the ‘‘Terms and Conditions of the Notes’’, upon the occurrence of a Change of Control (as defined in the Loan Agreement), Noteholders shall have the option to give notice or procure that notice is given for the prepayment of the applicable amount of the Loan and the redemption of the relevant Notes thereafter. However, it is possible that the Borrower will not have sufficient funds at the time of a Change of Control to make the required prepayment of the Loan to enable the Issuer to redeem the Notes. In summary, a Change of Control will occur if Ukraine, whether through the Cabinet of Ministers of Ukraine or any other agency of Ukraine (as defined in the Loan Agreement) ceases to own at least 51 per cent. of the share capital, or otherwise to control, the Borrower or if there is an official public announcement made by the Cabinet of Ministers or the State Property Fund of Ukraine of an intention that Ukraine would cease to so own or control the Borrower and within a certain period of time thereafter, there is a Rating Decline (as defined in the Loan Agreement) and, in the announcement of the Rating Decline, the relevant rating agency specifies that the proposed change in ownership or control of the Borrower is a factor in its decision to decrease or downgrade the Borrower rating. See the ‘‘Loan Agreement’’. Noteholders have no direct recourse to the Borrower Except as otherwise expressly provided in the Terms and Conditions of the Notes and in the Trust Deed no proprietary or other direct interest in the Issuer’s rights under or in respect of the Loan Agreement or the Loan exists for the benefit of the Noteholders. Subject to the terms of the Trust Deed, no Noteholder will have any entitlement to enforce any of the provisions of the Loan Agreement or have direct recourse to the Borrower, except through action by the Trustee to enforce the Security Interests. Neither the Issuer nor the Trustee pursuant to the assignment of the Transferred Rights (as defined in the ‘‘Terms and Conditions of the Notes’’) shall be required to enter into proceedings to enforce payment under the Loan Agreement, unless it has been indemnified and/ or prefunded and/or secured by the Noteholders to its satisfaction against all liabilities, proceedings, claims and demands to which it may thereby become liable and all costs, charges and expenses which may be incurred by it in connection therewith. In addition, the Noteholders should be aware that neither the Issuer nor the Trustee accepts any responsibility for the performance by the Borrower of its obligations under the Loan Agreement. See Condition 1 (Form, Denomination and Status) of the ‘‘Terms and Conditions of the Notes’’. c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 37 The claims of Noteholders may be limited in the event that the Borrower is declared bankrupt Ukrainian bankruptcy law differs from the bankruptcy laws of England and the United States and is subject to varying interpretations. There is no sufficient precedent under Ukrainian bankruptcy law to predict how claims of the Issuer, the Trustee or the Noteholders against the Borrower would be resolved in the event of the Borrower’s bankruptcy. In the event of the Borrower’s bankruptcy, its obligations to the Issuer, the Trustee or the Noteholders would be subordinated to the following obligations: * obligations secured by pledges of the Borrower’s assets; * expenditures associated with the conduct of the bankruptcy proceedings, including severance pay; * obligations arising as a result of inflicting harm to the life or health of individuals; * payment of wages to the Borrower’s employees due as of the commencement of the liquidation procedure; * obligations to individual depositors; * obligations to the NBU arising as a result of depreciation of the value of a pledge to secure a refinancing loan; * obligations to the Ministry of Finance arising as a result of the provision of repayable financial aid save for contributions to share capital; and * obligations to individuals (with the exception of registered entrepreneurs) with blocked accounts. In the event of the Borrower’s bankruptcy, Ukrainian bankruptcy law may materially adversely affect its ability to make payments to the Issuer or the Trustee Claims against the Borrower may be incapable of enforcement upon the introduction by the NBU of temporary administration for the financial rehabilitation of the Borrower. If the NBU determines that a significant threat exists of the Borrower becoming insolvent, the NBU is obliged to impose temporary administration of the Borrower to improve its financial situation. The NBU may also impose temporary administration of the Borrower in certain other circumstances. The temporary administrator appointed by the NBU would replace all of the Borrower’s governing bodies for the entire term of the temporary administration (being a period of up to one year with a possible extension for a further year if the Borrower’s liabilities are equal to or exceed 10 per cent. of the aggregate liabilities of the Ukrainian banking system at that time) and would be authorised to carry out any acts aimed at the Borrower’s financial rehabilitation, including but not limited to (i) terminating any ongoing operation of the Borrower (without terminating or invalidating the relevant agreement itself), and (ii) terminating, in accordance with Ukrainian legislation, any agreement to which the Borrower is a party and which, in the opinion of the temporary administrator, is either loss-making or ‘‘unnecessary’’ for the Borrower. This may apply only to an agreement which contains outstanding obligations of any party. The temporary administrator would have a broad discretion in determining whether a particular agreement is loss-making or ‘‘unnecessary’’, given that Ukrainian legislation provides no criteria for making such determination. During the term of temporary administration of the Borrower, the temporary administrator may assign claims, transfer debts or reorganise the Borrower without notification to or consent of the Borrower’s shareholders, debtors and creditors. Shareholders, debtors and creditors of the Borrower are not entitled to accelerate the Borrower’s obligations or to claim damages against the Borrower resulting from such actions, provided that the latter are set out in a programme of financial rehabilitation of the Borrower, which is approved by the NBU. During the term of operation of the temporary administration, but not longer than for a three-month period during such term, the NBU may, in its discretion, order a moratorium on the satisfaction of claims of the Borrower’s creditors. During the term of such moratorium, the Borrower may be unable to make payments to the Issuer and/or the Trustee and the Issuer’s and/or the Trustee’s claims against the Borrower would not be enforceable. The Borrower may not be held liable for the nonperformance of its obligations to the Issuer and/or the Trustee resulting from the imposition of the moratorium. Upon the termination of the moratorium (other than as a result of the Borrower entering bankruptcy proceedings) the Issuer and/or the Trustee would be entitled to make, and to enforce, claims against the Borrower in the amounts existing as of the date when the moratorium was imposed. c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 38 In addition, applicable Ukrainian legislation permits a temporary administrator of a bank appointed pursuant to any such temporary administration to request a Ukrainian court to declare invalid, among other agreements to which such bank may be party, an agreement between the bank and a third party, if there has been under such agreement, ‘‘any operation’’ (meaning a payment or other transaction): (i) within a six month period before the appointment of such temporary administrator, if the purpose of the operation was to grant a preference to such third party compared to the bank’s other creditors; (ii) within one year before the appointment of such temporary administrator between the bank and a related party, if the operation contravened the requirements of Ukrainian legislation or ‘‘threatened the interests of depositors and creditors’’ of the bank: (iii) within three years before the appointment of such temporary administrator, if the operation involved any of the bank’s assets and was conducted on a free-of-charge basis or the operation was conducted for the purpose of the purchase by the bank of assets or services at a price significantly higher than the value of those assets or services; (iv) within three years before the appointment of such temporary administrator, if the operation was conducted with the purpose of concealing assets from the bank’s creditors or otherwise violating the rights of such creditors; or (v) at any time, if the operation was based on forged documents or if it was of a fraudulent nature. If the Loan Agreement was to be declared invalid on such a basis, the Borrower would be required to repay to the Issuer all funds received from the Issuer pursuant to the Loan Agreement, and the Issuer would be required to repay to the Borrower all funds received from the Borrower pursuant to the Loan Agreement. There is also a lack of certainty as to whether, in such event, the court might apply any other consequences of the invalidation of the Loan Agreement (this would depend on the facts of the relevant case). Ukrainian counsel have advised the Borrower that they believe there is no basis for challenging the validity of the Loan Agreement or any transaction contemplated thereunder as contravening the requirements of Ukrainian legislation. However, in view of the risks associated with the Ukrainian legal system as disclosed under ‘‘Risks Relating to Ukraine – Weaknesses relating to the legal system and legislation may create an uncertain environment for investment and business activity’’) no assurance can be given that the courts in Ukraine would interpret this in the same manner. Ukrainian currency control regulations could impact the Borrower’s ability to make payments to the Issuer or Trustee under the Loan Agreement The NBU is empowered to define policies for, and regulate, currency operations in Ukraine, as well as to establish restrictions on currency operations, cross-border payments and repatriation of profits denominated in foreign currency. Ukrainian currency control regulations and practice are subject to continuing change, with the NBU exercising considerable autonomy in their interpretation and application. While at present the Loan Agreement is subject only to registration with the NBU and no licence is required to be obtained from the NBU in order to make payments of principal, interest and fees under the Loan Agreement, there can be no guarantee that such law and practice will remain unchanged during the term of the Loan. While the Loan Agreement will be registered with the NBU, payments under the Loan Agreement to any entity other than the Issuer (e.g. after enforcement of the security by the Trustee) may require registration with the NBU of the resulting change in the loan transaction and such change would become effective only upon the NBU registration. The Borrower believes that the NBU would be inclined to view enforcement of the Security Interests by the Trustee as an assignment of the Issuer’s claims against the Borrower to the Trustee and would register the relevant change in the loan transaction, thus enabling the Borrower’s payments to the Trustee instead of the Lender. The NBU would have a broad discretion in approving the registration of such a change in the loan transaction and could refuse to perform such registration as a result of, for example, misleading or contradictory information being provided to the NBU for such registration. Should the NBU refuse to register such a change, the Borrower would not be permitted to make payments of principal and interest under the Loan Agreement to any entity other than the Issuer unless it were to obtain an individual licence of the NBU permitting such payments. In addition, the Board of the NBU has passed a resolution prohibiting Ukrainian borrowers from making, in connection with loans granted by foreign lenders, any payments (other than of principal, but including interest, fees, default interest, penalties, additional amounts and other charges payable in connection with the loan) which, in aggregate per annum, exceed an amount determined by applying the applicable maximum interest rate established by the NBU (the MIR) as at the date of submission of documents to the NBU for the registration of the relevant loan agreement to the c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 39 principal amount of such loan. As at the date of this Prospectus, the MIR applicable to fixed interest rate loans in major foreign convertible currencies (including U.S. dollars) the maturities of which are less than one year is 9.8 per cent. per annum; the MIR applicable to loans the maturities of which are from one year to three years is 10.0 per cent. per annum: and the MIR applicable to loans the maturities of which are in excess of three years is 11.0 per cent. per annum. At the current MIR, Noteholders should receive payment of the full amount of accrued interest in respect of the Notes since the interest rate on the Loan, and the interest rate applicable to the Notes, are lower than the currently effective MIR. However, any additional amounts, penalties or other charges, if any, payable to the Lender in connection with the Loan could be limited by the MIR. The NBU has the authority to review and modify the MIR from time to time and may refuse to register a change in the loan transaction (for example, due to assignment to the Trustee) if the amount of payments (excluding principal), in aggregate per annum, under the Loan Agreement would exceed the amount calculated by reference to the then applicable MIR at that time. In the event of any prepayment of the Loan or late disbursement of the Loan, the NBU would require the application of the MIR based on the period for which the Loan has actually been outstanding which might result in the application of a lower MIR (for example, the MIR applicable to fixed interest rate loans the maturities of which are less than one year instead of the MIR applicable to fixed interest rate loans the maturities of which are in excess of three years). Further, since the NBU has the authority to review and modify the MIR from time to time, a reduction in the MIR could further limit the ability of the Issuer to collect interest, fees, default interest, penalties, additional amounts and other charges payable in connection with a prepayment or repayment of the Loan, or in case of late disbursement of the Loan. In addition, there is an NBU regulation pursuant to which the State Information and Analytical Centre for Monitoring External Commodity Markets (the SIAC) is required to review the fees for services rendered by a non-resident to a resident under an agreement for services (or a series of agreements for similar services purchased within one calendar year from the same counterparty) with a value in excess of EUR 100,000 (or an equivalent value in another currency), excluding payments made by banks in favour of non-residents for rendering financial services, and excluding payments made pursuant to a registration certificate issued for registration of a loan from a non-resident. Unless a cross-border transaction relating to the non-resident’s services is licensed by the NBU or is otherwise subject to an exemption, any such payment can only be made if the SIAC determines that the value of the services set forth in the agreement (or in the series of agreements) is in line with international market conditions. If the SIAC for any reason refuses to make that determination, any such payment can be made only on the basis of a specific authorisation from the NBU. If the SIAC determines that the fees are excessive, or refuses to determine that the fees are in line with international market conditions and the NBU does not grant the authorisation, the payment of fees cannot be made (unless such decision of the SIAC or the NBU has been overruled by a court order). The Borrower’s payments of fees under the Loan Agreement are exempt from this requirement to the extent they constitute fees for financial services, which the Borrower believes to be the case. However, a risk exists that such exemption would not apply if the Borrower were required to make any payment of such fees to a non-resident that is not authorised to render financial services under the laws of its jurisdiction, or if such services were not regarded as financial services for purposes of the applicable regulations of the NBU. Nevertheless, if the amount of fees is in compliance with the value of such services in the global market, there is a minimal risk that the SIAC would refuse to make a positive determination. If the NBU changes its regulations, including to require the Borrower to obtain licence in order to make certain payments under the Loan Agreement, the Borrower will need to apply for such a licence, and if it fails to obtain such a licence, it may be restricted in its ability to make certain payments to the Issuer or the Trustee under the Loan Agreement NBU regulations are subject to occasional changes and varying interpretations which may impede the Borrower’s ability to make payments to non-residents, including payments to the Issuer under the Loan Agreement. These may include changes to the circumstances in which a licence for payment to a non-resident is required as well as the process of obtaining such licence. Currently, no such individual licence is generally required for making payments of principal and interest by a resident borrower to a non-resident lender under a loan agreement registered with the NBU (such as the Loan Agreement) as well as for payment for services. (see also ‘‘Ukrainian currency control regulations could impact the Borrower’s ability to make payments to the Issuer or the Trustee under the Loan c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 40 Agreement’’). If the NBU determines in the future that a licence is required for payments by the Borrower under the Loan Agreement, the Borrower would need to apply for a licence, but there can be no assurance that the Borrower would receive such a licence. If the Borrower does not receive such a licence (if one were to be required), no assurance can be given that it would be able to continue to make payments under the Loan Agreement. Availability of treaty relief could impact the Borrower ability to make payments of interest to the Issuer or the Trustee under the Loan Agreement In general, payments of interest on borrowed funds by a Ukrainian resident to a non-resident entity are subject to withholding tax in Ukraine at the rate of 15 per cent., subject to any reduction or exemption under an applicable double tax treaty, and provided that the interest is not derived through the non-resident’s permanent establishment in Ukraine. Based on professional advice it has received, the Borrower believes that, under the terms of the Convention between the Government of the United Kingdom of Great Britain and Northern Ireland and the Government of Ukraine for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income and Capital Gains signed on 10 February 1993 and effective from 11 August 1993 (the Double Tax Treaty), as it is currently applied, payments of interest on the Loan will not be subject to withholding tax in Ukraine, provided that certain conditions set forth in the Double Tax Treaty and under applicable Ukrainian law are satisfied. However, there can be no assurance that the exemption from withholding tax is, or will continue to be, available. Payments of interest under the Loan Agreement shall be exempt from Ukrainian withholding tax under the Double Tax Treaty provided that the Issuer is a resident of the United Kingdom for the purposes of the Double Tax Treaty, is the ‘‘beneficial owner’’ of the interest and is ‘‘subject to tax’’ in respect of the interest in the United Kingdom. Under applicable Ukrainian law, the Issuer’s residence in the United Kingdom for purposes of the Double Tax Treaty will be evidenced by a certificate issued by the taxing authority in the United Kingdom or by the Issuer’s being listed in the S.W.I.F.T. International Bank Identifier Code. The exemption of interest from Ukrainian withholding tax will not be available under the Double Tax Treaty if the Issuer carries on business in Ukraine through a permanent establishment situated therein, and the debt-claim in respect of which the interest is paid is effectively connected with such permanent establishment. Ukraine does not have an established practice of utilizing the concept of ‘‘beneficial ownership’’ of interest. For tax law purposes, this concept was introduced in Ukraine by the new Tax Code of Ukraine, the main part of which became effective on 1 January 2011. Under the Tax Code, a person that acts as agent, nominal holder (owner) or intermediary in respect of Ukrainian source income would not qualify as the ‘‘beneficial owner’’ of the income. Although the Ukrainian tax authorities did not apply the ‘‘beneficial ownership’’ concept to deny tax treaty benefits to foreign lenders in the past, and there is yet no practice of interpretation or application of such concept in Ukraine, there is a risk that, based on the above specified provisions of the new Tax Code, the Issuer may be viewed by the Ukrainian tax authorities as failing to satisfy the ‘‘beneficial ownership’’ test in respect of interest under the Loan Agreement. In such event, the payment of interest to the Issuer would not be exempt from the Ukrainian withholding tax, and the Borrower would be required to pay the Additional Amounts under the tax gross-up provisions of the Loan Agreement to compensate the Issuer for such tax withholding. In such situation, and under the terms of the Loan Agreement, the Borrower would be entitled to prepay the Loan together with all interest and other amounts payable under the Loan Agreement. (See ‘‘Consequences of Ukrainian withholding tax on payments under the Loan Agreement’’) In addition, Article 11(7) of the Double Tax Treaty contains a ‘‘main purpose’’ anti-avoidance provision. While there is no established practice of the Ukrainian tax authorities with respect to the application of this provision, if the Ukrainian tax authorities take the position that the main or. one of the main purposes of using the United Kingdom as the Issuer’s jurisdiction of residence for this financing transaction was to take advantage of the tax benefits (i.e. exemption of interest payments from withholding taxation in Ukraine) under the Double Tax Treaty, the tax authorities may potentially invoke the anti-avoidance provision of Article 11(7) of the Double Tax Treaty. In such circumstances, there is a risk that payments of interest by the Borrower under the Loan Agreement would cease to have the benefit of the Double Tax Treaty. c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 41 If the Trustee were to enforce the security under the Trust Deed, payments under the Loan Agreement could lose the benefit of the Double Tax Treaty and could become subject to Ukrainian withholding tax If the Trustee were to enforce the security under the Trust Deed, following a Relevant Event, the Trustee will be entitled to payments of principal and interest under the Loan Agreement. As a result, payments under the Loan Agreement may cease to have the benefit of the Double Tax Treaty and may consequently become subject to Ukrainian withholding tax unless the Trustee meets all the criteria for the exemption under the Double Tax Treaty. If this were to occur, the Borrower would not be obliged to pay additional amounts on account of Ukrainian taxes withheld and the Trustee (on behalf of Noteholders) would only be entitled to receive payments net of such taxes. If the Issuer were to cease to be resident in a Qualifying Jurisdiction for purposes of the Loan Agreement, or the Double Tax Treaty is otherwise rendered inapplicable, payments of interest under the Loan Agreement would be subject to Ukrainian withholding tax If the Issuer or any successor or assignee of the Issuer were to cease to be resident in a jurisdiction that has an effective double tax treaty with Ukraine that is similar to the Double Tax Treaty, or if the Issuer or any successor or assignee of the Issuer takes any action that would render the Double Tax Treaty inapplicable, then payments of interest under the Loan Agreement would be subject to Ukrainian withholding tax at the rate of 15 per cent. If this were to occur, the Borrower would be obliged to pay additional amounts on account of Ukrainian taxes withheld and would become entitled to prepay the Loan at its principal amount, together with accrued interest as set forth in the Loan Agreement. In the event of such a prepayment (subject to receipt of sufficient funds from the Borrower) the Issuer would prepay all outstanding Notes. Consequences of Ukrainian withholding tax on payments under the Loan Agreement If any payments (including payments of interest) under the Loan Agreement are subject to any withholding tax in Ukraine (as a result of which payments under the Notes may be reduced), the Borrower may, in certain circumstances specified in the Loan Agreement, become obliged to pay such additional amounts as may be necessary so that the net payments received by the Issuer or the Trustee will not be less than the amount the Issuer or the Trustee would have received in the absence of such withholding. Ukrainian tax law contains restrictions that, if construed broadly, may affect the validity and enforceability of the gross-up provisions in the Loan Agreement. A recent official interpretation of the Ukrainian tax authorities indicates that tax gross-up provisions and obligations of the Borrower to pay additional amounts under the Loan Agreement like those contained in Clause 8.1 of the Loan Agreement (Additional Amounts) may be seen as contravening the Ukrainian tax law and as a result unenforceable. If such interpretation is applied, the failure by the Borrower to pay additional amounts due under the Loan Agreement would constitute a default under the Loan Agreement and the Issuer would be entitled to accelerate the Borrower’s payments in accordance with the terms of the Loan Agreement. Also, in the event that the Borrower becomes obliged to pay additional amounts as a result of a change in relevant law or the Double Tax Treaty (including a change in the interpretation thereof), the Borrower would become entitled to prepay the Loan at its principal amount, together with accrued interest, and in the event of such a prepayment (subject to receipt of the relevant funds from the Borrower) all outstanding Notes would be prepaid by the Issuer. It may not be possible to reinvest the proceeds from the redemption of the Notes at an effective interest rate as high as the interest rate on the Notes and this may only be possible at a significantly lower rate. Foreign judgments may not be enforceable against the Borrower Courts in Ukraine will not recognise and/or enforce any judgment obtained in a court established in a country other than Ukraine unless such recognition and/or enforcement is envisaged by an international treaty to which Ukraine is a party, and then only in accordance with the terms of such treaty. There is no such treaty in effect between Ukraine and the United Kingdom. In the absence of such treaty, the courts of Ukraine may only recognise or enforce a foreign court judgment on the basis of the principle of reciprocity. Under Article 390 of the Civil Procedure Code, unless proven otherwise the reciprocity is deemed to exist in relations between Ukraine and the country where the judgment was rendered. The Civil Procedure Code does not provide for any clear rules on the application of the principle of reciprocity and there is no official interpretation or court practice of these provisions of the Civil Procedure Code. Accordingly, there can be no assurance that the courts of Ukraine will recognise or enforce a judgment rendered by the courts of the United Kingdom on the basis of the principle of reciprocity. Furthermore, the courts of Ukraine might refuse c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 42 to recognise or enforce a foreign court judgment on the basis of the principle of reciprocity on the grounds provided in the Civil Procedure Code. Since Ukraine is a party to the New York Convention, an arbitration award obtained in a state which is also a party to the New York Convention, such as the United Kingdom, would be enforceable in Ukraine, subject to the terms of the New York Convention. See ‘‘Enforceability of Judgments’’. In addition, by virtue of being wholly owned by the State and in common with other state-owned enterprises, the Borrower’s fixed assets in Ukraine are immune from execution pursuant to a temporary moratorium imposed in 2001. By virtue of the moratorium, enforcement against the fixed assets of the Borrower arising in connection with, inter alia, court judgments and arbitration awards or bankruptcy proceedings is currently prohibited. As a result, a creditor of the Borrower may not be able to enforce a judgement against the Borrower’s fixed assets. Furthermore, the Bank is included on the list of state-owned companies which cannot be subject to privatisation. For this reason, although the law generally permits the Bank’s financial rehabilitation (temporary administration), liquidation by the shareholder’s decision or otherwise upon the revocation of the banking license, and the institution of the Bank’s bankruptcy proceedings at a competent Ukrainian court, neither of such processes may involve any sale or other disposal of the Bank or its assets to a private acquirer until and unless the Bank has been removed from such list. In addition, a Ukrainian court seized with an application for the institution of bankruptcy proceedings of the Bank may refuse the application or terminate the bankruptcy proceedings until and unless the Bank has been removed from such list. The Bank’s removal from the list requires the adoption of a law by Verkhovna Rada (Parliament) of Ukraine. Any negative change in Ukraine’s or the Borrower’s own credit rating could adversely affect the market price of the Notes The Borrower has received credit ratings from Fitch Deutschland GmbH and from Moody’s as set out in ‘‘Overview -Credit Ratings’’. The Borrower’s credit ratings at any time may not reflect the potential impact of all risks related to structure, market, additional factors discussed above, and other factors that may affect the value of the Notes. Ukraine has been assigned long-term sovereign foreign currency credit ratings of ‘‘B+ (stable outlook)’’ by S&P, ‘‘B2 (stable outlook)’’ by Moody’s and ‘‘B (stable outlook)’’ by Fitch. A security rating is not a recommendation to buy, sell or hold securities and may be subject to revision or withdrawal at any time by the assigning rating organisation. Any negative change in the Borrower’s credit ratings or the credit ratings of Ukraine could materially adversely affect the market price of the Notes. The Issuer is not required to pay additional amounts on account of withholding pursuant to the EU Savings Tax Directive If an Agent or any other person by or through whom a payment on the Notes is made or received is required to withhold any amount from any such payment as a consequence of or pursuant to EC Directive 2003/48/EC on the taxation of savings income (the EU Savings Tax Directive) or any law implementing or complying with, or introduced in order to conform to, such Directive, there is no requirement for the Issuer to pay any additional amounts on account of that withholding. In this regard, prospective Noteholders should read the information about the EU Savings Tax Directive in the section entitled ‘‘Taxation’’ and consult their advisors. There is no active trading market for the Notes The Notes are new securities which may not be widely distributed and for which there is currently no active trading market. If the Notes are traded after their initial issuance, they may trade at a discount to their initial offering price, depending upon prevailing interest rates, the market for similar securities, general economic conditions and the financial condition of the Borrower. Although application has been made to list the Notes on the Official List of the Irish Stock Exchange, there can be no assurance that a liquid market will develop for the Notes, that holders of the Notes will be able to sell their Notes, or that such holders will be able to sell their Notes for a price that reflects their value. c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 43 Exchange rate risks and exchange controls The Issuer will pay principal and interest on the Notes in U.S. dollars. This presents certain risks relating to currency conversions if an investor’s financial activities are denominated principally in a currency or currency unit (the Investor’s Currency) other than U.S. dollars. These include the risk that exchange rates may significantly change (including changes due to devaluation of U.S. dollars or revaluation of the Investor’s Currency) and the risk that authorities with jurisdiction over the Investor’s Currency may impose or modify exchange controls. An appreciation in the value of the Investor’s Currency relative to U.S. dollars would decrease (1) the Investor’s Currency-equivalent yield on the Notes, (2) the Investor’s Currency-equivalent value of the principal payable on the Notes and (3) the Investor’s Currency-equivalent market value of the Notes. Government and monetary authorities may impose (as some have done in the past) exchange controls that could adversely affect an applicable exchange rate. As a result, investors may receive less interest or principal than expected or no interest or principal. Trading in the clearing systems is subject to minimum denomination requirements The Notes will initially only be issued in global certificated form, and held through the clearing systems. Interests in the Global Note Certificate will trade in book-entry form only, and notes in definitive registered form, or Individual Note Certificates, will be issued in exchange for book-entry interests only in very limited circumstances. Owners of book-entry interests will not be considered owners or holders of Notes. The common depository, or its nominee, for the clearing systems will be the sole registered holder of the Global Note Certificates representing the Notes. Payments of principal, interest and other amounts owing on or in respect of the Global Note Certificate representing the Notes will be made to the Principal Paying Agent, who will make payments to the clearing systems. Thereafter, these payments will be credited to accounts of participants who hold book-entry interests in the Global Note Certificates representing the Notes and credited by such participants to indirect participants. After payment to the common depository for the clearing systems, none of the Borrower, the Issuer, the Lead Managers, the Trustee or the Agents will have any responsibility or liability for the payment of interest, principal or other amounts to the owners of the book-entry interests. Accordingly, if you own a book-entry interest, you must rely on the procedures of the clearing systems, and if you are not a participant in the clearing systems, on the procedures of the participant through which you hold your interest, to transfer your interest or to exercise any rights and obligations of a holder of Notes under Trust Deed. Unlike the holders of the Notes themselves, owners of book-entry interests will not have the direct right to act upon the Issuer’s solicitations for consents, requests for waivers or other actions from holders of the Notes. Instead, if you own a book-entry interest, you will be permitted to act only to the extent you have received appropriate proxies to do so from the relevant clearing system. The procedures implemented for the granting of such proxies may not be sufficient to enable you to vote on a timely basis. Similarly, upon the occurrence of an Event of Default under Trust Deed, unless and until Individual Note Certificates are issued in respect of all book-entry interests, if you own a book-entry interest, you will be restricted to acting through Euroclear and Clearstream, Luxembourg. The procedures to be implemented through Euroclear and Clearstream, Luxembourg may not be adequate to ensure the timely exercise of rights under the Notes. See ‘‘Summary of Provisions Relating to the Notes in Global Form’’. The claims of Noteholders may be limited in the event that the Issuer is declared bankrupt The Issuer is organised under the laws of the United Kingdom. Although it is impossible to predict with certainty in which jurisdiction or jurisdictions insolvency or similar proceedings would be commenced or how these proceedings would be resolved, insolvency proceedings over the assets of the Issuer may be initiated in England and be governed by English law. The insolvency laws of England may not be as favourable to your interests as creditors as the bankruptcy laws of the United States, including in respect of priority of creditors, the ability to obtain post-petition interest and the duration of the insolvency proceedings. The market price of the Notes may be volatile The market price of the Notes could be subject to significant fluctuations in response to actual or anticipated variations in the Borrower’s own and the Borrower’s competitors’ operating results, adverse business developments, changes in the regulatory environment in which the Borrower c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 44 operates, changes in financial estimates by securities analysts and the actual or expected sale of a large number of Notes, as well as other factors, including the trading market for securities issued by or on behalf of Ukraine as a sovereign borrower. In addition, in recent years the global financial markets have experienced significant price and volume fluctuations which, if repeated in the future, could adversely affect the market price of the Notes without regard to the Borrower’s results of operations, prospects or financial condition. Financial turmoil in emerging markets could cause the price of the Notes to suffer The market price of the Notes will be influenced by economic and market conditions in Ukraine and to a varying degree, economic and market conditions in other CIS, Eastern European and emerging markets generally. Financial turmoil in Ukraine and other emerging markets in 1997-1998 as well as in 2008-2009 adversely affected market prices in the world’s securities markets for companies that operate in those developing economies. Even if the Ukrainian economy remains relatively stable, financial turmoil in these countries could materially adversely affect the market price of the Notes. Modification, waivers and substitution The Terms and Conditions of the Notes contain provisions for calling meetings of Noteholders to consider matters affecting their interests generally. These provisions permit defined majorities to bind all Noteholders including Noteholders who did not attend and vote at the relevant meeting and Noteholders who voted in a manner contrary to the majority. The Terms and Conditions of the Notes also provide that the Trustee may, without the consent of Noteholders, agree to (i) any modification of, or to the waiver or authorisation of any breach or proposed breach of, any of the provisions of the Notes, the Trust Deed or, pursuant to the Transferred Rights, the Loan Agreement or (ii) determine without the consent of the Noteholders that any event which would or might otherwise give rise to a right of acceleration under the Loan Agreement or constitute a Relevant Event shall not be treated as such or (iii) the substitution of another company as principal debtor under the Notes in place of the Issuer, all as more fully described in Condition 1 (Form, Denomination and Status) of the ‘‘Terms and Conditions of the Notes’’. Legal investment considerations may restrict certain investments The investment activities of certain investors are subject to legal investment laws and regulations, or review or regulation by certain authorities. Each potential investor should consult its legal advisers to determine whether and to what extent (1) the Notes are legal investments for it, (2) the Notes can be used as collateral for various types of borrowing and (3) other restrictions apply to its purchase or pledge of the Notes. Financial institutions should consult their legal advisors or the appropriate regulators to determine the appropriate treatment of the Notes under any applicable risk-based capital or similar rules. See ‘‘The transfer of the Notes will be restricted, which may adversely affect the value of the Notes’’. c104221pu020Proof7:3.3.11B/LRevision:0OperatorChoD 45 THE OFFERING Offering: U.S.$500,000,000 8.25 per cent. loan participation notes due 2016. Issuer: SSB No. 1 Plc. Borrower: Joint Stock Company ‘‘State Savings Bank of Ukraine’’. Trustee: BNY Corporate Trustee Services Limited. Principal Paying Agent and Transfer Agent: The Bank of New York Mellon, London Branch. Registrar: The Bank of New York Mellon (Luxembourg) S.A. Irish Paying Agent: The Bank of New York Mellon (Ireland) Limited. Listing Agent: The Bank of New York Mellon (Ireland) Limited. Issue Price: 100 per cent. of the principal amount of the Notes. Use of Proceeds: The Issuer will use the proceeds of the issue of the Notes for the sole purpose of financing a loan (the Loan) to the Borrower. The proceeds from the Loan will be used by the Borrower primarily to provide loans to its customers and for general corporate purposes. See ‘‘Use of Proceeds’’. Interest: As described under ‘‘Terms and Conditions of the Notes – Interest’’, interest on the Notes will be payable semi-annually in arrear in equal instalments on 10 September and 10 March in each year, commencing on 10 September 2011, but the Issuer shall account to Noteholders only for an amount equivalent to amounts of interest actually received and retained by or for the account of the Issuer pursuant to the Loan Agreement, which interest under the Loan is equal to 8.25 per cent. per annum. Status of the Notes: The Notes constitute limited recourse, secured and unsubordinated obligations of the Issuer and shall at all times rank pari passu and without preference among themselves. Status of the Loan: The Loan will constitute a direct, unconditional and unsecured obligation of the Bank. In case of liquidation (bankruptcy) of the Bank, the repayment of the principal amount of the Loan will rank at least pari passu with other unsecured and unsubordinated creditors of the Bank, save those whose claims are preferred by any bankruptcy, insolvency, liquidation, moratorium or similar laws of general application. Limited Recourse: The Notes are secured limited recourse obligations of the Issuer. The Notes will constitute the obligation of the Issuer to apply an amount equal to the proceeds from the issue of the Notes solely for the purpose of financing the Loan to the Borrower pursuant to the terms of the Loan Agreement. The Issuer will only account to the Noteholders for all amounts equivalent to those (if any) received and retained (net of tax) from the Borrower under the Loan Agreement excluding amounts in respect of the Reserved Rights (as defined in ‘‘Terms and Conditions of the Notes’’) and no other assets of the Issuer will be available to Noteholders. Security: The Notes are secured by a first fixed charge in favour of the Trustee of the Issuer’s rights, interests and benefits, both present and future, to payments under the Loan Agreement (other than the Reserved Rights (as defined in ‘‘Terms and Conditions of the Notes’’)) and a first fixed charge to the Trustee of sums held on deposit in the Account (as defined in ‘‘Terms and Conditions of the Notes’’). The Issuer will also assign certain rights under the Loan Agreement to the Trustee, each as more fully described in ‘‘Terms and Conditions of the Notes’’. c104221pu030Proof7:3.3.11B/LRevision:0OperatorChoD 46 Form: The Notes will be issued in registered form. The Notes will be in denominations of U.S.$200,000 each and integral multiples of U.S.$1,000 in excess thereof and will be represented by a Global Note Certificate which will be exchangeable for Notes in definitive form in the limited circumstances described under ‘‘Summary of the Provisions relating to the Notes in Global Form’’. Early Redemption: The Notes may be redeemed at the option of the Issuer in whole, but not in part, at any time, upon giving notice to the Noteholders, at the principal amount thereof together with accrued and unpaid interest to the date of redemption and any additional amounts in respect thereof upon receiving notice that the Borrower wishes to prepay the Loan for tax reasons or in the event that it becomes unlawful for the Issuer to fund the advance or allow to remain outstanding the Loan under the Loan Agreement as more fully described in Clause 7 (Taxation) of the Loan Agreement and Condition 5 (Redemption and Purchase) of the ‘‘Terms and Conditions of the Notes’’. Any Notes acquired by the Borrower or any of its subsidiaries may be surrendered through the Issuer to the Principal Paying Agent for cancellation, and the Loan shall be deemed to have been prepaid in an amount corresponding to the aggregate principal amount of the Notes surrendered for cancellation. Optional Redemption: Upon a Change of Control (as defined in the Loan Agreement), each Noteholder shall have the option to give notice or procure that notice is given for the prepayment of the applicable amount of the Loan. To the extent such amount is actually received by the Issuer from the Borrower, each Note held by the relevant Noteholders shall be redeemed on the Change of Control Payment Date (as defined in the ‘‘Terms and Conditions of the Notes’’) at its principal amount together with accrued and unpaid interest (if any) plus Additional Amounts (as defined in the ‘‘Terms and Conditions of the Notes’’), if any. See Condition 5 (Redemption and Purchase) of the ‘‘Terms and Conditions of the Notes’’. Issuer’s Covenant: As long as any of the Notes remains outstanding, the Issuer will not, without the prior written consent of the Trustee, agree to any amendments to, or any modification or waiver of, or authorise any breach or proposed breach of, the terms of the Loan Agreement, except as otherwise expressly provided in the Trust Deed or the Loan Agreement. Negative Pledge and Other Covenants: The Loan Agreement contains a negative pledge in relation to the creation of Security Interests (other than Permitted Security Interests) (each as defined in the Loan Agreement) to secure the Indebtedness of the Borrower and its Material Subsidiaries (each as defined in the Loan Agreement) as set out in the Loan Agreement. The Loan Agreement also contains covenants restricting mergers and disposals by the Borrower, transactions between the Borrower and its Affiliates (as defined in the Loan Agreement) and a covenant restricting the making of certain payments and distributions by the Borrower. The Loan Agreement also contains a covenant by the Borrower to comply with the capital adequacy requirements of the National Bank of Ukraine. Events of Default/Relevant Events: In the case of the occurrence and continuance of a Potential Event of Default, an Event of Default or a Relevant Event (as defined in the ‘‘Terms and Conditions of the Notes’’), the Trustee may subject as provided in the Trust Deed (1) require the Issuer to declare all amounts payable under the Loan Agreement by the Borrower to be immediately due and payable (in the case of an Event of Default) or c104221pu030Proof7:3.3.11B/LRevision:0OperatorChoD 47 (2) enforce the Security Interests (as defined in the ‘‘Terms and Conditions of the Notes’’) (in the case of a Relevant Event). Upon repayment of the Loan following an Event of Default, the Notes will be redeemed or repaid at the principal amount thereof, together with interest accrued to the date fixed for redemption and any additional amounts due and thereupon shall cease to be outstanding. Rating: The Notes are expected on issue to be rated B by Fitch Deutschland GmbH and B2 by Moody’s Investors Service. Inc. Credit ratings assigned to the Notes do not necessarily mean that they are a suitable investment. A rating is not a recommendation to buy, sell or hold securities and may be subject to revision, suspension or withdrawal at any time by the assigning rating organisation. Similar ratings on different types of notes do not necessarily mean the same thing. The ratings do not address the likelihood that the principal on the Notes will be prepaid, paid on an expected final payment date or paid on any particular date before the legal final maturity date of the Notes. The ratings do not address the marketability of the Notes or any market price. Any change in the credit ratings of the Notes or the Borrower could adversely affect the price that a subsequent purchaser will be willing to pay for the Notes. The significance of each rating should be analysed independently from any other rating. Withholding Tax: All payments of principal and interest in respect of the Notes will be made free and clear of and without deduction or withholding for or on account of any taxes, duties, assessments, fees or other governmental charges of the United Kingdom or Ukraine, as the case may be, save as required by law. If any such withholding or deduction is so required, the Issuer shall (subject to certain exceptions as set out in Condition 7 (Taxation)) pay such additional amounts as will result in the receipt by the Noteholders after the withholding or deduction of such amounts as would have been received by them had no such withholding or deduction been required. The sum payable by the Borrower under the Loan Agreement will be required (subject to certain exceptions) to be increased to the extent necessary to ensure that the Issuer receives a net sum sufficient to enable it to pay such additional amounts. The sole obligation of the Issuer in this respect will be to pay to the Noteholders sums equivalent to the sums received from the Borrower. See Condition 7 (Taxation) of the ‘‘Terms and Conditions of the Notes’’. Listing: This Prospectus has been approved by the Central Bank of Ireland as competent authority under the Prospectus Directive. The Central Bank of Ireland only approves this Prospectus as meeting the requirements imposed under Irish and EU law pursuant to the Prospectus Directive. Application has been made to the Irish Stock Exchange for the Notes to be admitted to the Official List and trading on its regulated market. Selling Restrictions: The Notes have not been and will not be registered under the Securities Act and, subject to certain exceptions, may not be offered or sold within the United States. The Notes may be sold in other jurisdictions (including the United Kingdom, The Russian Federation, Hong Kong, Singapore and Ukraine) only in compliance with applicable laws and regulations. See ‘‘Subscription and Sale’’. c104221pu030Proof7:3.3.11B/LRevision:0OperatorChoD 48 Governing Law: The Notes, the Loan Agreement and the Trust Deed, including any non-contractual obligations arising out of or in connection therewith, will be governed by English law. Risk Factors: An investment in the Notes involves a high degree of risk. See ‘‘Risk Factors’’. Security Codes: ISIN: XS0594294695 Common Code: 059429469 c104221pu030Proof7:3.3.11B/LRevision:0OperatorChoD 49 DESCRIPTION OF THE TRANSACTION The following summary contains basic information about the Notes and the Loan and should be read in conjunction with, and is qualified in its entirety by, the information set forth under ‘‘Terms and Conditions of the Notes’’ and ‘‘The Loan Agreement’’ appearing elsewhere in this Prospectus. The transaction will be structured as a loan to the Borrower by the Issuer. The Notes are limited recourse loan participation notes to be issued by the Issuer for the sole purpose of funding the Loan to the Borrower. The Notes will have the benefit of, and be constituted by, the Trust Deed. As provided in the Trust Deed, the Issuer will (a) charge by way of security to the Trustee all its rights to principal, interest and other amounts under the Loan Agreement (other than certain Reserved Rights) (as defined in ‘‘Terms and Conditions of the Notes’’) and (b) charge by way of security to the Trustee all its rights, title and interest in and to all sums of money now or in the future deposited in an account with the Principal Paying Agent in the name of the Issuer together with the debt represented thereby (including interest from time to time earned thereon) (the Account). The Issuer will also assign certain administrative rights under the Loan Agreement to the Trustee. The Borrower will be obliged to make payments under the Loan to the Issuer in accordance with the terms of the Loan Agreement to the Account. The Issuer will agree in the Trust Deed not to make any amendment or any modification or waiver of or authorise any breach, or proposed breach of, the terms of the Loan Agreement unless the Trustee has given its prior written consent or except as otherwise expressly provided in the Trust Deed and the Loan Agreement. The Issuer will further agree to act at all times in accordance with any instruction of the Trustee from time to time with respect to the Loan Agreement, save as otherwise provided in the Trust Deed. Any amendments, modifications, waivers or authorisations made with the Trustee’s consent shall be notified to the Noteholders in accordance with Condition 14 (Notices) and shall be binding on the Noteholders. Formal notice of the security interests created by the Trust Deed will be given to the Borrower and the Principal Paying Agent who will each be required to acknowledge the same. In the event that the Trustee enforces the security interests granted to it, the Trustee will assume certain rights and obligations towards the Noteholders as more fully set out in the Trust Deed. The Notes are limited recourse obligations and the Issuer will not have any obligation to the Noteholders other than the obligation to account to the Noteholders for payment of principal, interest and additional amounts (if any) actually received and retained (net of tax) by it under the Loan excluding any amounts in respect of the Reserved Rights which the Issuer is entitled to retain from any amounts actually received. The Issuer will have no other financial obligations under the Notes and no other assets of the Issuer will be available to the Noteholders. In the event that the amount due and payable by the Issuer under the Notes exceeds the sums so received, recovered or retained (net of tax) the right of any person to claim payment of any amount exceeding such sums shall be extinguished, and Noteholders may take no further action to recover such amounts. Set out below is a diagrammatic representation of the structure: Repayment of Principal and Interest on the Note Noteholder Principal and Interest in respect of the Loan The Issuer Proceeds of the Notes 50 c104221pu030Proof7:3.3.11B/LRevision:0OperatorChoD The Borrower Loan USE OF PROCEEDS The Issuer will use the proceeds of the issue of the Notes for the sole purpose of financing the Loan to the Borrower. The proceeds of the Loan (expected to be U.S.$500,000,000) will be used by the Borrower primarily to provide loans to its customers and for general corporate purposes. The commissions, costs and expenses in connection with the issuance and offering of the Notes and admission to trading thereof will not be paid from the proceeds of the issue of the Notes and will be paid by the Borrower on or in advance of the issue date. c104221pu030Proof7:3.3.11B/LRevision:0OperatorChoD 51 CAPITALISATION AND INDEBTEDNESS The following table sets forth the Bank’s capitalisation and indebtedness as at 30 September 2010. This information was extracted from the Condensed Interim Financial Information and should be read in conjunction with ‘‘Use of Proceeds’’, ‘‘Financial Review’’ and the Condensed Interim Financial Information included elsewhere in this Prospectus. 30 September 2010 Actual (USD thousand)(1) Liabilities: Due to banks Customer accounts Debt securities issued Deferred income tax liability Other liabilities Subordinated debt Loan agreement (UAH thousand) 30 September 2010 As adjusted (USD thousand)(1) (UAH thousand) 1,995,895 2,906,696 58,714 34,889 14,032 101,045 — 15,794,517 23,002,137 464,633 276,091 111,041 799,616 — 1,995,895 2,906,696 58,714 34,889 14,032 101,045 500,000 15,794,517 23,002,137 464,633 276,091 111,041 799,616 3,956,750 Total liabilities Equity: Share capital Property revaluation reserve Investments available for sale fair value reserve Retained earnings 5,111,271 40,448,035 5,611,271 44,404,785 1,755,481 144,943 1,940 46,783 13,892,000 1,147,005 15,349 370,217 1,755,481 144,943 1,940 46,783 13,892,000 1,147,005 15,349 370,217 Total equity 1,949,147 15,424,571 1,949,147 15,424,571 Total Capitalisation 7,060,418 55,872,606 7,560,418 59,829,356 (1) The U.S. dollar amounts presented in the table above have been translated solely for convenience of the reader using the rate published by the NBU on the reporting date. No representation is made that the hryvnia or dollar amounts referred herein could have been or could be converted into hryvnias or dollars, as the case may be, at these rates, or any other particular rate at all. c104221pu030Proof7:3.3.11B/LRevision:0OperatorChoD 52 SELECTED FINANCIAL AND OPERATING INFORMATION The selected financial and operating information for the Bank set forth below should be read in conjunction with, and is qualified in its entirety by reference to the Financial Statements included elsewhere in this Prospectus. The summary financial information set forth below as at and for the years ended 31 December 2009 and 2008 has been extracted from the audited Financial Statements, which are included elsewhere in this Prospectus. The summary financial information below for the nine month periods ended 30 September 2010 and 2009 and as at 30 September 2010 has been extracted from audited Condensed Interim Financial Information also included elsewhere in this Prospectus. The Ukrainian hryvnia is the functional currency for the Financial Statements. Nine months ended 30 September Year ended 31 December 2010 2010 2009 2009 2009 2008 (USD thousand)1 (UAH thousand) (UAH thousand) (USD thousand)1 (UAH thousand) (UAH thousand) 721,248 (337,428) 5,724,257 (2,678,035) 5,716,495 (2,714,912) 998,139 (467,336) 7,777,099 (3,641,294) 2,524,529 (1,051,131) 383,820 3,046,222 3,001,583 530,803 4,135,805 1,473,398 (214,686) (1,703,878) (2,148,681) (406,113) (3,164,272) Net Interest Income 169,134 1,342,344 Fee and commission income Fee and commission expense Net gain on foreign exchange operations Net realised gain/(loss) on investments available for sale (Provision)/recovery of provision for impairment losses on other operations Net other income 99,723 (17,127) Interest income Interest expense Net Interest Income Before Provision For Impairment Losses On Interest Bearing Assets Provision for impairment losses on interest bearing assets Net Non-Interest Income Operating Income Operating Expenses Profit Before Income Tax Income tax expense Net Profit (645,212) 852,902 124,690 971,533 828,186 791,458 (135,929) 754,934 (120,833) 131,088 (21,757) 1,021,387 (169,519) 855,801 (141,231) 10,950 86,908 115,670 18,438 143,665 188,305 4,253 33,757 (6,474) (458) (3,568) (3,202) (3,167) 2,523 (25,136) 20,023 1,056 13,260 (124) 2,763 (963) 21,532 (8,034) 73,008 97,155 771,081 757,613 129,950 1,012,534 964,647 266,289 (182,421) 2,113,425 (1,447,800) 1,610,515 (1,304,927) 254,640 (230,608) 1,984,067 (1,796,806) 1,792,833 (1,706,699) 83,868 (51,680) 665,625 (410,160) 305,588 (222,012) 24,032 (10,039) 187,261 (78,220) 86,134 (46,841) 32,188 255,465 83,576 13,993 109,041 39,293 (1) Reporting day exchange rates set by the NBU were used for conversion of balance sheet items. Average exchange rates for reporting periods set by the NBU used for conversion of the income statement items. c104221pu030Proof7:3.3.11B/LRevision:0OperatorChoD 53 30 September 2010 30 September 2010 31 December 2009 31 December 2009 31 December 2008 (USD thousand)1 (UAH thousand) (USD thousand)1 (UAH thousand) (UAH thousand) 396,855 441,395 4,962,744 949,333 3,140,511 3,492,979 39,272,676 7,512,545 285,329 370,237 5,725,270 502,496 2,278,352 2,956,340 45,716,277 4,012,431 2,569,226 2,185,211 33,891,518 15,712,489 261,281 48,809 2,067,644 386,251 249,074 54,885 1,988,852 438,259 1,940,295 66,261 TOTAL ASSETS 7,060,417 55,872,606 7,187,291 57,390,511 56,365,000 LIABILITIES AND EQUITY LIABILITIES: Due to banks Customer accounts Debt securities issued Deferred income tax liability Other liabilities Subordinated debt 1,995,895 2,906,696 58,714 34,889 14,032 101,045 15,794,517 23,002,137 464,633 276,091 111,041 799,616 2,006,605 3,089,907 55,866 1,979 8,196 103,266 16,022,744 24,672,908 446,093 15,803 65,445 824,578 22,239,283 17,492,921 501,541 134,207 83,043 793,276 5,111,271 40,448,035 5,265,819 42,047,571 41,244,271 1,755,481 144,943 13,892,000 1,147,005 1,739,762 143,676 13,892,000 1,147,251 13,892,000 1,147,679 1,940 46,783 15,349 370,217 1,949,147 15,424,571 1,921,470 15,342,940 15,120,729 7,060,418 55,872,606 7,187,289 57,390,511 56,365,000 ASSETS: Cash and balances with the National Bank of Ukraine Due from banks Loans to customers Investments available for sale Property, equipment and intangible assets Other assets Total liabilities EQUITY: Share capital Property revaluation reserve Investments available for sale fair value reserve Retained earnings Total equity TOTAL LIABILITIES AND EQUITY (2,333) 40,365 (18,626) 322,315 (131,796) 212,846 (1) Reporting day exchange rates set by the NBU were used for conversion of balance sheet items. Average exchange rates for reporting periods set by the NBU used for conversion of the income statement items. c104221pu030Proof7:3.3.11B/LRevision:0OperatorChoD 54 30 Sept 2010 (%) BANK PERFORMANCE RATIOS: Net interest margin(1) Net non-interest income to income before operating expenses Cost to income ratio(2) Return on average assets(3) Return of average equity(4) FINANCIAL POSITION RATIOS: Customer loans to customer accounts(5) Customer loans to total assets Equity to total assets Tier 1 capital adequacy ratio Regulatory capital adequacy ratio Asset Quality Ratios: Allowance for impairment of loan portfolio to total loans to customers Provision charge to total customer loans(6) As at 31 Dec 2009 (%) 31 Dec 2008 (%) 7.90 36.48 37.93 0.60 2.21 7.92 51.03 34.90 0.19 0.72 4.51 53.81 70.00 0.11 0.46 195.82 70.29 27.61 32.43 36.88 201.98 79.66 26.73 28.41 32.26 199.87 60.13 26.83 36.81 41.47 12.81 4.79 8.26 7.46 3.06 2.94 (1) Net interest margin was calculated as net interest income before provision for impairment losses on interest bearing assets divided by the simple average of interest bearing assets. The ratio was annualised if necessary. (2) Cost to income ratio was calculated as operating expenses divided by operating income before provision for impairment losses on interest bearing assets. (3) Return on average assets was calculated as net profit for the period divided by the simple average of total assets. The ratio was annualised if necessary. (4) Return of average equity was calculated as net profit for the period divided by the simple average of total equity. The ratio was annualised if necessary. (5) Customer loans to customer accounts was calculated as total loans to customers before allowance for impairment losses divided by customer accounts at the end of the period. (6) Provision charge to total customer loans was calculated as provision charge for the period divided by the simple average of total loans to customers before allowance for impairment losses. The ratio was annualised if necessary. c104221pu030Proof7:3.3.11B/LRevision:0OperatorChoD 55 MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion of the Bank’s financial condition and results of operations should be read in conjunction with the Bank’s audited financial statements for each of the years ended 31 December 2008 and 2009 and our audited condensed interim financial information for each of the nine month periods ended 30 September 2009 and 2010 (the Financial Statements) and the related notes and other financial information included elsewhere in this Prospectus. This discussion and analysis should also be read in conjunction with the information contained in ‘‘Selected Statistical Information’’. Some of the information in the discussion and analysis set forth below and elsewhere in this Prospectus includes forward-looking statements that involve risks and uncertainties. See ‘‘Forward Looking Statements’’ and ‘‘Risk Factors’’ for a discussion of important factors that could cause actual results to differ materially from the results described in this Prospectus. Overview The Bank’s business is organised into the following three principal business segments: * Retail Banking, which provides banking products and services, including deposit and current accounts, loans, including mortgages, credit and debit card services, cash and settlement services, money transfer services and services under the State-run programmes (such as the State compensation scheme for Sberbank accountholders), to individuals. * Corporate Banking, which provides banking products and services, including deposit accounts, loans, cash settlement transactions, foreign exchange transactions, consultation services, securities transaction services, overdraft facilities, revolving lines of credit, guarantees, promissory notes and various programmes introduced by the State to corporate customers, including SMEs, as well as to individual entrepreneurs. * Treasury, which comprises the Bank’s proprietary activities, including capital market transactions, including those involving Ukraine government securities, NBU re-financed securities, repurchase transactions (repos), inter-bank lending and foreign exchange transactions, as well as precious metals trading. As at 30 September 2010, the Bank had total assets of UAH 55,872,606 thousand, total customer accounts of UAH 23,002,137 thousand and total net customer loans of UAH 39,272,676 thousand. For the nine month period ended 30 September 2010, the Bank had income before tax of UAH 665,625 thousand and net profit of UAH 255,465 thousand, compared to income before tax of UAH 305,588 thousand and net profit of UAH 83,576 thousand for the same period of 2009. Recent Developments and Operating Environment The Tax Code On 4 December 2010, the revised Tax Code of Ukraine was officially published. The Tax Code became effective on 1 January 2011. Section III of the Code, which deals with corporate income tax (CIT), will become effective from 1 April 2011. The Tax Code provides for a gradual reduction of the CIT rate from 25 per cent. as follows: * 23 per cent. – from 1 April 2011 to 31 December 2011; * 21 per cent. – from 1 January 2012 to 31 December 2012; * 19 per cent. – from 1 January 2013 to 31 December 2013; and * 16 per cent. – from 1 January 2014. Due to the fact that the new CIT rules were not enacted or were not substantially enacted as at 30 September 2010, any changes in deferred tax assets/liabilities as a result of the above reduced tax rates will be recognised in subsequent reporting periods. Naftogaz bonds As at 30 September 2010, the total amount of the outstanding indebtedness of Bank’s largest borrower, Naftogaz, under loan agreements between the Bank and Naftogaz was UAH 21,243,486 thousand, comprising 47 per cent. of the Bank’s gross loan portfolio. In order to mitigate the liquidity risks relating to repayment of these loans and to enhance the marketability of the exposure to Naftogaz, on 15 December 2010, the Ukrainian Government passed Resolution No. 1207 authorising Naftogaz to issue bonds (the Naftogaz Bonds) in the nominal amount of UAH 20,416,000 c104221pu040Proof7:3.3.11B/LRevision:0OperatorChoD 56 thousand. The proceeds of the Naftogaz Bonds will be used to repay the existing loan facilities with the Bank. It is expected that the Bank will purchase the majority of the Naftogaz Bonds which will have the effect of restructuring the current Naftogaz financing into a more liquid form with varying maturities, which can be used more flexibly by the Bank for refinancing purposes or sold to local or foreign investors so that the Bank’s exposure to Naftogaz would decrease. The Naftogaz Bonds will be issued in twenty-nine series each worth between UAH 413,800 thousand and UAH 995,000 thousand with maturities between 16 September 2011 and 16 September 2016. Interest rates on the Naftogaz Bonds will range from 11.25 per cent. to 13.75 per cent. As of the date of this Prospectus, no further information on the Naftogaz Bonds, including the terms and conditions and security arrangements, is available. The Bank believes that the maximum individual borrower concentration threshold, specially established by the NBU in relation to the Bank’s loans to Naftogaz, will remain in place after the issue of the Naftogaz Bonds. Average Net Interest Margin and Spread The following table shows the Bank’s average interest-earning assets, average interest-bearing liabilities and net interest income and illustrates the comparative net interest margin and net interest spread for each of 2008 and 2009. The averages are based on the opening and closing balances for the respective years. 2008 2009 (UAH thousand, except percentages) Total average interest-earning assets(1) Total average interest-bearing liabilities(2) Net interest income Average yield on average interest-bearing liabilities Net interest margin(3) Net interest spread(4) 35,718,004 27,822,379 1,473,398 3.8 4.1 3.3 57,629,319 41,496,673 4,135,805 8.8 7.2 4.7 (1) Interest earning assets were calculated as a sum of all categories in the statement of financial position, which include interestearning instruments; thus the non-interest earning part may also be included (e.g. within Cash and balances with the NBU category). (2) Interest-bearing liabilities were calculated as a sum of all categories in the statement of financial position, which include interest bearing instruments; thus non-interest bearing part may also be included. (3) Net interest margin is defined as net interest income (interest income less interest expenses) divided by average interest earning assets. (4) Net interest spread is defined as interest income before provision for impairment (divided by average interest earning assets) less interest expense (divided by average interest bearing liabilities). Factors Affecting Financial Condition and Results of Operations Naftogaz lending In 2008, the Bank entered into a series of loan transactions to assist with the re-financing of the troubled gas supplier Naftogaz. The financing for these transactions was a combination of own funds, re-capitalisation of the Bank by the State and use of the Bank’s credit lines with the NBU. The transactions had a significant impact on the financial condition of the Bank in the 2008-2010 period. In the period 2008-2009, loans to customers grew from UAH 33,891,518 thousand as at 31 December 2008 to UAH 45,716,277 thousand as at 31 December 2009 as a result of new lending to Naftogaz. In the same period the Bank’s securities portfolio recorded a fall as a repo agreement with the NBU, also entered into in connection with NBU financing, was settled. In line with the increased lending to Naftogaz, provision for impairment losses on interest bearing assets also increased. Provisions made for impairment losses on interest bearing assets increased from a provision of UAH 645,212 thousand in the year ended 31 December 2008 to a provision of UAH 3,164,272 thousand in the year ended 31 December 2009, an increase of UAH 2,519,060 thousand, of which UAH 1,531,153 thousand or 60.8 per cent. was accounted for by provisions in relations to loans to Naftogaz, and also a Naftogaz subsidiary, Ukrtransnafta. In the same period, interest income increased (by UAH 5,252,570 thousand from UAH 2,524,529 thousand in the year ended 31 December 2008 to UAH 7,777,099 thousand in the year ended 31 December 2009) as a result of interest received from loans to Naftogaz. Interest expense on the amounts due to banks also increased from UAH 198,404 thousand for the year ended c104221pu040Proof7:3.3.11B/LRevision:0OperatorChoD 57 31 December 2008 to UAH 2,280,264 thousand for the year ended 31 December 2009 as a result of interest paid on the Bank’s credit lines to the NBU which were utilised to re-finance Naftogaz. In the first nine months of 2010, loans to customers decreased from UAH 45,716,277 thousand as at 31 December 2009 to UAH 39,272,676 thousand as at 30 September 2010, reflecting a reduction of the Bank’s aggregate exposure to Naftogaz and its subsidiary, Ukrtransnafta, from UAH 29,089,711 thousand as at 31 December 2009 to UAH 21,384,536 thousand as at 30 September 2010 following a repayment by Naftogaz of a portion of its loans to the Bank. Provisioning made for Naftogaz and Ukrtransnafta in the nine months ended 30 September 2010 in respect of the Bank’s exposure to Naftogaz and Ukrtransnafta decreased from UAH 1,660,957 thousand for the year ended 31 December 2009 to UAH 509,866 thousand for the nine months ended 30 September 2010 as the Bank’s exposure to Naftogaz also decreased. Interest paid on loans from the NBU and used to refinance Naftogaz fell in the nine months ended 30 September 2010 (compared to the nine months ended 30 September 2009), which contributed to a fall in interest expense on the amounts due to banks from UAH 1,768,929 for the nine months ended 30 September 2009 to UAH 1,436,941 for the nine months ended 30 September 2010. Ukraine’s economic conditions The majority of the Bank’s assets and customers are located in, or have businesses related to, Ukraine. Accordingly, the Bank is substantially affected by the general state of, and changes in, the Ukrainian economy and changes in the level of business activity, the levels of Ukrainian consumer spending and the real estate market in Ukraine. From 2005 until June 2008, the Ukrainian economy experienced significant growth, influenced in part by significant capital inflows from outside of Ukraine. However, from October 2008 onwards, Ukraine’s economy suffered a significant period of instability. Although the Ukrainian economy has shown positive growth trends in 2010, including an increase in GDP and industrial production any, renewed weakness and a deterioration of global or regional economic conditions, including a so-called ‘‘double dip’’ recession, may stall any current recovery or lead to a return of the economic and financial crisis in Ukraine. Global Economic Conditions Since mid-2008, the global banking industry has been severely impacted by the global financial crisis, which has contributed to significant decreases in the values of assets held by financial institutions, including government-financed entities and major commercial and investment banks. The global financial crisis has led to the collapse or bailout of some Ukrainian banks and to significant liquidity constraints for others. The crisis has prompted the Ukrainian Government to inject significant liquidity into the banking system amid reports of difficulties among Ukrainian banks and other financial institutions. The Ukrainian Government’s policy has been to intervene in support only of these banks whose size is such that their failure would create systemic risk for the Ukrainian economy. Despite progress in the restructuring and recapitalisation of Ukrainian banks, problems with the quality of assets held by Ukrainian banks and indebtedness persist. Asset quality was affected significantly by the devaluation in the hryvnia in 2008 (52.5 per cent. against the dollar and 46.3 per cent. against the Euro) and further exacerbated by the 15.1 per cent. contraction of the economy in 2009. Despite government and NBU intervention and progress in stabilising the foreign exchange market by the end of 2009 and during the first half of 2010, the high dollarisation in the Ukrainian financial system increases exchange rate risks and could contribute to a worsening of banks’ asset quality. See ‘‘Risk Factors – Risks relating to Ukraine – The Ukrainian currency is subject to volatility and depreciation’’. Overdue loans are another factor affecting the asset quality of Ukrainian banks. The proportion of loans represented by overdue loans was 2.3 per cent. and 9.4 per cent. as at 31 December 2008 and 2009, respectively, and 11.9 per cent. as at 30 November 2010. Although the rate of growth of the share of overdue loans in banks’ credit portfolios has slowed, a future increase in this rate could place additional strain on the banking system. Operating History During the period from 2007-2009, the Bank enhanced its risk management systems, including centralising and tightening credit decisioning. Despite this, during the period of 2007-2009 the Bank was able to increase its lending operations due to an increase its customer accounts, which grew to UAH 24,672,908 thousand as at 31 December 2009, an increase of 41.0 per cent. compared with UAH 17,492,921 thousand as at 31 December 2008. The continued growth in customer deposits was helped by the Government guarantee offered by the Bank to its customers. This deposit scheme, unique amongst Ukrainian financial institutions, led to inflows of customer deposits. Similarly c104221pu040Proof7:3.3.11B/LRevision:0OperatorChoD 58 provisions for impairment losses increased from UAH 645,212 thousand for the year ended 31 December 2008 to UAH 3,164,272 thousand for the year ended 31 December 2009. Operating income also increased during the crisis: fee income grew at a year-on-year rate of 19.0 per cent., from UAH 855,801 thousand for the year ended 31 December 2008 to UAH 1,021,387 thousand for the year ended 31 December 2009, whilst interest income increased from UAH 2,524,529 thousand to UAH 7,777,099 thousand as at 31 December 2009. In addition, the Bank took active steps to control costs during 2009 and as a result there was only a marginal increase in operating costs in 2009 as compared to 2008 (UAH 1,796,806 thousand in 2009 compared with UAH 1,706,699 thousand in 2008). Relationship with the State of Ukraine The Bank is wholly-owned by the State of Ukraine and a substantial part of its business is connected with the service of various State-sponsored programmes and the funding of companies categorised as State monopolies. As at 30 September 2010, the funds of State-owned enterprises comprised approximately 6.2 per cent. of the Bank’s total customer accounts. In addition, the Bank’s supervisory board, which is not directly involved in its day-to-day operations, but which is its supreme management body, is currently comprised of five members appointed by the President of Ukraine, five members appointed by the Ukrainian Parliament and five members appointed by the Cabinet of Ministers of Ukraine. Actions taken by the State of Ukraine may have considerable influence on its management and operations. See ‘‘Risk Factors – Risks Relating to the Bank – Relations with its shareholder and related party transactions’’. Consolidation In recent years, the Ukrainian banking sector has experienced consolidation as a result of larger banks, including international banks, merging with and/or acquiring smaller banks. As the Ukrainian economy gradually recovers from the financial crisis, the liquidity of Ukraine’s Banking sector is improving, resulting in the lower loan and deposit interest rates. Inflation Accounting With effect from 1 January 2001, the economy of Ukraine was no longer considered to be hyperinflationary. Previously, Ukraine was considered to be a hyperinflationary economy and in order to comply with IAS 29 ‘‘Financial Reporting in Hyperinflationary Economies’’, financial statements are required to be expressed in terms of the measuring unit current at the balance sheet date. The Bank has not adjusted its share capital, non-monetary assets and equity for the effects of hyperinflationary conditions that existed in Ukraine until 31 December 2000. Management has not determined the effects of this departure from IAS 29 on the Financial Statements. Tax Contingency The Bank performs the majority of its operations in Ukraine and therefore within the jurisdiction of the Ukrainian tax authorities. The Ukrainian tax system is characterised by a wide variety of taxes and frequently changing legislation which may be applied retroactively, open to wide interpretation and which is in some cases conflicting. Instances of inconsistent opinions between local, regional, and national tax authorities and between the NBU and the Ministry of Finance are not unusual. Tax declarations are subject to review and investigation by a number of authorities that are enacted by law to impose severe fines, penalties and interest charges. A tax year remains open for review by the tax authorities during the three subsequent calendar years, however, under certain circumstances a tax year may remain open longer. These facts create tax risks substantially more significant than typically found in countries with more developed systems. See ‘‘Risk Factors – Risks relating to Ukraine – The Ukrainian tax system is undeveloped and subject to frequent change, which may create an uncertain environment for investment and business activity’’. Management believes that it has adequately provided for tax liabilities based on its interpretation of tax legislation, official pronouncements and court decisions. However, the interpretations of the relevant authorities could differ and the effect on these financial statements, if the authorities were successful in enforcing their interpretations, could be significant. c104221pu040Proof7:3.3.11B/LRevision:0OperatorChoD 59 Significant Accounting Policies Information on the Bank’s significant accounting policies is included in Part 3 of the Notes to the audited Financial Statements and Condensed Interim Financial Information, which are included elsewhere in this Prospectus. Recent Accounting Pronouncements Recently Adopted Changes Certain recent changes have been made to IFRS. Adoption of new and revised standards – In the Interim Financial Information, the Bank has adopted all of the new and revised Standards and Interpretations issued by the Informational Accounting Standards Board (IASB) and the IFRS Interpretations Committee (IFRIC) of the IASB that are relevant to its operations and effective for annual reporting periods beginning on or after 1 January 2010. The adoption of these new and revised Standards and Interpretations has not resulted in significant changes to the amounts reported for the current or prior periods except where, if applicable, referred to in the notes or statements described in the Interim Financial Information. Improvements to IFRS 2009 – In April 2009, the IASB issued amendments to IFRS, which resulted from the IASB’s annual improvement project. They comprise amendments that result in accounting changes for presentation, recognition or measurement purposes as well as terminology or editorial amendments related to a variety of individual IFRS standards. Most of the amendments are effective for annual periods beginning on or after 1 January 2010, with earlier application permitted. The adoption of the amendments did not have a material impact on the Bank’s financial statements. Standards and interpretations issued and not yet adopted – At the date of authorisation of the condensed interim financial information for the nine month period ending 30 September 2010, other than the Standards and Interpretations (related to the Bank’s activities) adopted by the Bank in advance of their effective dates, the following Interpretations were in issue but not yet effective: Improvements to IFRS 2010 – In May 2010, the IASB issued amendments to IFRS, which resulted from the IASB’s annual improvement project. They comprise amendments that result in accounting changes for presentation, recognition or measurement purposes as well as terminology or editorial amendments related to a variety of individual IFRS standards. Most of the amendments are effective for annual periods beginning on or after 1 January 2011, with earlier application permitted. The Bank is currently evaluating the potential impact that the adoption of the amendments will have on its financial statements. IAS 24 – In November 2009, the IASB issued a revised version of IAS 24, ‘‘Related Party Disclosures’’ (IAS 24 R). IAS 24 provides a partial exemption from the disclosure requirements for government-related entities and clarifies the definition of a related party. The revised standard is effective for annual periods beginning on or after 1 January 2011, with earlier application permitted. The Bank is currently evaluating the potential impact that the adoption of IAS 24 R will have on its financial statements. IFRS 9 – In November 2009, the IASB issued IFRS 9, ‘‘Financial Instruments’’, as a first step in its project to replace IAS 39, ‘‘Financial Instruments: Recognition and Measurement’’. IFRS 9 introduces new requirements for how an entity should classify and measure financial assets that are in the scope of IAS 39. The standard requires all financial assets to be classified on the basis of the entity’s business model for managing the financial assets, and the contractual cash flow characteristics of the financial asset. A financial asset is measured at amortized cost if two criteria are met: (a) the objective of the business model is to hold the financial asset for the collection of the contractual cash flows, and (b) the contractual cash flows under the instrument solely represent payments of principal and interest. If a financial asset meets the criteria to be measured at amortised cost, it can be designated at fair value through profit or loss under the fair value option, if doing so would significantly reduce or eliminate an accounting mismatch. If a financial asset does not meet the business model and contractual terms criteria to be measured at amortised cost, then it is subsequently measured at fair value. IFRS 9 also removes the requirement to separate embedded derivatives from financial asset hosts. It requires a hybrid contract with a financial asset host to be classified in its entirety at either amortised cost or fair value. IFRS 9 requires reclassifications when the entity’s business model changes, which is expected to be an infrequent occurrence; in this case, the entity is required to reclassify affected financial assets prospectively. c104221pu040Proof7:3.3.11B/LRevision:0OperatorChoD 60 There is specific guidance for contractually linked instruments that create concentrations of credit risk, which is often the case with investment tranches in a securitisation. In addition to assessing the instrument itself against the IFRS 9 classification criteria, management should also ‘look through’ to the underlying pool of instruments that generate cash flows to assess their characteristics. To qualify for amortised cost, the investment must have equal or lower credit risk than the weighted-average credit risk in the underlying pool of instruments, and those instruments must meet certain criteria. If a ‘look through’ is impracticable, the tranche must be classified at fair value through profit or loss. Under IFRS 9, all equity investments should be measured at fair value. However, management has an option to present directly in gains (losses) not recognised in the income statement unrealised and realised fair value gains and losses on equity investments that are not held for trading. Such designation is available on initial recognition on an instrument-by-instrument basis and is irrevocable. There is no subsequent recycling of fair value gains and losses to profit or loss; however, dividends from such investments will continue to be recognised in profit or loss. IFRS 9 is effective for annual periods beginning on or after 1 January 2013, with earlier application permitted. IFRS 9 should be applied retrospectively; however, if adopted before 1 January 2012, comparative periods do not need to be restated. The Bank is currently evaluating the potential impact that the adoption of IFRS 9 will have on its financial statements. Comparison of the Nine Months Ended 30 September 2009 and 2010 Results of Operations The table below sets out the Bank’s results of operations for the nine months ended 30 September 2010 and 30 September 2009. Nine months ended 30 September 2010 (UAH thousand) 5,724,257 5,716,495 (2,678,035) (2,714,912) Interest income Interest expense Net interest income before provision for impairment losses on interest bearing assets Provision for impairment losses on interest bearing assets Net interest income (Provision)/recovery of provision for impairment losses on other operations Net other income Net non-interest income Operating income Operating expenses Profit before income tax Income tax expense Net profit 61 Change (%) 0.1 (1.4) 3,046,222 3,001,583 1.5 (1,703,878) (2,148,681) (20.7) 1,342,344 Fee and commission income Fee and commission expense Net gain on foreign exchange operations Net realised gain/(loss) on investments available for sale c104221pu040Proof7:3.3.11B/LRevision:0OperatorChoD 2009 791,458 (135,929) 86,908 33,757 852,902 57.4 754,934 (120,833) 115,670 (6,474) 4.8 12.5 (24.9) — (25,136) 1,056 — 20,023 13,260 51.0 771,081 757,613 1.8 2,113,425 1,610,515 31.2 (1,447,800) (1,304,927) 10.9 665,625 305,588 117.8 (410,160) (222,012) 84.7 255,465 83,576 205.7 Interest and similar income The table below sets out details of the Bank’s interest and similar income for the nine months ended 30 September 2010 and 30 September 2009. Nine months ended 30 September 2010 2009 (UAH thousand) Interest income comprises: Interest income on financial assets recorded at amortised cost: Interest on loans to customers Interest on due from banks Other interest income Interest income on financial assets at fair value: Interest on investment available for sale Total interest income 4,921,296 88,697 116 4,811,147 161,304 2 5,010,109 4,972,453 714,148 744,042 5,724,257 5,716,495 Interest income increased by UAH 7,762 thousand or 0.1 per cent. from UAH 5,716,495 thousand in the nine months ended 30 September 2009 compared to UAH 5,724,257 thousand in the nine months ended 30 September 2010. The increase in interest income was primarily due to an increase in interest received on loans to customers, which was positively influenced by an increase in the average interest rate on loans and advances and improved margin on loans and advances. Interest expense and similar charges The table below sets forth details of the Bank’s interest expense and similar charges for the nine months ended 30 September 2010 and 30 September 2009. Nine months ended 30 September 2010 2009 (UAH thousand) Interest expense: Interest on due to banks Interest on customer accounts Interest on subordinated debt Interest on debt securities issued (1,436,941) (1,137,920) (56,019) (47,155) (1,768,929) (846,191) (54,693) (45,099) Total interest expense (2,678,035) (2,714,912) Interest expense and similar charges decreased by UAH 36,877 thousand or 1.4 per cent., from UAH 2,714,912 thousand in the nine months ended 30 September 2009 to UAH 2,678,035 thousand in the nine months ended 30 September 2010. The decrease in interest expense and similar charges was driven principally by a decrease in the amount of interest due to banks because of a decrease in the NBU refinancing rate between 2009 and 2010, and a decrease in the volume of deposits accepted by the Bank. Provision for impairment losses on interest bearing assets Provisions made for impairment losses on interest bearing assets decreased from a provision of UAH 2,148,681 thousand made in the nine months ended 30 September 2009 to a provision of UAH 1,703,878 thousand made in the nine months ended 30 September 2010. The decrease in provisioning for the nine month period was primarily on account of the fact that the required allowances for impairment had already been accrued in 2009. c104221pu040Proof7:3.3.11B/LRevision:0OperatorChoD 62 Fee and commission income The table below sets forth details of our fee and commission income for the nine months ended 30 September 2010 and 30 September 2009. Nine months ended 30 September 2010 2009 (UAH thousand) Fee and commission income: Settlements and cash operations Foreign exchange operations Off-balance sheet operations Securities operations Other Total fee and commission income 754,785 29,034 1,453 583 699,144 48,593 1,983 898 5,603 4,316 791,458 754,934 Fee and commission income increased by UAH 36,524 thousand or 4.8 per cent., from UAH 754,934 thousand in the nine months ended 30 September 2009 to UAH 791,458 thousand in the nine months ended 30 September 2010. The increase in fee and commission income was largely due to an increased volume of settlement and cash operations between 2009 and 2010. Fee and commission expense The table below sets forth details of our fee and commission expense for the nine months ended 30 September 2010 and 30 September 2009. Nine months ended 30 September 2010 2009 (UAH thousand) Fee and commission expense: Settlements and cash operations Foreign exchange operations Securities operations Other Total fee and commission expense (118,060) (7,794) (935) (97,233) (12,333) (1,682) (9,140) (9,585) (135,929) (120,833) Fee and commission expense increased by UAH 15,096 thousand or 12.5 per cent., from UAH 120,833 thousand in the nine months ended 30 September 2009 to UAH 135,929 thousand in the nine months ended 30 September 2010. The increase in fee and commission expense was due to an increase in the volume of settlement and cash operations. Net gains on foreign exchange operations Net gains on foreign exchange operations relate to the valuation of currency positions and spreads earned on foreign currency exchange activities. Net gains on foreign exchange operations decreased by UAH 28,762 thousand or 24.9 per cent., from UAH 115,670 thousand in the nine months ended 30 September 2009 to UAH 86,908 thousand in the nine months ended 30 September 2010. The decrease was primarily due to movements in exchange rates, which resulted in a loss in translation differences due to one-time spot calculations, despite increased gains from trading operations. Net realised gain /(loss) on investments available for sale Net realised gain/(loss) on investments available for sale moved from a loss of UAH 6,474 thousand for the nine months ended 30 September 2009 to a gain of UAH 33,757 thousand for the nine months ended 30 September 2010. The gain for the nine months ended 30 September 2010 was c104221pu040Proof7:3.3.11B/LRevision:0OperatorChoD 63 mainly due to increased volumes of trading in Ukrainian Government debt securities, whilst the loss in the previous period was a result of repurchase transactions with other credit institutions when the Bank provided funding at a rate below the coupon rate on the underlying Ukrainian Government debt securities received from borrowers. Provisions for impairment losses on other operations Provisions for impairment losses on other operations changed from a recovery of a provision of UAH 1,056 thousand for the nine months ended 30 September 2009 to a provision of UAH 25,136 thousand for the nine months ended 30 September 2010. This change was primarily due to an increase in provisioning associated with the failed repayment of matured corporate bonds. Operating expenses The table below sets forth details of operating expenses for the nine months ended 30 September 2010 and 30 September 2009. Nine months ended 30 September 2010 2009 (UAH thousand) Operating expenses: Staff costs Depreciation and amortisation Property and equipment maintenance Operating leases Utilities Office maintenance Communications Taxes, other than income tax Security expenses Professional services Business trip expenses Insurance expense Advertising costs Other expenses 1,051,400 84,304 72,437 71,621 47,875 31,262 22,090 18,733 14,597 6,359 6,143 4,191 1,446 15,342 946,872 73,340 59,133 63,401 39,088 25,509 21,854 30,707 12,710 6,603 4,966 5,451 968 14,325 Total operating expenses 1,447,800 1,304,927 Operating expenses increased by UAH 142,873 thousand or 10.9 per cent., from UAH 1,304,927 thousand in the nine months ended 30 September 2009 to UAH 1,447,800 thousand in the nine months ended 30 September 2010. This increase in general administrative expenses was due largely to staff costs, property and equipment maintenance, depreciation and amortisation and operating leases. Staff costs Staff costs increased from UAH 946,872 thousand for the nine months ended 30 September 2009 to UAH 1,051,400 thousand for the nine months ended 30 September 2010 due to an increase in wages paid despite a fall in employee numbers. Depreciation and amortisation Depreciation and amortisation increased by UAH 10,964 thousand or 14.9 per cent., from UAH 73,340 thousand in the nine months ended 30 September 2009 to UAH 84,304 thousand in the nine months ended 30 September 2010. This increase in depreciation and amortisation was primarily due to the change in property and equipment as a result of the purchase of armoured cash-delivery vehicles by the Bank. c104221pu040Proof7:3.3.11B/LRevision:0OperatorChoD 64 Statement of Financial Position Analysis 30 September 31 December 2010 2009 (UAH thousand) ASSETS: Cash and balances with the National Bank of Ukraine Due from banks Loans to customers Investments available for sale Property, equipment and intangible assets Other assets 3,140,511 3,492,979 39,272,676 7,512,545 2,067,644 386,251 2,278,352 2,956,340 45,716,277 4,012,431 1,988,852 438,259 Total assets 55,872,606 57,390,511 LIABILITIES: Due to banks Customer accounts Debt securities issued Deferred income tax liability Other liabilities Subordinated debt 15,794,517 23,002,137 464,633 276,091 111,041 799,616 16,022,744 24,672,908 446,093 15,803 65,445 824,578 Total liabilities 40,448,035 42,047,571 Total Assets Total assets decreased from UAH 57,390,511 thousand as at 31 December 2009 to UAH 55,872,606 thousand as at 30 September 2010. The decrease was primarily due to a decrease in loans to customers from UAH 45,716,277 thousand as at 31 December 2009 to UAH 39,272,676 thousand as at 30 September 2010, despite an increase in investments available for sale from UAH 4,012,431 thousand as at 31 December 2009 to UAH 7,512,545 thousand as at 30 September 2010. Loans to customers Loans to customers decreased from UAH 45,716,277 thousand as at 31 December 2009 to UAH 39,272,676 thousand as at 30 September 2010. This decrease was due primarily to a repayment by Naftogaz of a portion of its borrowings to the Bank under reverse repo agreements as well as some of its borrowings under the loan agreements. In addition, in the first nine months, the Bank increased its allowances for impairment losses from UAH 4,118,127 thousand as at 31 December 2009 to UAH 5,769,523 thousand as at 30 September 2010 due an increase in allowances for impairment losses in relation to the Bank’s corporate and retail loans, with increase in allowances for impairment losses in relation to Naftogaz loans accounting for approximately 30 per cent. of the total increase in allowances for impairment losses in that period. Investments available for sale Investments available for sale increased from UAH 4,012,431 thousand as at 31 December 2009 to UAH 7,512,545 thousand as at 30 September 2010. This increase was due to the Bank investing surplus liquidity (received from Naftogaz on the settlement of its repo positions) in Ukrainian Government debt securities. Total Liabilities Total liabilities decreased from UAH 42,047,571 thousand as at 31 December 2009 to UAH 40,448,035 thousand as at 30 September 2010. This decrease was primarily due to a decrease amounts due to banks and a decrease in customers’ term deposits. Due to banks Amounts due to banks decreased from UAH 16,022,744 thousand as at 31 December 2009 to UAH 15,794,517 thousand as at 30 September 2010. This decrease was due primarily to the partial c104221pu040Proof7:3.3.11B/LRevision:0OperatorChoD 65 repayment of loans from the NBU. Such repayments were made with proceeds from the repayments of loans disbursed by the Bank to Naftogaz. Customer accounts Customer accounts decreased from UAH 24,672,908 thousand as at 31 December 2009 to UAH 23,002,137 thousand as at 30 September 2010. This decrease was primarily due to the repayment by the Bank of deposits made with the Bank by the State authorities, despite a rise in customer deposits across all classes of depositors between 31 December 2009 and 30 September 2010. Comparison of the Years Ended 31 December 2009 and 2008 Results of Operations The table below sets out the Bank’s results of operations for each of the years ended 31 December 2009 and 2008. Year ended 31 December 2009 Interest income Interest expense Net interest income before provision for impairment losses on interest bearing assets Provision for impairment losses on interest bearing assets Net interest income 2008 (UAH thousand) 7,777,099 2,524,529 (3,641,294) (1,051,131) 4,135,805 (3,164,272) 1,473,398 (645,212) 971,533 828,186 Fee and commission income Fee and commission expense Net gain on foreign exchange operations Net realised loss on investment available for sale Provision for impairment losses on other operations Net other income 1,021,387 (169,519) 143,665 (3,568) (963) 21,532 855,801 (141,231) 188,305 (3,202) (8,034) 73,008 Net non-interest income 1,012,534 964,647 1,984,067 (1,796,806) 1,792,833 (1,706,699) Profit before income tax Income tax expense 187,261 (78,220) 86,134 (46,841) Net profit 109,041 39,293 Operating income Operating expenses c104221pu040Proof7:3.3.11B/LRevision:0OperatorChoD 66 Interest income The table below sets out details of the Bank’s interest income for each of the years ended 31 December 2009 and 2008. Year ended 31 December 2009 2008 (UAH thousand) Interest income comprises: Interest income on financial assets recorded at amortised cost: Interest on loans to customers Interest on due from banks Other interest income Interest income on financial assets at fair value: Interest on investment available for sale Total interest income 6,675,055 202,713 — 2,036,511 193,663 11 6,877,768 2,230,185 899,331 294,344 7,777,099 2,524,529 Interest income increased by UAH 5,252,570 thousand or 208.1 per cent. from UAH 2,524,529 thousand in the year ended 31 December 2008 to UAH 7,777,099 thousand in 2009. The increase in interest and similar income was primarily due to an increase in interest on loans to customers. This increase resulted from an increase in volumes of loans disbursed to Naftogaz. Interest expense The table below sets out details of the Bank’s interest expense and similar charges for each of the years ended 31 December 2009 and 2008. Year ended 31 December 2009 2008 (UAH thousand) Interest expense comprises: Interest expenses on financial liabilities recorded at amortised cost: Interest on due to banks Interest on customer accounts Interest on subordinated debt Interest on debt securities issued (2,280,264) (1,227,340) (73,699) (59,991) (198,404) (770,181) (50,089) (32,457) Total interest expense (3,641,294) (1,051,131) Interest expense and similar charges increased by UAH 2,590,163 thousand or 246.4 per cent., from UAH 1,051,131 thousand in the year ended 31 December 2008 to UAH 3,641,294 thousand in 2009. The increase in interest expense and similar charges was driven principally by the significantly increased volume of operations since the fourth quarter of 2008. In particular, the Bank received NBU refinancing in the amount of UAH 21,977,740 thousand at the end of 2008. This was accompanied by an increase in retail accounts as well a higher cost of funding during 2009. Provision for impairment losses on interest bearing assets Provisions made for impairment losses on interest bearing assets increased from a provision of UAH 645,212 thousand made in the year ended 31 December 2008 to a provision of UAH 3,164,272 thousand made in the year ended 31 December 2009. The increase in provisioning was made primarily on account of the deterioration of the credit portfolio quality, in particular in relation to the loans to State-owned companies Naftogaz and Ukrtransnafta which accounted for UAH 1,531,153 thousand or 60.8 per cent. of the total increase in the Bank’s provision for impairment. c104221pu040Proof7:3.3.11B/LRevision:0OperatorChoD 67 Fee and commission income The table below sets out details of the Bank’s fee and commission income for each of the years ended 31 December 2009 and 2008. Year ended 31 December 2009 2008 (UAH thousand) Fee and commission income: Settlements and cash operations Foreign exchange operations Off-balance sheet operations Securities operations Other 948,872 61,932 2,530 1,908 6,145 828,609 15,636 5,360 114 6,082 Total fee and commission income 1,021,387 855,801 Fee and commission income increased by UAH 165,586 thousand or 19.3 per cent., from UAH 855,801 thousand in the year ended 31 December 2008 to UAH 1,021,387 thousand in 2009. This increase in fee and commission income was largely due to an increase in the volume and number of payment transactions and foreign exchange operations. Foreign exchange operations Net gain from foreign exchange operations decreased by UAH 44,640 thousand or 23.7 per cent., from UAH 188,305 thousand in the year ended 31 December 2008 to UAH 143,665 thousand in 2009. The decrease resulted from the presence of a non-recurring translation gain in 2008 due to significant UAH depreciation. Fee and commission expense The table below sets out details of the Bank’s fee and commission expense for each of the years ended 31 December 2009 and 2008. Year ended 31 December 2009 2008 (UAH thousand) Fee and commission expense: Settlements and cash operations Foreign exchange operations Securities operations Other (134,649) (19,584) (2,439) (12,847) (124,111) (6,361) (532) (10,227) Total fee and commission expense (169,519) (141,231) Fee and commission expense increased by UAH 28,288 thousand or 20 per cent., from UAH 141,231 thousand in the year ended 31 December 2008 to UAH 169,519 thousand in 2009. This increase in fee and commission expense was due to an increase in fees and commissions payable by the Bank to its counterparties in foreign exchange transactions. Such increase in fees and commissions under foreign exchange operations was due to Ukrainian banks’ following the NBU’s recommendations to perform their foreign exchange operations at a rate which is not higher than the average interbank market exchange rate. As a result, Ukrainian banks (including the Bank) were limited in establishing a commercially acceptable exchange rate for their foreign exchange operations and sought to recover the difference between the average interbank market exchange rate and commercial rate by applying increased fees and commissions. Net other income Other income decreased by UAH 51,476 thousand or 70.5 per cent., from UAH 73,008 thousand in the year ended 31 December 2008 to UAH 21,532 thousand in 2009. This decrease in other income was primarily due to the fact that in 2008 the Bank obtained compensation from the Ukrainian c104221pu040Proof7:3.3.11B/LRevision:0OperatorChoD 68 Government in the amount of UAH 60,000 thousand for distribution of State budget funds used to compensate customer deposits of Sberbank. Operating expenses The table below sets out details of the Bank’s general operating expenses for each of the years ended 31 December 2009 and 2008. Year ended 31 December 2009 2008 Staff costs Depreciation and amortization Property and equipment maintenance Operating leases Utilities Office maintenance Taxes, other than income tax Communications Security expenses Professional services Insurance expense Business trip expenses Advertising costs Other expenses (UAH thousand) 1,292,528 1,242,616 101,096 102,548 87,874 75,605 86,664 69,267 55,841 40,312 41,126 40,364 38,171 22,938 29,514 28,448 17,459 13,429 8,170 5,850 7,220 7,418 7,058 6,105 2,558 3,973 21,527 47,826 Total operating expenses 1,796,806 1,706,699 Operating expenses Operating expenses increased by UAH 90,107 thousand or 5.3 per cent., from UAH 1,706,699 thousand in the year ended 31 December 2008 to UAH 1,796,806 thousand in 2009. This increase in general administrative expenses was due to increased staff costs, increased property and equipment maintenance costs, operating leases and utilities. Wages paid increased between 31 December 2008 and 31 December 2009 as the staff numbers also increased in that period. Depreciation and amortisation Depreciation and amortisation decreased by UAH 1,452 thousand or 1.4 per cent., from UAH 102,548 thousand in the year ended 31 December 2008 to UAH 101,096 thousand in 2009. Income tax expense The table below sets out details of the Bank’s income tax expense for each of the years ended 31 December 2009 and 2008. Year ended 31 December 2009 2008 (UAH thousand) Income tax expense: Current income tax expense Recovery of deferred tax expenses Income tax expense 234,347 (156,127) 142,599 (95,758) 78,220 46,841 Income tax expense increased by UAH 31,379 thousand or 67.0 per cent., from UAH 46,841 thousand in the year ended 31 December 2008 to UAH 78,220 thousand in 2009. The statutory rate of taxation for the Bank’s banking activities was 25 per cent. in 2008 and 2009. This increase in income tax expense was primarily due to an increase in operating income resulting from significantly increased volumes of operation since the fourth quarter of 2008, mainly as a result of financing of state-owned enterprises, including Naftogaz. c104221pu040Proof7:3.3.11B/LRevision:0OperatorChoD 69 Statement of Financial Position as at 31 December 2009 and 2008 Year ended 31 December 2009 2008 (UAH thousand) ASSETS: Cash and balances with the National Bank of Ukraine Due from banks Loans to customers Investments available for sale Property, equipment and intangible assets Other assets 2,278,352 2,956,340 45,716,277 4,012,431 1,988,852 438,259 2,569,226 2,185,211 33,891,518 15,712,489 1,940,295 66,261 TOTAL ASSETS 57,390,511 56,365,000 LIABILITIES AND EQUITY LIABILITIES: Due to banks Customer accounts Debt securities issued Deferred income tax liability Other liabilities Subordinated debt 16,022,744 24,672,908 446,093 15,803 65,445 824,578 22,239,283 17,492,921 501,541 134,207 83,043 793,276 Total liabilities 42,047,571 41,244,271 EQUITY: Share capital Property revaluation reserve Investment available for sale fair value reserve Retained earnings 13,892,000 1,147,251 (18,626) 322,315 13,892,000 1,147,679 (131,796) 212,846 Total equity 15,342,940 15,120,729 TOTAL LIABILITIES AND EQUITY 57,390,511 56,365,000 Assets Total assets as at 31 December 2009 were UAH 57,390,511 thousand, compared with UAH 56,365,000 thousand as at 31 December 2008, an increase of UAH 1,025,511 thousand or 1.8 per cent. The increase in total assets in 2009 was driven by an increase in loans to customers despite a decrease in investments available for sale which resulted from the settlement of a repo with the NBU to repurchase Ukrainian Government debt securities, entered into as part of the funding arrangements in relation to loans to Naftogaz. Loans and Advances In addition to the interest rates that the Bank charges, interest income is impacted by the overall volume and product mix of its loan portfolio. During the period covered by this discussion and analysis, gross loans and advances have consistently increased across all categories of lending activity, other than lending to individuals. Loans and advances amounted to UAH 39,272,676 thousand as at 30 September 2010, compared with UAH 45,716,277 thousand as at 31 December 2009 and UAH 33,891,518 thousand as at 31 December 2008, reflecting a decrease of 14.1 per cent. in the first nine months of 2010 and an increase of 34.9 per cent. in 2009. In the first nine months of 2010, the provision for impairment also increased, reflecting the deteriorating quality of the loan portfolio, while the Bank’s loans and advances decreased in the same period. The increase in loans and advances in 2009 was primarily driven by the growth in corporate lending, including loans to Naftogaz, as well as loans to other corporate banking customers. During the same period, the provision for impairment also increased, but at a higher rate than gross loans and advances have increased, reflecting concerns about the quality of the growing loan portfolio. c104221pu040Proof7:3.3.11B/LRevision:0OperatorChoD 70 Due from Banks Balances due from banks were UAH 3,492,979 thousand at 30 September 2010, compared with UAH 2,956,340 thousand as at 31 December 2009 and UAH 2,185,211 thousand at 31 December 2008, reflecting an increase of 18.2 per cent. in the first nine months of 2010 and 35.3 per cent. in 2009. The increase in due from banks in the first nine months of 2010 was primarily due to increased liquidity driven by the suspension of active lending and the stability of the Bank’s customer accounts base. The increase in due from banks in 2009 was principally due to the accumulation of funds in correspondent accounts driven by the growth of term deposits and sale by the Bank of long-term Ukrainian Government debt securities. At 31 December 2009, loans and advances to the ten largest customer banks amounted to 94 per cent. of the gross loans and advances to banks. In addition, at 31 December 2009, loans and advances to Ukrainian banks amounting to UAH 29,271 thousand were secured by Ukrainian Government debt securities under reverse repos. Liabilities The Bank’s total liabilities as of 30 September 2010 were UAH 40,448,035 thousand, compared with UAH 42,047,571 thousand in the year ended 31 December 2009 and UAH 41,244,271 thousand in the year ended 31 December 2008, reflecting a decrease of 3.8 per cent. in the first nine months of 2010 and an increase of 1.9 per cent. in 2009. Customer accounts Along with the interest rates that the Bank offers, interest expense is influenced by the size of the Bank’s deposit base and its composition. Total deposits have grown consistently during the period 2008 – 30 September 2010. Deposits were UAH 10,808,389 thousand at 30 September 2010, compared with UAH 13,889,183 thousand as at 31 December 2009 and UAH 7,070,791 thousand as at 31 December 2008, reflecting a decrease of 22.2 per cent. in the first nine months of 2010 and an increase of 96.4 per cent. in 2009. The increase in deposits in 2009 was due to significant increases in both commercial and retail deposits. As at 31 December 2009, balances of the ten largest customers (or groups of customers) totalled UAH 7,500,691 thousand or 30 per cent. of total customer accounts. The increase in deposits in 2009 resulted from an increase in individual customer accounts amounting to UAH 1,098,604 thousand and an increase in deposits from state authorities of UAH 5,726,375 thousand. The decrease in deposits in the first nine months of 2010 was due to the full repayment by the Bank of deposits received from the State Treasury. Due to Banks Due to banks was UAH 15,794,517 thousand as at 30 September 2010, compared with UAH 16,022,744 thousand as at 31 December 2009 and UAH 22,239,283 thousand as at 31 December 2008, reflecting a decrease of 1.4 per cent. in the first nine months of 2010 and a decrease of 28.0 per cent. in 2009. Balances due to banks almost fully consisted of the loans from the NBU, including UAH 15,531,633 thousand (98 per cent.) as at 30 September 2010. UAH 15,931,171 thousand (99 per cent.) as at 31 December 2009 and UAH 21,977,740 thousand (99 per cent.) as at 31 December 2008, which represents a significant concentration. The decrease in due to banks in the first nine months of 2010 was primarily due to the partial repayment by the Bank of loans received from the NBU. The decrease in due to banks in 2009 was mainly due to the maturity in June 2009 of a repurchase agreement in the amount of UAH 11,777,740 thousand which was reflected in the Bank’s financial statements as a loan under a repurchase agreement from the NBU. Liquidity, Capital and Funding Liquidity is an important component of the Bank’s business. Impairment of the Bank’s liquidity may be caused by external factors beyond its control such as financial market downturn, systemic crisis or negative views about the prospects for the industries to which it provides a large proportion of its loans, or internal factors, such as an excessive concentration of maturing liabilities. In order to maintain a sufficient level of liquidity, the Bank monitors changes in its liquid asset position and aims to hold a diversified portfolio of assets. The Bank also prepares liquidity risk reports, liquidity analysis, cash flows, assets and liabilities concentration, scenario analysis, limits establishment and revision, monitoring of set limits and possible changes assessment. The Bank’s principal sources of liquidity are the Bank’s deposit base and authorised capital. To manage the Bank’s short-term liquidity needs, it enters into repurchase transactions and buys and sells foreign currency, securities and precious metals. To manage the Bank’s long-term liquidity needs, c104221pu040Proof7:3.3.11B/LRevision:0OperatorChoD 71 the Bank takes medium- and long-term deposits, sells assets such as securities, regulates its interest rate policy and attempts to reduce expenses. For additional information on the Bank’s liquidity management, see ‘‘Risk Factors – The Bank May Face Liquidity Risk’’. In the opinion of its management, the Bank’s cash flow from operations and other sources of liquidity described below will be sufficient for it to meet its working capital and debt service requirements for the next 12 months. Equity Total equity of the Bank increased to UAH 15,424,571 thousand as at 30 September 2010, and was UAH 15,342,940 thousand as at December 2009 and UAH 15,120,729 thousand as at 31 December 2008. The increase of 222,211 thousand between 2008 and 2009 was due to a decrease in the investments available for sale fair value reserve and an increase in retained earnings. The increase of UAH 81,631 thousand in the first nine months of 2010 was due to an increase in retained earnings, which overlapped with declared and paid dividends. Indebtedness The Bank has historically financed its operations through a combination of customer deposits and stable core current accounts of corporate and retail customers, issues of domestic debt securities, bank borrowing (including the NBU lending) and long-term interbank loans. The following table summarises the Bank’s net indebtedness for the years ended 31 December 2009 and 2008 and the nine months ended 30 September 2010. Nine months ended 30 September 2010 Current financial investments (A)(1), including: Cash and balances with the National Bank of Ukraine(2) Due from banks, current portion(2) Total financial liabilities (B), including: Current portion (C)(2) Non-current portion (D)(3) Total current net indebtedness (A-C) Total non-current net indebtedness (A-D) Total net indebtedness (A-B) 6,207,186 2,715,511 3,491,675 40,129,661 21,410,856 18,718,805 (15,203,670) (12,511,619) (33,922,475) Year ended 31 December 2009 (UAH thousand) 5,057,162 2,100,822 2,956,340 42,005,708 37,335,649 4,670,059 (32,278,487) 387,103 (36,948,546) 2008 4,672,958 2,487,747 2,185,211 41,069,737 35,982,310 5,087,427 (31,309,352) (414,469) (36,396,779) (1) Current financial instruments represent a sum the two lines below, ‘‘Cash and balances with the National Bank of Ukraine’’ and ‘‘Due from banks, current portion’’. (2) Only balances with maturity of up to 1 year. (3) Balances with maturity over 1 year, including undefined maturity. Capital Expenditures Total capital expenditure for the years ended 31 December 2008 and 2009 amounted to UAH 197,044 thousand and UAH 150,610 thousand, respectively. These charges mainly reflect capital expenditure incurred for the purchase of property, equipment and intangible assets financed from operating income. c104221pu040Proof7:3.3.11B/LRevision:0OperatorChoD 72 Off-Balance Sheet Arrangements The Bank offers its customers products such as guarantees and letters of credit to meet its customers’ needs for commercial banking services, frequently in connection with their customers’ export and import activities. These products do not appear on the Bank’s balance sheet. 31 December 31 December 2009 2008 Nominal Nominal amount amount Contingent liabilities and credit commitments Letters of credit and other transaction related contingent obligations Guarantees issued and similar commitments Irrevocable commitments on loans and unused credit lines — 197 113,023 169,400 32 354,198 Total contingent liabilities and credit commitments 113,220 523,630 c104221pu040Proof7:3.3.11B/LRevision:0OperatorChoD 73 BUSINESS Overview The Bank is a State-owned Ukrainian bank headquartered in Kyiv. According to information published by the NBU, as at 30 September 2010, the Bank was the second largest bank in Ukraine in terms of equity capital (UAH 16.6 billion), authorised share capital (UAH 13.9 billion), retail deposits (UAH 18.2 billion) and profit after tax (UAH 431.3 million), and the third largest bank in terms of total assets (UAH 59.5 billion), all as calculated under UAS. As at 30 September 2010, the Bank held 7.0 per cent. of all retail deposits and provided 2.4 per cent. of all retail loans in Ukraine, according to NBU statistics. The Bank offers a wide range of financial products and services throughout Ukraine, including retail and corporate banking services, domestic and foreign currency transfers and currency exchange. The Bank is wholly-owned by, and its retail deposits are guaranteed in full by, the State. As at 30 September 2010, the Bank had total assets of UAH 55,872,606 thousand, total customer accounts of UAH 23,002,137 thousand and total net customer loans of UAH 39,272,676 thousand. For the nine months ended 30 September 2010, the Bank had income before tax of UAH 665,625 thousand and net profit of UAH 255,465 thousand, compared to income before tax of UAH 305,588 thousand and net profit of UAH 83,576 thousand for the same period of 2009. The Bank provides services to its customers in Ukraine through a variety of distribution channels, including, as at 31 December 2010, the head office and 251 branches, comprising of 25 regional branches (including a regional branch covering Kyiv and Kyiv Region and a regional branch covering the Autonomous Republic of Crimea) and 226 sub-branches, as well as 5,745 outlets. Under its Charter, the Bank can also open representative offices, however none exist as of the date of this Prospectus. As at 31 December 2010, the Bank’s customers had access to the Bank’s own ATM network comprising 1,197 ATMs, and the ATM networks of other banks on the basis of co-operation agreements, comprising in total a further 5,124 ATMs. As at 30 September 2010, the Bank had 39,236 employees (inclusive of part-time employees) as compared to 40,315 employees as at 31 December 2009 and 39,568 employees as at 31 December 2008. The Bank’s employee costs amounted to UAH 1,292,528 thousand for the year ended 31 December 2009 and to UAH 1,242,616 thousand for the year ended 31 December 2008. Business Segments The Bank’s business is organised into the following three principal business segments: * Retail Banking, which provides banking products and services to individuals. Products include deposit and current accounts, loans, mortgages, credit and debit card services, cash and settlement services, money transfer services and services under the State-run programmes. * Corporate Banking, which provides banking products and services to corporate customers, including small and medium enterprises (SMEs), as well as to individual entrepreneurs. Products include deposit accounts, loans, cash settlement transactions, foreign exchange transactions, consultation services, securities transaction services, overdraft facilities, revolving lines of credit, guarantees, promissory notes and various programmes introduced by the State. * Treasury, which comprises the Bank’s proprietary activities, including capital market transactions, including those involving the Ukrainian Government securities, NBU re-financed securities, repurchase transactions (repos), interbank lending and foreign exchange transactions, as well as precious metals trading. Pursuant to the development concept of the Bank, the Bank has focused on maintaining close cooperation with State-owned entities, including entities of a strategic importance for the Ukrainian economy (including the Bank’s largest corporate business client, Naftogaz). The Bank is also administering a variety of State-mandated compensation and payment programmes. For example, the Bank acts as a financial agent for the State in cash settlement operations for the Pension Fund of Ukraine and maintains regulated accounts used by participants of the wholesale electrical energy market, natural gas suppliers and heat energy entities for processing of payments for supplied products and services. See ‘‘Naftogaz financing programme’’ below for a description of the financing programme set up by the Bank for its largest State-owned customer, Naftogaz, and ‘‘Provision of c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 74 lending and other banking services to State-owned entities’’ below for a description of the Bank’s cooperation with other State-owned customers. The Bank’s principal business segments and other departments are supported by its services, including customer services, accounting, finance, IT, risk management and legal. Competitive Strengths The Bank believes that the following strengths differentiate it from other banks in Ukraine: State-owned status and strong reputation in the market During the Soviet era, the predecessor entity to the Bank (a part of the Soviet State Savings Bank (the Sberbank) was the only retail bank in Ukraine and served all regions of Ukraine. Because of its history as the dominant retail bank, the Bank has retained many customers from the Soviet era, who now form a large part of the Bank’s deposit base. In addition, it remains the primary distributor of funds for various State compensation programmes, including UAH 8,859,387 thousand disbursed to Ukrainian citizens by the State for loss of value of their savings in the Sberbank – see ‘‘Relationship with the State of Ukraine’’ and ‘‘State-related compensation programme’’ below. Deposits of individuals are guaranteed by the State of Ukraine Pursuant to the Law of Ukraine ‘‘On Banks and Banking Activity’’ dated 7 December 2000 (the Banking Law), the Bank is the only bank in Ukraine in which all retail deposits are fully-guaranteed by the State. Due to the State guarantee, the Bank is not a member of the Fund for the Guaranteeing of Deposits of Individuals. The Bank believes that such State guarantee of all retail deposits placed with it makes the Bank a favourable choice for retail customers that will assist its growth in the retail banking market. Wide network of branches and outlets throughout Ukraine Because the Bank was the only retail bank in Ukraine during the Soviet period, it inherited an extensive network of branches and outlets. Although the Bank has closed a significant number of inefficient and uncompetitive locations since 1997 (approximately 55 per cent. of its other total locations), as at 31 December 2010, the Bank still has branches and outlets in 3,192 cities and 2,553 villages across the country, the largest bank network in Ukraine. As at 31 December 2010, it had 25 regional branches (including a regional branch in Kyiv and Kyiv Region and a regional branch in the Autonomous Republic of Crimea), 226 sub-branches and 5,745 outlets covering all geographic regions of Ukraine. In addition, because of the Bank’s presence throughout Ukraine and its relationship with the State, the Bank has been chosen to administer various Government social programmes, including the disbursement of compensations for savings that were devalued during the Soviet period, pension and other social payments, as well as salary payments to employees of a number of budgetary institutions – see ‘‘Relationship with the State of Ukraine’’ below. Administering such programmes provides additional income streams for the Bank and contributes to its customer base. Competitive mix of products and services The Bank believes that it offers a competitive mix of products and services in order to meet the requirements of various groups within its customer base. Customers can open a variety of deposit accounts, including specialised deposit accounts for pensioners. In addition, it offers mortgages to individuals, including loans for the purchase of land and the maintenance of existing buildings, consumer loans and car loans. The Bank also issues VISA and MasterCard credit and debit cards which are used for the disbursement of salaries, government and corporate pensions and payments to students. The Bank aims to consistently increase the number of products and services and improve existing products and services in order to react to market conditions and the requirements of its customers. Strong Corporate Banking business The Bank’s competitive domestic funding costs, strong capital base and extensive national network enable the Bank to provide competitive loan products and banking services to its corporate clients. The Bank’s Corporate Banking segment has strong relationships with some of the largest State-owned entities, including entities of a strategic importance for the Ukrainian economy such as Naftogaz, as well as with some larger multi-branch privately-owned entities which benefit from the Bank’s national network. It also acts as a financial agent and exclusive service provider for the State in a number of nationwide governmental programmes, including, among others, cash settlement operations for the Pension Fund of Ukraine and its agencies and divisions, providing banking services to the wholesale c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 75 electricity market participants, natural gas suppliers and heat energy entities. The Bank’s participation in such programmes provides significant sources of revenue. Key player in the domestic market of Government securities The Bank acts as a primary dealer in the domestic market of Ukrainian Government securities. In addition, the Bank remains one of the key investors in Ukrainian Government securities, which are used by the Bank as a source of interest income as well as a liquidity instrument which can be refinanced with the NBU at any time. Key player in the interbank market The Bank is active in the Ukrainian interbank market and remains one of the major market-makers contributing to the stable development of the interbank market. Historically, the Bank’s involvement has been through providing liquidity to interbank market participants by way of interbank loans, repos, swap transactions and the borrowing and placing of funds. As at 30 September 2010, the Bank accounted for 7.1 per cent. of the interbank credit portfolio in the total interbank credit portfolio of commercial banks on the Ukrainian inter-bank money market, according to the Association of Ukrainian Banks (the AUB). Strategy The Bank’s overall strategic goal is to pursue the objectives set out in its Charter, including strengthening its position and increasing profitability as a provider of comprehensive banking products and services to retail and corporate customers through its expansive network of branches and outlets, providing support to domestic producers (primarily small and medium business enterprises), promoting economic development and structural transformation of the Ukrainian economy, supporting domestic manufacturing and trade sectors and developing a savings network for individual customers. The Supervisory Board has approved, and the Bank has implemented, its Bank Development Programme 2006-2010. In the first half of 2011, the Bank intends to approve a new development programme for 2011-2015. In order to improve the quality of customer service, enhance its stability and financial standing and to increase the efficiency in its operations, it is focusing on the following strategic objectives: To retain its position as one of the leading Ukrainian retail banks The Bank’s Retail Banking department targets the mass market, as well as the existing and growing middle and upper-middle class. Because of this focus, it intends to provide simple, widely distributed products and services, including current accounts, savings accounts, mortgages and other consumer lending and payment transactions. To maintain an active position in the corporate banking market by extending more corporate loans The Bank intends to increase its lending activity to corporate customers operating in Ukraine, while maintaining prudent assessment and lending criteria. It intends to expand the number of banking products and services offered to corporate customers, including SMEs, State enterprises and companies, construction companies engaged in residential real estate construction, agricultural enterprises, enterprises in the fuel and energy section, and those involved in the transport industry. In addition, it plans to provide further funding to corporate customers that are active in Ukraine in the distribution of electricity, aircraft construction, residential development projects and international trading transactions. The Bank currently intends to retain its exposure to Naftogaz, its largest corporate customer. However, the Bank intends to convert its existing Naftogaz loans into new bonds to be issued by Naftogaz so that the Bank’s exposure to Naftogaz is restructured into more liquid instruments with diversified maturities (see ‘‘Naftogaz financing programme’’ below). To enhance the Bank’s internal performance and efficiency by improving business procedures through the use of information technology Throughout 2011, the Bank plans to strengthen and centralise its IT systems, reducing manual processing of information within the Bank’s operations. In particular, in order to improve its managerial processes the Bank intends to implement its ABS within the Bank’s entire branch network to replace the existing five automatic banking systems. See ‘‘Information Technology’’ below. In addition, in 2011-2015 the Bank will also be implementing a management accounting system in order to allow it to determine expenses, revenues and profits of its major lines of business. The Bank is currently implementing its own processing centre based on the payment processing system developed by Openway. In customer services, the Bank expects that its improved IT system will enable it to c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 76 expand substantially the range of services provided in real time, expand the Bank’s range of products and services and implement the Finportal facility. Finportal will provide a single platform for customers to access the Bank’s information resources and financial services. The Bank also intends to introduce a centralised credit system and a centralised reporting system. The Bank expects that the centralised reporting system will allow it to improve its loan interest rate policies based on up-to-date market and customer information. Over the same period, the Bank plans to harmonise its IT systems with the requirements of the worldwide Control Objectives for Information and related Technology (COBIT) standard created by the Information Systems Audit and Control Association (ISACA) and the IT Governance Institute (ITGI). COBIT provides a set of best practices for the use of information technology and developing appropriate IT governance and control in a company. History During the Soviet era, the Bank was part of the Sberbank, formed on the basis of ‘‘saving offices’’ which have existed in Ukraine since 1923. In 1991, following the dissolution of the Soviet Union, the Bank was renamed as the ‘‘State Specialised Commercial Savings Bank of Ukraine’’ and registered with the NBU on 31 December 1991 (registration certificate No. 4). At that time, the Bank operated pursuant to State programmes. During the early 1990s, there were a series of market reforms in Ukraine which resulted in increased competition from commercial banks. The Bank focused on retaining its position in the retail market, as well as increasing its capacity to provide services for customers. In May 1999, pursuant to the Presidential Decree and Ukrainian Government Resolution, the State Specialised Commercial Savings Bank of Ukraine was re-organised into the Joint Stock Company ‘‘State Savings Bank of Ukraine’’. The charter of the Bank as joint stock company (the Charter) was registered by the NBU on 26 May 1999. The Bank’s sole shareholder is the State acting through the Cabinet of Ministers of Ukraine. The Bank’s banking licence was issued by the NBU on 16 January 2002 with No. 148. The Charter was approved by the Ukrainian Government Resolution No. 261 of 25 February 2003 and registered with the NBU on 28 February 2003. Subsequent amendments to the Charter were approved by further Ukrainian Government Resolutions. The Bank became a member of the MasterCard payment system in 1998 and of the VISA payment system in 1999. In January 2009, the Bank obtained a licence from the VISA payment system for the provision of merchant acquiring services which enable the Bank’s trading clients to accept payments from their customers securely via the VISA payment system. On 30 April 2009, the Law of Ukraine ‘‘On Joint Stock Companies’’ entered into force. This law provided that joint stock companies in Ukraine should be established exclusively in the form of private or public joint stock companies. Companies previously established in the form of open or closed joint stock companies are required to be re-organised into public or private joint stock companies by 29 April 2011. Taking into account the amendments to the Banking Law which became effective on 5 August 2009, banks may be established only in the form of a public joint stock company or a co-operative bank. The Bank has prepared draft amendments to its Charter relating to its reorganisation into a public joint stock company (including the change of its name to Public JointStock Company ‘‘State Savings Bank of Ukraine’’). As of the date of this Prospectus, these amendments are being considered by the Ukrainian Government. The Bank expects that the reorganisation will be completed prior to 29 April 2011, as required by Ukrainian law. Relationship with the State of Ukraine The Bank’s Charter reflects the fact that it is wholly-owned by the State of Ukraine represented by the Ukrainian Government. According to its Charter, the Bank’s objectives include the promotion of Ukrainian economic development, supporting domestic producers (primarily small and medium business enterprises), supporting structural transformation of the Ukrainian economy, supporting domestic manufacturing and trade sectors, development of a savings network for individual customers and the provision of comprehensive banking products and services to companies and individuals. Whilst part of the Soviet Sberbank, the Bank operated in accordance with government programmes and on direct instructions from the State. During the years immediately following Ukraine’s independence from the USSR, certain transactions were entered into on direct instructions from the State. However, in 2001 the NBU adopted the Banking Regulation Instruction in order to ensure the stable operation of banks and the timely performance of banks’ obligations, as well as to prevent the c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 77 inappropriate allocation of resources and reduce risks. The Banking Regulation Instruction introduced a number of economic ratios and limits, as well as other requirements with which the Bank is required to comply. As a result, the focus of the Bank shifted from political considerations to commercial considerations. According to its Charter and existing Ukrainian legislation, the Bank is not liable under obligations of the State. While the State has respected the Bank’s operational independence, the Bank’s strategic objectives set out above are set by the State and are closely aligned with the State’s priorities. From time to time, certain transactions have been entered into by the Bank taking into account priorities of the Government of Ukraine or its agencies. For this reason, the Bank may have extended financing to financially fragile borrowers (including, as the case may be, certain State and municipal enterprises) which it would not have done had decision-making been based on purely commercial criteria, including the Bank’s own consideration of the relevant business risks and benefits. For example, when the liquidity position of Naftogaz was severely affected by rising gas import prices and reduced revenues following the onset of the global financial crisis, the Bank implemented an extensive financing programme for Naftogaz in December 2008 due to the fact that no other sources of funding were available for Naftogaz at that time and taking into account the strategic importance of the company to Ukraine’s economy (see ‘‘Naftogaz financing programme’’ below). In addition, given the Bank’s substantial exposure to State-owned entities (and consequently the economic condition of the State), the Bank may be more sensitive to any slowdown or downturn in Ukraine’s economy than some of its competitors which have a lower exposure to the State sector. Such risks are described in more detail under ‘‘Risk Factors – Risks Relating to Ukraine’’ above. However, given the historically strong performance of State-related lending, compared to other nonState sector lending, management believes that it is able to combine the role of a State-owned bank with that of a profitable commercial enterprise. The State exercises its rights as sole shareholder through the Bank’s management bodies, including its supervisory board (the Supervisory Board) and its management board (the Management Board). The Supervisory Board is comprised of 15 members, including five members appointed by the Parliament of Ukraine, five members appointed by the President and five members appointed by the Ukrainian Government. Each member is appointed for a five-year term. The Supervisory Board acts in compliance with the requirements laid down in, inter alia, Article 7 of the Banking Law, the Bank’s Charter, applicable legislation and recommendations of the NBU as to the improvement of corporate management in banks approved by the NBU Resolution No. 98 dated 28 March 2007, as well as the Organisation for Economic Co-operation and Development (the OECD) corporate governance principles. The Supervisory Board oversees and supervises the Management Board’s activity with the aim to safeguard deposits, guarantee their return to depositors and protect the State’s interests as shareholder, and performs other functions stipulated by applicable legislation. Pursuant to the development concept of the Bank, the Bank has focused on maintaining close cooperation with State-owned entities, including entities of a strategic importance for the Ukrainian economy, and participating in a number of nationwide State programmes. In particular, the Bank acts as a financial agent for the State in a number of governmental programmes, including, among others, cash settlement operations for the Pension Fund of Ukraine and its agencies and divisions, maintenance of, and performing operations with, regulated accounts used by participants of the wholesale electrical energy market, natural gas suppliers and heat energy entities for processing of payments for supplied products and services. See ‘‘Provision of lending and other banking services to State-owned entities’’ below for a description of the Bank’s co-operation with its largest State-owned customers. Naftogaz financing programme Background Naftogaz is one of Ukraine’s largest and most strategically important companies and the largest customer of the Bank’s Corporate Banking division. As a leading company in the fuel and energy sector of Ukraine, Naftogaz is involved in the transportation of oil and natural gas via oil and gas main pipelines systems (including the transit of Russian natural gas and Russian and Kazakh oil to third countries), gas metering, processing of gas and gas condensate, gas supply to Ukrainian customers, sales of compressed and liquefied gas and oil products via networks of refuelling stations and automotive gas filling compressor stations. Naftogaz is also involved in the exploration of oil and gas, drilling of production wells, development of fields and scientific support of the oil and gas industry development. c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 78 Following the onset of the global financial crisis, the liquidity position of Naftogaz was severely diminished by an increase in gas supply prices and a reduction in revenues. For example, prices for natural gas supplied by Gazprom for domestic consumption in Ukraine increased through the 2005 to 2008 period from U.S.$50 per 1,000 cubic metres as at 1 January 2005 to U.S.$179.5 per 1,000 cubic metres as at 1 January 2008. At the same time, the State continued to regulate domestic prices by providing direct subsidies from the State budget to cover differences between the purchase price of imported gas and the price charged to municipal heating enterprises. In 2008, UAH 7.4 billion (including UAH 4.0 billion of compensation due for 2008 and UAH 3.4 billion of compensation due for 2006 and 2007) were extended from the State budget to Naftogaz to cover these differences. Despite these subsidies from the State budget, Naftogaz required substantial further financing to secure sufficient gas supplies from Russia during the winter of 2008-2009. Due to the budget limitations at the end of 2008, the State could not provide such further financing. On account of the global financial crisis, the international capital markets had effectively shut for Naftogaz and the deterioration in the financial position of many Ukrainian banks made the option of bank financing impossible. By contrast however, at the end of 2008, the Bank was among one of the financial institutions in Ukraine least affected by the global and Ukrainian financial crises and had managed to maintain a stable liquidity position. Given the State ownership of the Bank and its historical experience of supporting large-scale State projects and infrastructure, the management of Naftogaz approached the Bank with a proposal to establish an extensive financing programme for Naftogaz until the State was in a position to assist Naftogaz. This request was fully endorsed by the Ukrainian Government on account of the strategic importance of Naftogaz to the Ukrainian economy. The Bank entered into rounds of negotiations with Naftogaz and the NBU which resulted in the development of competitive commercial terms which were acceptable to the Bank. State assistance and sources of funding The Ukrainian Government acknowledged that the financing Naftogaz could not be undertaken by the Bank without State assistance. Accordingly, the Government put in place a set of measures to enable the Bank to implement the Naftogaz financing programme. It was envisioned that the Bank would fund the Naftogaz financing from a combination of its own funds, by way of an increase in the Bank’s share capital and through use of its credit lines with the NBU. At the end of 2008 the Bank was recapitalised through contributions of Ukrainian Government debt securities into the authorised share capital of the Bank, as well as additional refinancing provided by the NBU. In particular, pursuant to the Ukrainian Government resolutions dated 26 November 2008 and 29 December 2008, the share capital of the Bank was increased through contribution of Ukrainian Government debt securities with the total nominal value of UAH 1,000,000 thousand and UAH 11,770,000 thousand, respectively. The Bank requested repayment of the debt securities with a total nominal value of UAH 1,000,000 thousand prior to the end of 2008. On 30 December 2008, the Bank also entered into a repurchase agreement in respect of Ukrainian Government debt securities in the amount of UAH 11,770,000 thousand with the NBU. The repurchase agreement was settled by June 2009 and debt securities with a total nominal amount of UAH 11,770,000 thousand were bought by the NBU. In addition to the financing received under this repurchase agreement, as at 31 December 2008 the Bank had loans from the NBU totalling UAH 17,977,740 thousand which were secured by the loans to Naftogaz with a carrying value of UAH 6,478,650 thousand and securities available for sale with a carrying value of UAH 11,945,897 thousand. Initially, the Bank entered into loan agreements with Naftogaz, with the first disbursements under such loan agreements being made by the Bank in December 2008. As a result, by 31 December 2008, the Bank’s total exposure to Naftogaz under such loan agreements amounted to UAH 18,625,560 thousand, comprising 53.3 per cent. of the Bank’s gross loan portfolio. This made Naftogaz the largest borrower of the Bank. Throughout 2009, the NBU extended additional loan financing to the Bank. As at 31 December 2009, the Bank had loans from the NBU in the total amount of UAH 15,931,171 thousand which were secured by debt securities available for sale with a carrying value of UAH 463,211 thousand, loans to Naftogaz with carrying value of UAH 20,365,112 thousand and loans to other borrowers with a carrying value of UAH 2,450,341 thousand. In order to permit the significant lending to Naftogaz, the NBU passed a special decision allowing the Bank an increased individual borrower concentration risk ratio in relation to Naftogaz, which is higher than the typical single borrower exposure limit established by the NBU for all Ukrainian banks at the level of 25 per cent. of the regulatory capital of a bank. The Bank’s compliance with the c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 79 above individual ratio is monitored by the NBU on a daily basis. The NBU also permitted the Bank not to create provisions with respect to its lending to Naftogaz. However, the Bank chose not to use this waiver and set up provisions for Naftogaz in order to bring the level of its statutory impairment reserves close to the level of IFRS reserves. Restructuring of Naftogaz loans As at 31 December 2009, the Bank’s loans to Naftogaz had contractual maturities between 26 February 2010 and 29 December 2010 to match maturities of the corresponding NBU financing facilities. Once the extension of NBU funding was approved in the first half of 2010, the Bank’s loan exposure to Naftogaz was restructured accordingly for one year and five years and will now mature between 30 March 2011 and 31 March 2015. Reverse repurchase transactions with Naftogaz In parallel to the financing programme implemented by the Bank, the Ukrainian Government provided further financial support to Naftogaz, including through equity injections in the form of Ukrainian Government debt securities contributed into the authorised share capital of Naftogaz. In 2009-2010, the Ukrainian Government passed resolutions to approve contributions into the authorised share capital of Naftogaz in the total aggregate amount of UAH 36,776,191 thousand. Some of these contributions had not been completed as at 31 December 2010. Naftogaz used such debt securities contributed by the State to increase its share capital as part of the recapitalisation programme to obtain further funding from the Bank through reverse repurchase repos. In August 2009, the Bank entered into repos with Naftogaz in respect of Ukrainian Government debt securities in the total nominal amount of UAH 5,226,885 thousand. At the same time, the Bank obtained further financing from the State in the form of U.S. dollar and Euro deposits from the State Treasury equivalent to UAH 5,726,375 thousand as at 31 December 2009. As a result of further loan financing and the repurchase transactions, the Bank’s total exposure to Naftogaz increased to UAH 28,948,661 thousand as at 31 December 2009. In February and March 2010, the repos were settled as Naftogaz repurchased the Ukrainian Government debt securities from the Bank. Subsequently, the Bank repaid the deposit to the State Treasury equivalent to UAH 5,726,375 thousand. Impact of Naftogaz financing programme on the Bank’s loan book and results In view of further financial support provided to Naftogaz by the State through equity injections, the liquidity position of Naftogaz has improved and it has so far complied with all of its payment obligations towards the Bank. At the same time, the Naftogaz financing programme has resulted in increased levels of concentration in the Bank’s gross loan portfolio. As at 30 September 2010, the total amount of outstanding indebtedness of Naftogaz under the loan agreements was UAH 21,243,486 thousand, comprising 47.2 per cent. of the Bank’ gross loan portfolio. See ‘‘Risk Factors – Substantial levels of concentration in the Bank’s customer accounts and loan portfolio’’ and ‘‘Risk Factors – Exposure to Naftogaz’’ above for discussion of the risks related to the Bank’s high exposure to Naftogaz. The following table illustrates the impact of Naftogaz on the structure of the Bank’s gross loan portfolio as at 30 September 2010, 31 December 2009 and 31 December 2008: 30 September 2010 31 December 2009 31 December 2008 Naftogaz loans Non-Naftogaz loans, including: Corporate Retail UAH thousand 21,243,486 % 47.2 UAH thousand 28,948,661 % 58.1 UAH thousand 18,625,560 % 53.3 23,798,713 18,593,026 5,205,687 52.8 41.3 11.6 20,885,743 14,979,864 5,905,879 41.9 30.1 11.9 16,337,217 9,225,365 7,111,852 46.7 26.4 20.3 Total 45,042,199 100 49,834,404 100 34,962,777 100 c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 80 The Bank’s financing transactions with Naftogaz were executed on competitive commercial terms and contributed significantly towards the overall profitability of the Bank by generating a substantial part of the Bank’s total interest income in 2009 and 2010. The interest income attributable to the Bank’s financing of Naftogaz amounted to UAH 2,276,452 thousand as at 30 September 2010 (being 40 per cent. of the Bank’s total interest income as at that date), UAH 3,393,211 thousand as at 31 December 2009 (44 per cent. of the Bank’s total interest income as at that date) and UAH 98,601 thousand as at 31 December 2008 (4 per cent. of the Bank’s total interest income as at that date). At the same time, the Bank’s exposure to Naftogaz under the loan agreements affected the Bank’s impairment reserves. The Bank’s allowance for impairment losses amounted to UAH 1,071,259 thousand as at 31 December 2008 (or 3.1 per cent. of the Bank’s gross loan portfolio, with approximately 11.9 per cent. of total impairment reserves attributable to Naftogaz loans). As at 31 December 2009, it increased to UAH 4,118,127 thousand (or 8.3 per cent. of the Bank’s gross loan portfolio, with approximately 42.9 per cent. of total impairment reserves attributable to Naftogaz). As at 30 September 2010, it increased further to UAH 5,769,523 thousand (or 12.8 per cent. of the Bank’s gross loan portfolio, with approximately 39.6 per cent. of total impairment reserves attributable to Naftogaz). Without the impact of Naftogaz, the Bank’s impairment reserves amounted to 5.8 per cent. of its non-Naftogaz gross loan portfolio as at 31 December 2008, but increased to 11.3 per cent. as at 31 December 2009 and 14.6 per cent. as at 30 September 2010. Proposed issue of Naftogaz Bonds In order to mitigate the liquidity risks of repayment of the loans to Naftogaz and in order to enhance the marketability of the exposure to Naftogaz, on 15 December 2010, the Cabinet of Ministers of Ukraine passed Resolution No. 1207 authorising Naftogaz to issue bonds in the nominal amount of UAH 20,416,000 thousand. The bonds will be issued in 29 series with nominal amounts ranging between UAH 413,800 thousand and UAH 995,000 thousand each and will mature between 16 September 2011 and 16 September 2016. The bond issue is undergoing registration with the State authorities. The proceeds of the bond issue will be used to repay the existing loan facilities with the Bank. It is expected that the Bank will purchase the majority of the new Naftogaz bonds. This will enable the Bank to restructure its exposure to Naftogaz into more liquid instruments with diversified maturities. Naftogaz Bonds can be used more flexibly by the Bank for refinancing purposes or sold to local or foreign investors so that the Bank’s exposure to Naftogaz would decrease. The Bank believes that the individual ratio established by the NBU in respect of the Bank’s exposure to Naftogaz will continue to apply following the proposed bond issue and repayment of the loan facilities. Description of Business The Bank’s operations are conducted through three principal business segments comprising Retail Banking, Corporate Banking and Treasury. Retail Banking The Retail Banking segment serves individuals, with a focus on lower-middle to middle income individuals. The Retail Banking segment offers products and services that are tailored to fully service the banking needs of customers in this segment, including term deposits, current accounts, loans, credit and debit card services, cash and settlement services and money transfer services. The Bank has begun to attract a greater number of middle-income individuals and it is the Bank’s aim that it should provide a product line which will service all levels of customers to accommodate this trend. While the Bank cannot determine the precise number of its retail customers, according to its current estimates the Bank has over 4 million individual customers. The global financial crisis has affected the financial position of the Bank’s retail customers. In addition, the devaluation of the hryvnia further contributed to the deterioration of the financial position of the Bank’s retail customers and affected their ability to service the existing indebtedness. As a result, the Bank has cut back its retail lending programme and increased its provisions in respect of existing retail loans. In particular, the Bank stopped providing loans in foreign currencies, short-term (under twelve months) higher-risk loans to finance purchases of household goods, as well as loans for the acquisition of land. The Bank increased the amount of required downpayment in respect of other loans from 15 per cent. to 50 per cent., as well as increased interest rates in respect of its loan products. As a result, the total amount of loans provided to retail customers decreased c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 81 from UAH 7,111,852 thousand as at 31 December 2008 to UAH 5,905,879 thousand as at 31 December 2009, and decreased further to UAH 5,205,687 thousand as at 30 September 2010. At the same time, the Bank has maintained stable and timely handling of all customer transactions, in particular in respect of the repayment of deposits to retail customers on their first demand. The Bank’s policy of continuing repayment of retail deposits on first demand without restrictions during the financial crisis has resulted in the increase in the number of its retail clients and of its customer accounts, albeit at a slower rate. Despite the overall increase in retail customer accounts, from UAH 11,161,493 thousand as at 31 December 2007 to UAH 13,697,105 thousand as at 31 December 2008, the Bank estimates that its retail customers withdrew UAH 731,090 thousand in the last three months of that year. At the same time, the Bank’s customers have retained their confidence in the Bank as it remained open for business throughout the financial crisis in 2009, and retail customer accounts increased from UAH 13,697,105 thousand as at 31 December 2008 to UAH 15,043,792 thousand as at 31 December 2009. Retail customer accounts increased further in the first nine months of 2010 to UAH 18,448,603 thousand as at 30 September 2010. Despite higher provisioning in respect of retail loans and reduced retail lending volumes, the Bank’s retail operations remained profitable in 2008 and 2009 and in the first nine months of 2010. The Bank has not sought to pursue any aggressive growth strategies since the onset of the financial crisis and, given the current economic climate, it does not expect its retail lending to grow significantly in the near term. However, the Bank intends, through its IT development policy, to increase the efficiency of the services it provides and in this way to maximise revenue. Once the economic situation in Ukraine improves, the Bank also hopes to expand its customer base by attracting a greater number of middle and higher income individuals. Retail Lending The Bank offers various types of loans to individual customers including: (i) loans for the acquisition of real estate objects where the real estate is used as security (Real Estate Mortgages); (ii) consumer lending, usually secured with collateral (Personal Loans); and (iii) loans for the acquisition of vehicles (Auto Loans). These three products represented 21 per cent., 60 per cent. and 19 per cent. respectively, of the Bank’s total retail loan portfolio as at 30 September 2010. As at 30 September 2010, loans to Retail Banking customers amounted to UAH 5,205,687 thousand, representing 12 per cent. of the Bank’s total consolidated loans and advances. Real Estate Mortgages The Bank offers a variety of Real Estate Mortgages, including mortgages on new-build houses and land for the construction of houses. Mortgage products are offered mainly through the Bank’s network of branches and outlets and are usually up to ten years in tenor. The Bank also has partnerships with real estate construction companies through which it offers mortgages to buyers of new-build houses. In addition, the Bank participates in the State Special-Purpose Social and Economic Affordable Housing Building Programme for 2010-2017 under which it provides loans to individuals entitled to housing under governmental assistance programmes. The Programme is implemented by the Bank in co-operation with the State Fund for the Promotion of Housing Construction for Young People. The Programme is aimed at providing housing to those who qualify in accordance with the Ukrainian legislation through State support and development of affordable housing. The Programme participants are entitled to a loan of up to 70 per cent. of the value of the acquired property. To qualify for a loan, the Programme participants must be officially certified as being in need of improvement of their housing conditions. They also must be able to contribute the balance of the purchase price from their own funds. Mortgages provided under the Programme are up to 20 years in tenor and have an interest rate of 16 per cent. per annum, with payment of an arrangement fee of 1 per cent. and relevant insurance payments. Such mortgages are secured on property other than the property that is being acquired. The State support is capped at 30 per cent. of the value of the acquired property. As at 30 September 2010, Real Estate Mortgages provided to Retail Banking customers amounted to UAH 1,084,547 thousand, represented 21 per cent. of the Bank’s retail loan portfolio. Personal Loans The Bank offers consumer loans to Retail Banking customers for general purpose use or to finance the purchase of household equipment subject, in all cases, to acceptable security arrangements (surety, pledge/mortgage). As at 30 September 2010, consumer loans to Retail Banking customers, including c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 82 credit card loans, amounted to UAH 3,153,487 thousand, representing 60 per cent. of the Bank’s retail loan portfolio. Consumer loans are generally up to three years in tenor in respect of loans secured by way of a surety of two individuals and up to two years in tenor in respect of loans secured on moveable property (e.g. durable goods). The Bank also participates in the municipal Energy Efficiency Programme for Population in Lviv Region for 2009-2012. Pursuant to this Programme, the Bank grants standard loans to individuals in return for them purchasing energy-efficient goods and implementing energy-saving measures, such as insulating their homes, installing or reconstructing energy-efficient heating systems and utilising alternative energy sources. The loans provided under the Programme are up to two years in tenor and are for amounts of up to UAH 20,000. The loans envisage partial compensation of interest payments by local authorities which is payable into the borrower’s account opened with the Bank’s local branch. Auto Loans Auto Loans are loans made to Retail Banking customers for the purchase of new and used motor vehicles. Auto Loans are typically up to five to seven years in tenor and secured with the vehicles purchased with the loans. As at 31 December 2009, the Bank had a total of 30,200 Auto Loans outstanding with a total outstanding Auto Loans balance of UAH 1,238,158 thousand. As at 30 September 2010, Auto Loans to Retail Banking customers amounted to UAH 967,653 thousand, representing 19 per cent. of the Bank’s retail loan portfolio. Retail Deposits Deposit and current accounts The Bank offers a variety of current accounts and term and demand savings accounts to Retail Banking customers. Currently the Bank offers six types of deposit accounts, including accounts with monthly, quarterly or annual interest payments, interest payments that are capitalised, interest payable at maturity, cash replenishment options, automatic extension of term deposits and early repayment options without loss of accrued interest. The Bank also offers specialised deposit accounts for pensioners which enables them to receive pension payments from the State social security institutions free of charge. Pensioners can withdraw cash from such accounts, transfer funds into another account or use their accounts to service utility payments. Customers have 24-hour access to the Bank’s ATM network and benefit from optional SMS notifications of transactions. Current account balances from Retail Banking customers amounted to UAH 8,455,999 thousand, or 20.9 per cent., as at 30 September 2010, compared to UAH 7,415,638 thousand, or 17.6 per cent., as at 31 December 2009 and UAH 7,167,555 thousand, or 17.4 per cent. of total liabilities, as at 31 December 2008. Demand savings accounts provide flexible access to funds in an interest bearing account, while term savings accounts provide for higher rates on fixed-term deposits. Term deposits from Retail Banking customers amounted to UAH 9,992,604 thousand, or 24.7 per cent. of the Bank’s total liabilities, as at 30 September 2010, compared to UAH 7,628,154 thousand, or 18.1 per cent. of the Bank’s total liabilities, as at 31 December 2009 and UAH 6,529,550 thousand, or 15.8 per cent. of the Bank’s total liabilities, as at 31 December 2008. The Bank also offers bank metal deposits. Debit and credit card services To assist customers in the Retail Banking segment to manage their cash, the Bank offers a variety of card services. Currently it offers debit and credit cards to its Retail Banking customers with respective card accounts denominated in hryvnia or U.S. dollars. The Bank is a member of the Visa International payment system and MasterCard International payment system and offers customers such cards as VISA Electron, VISA Classic, VISA Gold, VISA Domestic, MasterCard Standard, MasterCard Gold, MasterCard Platinum, MasterCard Mass, MasterCard Electronic and Maestro. According to the NBU, as at 30 September 2010, the Bank ranked third among payment card issuers in Ukraine in terms of total cards issued. Customers are able to withdraw money and perform certain account management services at any of the Bank’s 1,197 ATMs. (See ‘‘Distribution Channels – ATM and POS Network’’ below). Among other payment card products, the Bank offers salary payment cards issued to employees of its corporate customers for which the Bank provides payroll services as well as corporate cards for corporate clients. Such salary payment cards are limited by a credit limit, on average, equivalent to the monthly salary of the holder. As at 30 November 2010, the Bank issued 4,896,013 payment cards, including 2,396,466 VISA cards and 2,499,547 MasterCard cards. c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 83 Cash and settlement services The Bank offers a wide range of cash settlement services, including the opening and closing of accounts, cash servicing, maintenance of accounts, providing information on account status and transfers into hryvnia and foreign currencies. The Bank also offers household payment services to its Retail Banking customers. It intends to develop such services by establishing direct debit payments from customers’ current accounts through the Bank’s ATM network. In conjunction with the current IT systems development policy, the Bank also aims to develop its telephone and internet banking services to allow household payments. Money transfer services The Bank provides money transfer services to its customers through Western Union, Migom, Unistream, Vigo, Blizko, Coinstar (Travelex Money Transfer), Interexpress, Xpressmoney and Shvydka Kopiyka (a domestic money transfer service). Retail Banking customers are able to transfer hryvnia and foreign currency funds (with or without opening a current account) to individuals and legal entities within Ukraine and abroad. Competition for express money transfer in the Ukrainian market has intensified over the past few years, as customers switch to more cost effective money transfer systems. As at 30 September 2010, the Bank operated 2,003 Western Union transfer receipt and disbursement stations, 1,564 Migom transfer stations and 1,342 Unistream transfer stations. In the nine months ended 30 September 2010, transfers totalled UAH 1,795,000 thousand in the domestic currency equivalent, an increase of 20 per cent. compared to the same period of 2009. In order to improve money transfer services, the Bank intends to implement new software which will simplify the provision of such services and increase efficiency of money transfer operations. State-related compensation programme The Bank is the principal bank administering various State compensation programmes, including the disbursement of compensation to Ukrainian citizens for the loss of value of their monetary savings held with Sberbank. This savings compensation programme was implemented in accordance with the Law of Ukraine ‘‘On State Guarantees for the Compensation of Savings of Citizens of Ukraine’’ (the Compensation Law). The Compensation Law provides for the payment of compensation from the State budget in lieu of lost savings, commencing from 1997. Since the Compensation Law came into force, the Bank has disbursed compensation totalling UAH 8,859,387 thousand. The amounts payable under the savings compensation programme are classified as the indebtedness of the State in accordance with the Compensation Law and are not attributed to the Bank’s liabilities. Due to difficult economic conditions following the onset of the financial crisis, no payments were made by the State in respect of the savings compensation programme in 2010 and no such payments are budgeted in the 2011 State Budget Law. Corporate Banking Corporate Banking provides banking services, including deposit accounts, loans, overdraft facilities, revolving lines of credit, guarantees, promissory notes, foreign exchange, letters of credit, securities trading cash settlement and collection services and consultation services which are ancillary to the Bank’s lending. The Bank’s targeted Corporate Banking customers include companies in the following sectors: fuel and energy (including the Bank’s largest borrower, Naftogaz, and its subsidiary Ukrtransnafta), construction and real estate, road maintenance, trade, agriculture and food processing, machinery construction and transport. It also aims to assist SMEs and implement various banking and credit programmes introduced by the State. Corporate Banking represented 88.4 per cent. of the Bank’s gross loan portfolio, 30.7 per cent. of the Bank’s customers’ current accounts and 7.5 per cent. of the Bank’s deposit base as at 30 September 2010. Deposits and current accounts The Bank offers a variety of current accounts and term deposit accounts to its Corporate Banking customers. Currently the Bank offers more than seven types of deposit products, including accounts with monthly interest payments, quarterly interest payments, interest payments that are capitalised, interest payable at maturity and cash replenishment options. The Bank’s head office also provides bank metal deposits to certain types of customers. The Bank’s cardholders have 24-hour access to its ATM network and also access to its Internet banking services. The Bank’s current account balances from Corporate Banking customers amounted to UAH 3,737,749 thousand as at 30 September 2010, compared to UAH 3,368,087 thousand as at 31 December 2009 and UAH 3,254,575 thousand as at 31 December 2008. Corporate current account balances comprised approximately 9.2 per cent. of the c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 84 Bank’s total liabilities as at 30 September 2010. The Bank’s term deposits from Corporate Banking customers increased from approximately UAH 541,241 thousand or 1.3 per cent. of the Bank’s total liabilities as at 31 December 2008, to UAH 6,261,029 thousand or 14.9 per cent. of the Bank’s total liabilities as at 31 December 2009 but decreased to UAH 815,785 thousand or 2.0 per cent. of the Bank’s total liabilities as at 30 September 2010. The table below represents the Corporate Business customer accounts’ sector structure as at 30 September 2010, 31 December 2009 and 2008: 30 September 2010 31 December 2009 31 December 2008 Analysis by Sector: Energy Services Agriculture and food processing Trade Media and communications Construction and real estate Transport Mining and metallurgy Manufacturing Machinery construction Hotel and restaurant business Press and publishing Oil, gas and chemical production State authorities Other 1,318,789 1,122,329 400,979 358,906 319,717 224,493 91,804 38,204 34,644 26,227 14,738 8,120 6,167 — 588,417 926,924 492,058 280,585 299,421 860,196 226,075 203,004 31,709 18,377 25,048 8,242 8,899 51,483 5,726,375 470,720 573,964 302,454 366,377 327,258 1,119,490 194,412 27,360 67,827 22,293 13,383 8,929 7,628 499,501 — 264,940 Total customer accounts 4,553,534 9,629,116 3,795,816 Lending The Bank offers loans to its Corporate Banking customers, including loan and other credit-related products, denominated in both hryvnia and foreign currencies, principally U.S. dollars and Euro. In addition, it offers loans to finance investment projects and programmes, the purchase of vehicles and machinery, real estate objects, working capital loans, overdraft facilities, revolving credit facilities, guarantees and letters of credit to its Corporate Banking customers. The Bank is works constantly to improve its product line and to develop new credit products, including syndicated loans. While the Bank offers loans to all Corporate Banking customers, it focuses on industries which are of a strategic importance to the Ukrainian economy, and also on SMEs. The Bank has strong relationships with large corporate customers. To comply with NBU reporting requirements, the Bank classifies corporate customers with sales in excess of UAH 50 million as ‘‘large’’, corporate customers with sales in excess of UAH 30 million but less than UAH 50 million as ‘‘medium’’, and corporate customers with sales of less than UAH 30 million as ‘‘small’’ or ‘‘SMEs’’. c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 85 The table below represents the Corporate Business borrowers’ sector structure as at 30 September 2010, 31 December 2009 and 2008: Analysis by Sector: Oil, gas and chemical production Energy Construction and real estate Construction and road maintenance Trade Agriculture and food processing Municipal authority Machinery construction Transport Mining and metallurgy Manufacturing Services Financial services Hotel and restaurant business Press and publishing Media and communications Other 30 September 2010 31 December 2009 31 December 2008 21,545,967 5,157,563 3,886,164 3,333,131 1,567,522 1,499,493 1,010,893 625,558 436,063 317,416 204,800 148,914 64,903 8,956 8,094 313 20,762 29,146,558 4,546,440 3,237,962 2,396,753 1,548,330 1,531,503 — 579,382 336,450 271,935 132,569 86,458 60,191 10,475 8,277 13,971 21,271 18,779,508 3,761,595 1,679,918 — 1,153,102 1,159,591 — 509,746 288,492 184,559 135,360 90,555 — 38,458 8,535 34,182 27,324 39,836,512 43,928,525 27,850,925 Corporate lending is a significant part of the Bank’s business, with loans to Corporate Banking customers amounting to UAH 39,836,512 thousand at 30 September 2010, representing 88.4 per cent. of the Bank’s total consolidated loans and advances. Since the vast majority of the Bank’s Corporate Banking customers carry out their activities in the Ukrainian domestic market and are not engaged in export and import activities, a substantial part of the Bank’s loan portfolio comprises hryvniadenominated loans. As at 30 September 2010, 31 December 2009 and 31 December 2008, loans to customers of UAH 32,704,045 thousand (73 per cent.), UAH 37,225,435 thousand (75 per cent.) and UAH 23,089,180 thousand (66 per cent.), respectively, were granted to ten borrowers or group of borrowers, which represents a significant concentration. Large State-owned entities are among the main customers of the Bank’s Corporate Banking operations. As at 30 September 2010, 31 December 2009 and 31 December 2008, the above stated amounts include loans issued to Naftogaz Ukrtransnafta in the total gross amount of UAH 21,384,536 thousand (47 per cent.), UAH 29,089,711 thousand (58 per cent.) and UAH 18,766,610 thousand (54 per cent.), respectively. See ‘‘Provision of lending and other banking services to State-owned entities’’ below for a description of the Bank’s co-operation with its largest State-owned customers, including Naftogaz, Ukrtransnafta and others. SME lending has decreased substantially since the onset of the financial crisis. As the economic situation in Ukraine improves, the Bank intends to resume development of its SME business in line with the objective set forth in its charter and in order to diversify its client base. Project Finance As part of its Corporate Business, the Bank provides financing for development and infrastructure projects implemented by private investors. Recent projects include a new office complex and an entertainment centre in Kyiv. Cash settlement transactions The Bank offers its Corporate Banking customers a wide range of cash settlement services including the opening and closing of accounts, cash servicing, maintenance of accounts, providing information on account status, providing consolidated statements of customers’ accounts and transfers into hryvnia and foreign currencies. The Bank also offers its customers (including Corporate Banking c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 86 customers and other Ukrainian banks) cash collection services, including sales revenues collection and delivery of cash funds. In order to further develop the Bank’s cash collection services and increase the level of protection of the Bank’s valuables and employees while in transit, the Bank plans to upgrade its existing vehicles into armoured specialised vehicles and implement a corporate satellite surveillance system. Securities transactions and investments The Bank’s Corporate Banking Department, together with the Treasury Department, is responsible for managing securities transactions (including proprietary investment and transaction with its available for sale portfolio). The Bank is involved in all segments of the Ukrainian stock market. As at 30 September 2010, the carrying value of the Bank’s corporate securities portfolio was UAH 1,680,638 thousand (comprising UAH 1,672,858 thousand in corporate bonds and UAH 7,780 thousand in other corporate securities). The following table shows the breakdown of the Bank’s investments (carrying values) in corporate securities as at 30 September 2010 and 31 December 2009 and 2008: Shares and similar securities Total corporate securities portfolio Corporate debt securities (UAH thousand) 30 September 2010 31 December 2009 31 December 2008 7,780 7,780 23,635 1,672,858 1,656,291 1,069,658 1,680,638 1,664,071 1,093,293 The following table shows a breakdown of the Bank’s corporate securities portfolio as at 30 September 2010 (gross carrying values): 30 September 2010 (UAH thousand) Shares of enterprises available for sale, gross Corporate bonds available for sale Municipal bonds available for sale 23,063 1,773,004 25,395 Provision of lending and other banking services to State-owned entities Given the Bank’s status of a wholly State-owned bank, its track record, financial position and extensive national network, large State-owned entities remain the Bank’s largest Corporate Banking customers in Ukraine. The financing programme set up by the Bank for its largest State-owned customer, Naftogaz, is described above (see ‘‘Naftogaz financing programme’’). In addition to Naftogaz, the Bank provided financing to a subsidiary of Naftogaz, Ukrtransnafta, as well as a number of other State entities. The Bank also performs settlement functions for the participants of Ukraine’s electricity and gas markets. Ukrtransnafta As at 30 September 2010, the total amount of outstanding indebtedness of Ukrtransnafta was UAH 141,050 thousand. The loan facilities were provided to Ukrtransnafta in accordance with the loan agreements concluded in May 2008. The refinancing was used for working capital purposes as well as capital investment and maintenance of oil pipelines. Each tranche provided under the loan agreements with Ukrtransnafta is repayable within 365 days. These loan facilities mature in March 2011. Given the total size of the Bank’s loan portfolio, the Bank does not classify the loans provided to Ukrtransnafta as significant. Pension Fund of Ukraine Pursuant to the Resolution of the Cabinet of Ministers of Ukraine No. 1349 of 12 September 2002 ‘‘On Measures to Improve the Pension Finance Management Efficiency’’ and the Instruction of the c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 87 Cabinet of Ministers of Ukraine No. 25-p of 21 January 2004 ‘‘On Nominating the Authorised Bank to Carry out Settlement and Cash Transactions with Monies of the Pension Fund of Ukraine’’, as of 30 September 2010 the Bank provided its services to 755 regional and local units of the Pension Fund of Ukraine (PFU). These institutions together held 3,955 accounts with the Bank as at 30 September 2010. The payment services in respect of these accounts have been provided via Internet banking facilities installed in the PFU offices. The Bank performs the day-to-day management of accounts (consolidating information about account balances turnovers in regional PFU branches, numbers of accounts and other financial information) of the PFU, and provides consolidated reporting files to the PFU and the Ministry of Finance of Ukraine. The average daily balance of funds in the PFU accounts decreased in the nine months ended 30 September 2010 to UAH 183,400 thousand (by UAH 267,100 thousand or 59.3 per cent.) compared with UAH 450,500 thousand in the nine months ended 30 September 2009. Ukrposhta The Bank also co-operates with UDPPZ Ukrposhta (Ukrposhta), the Ukrainian State-owned Postal Communication Enterprise. Pursuant to the co-operation agreement between the Bank and Ukrposhta, the accounts of post offices have been moved to the Bank for the provision of cash and payment services. As at 30 September 2010, the Bank held 2,195 such accounts, including 591 accounts used for the handling of the PFU funds distributed as State pension payments through Ukrposhta, and provided services to 245 operating units of Ukrposhta. In the nine months ended 30 September 2010, the average daily balance of funds in Ukrposhta accounts amounted to UAH 632,000 thousand, including UAH 279,800 thousand in the PFU accounts. Over the same period, the average monthly receipts of funds from Ukrposhta amounted to UAH 11,598,500 thousand, including UAH 7,664,900 thousand in the PFU accounts, and the average monthly volume of transactions was UAH 401.4 thousand, including UAH 36.9 thousand in respect of the PFU accounts. Electricity Suppliers As at 30 September 2010, the Bank opened 1,249 current accounts for the participants of the wholesale electrical energy market, including 708 regulated current accounts for the processing of payments for supplied electricity pursuant to the Resolution of the Cabinet of Ministers of Ukraine No. 1004 of 24 July 2006 ‘‘On Nomination of the Authorised Bank to Service Current Accounts of Members of the Wholesale Electrical Energy Market with the Special Utilisation Arrangements’’. The wholesale electrical energy market participants include SE Energorynok (Energorynok), a State-owned company responsible for the operation and regulation of Ukraine’s wholesale energy market, as well as electricity supply companies and their operating units. In the nine months ended 30 September 2010, the average monthly receipts of funds on accounts of Energorynok and electricity supplying companies amounted to almost UAH 6.3 billion; the average daily balance of funds in these accounts was UAH 627,300 thousand, including UAH 367,100 thousand in the regulated current accounts for the processing of payments for supplied electricity. The Bank performed an average of approximately 882 transactions per month in respect of these accounts. Gas Suppliers As at 30 September 2010, the Bank opened 864 current accounts for gas supply companies and their operating units, as well as entities that sell gas to gas suppliers, including 617 regulated current accounts for the processing of payments for ongoing gas consumption pursuant to the Resolution of the Cabinet of Ministers No. 247 of 26 March 2008 ‘‘On Improvement of the Procedure of Settlement for the Natural Gas Consumed’’, as amended. In the nine months ended 30 September 2010, the average monthly receipts of funds in these accounts were UAH 11.0 billion, including UAH 1.4 billion in respect of the regulated current accounts for processing of payments for supplied gas, with an average of over 230 transactions being carried out monthly in respect of these accounts. Municipal heating suppliers The Bank opened and services 928 current accounts for municipal heating enterprises, heating power plants, central heating and power plants and other entities conducting business in connection with the supply of heat and related operating units, including 490 regulated current accounts for payments for ongoing gas consumption pursuant to the Resolution of the Cabinet of Ministers No. 1082 of 3 December 2008 ‘‘On the Issue of Improvement of Settlement Schemes for Electrical Energy and Natural Gas’’. In the nine months ended 30 September 2010, the average monthly receipts of funds in c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 88 these accounts were UAH 720,500 thousand, including UAH 476,900 thousand in the regulated current accounts for payments for the ongoing gas consumption, with an average of approximately 83 transactions being carried out monthly. Ukrtelecom The Bank has entered into a co-operation agreement with OJSC Ukrtelecom (Ukrtelecom). As at 30 September 2010, the Bank provided services to 29 branches of Ukrtelecom which held 55 accounts with the Bank. For the nine months ended 30 September 2010, the average daily balances of funds in Ukrtelecom accounts amounted to UAH 9,500 thousand, and the average monthly receipts of funds in Ukrtelecom accounts amounted to UAH 149,300 thousand. Treasury The Treasury department is responsible for managing the Bank’s available for sale portfolio. In particular, it carries out the Bank’s securities transactions and investments (See ‘‘Securities transactions and investments’’ below), including those involving Ukraine government securities, NBU re-financed securities, corporate bonds and repos. The Bank’s Treasury department is also responsible for its money market transactions, including interbank lending and foreign exchange transactions, as well as precious metals trading. The Bank is currently expanding the range of treasury products that it offers to its customers and increasing operational profit in this segment. Securities transactions and investments The Bank is involved in all segments of the Ukrainian stock market and is an active participant in the market for Ukrainian Government debt securities. In the nine months ended 30 September 2010, the Bank purchased Ukrainian Government debt securities with the nominal value of UAH 17,514,846 thousand and sold Ukrainian Government debt securities with the nominal value of UAH 14,200,442 thousand, both in the primary and secondary securities markets. As at 30 September 2010, the carrying value of Ukrainian Government debt securities was UAH 5,831,907 thousand. Placement of funds on the interbank market through repo transactions substantially mitigates the Bank’s credit exposure (as compared with interbank lending transactions), so it actively seeks these types of transactions. Funds placed through repo transactions have covered the significant part of the total short-term funds it holds with other banks. The following table shows a breakdown of the Bank’s treasury securities portfolio as at 30 September 2010 (nominal carrying values): 30 September 2010 31 December 2009 31 December 2008 (UAH thousand) Ukrainian Government debt securities: Medium-term Ukrainian Government debt securities Long-term Ukrainian Government debt securities, including securities with early redemption features Ukrainian Government debt securities for settlement of budget indebtedness on value added tax 3,033,068 1,750,080 1,827,133 2,798,480 598,280 11,779,755 359 — 12,308 5,831,907 2,348,360 13,619,196 Money market transactions On the interbank lending market, the Bank’s Treasury department is primarily involved in selling resources for local currency dealings. As at 30 September 2010, the Bank accounted for 7.1 per cent. of the interbank credit portfolio in the total interbank credit portfolio of commercial banks on the Ukrainian interbank market, according to the AUB. Interest rates charged by the Bank on interbank loans correspond to applicable market interest rates. Transactions with other banks The Bank is active in the Ukrainian interbank market and remains one of the major market-makers. The Bank’s involvement has been historically through interbank loans, repos, swap transactions and the borrowing and placing of funds, but it is able to use a wide range of available money market instruments, though some of the instruments may be unavailable due to restrictions imposed from c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 89 time to time by the NBU. The Bank carries out interbank money market lending and borrowing transactions in order to optimise its liquidity and in accordance with its risk management policies. The Bank has traditionally been more active in lending to, rather than borrowing from, the interbank market. Co-operation with counterparty banks is based on the general agreements in the interbank market and as at 30 September 2010, the Bank had entered into general agreements with 138 domestic and 30 foreign banks. The operations performed under these agreements are limited by counterparty restrictions set by the Bank’s Credit Committee. As at 30 September 2010, funds borrowed from other banks (excluding the NBU funding) totalled (net of LORO accounts) UAH 42,462 thousand (comprising UAH 13,177 thousand in overnight loans and UAH 29,285 thousand in short-term loans from other banks), compared to zero as at 31 December 2009. As at 30 September 2010, funds lent to other banks (net of NOSTRO accounts) totalled UAH 411,546 thousand (comprising UAH 59,244 thousand in repo transactions and UAH 352,302 thousand in funds lent to other banks), compared to UAH 301,820 thousand (comprising UAH 29,271 thousand in repo transactions and UAH 272,549 thousand in funds lent to other banks) as at 31 December 2009. The Bank’s income from transactions on the interbank markets in the nine months ended 30 September 2010 amounted to UAH 88,697 thousand (comprising UAH 731 thousand from repo transactions, UAH 38,795 from loans to other banks and UAH 49,171 thousand from NOSTRO account transactions); its expenses totalled UAH 1,436,941 thousand (including UAH 4,109 thousand in respect of LORO account transactions, UAH 1,432,276 thousand in respect of loans from the NBU and UAH 556 thousand in respect of other loans). The Bank remained an active member of the interbank foreign exchange market of Ukraine during the reporting year. The Bank’s total dealing (net) in the nine months ended 30 September 2010 from foreign exchange transactions amounted to UAH 99,288 thousand. Additional products and services In an effort to increase profitability, the Bank focused on increasing its rating on the banking services market, attracting more customers and implementing innovative banking products. In 2010, the Bank carried out non-trading transactions such as money transfers via international payment systems, bank transfers, compensatory payments, bureau de change transactions, transactions with cheques and bank metals. It also exercised foreign exchange control agent functions in the course of settlements under export/import contracts of customers and own foreign trade contracts. The Bank continued to make bank transfers in foreign currencies via its network of correspondent banks by involving the Bank’s network and using production and labour resources efficiently, as well as transfers via international payment systems. The Bank carried out exchange rate transactions in U.S. dollars, Euro, Canadian dollars, Swiss Francs, UK Sterling, Russian Roubles, Hungarian Forints, Moldovan Leu, Polish Złoty and Belarusian Rubles. Funding The Bank funds its operations from a combination of customer deposits and stable core current accounts of corporate and retail customers, issues of debt securities, bank borrowing and long-term interbank loans. In order to manage its liquidity position in an efficient manner, it attracts short-term interbank loans in hryvnia and uses refinancing facilities provided by the NBU. As at 30 September 2010, the total indebtedness of the Bank under the NBU refinancing facilities was UAH 15,531,633 thousand. The Bank’s NBU refinancing facilities bear an average interest rate of 9.9 per cent. per annum and are to be repaid between 2010 and 2015. In accordance with Ukrainian legislation, all such loans are secured by a pledge in respect of the rights under loans provided by the Bank or debt securities held by the Bank, and such security is first ranking. See ‘‘Risk Factors – Risk Relating to the Bank – Significant Levels of NBU funding’’. Customer term deposits increased by 96.4 per cent. from UAH 7,071 million as at 31 December 2008 to UAH 13,889 million as at 31 December 2009 and decreased by 22.2 per cent. to UAH 10,808 million as at 30 September 2010. Customers’ current accounts and term deposits accounted for 56.9 c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 90 per cent. of the Bank’s total liabilities as at 30 September 2010, compared to 58.7 per cent. as at 31 December 2009 and 42.4 per cent. as at 31 December 2008. The Bank’s liquidity management policy is designed to ensure timely and full performance of the Bank’s obligations. To this end, the Bank maintains a primary liquidity reserve (providing for the Bank’s current needs in highly liquid assets) and a secondary liquidity reserve which consists primarily of highly liquid Ukrainian Government debt securities (to provide liquidity in a stress scenario). In addition, the Bank monitors liquidity gaps and determines the amount of funding which can be allocated to financing longer-term projects. The adequacy of the Bank’s approach to liquidity management was demonstrated by its ability to ensure performance of its obligations through the crisis periods in 1998, 2004 and 2008. The Bank also relies on the support from the State as its sole shareholder in terms of additional contributions to the Bank’s statutory share capital to ensure compliance with Ukrainian and international economic ratios and maintain stable operations. Prior to 2000, all capital increases were financed out of the Bank’s net profits. From 2000, share capital increases were largely financed through capital contributions by the State. As at 30 September 2010, the Bank’s registered and paidup share capital amounted to UAH 13,892,000 thousand, an increase of 1,824 per cent. compared to UAH 722,000 thousand as at 31 December 2006, including one increase of the Bank’s share capital of UAH 200,000 thousand in 2007 and three increases of the Bank’s share capital in 2008 in the aggregate amount of UAH 12,970,000 thousand following the onset of the financial crisis and as part of the Government’s measures to recapitalise the Ukrainian banking system. All ordinary shares have a nominal value of UAH 1 million per share, rank equally and carry one vote. In December 2006, the Bank attracted a U.S.$ 100 million subordinated loan from ABN AMRO. The funds were disbursed in January 2007 and fall due in 2017 with possible early repayment in January 2012 or on any interest payment date falling after January 2012. In February 2008, the Bank issued two Series of domestic bonds with the aggregate nominal value of UAH 500,000 thousand. The bonds bear interest at the rates of 16.0 per cent. (for Series A bonds) and 14.0 per cent. (for Series B bonds). As at 30 September 2010, the main part of these domestic bonds remained outstanding, including Series A bonds with the total nominal value of UAH 300 million) and Series B bonds with the total nominal value of UAH 155 million. As at 31 January 2011, the remaining Series B bonds with the total nominal value of UAH 45 million were placed on the secondary market and remained outstanding. On 10 February 2011, all of the outstanding Series A bonds were redeemed by the Bank. Series B bonds mature in February 2013. Competition As at 1 January 2011, 194 commercial banks were registered in Ukraine, of which 176 banks have been granted licences by the NBU to perform banking transactions. As at 1 January 2011, assets of all commercial banks in Ukraine amounted to UAH 942.1 billion (approximately U.S.$118.4 billion), their credit portfolio (including interbank loans) amounted to UAH 755.0 billion (approximately U.S.$94.9 billion), their equity capital amounted to UAH 137.7 billion (approximately U.S.$17.3 billion), corporate deposits and current accounts amounted to UAH 144.0 billion (approximately U.S.$18.1 billion) and retail deposits and current accounts amounted to UAH 270.7 billion (approximately U.S.$34.0 billion) (all figures in this paragraph have been converted using the exchange rate U.S.$1= UAH 7.96). According to the NBU, in 2010, the share capital of Ukrainian banks having licences to perform banking operations increased by 22.4 per cent., amounting to UAH 145.9 billion as at 1 January 2011, while the equity capital of such banks increased by 19.6 per cent. to UAH 137.7 billion as at 1 January 2011. During 2010, the assets and total liabilities of Ukrainian banks having licences to perform banking operations increased by 7.0 per cent. and 5.1 per cent. respectively, and amounted to UAH 942.1 billion and UAH 804.4 billion, respectively. The regulatory capital of Ukrainian banks increased by 18.5 per cent. during 2010, amounting to UAH 160.9 billion as at 1 January 2011. For 2011, commercial banks operating in Ukraine are divided by the NBU into four groups according to size of assets. In particular, 17 major banks with total assets of more than UAH 14.0 billion were classified in the first group. 22 banks with total assets of more than UAH 4.5 billion were classified in the second group, 21 banks with total assets of more than UAH 2.0 billion were classified in the third group and 115 banks with total assets of less than UAH 2.0 billion were classified in the fourth group. As at 1 January 2011, 55 banks in Ukraine had foreign capital, of c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 91 which 20 banks were wholly foreign-owned. Banks with foreign capital comprise over 40.6 per cent. of the total share capital of banks in Ukraine. In addition, as of the date of this Prospectus only the Bank and Ukreximbank were wholly State-owned. Three commercial banks (Rodovid Bank, Ukrgasbank and Bank Kyiv) were recapitalised in 2009, as a result of which the State became the majority shareholder in such banks, with stakes ranging from 87.7 per cent. to almost 99.99 per cent. according to the NBU. See ‘‘Appendix 1 – The Banking Sector and Banking Regulations in Ukraine’’. Due to the large number of banks operating in Ukraine, the Bank faces competition in substantially all of the banking services and locations in which it operates. Additionally, international banks have increased their presence in Ukraine, and compete with the Bank for provision of banking services to retail and corporate customers. The Bank considers its principal competitors for the provision of a full range of banking services to be: * with regards to the number of branches and outlets, PrivatBank (over 3,000 branches), Raiffeisen Bank Aval (over 900 branches) and Ukrsotsbank (over 400 branches); * with regard to the amount of term deposits of retail and corporate clients, PrivatBank and Raiffeisen Bank Aval; and * with regard to the size of its loan portfolio, PrivatBank and Ukreximbank. The Bank’s competitors also include Ukrsibbank, OTP Bank, First Ukrainian International Bank, Bank Forum, and Bank ‘‘Finance and Credit’’. Ukreximbank, the only other Ukrainian bank that is wholly-owned by the State, is a competitor in respect of lending to corporate and retail customers as well as with regard to the attraction of term deposits from local authorities. In addition, Ukrposhta is the Bank’s competitor with regard to handling utility payments, money transfer services, payment of pensions and distribution of lotteries. Distribution Channels Branches and Outlets The Bank offers its services through its vertically-integrated branch network which consists of: (i) the head office; (ii) regional branches; (iii) sub-branches; and (iv) outlets. As at 31 December 2010, the Bank had the largest branch network among the Ukrainian banks, consisting of 25 regional branches in each region of Ukraine (including the regional branch in Kyiv and Kyiv oblast and the regional branch in the Autonomous Republic of Crimea), as well as 226 sub-branches and 5,745 outlets. Regional branches and sub-branches are directly subordinated to the head office of the Bank. Regional branches are separate structural units of the Bank responsible for the Bank’s activities in their respective regions. Regional branches are also responsible for the management of sub-branches located within their respective region. Each sub-branch is run by its management, which includes a sub-branch head, deputy heads and a chief accountant. Each sub-branch is divided into further structural units. The Bank’s outlets are supervised and managed by a branch responsible for the respective territory where the outlets are located. Each branch has its own balance sheet which is consolidated into the Bank’s central balance sheet for financial reporting purposes. Each branch provides a full range of banking services to the Bank’s retail and corporate clients, with the exception of the following transactions which are conducted by the head office: opening accounts for other banks and opening accounts with other banks, including relations with correspondent banks. Outlets, on the other hand, do not have separate balance sheets. The scope of services provided by outlets is determined by their internal classification. Outlets of categories I, I-A, II and III-A (268 as at 31 December 2010) provide a wide range of banking services to retail and corporate clients, including lending and customer account services, with the exception of category III-A outlets which only provide lending services to individuals. Outlets of category III (376 as at 31 December 2010) provide a full range of services to retail clients and service accounts of corporate clients. Outlets of categories III-B, IV and V (5,101 as at 31 December 2010) provide a traditional range of services to retail clients (including, among others, customer account services, processing of payments and foreign exchange). Currently, the Bank is implementing structural reforms in its branch network. This will allow the Bank to simplify and optimise the management and control over its branch network, implement unified corporate standards and processes in all the branches and outlets and improve cost efficiency of the Bank’s branch network, eliminating excessive managerial functions at the level of sub-branches. The Bank will move to a two-tier structure whereby sub-branches will be re-organised into outlets. c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 92 Once a sub-branch is converted into an outlet, its activities will be reflected on the balance sheet of the relevant regional branch. In 2010, 103 sub-branches were re-organised into outlets. Throughout 2011, it is envisaged that all remaining 226 sub-branches will be re-organised into outlets. As a result, only regional branches will have their own balance sheets and produce financial reports for the supervising State authorities. ATM and POS Network The Bank offers its customers the ability to withdraw cash from their accounts with the Bank through its own ATM network comprising 1,197 ATMs and through 2,960 POS terminals. These transactions can also be undertaken through the ATM networks of other Ukrainian banks on the basis of co-operation agreements, comprising in total a further 5,124 ATMs as at 31 December 2010. The Bank’s ATMs provide services such as cash withdrawals, balance enquiries, mini-statements, fund transfers between customer accounts with the Bank and mobile phone account top-ups. The Bank offers SMS notifications in respect of transactions on customer accounts. The Bank will continue to expand the range of services provided through its ATMs, including the support of money transfers to and from accounts with other banks, handling of utility payments and paying-in services. The Bank also intends to implement telephone and internet banking. In 2010, the Bank plans to expand its network to 1,270 ATMs through an additional investment of UAH 25 million. Other Distribution Channels The Bank offers its corporate customers Internet banking facilities, and SMS banking facilities to its retail clients. As part of its IT development programme, the Bank is aiming to roll-out Internet and telephone banking services to all retail clients. Information Technology The Bank’s IT systems are an integral part of its system of internal controls and are critical to its business operations and essential to effectively support business operations, maintain operational efficiencies, coordinate and enhance risk management systems, and meet the needs of the Bank’s customer base. Primarily, IT systems operate to establish a payment infrastructure (involving clearing and settlement), provide payment services (involving debit card and ATM transactions), facilitate participation of the Bank in financial markets (through trading and custody operations) and support the Bank’s customer service function. The Bank currently does not operate a single, integrated operating system which allows for real-time reporting of the Bank’s financial position. With five separate core accounting systems and 252 separate balance sheets being collated throughout the Bank, it suffers from a reporting delay between closing of individual balance sheets and their consolidation into a single Bank-wide balance sheet. This delay can be up to 24 hours. The current medium-to-long term IT systems development strategy of the Bank is focused on the implementation of an ABS within the Bank’s entire branch network instead of the existing five automatic banking systems. As at 30 September 2010, the new ABS was implemented in 9 out of 25 regional branches. In addition, the Bank’s current IT systems development policy provides for the implementation of the unified internal accounting and reporting systems; establishment of Openway, the Bank’s own processing centre; implementation of a centralised credit system and centralised deposit system for the Bank’s Retail and Corporate businesses; introduction of a centralised record system for deposit transactions; improvement of the money transfer system; establishment of the call centre; development of a centralised storage facility for management accounting and financial analysis data; implementation of the data protection system, including further development of the Bank’s server network to ensure high quality data transmission. The Bank’s network currently connects 1,090 locations of the Bank, with a further 2,000 locations expected to join the network in 2011-2012. The Bank also continues to implement its multiservice network, allowing for the timely transfer of information within the Bank’s branch network. The Bank estimates its total capital expenditure for the development of IT systems at UAH 104,556 thousand in 2010 compared to UAH 62,238 thousand in 2009 and UAH 91,873 thousand in 2008. It is expected that capital expenditure for the IT systems development will total approximately UAH 215,000 thousand in 2011. The stability and reliability of the Bank’s automatic banking system is ensured through a back-up server, which keeps back-up records of all our banking operations. As of the date of this Prospectus, the Bank has not experienced any material interruptions to its back-up system. c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 93 The Bank’s Financial Statements for each of the years ended 31 December 2009 and 31 December 2008 include a qualification relating to the adequacy of disclosure on liquidity risk due to present insufficient IT systems. See ‘‘Risk Factors – Risk Relating to the Bank – The Bank’s Financial Statements for the years ended 31 December 2009 and 31 December 2008 and Condensed Interim Financial Information for the nine months ended 30 September 2010 include qualifications relating to the adequacy of disclosure relating to liquidity risk, the re-valuation of buildings, hyper-inflationary accounting and segment reporting’’. See also ‘‘To enhance the Bank’s internal performance and efficiency by improving business procedures through the use of information technology’’ above. Insurance The Bank maintains the types of insurance that are envisaged by applicable Ukrainian legislation and for businesses in Ukraine in the sectors in which it operates, including civil liability insurance for certain of the Bank’s employees, coverage for leased and owned real estate property and coverage for loans. The Bank considers its insurance coverage to be adequate both as to risk and as to amounts for the operations conducted by it. Subsidiaries and Associates The Bank has one subsidiary, ‘‘The Militia of Ukraine’’ magazine, in which it held 88.65 per cent. of the authorised share capital as at 30 September 2010. The magazine was co-founded by the Bank and the Ministry of the Interior of Ukraine in January 1997 in order to publicise the activities of Ukrainian law-enforcement bodies and organisations. The Bank estimates that the subsidiary’s assets comprise 0.0007 per cent. of the Bank’s total assets. In addition, the Bank had four associates, in which it owns less than 50.00 per cent. of the authorised share capital: JSC Ukrspetsimpex Bank, CJSC Kagarlykmlyn (which have both been liquidated), JSC Starovyzhivska SPMK-14 and Joint Small Enterprise ‘‘Karbid’’ (which are currently being liquidated). The shares in JSC Starovyzhivska SPMK-14 and some of the shares in JSC Ukrspetsimpex Bank were acquired by the Bank as part of the repayment of indebtedness by the Bank’s borrowers. The Bank does not consider any of its subsidiaries or associates to be material to its operations. Property As at 30 September 2010, the total net book value of the Bank’s property (including leasehold land and buildings which the Bank holds) was UAH 2,067.6 million, including UAH 1,766.2 million of owned buildings and UAH 178.4 million of furniture, office equipment and motor vehicles. The last revaluation of the Bank’s buildings and office premises to market prices was carried out by independent appraisers as at 1 November 2008. The fair value of buildings and office premises was estimated using the sales comparison method. No update of revaluations was performed for the period from November 2008 to 30 September 2010. See ‘‘Risk Factors – The Bank’s Financial Statements for the years ended 31 December 2009 and 31 December 2008 and Condensed Interim Financial Information for the nine months ended 30 September 2010 include qualifications relating to the adequacy of disclosure relating to liquidity risk, the re-valuation of buildings, hyper-inflationary accounting and segment reporting’’. The Bank intends to revalue its real estate property during 2011. Intellectual Property The Bank holds the following certificates issued by the State Department for Intellectual Property in respect of the Bank’s Intellectual Property rights: * ‘‘Zavzhdy Poruch’’ (‘‘Always near you’’) trademark (trademark registration certificate No. 48450 dated 15 March 2005); * ‘‘Oschad’’ trademark (trademark registration certificate No. 32694 dated 16 June 2003); * ‘‘Oschadbank’’ trademark (trademark registration certificate No. 37083 dated 15 August 2003); * ‘‘Oschadhy Bank of Ukraine’’ trademark (trademark registration certificate No. 29002 dated 15 January 2003); * the Bank’s logo (trademark registration certificate No. 25899 dated 15 June 2002); * ‘‘Shvydka Kopiyka’’ trademark (trademark registration certificate No. 107598 dated 25 May 2009); and c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 94 * ‘‘Shvydka Kopiyka’’ logo (trademark registration certificate No. 109509 dated 10 July 2009). Correspondent Banks The Bank has one of the most extensive networks of foreign correspondent banks among Ukrainian banks and has established correspondent relationships with more than 70 banking institutions globally. The Bank’s main correspondent banks include Deutsche Bank AG, Commerzbank AG, WestLB AG, Standard Chartered Bank, HSBC Bank plc, Citi, Unicredit SA, JPMorgan Chase Bank and Deutsche Bank Trust Company Americas. As at 31 December 2010, the Bank conducted international settlements via 75 NOSTRO accounts in different currencies opened with major foreign banks. In addition to the Bank’s global network of correspondent banks, 30 Ukrainian banks and 10 banks from the CIS and the Baltic States maintain their accounts with the Bank. The Bank’s continuous development of its correspondent network has allowed it to expand its relationships with counterparts throughout the world, including in Western, Central and Eastern Europe and North America and to co-operate with them in such areas as the inter-bank market, foreign exchange, money market, trade finance operations and other areas. Licences The Bank holds a certificate on the State registration of a legal entity confirming the registration made on 31 December 1991. As a Ukrainian bank, the Bank is regulated and supervised by the NBU. The Bank has a NBU registration certificate confirming the registration made on 31 December 1991. The Bank is registered with the NBU and its current banking licence and the NBU permit were issued on 16 January 2002 and the Annex to the NBU permit was updated in 2009. The Bank is entitled to conduct all types of banking operations specified in applicable Ukrainian law and, in particular, the Bank may: * attract and provide loans; * accept deposits from both legal entities and individuals; * open and operate current accounts for clients and correspondent banks; * conduct foreign exchange and money market operations; * sell and purchase securities both for its own account and on behalf of clients; * provide guarantees; * carry out factoring and leasing operations; * issue and endorse cheques, bills of exchange and other payment instruments; * issue bank cards; * provide asset management services; and * provide custodial services. The Bank holds five licences issued in 2010 by the State Commission on Securities and the Stock Market of Ukraine authorising it to perform the following professional activities in the stock market: * investment management in respect of securities; * brokerage; * dealership; * underwriting; and * depository activity as securities custodian. The Bank holds a licence issued in 2004 by the Ministry of Finance of Ukraine for the issue and marketing of lotteries (instant State lotteries). Memberships The Bank is a member of the VISA and the MasterCard payment systems. In January 2009, the Bank obtained a licence for the provision of merchant acquiring services within the VISA payment system. In addition, the Bank is a member of the Ukrainian Interbank Payment Systems Member Association (EMA), the AUB, the First Credit Bureau of Ukraine (FCBU), OJSC UkrCard, the Ukrainian Credit-Bank Union, the Ukrainian Interbank Currency Exchange (UICE), PrJSC PFTS c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 95 Stock Exchange, OJSC Ukrainian Exchange, CLSC Ukrainian Stock Exchange the SWIFT system, the Association ‘‘Ukrainian Stocks Traders’’ (AUST), the Professional Association of Registrars and Depositaries (PARD) and the World Institute of Savings Banks (WISB). Legal Proceedings From time to time and in the ordinary course of business, the Bank is subject to governmental, legal and arbitration proceedings. There are no governmental, legal or arbitration proceedings (including any such proceedings which are pending or threatened of which the Bank is aware) during the previous 12 months that may have, or have had in the recent past, a material effect on its financial position or profitability. c104221pu050Proof7:3.3.11B/LRevision:0OperatorChoD 96 MANAGEMENT STRUCTURE Overview The managerial structure of the Bank comprises management and control bodies. The Bank’s management bodies are the Supervisory Board and the Management Board. The Management Board is responsible for the day-to-day operational management of the Bank. The Supervisory Board is the supreme managerial body which supervises the activities of the Management Board of the Bank but it has no direct involvement in the day-to-day operational activity of the Bank. The control body of the Bank is the Audit Commission, which controls the financial and economic activity of the Bank. The following chart shows the corporate organisational structure of the Bank (as of 31 January 2011): Internal Audit Department Assets and Liabilities Management Committee Supervisory Board Financial Committee Management Board Audit Commission Tender Committee Credit Committee Tariff Committee A brief overview of the full members, functions and corporate powers of the Management Board, the Supervisory Board and the Audit Commission is set out below. Supervisory Board The Supervisory Board is not directly involved in the day-to-day operational management of the Bank, but it plays a significant role in supervising the activities of the Management Board. The responsibilities of the Supervisory Board include the following: * supervising the activities of the Management Board in order to protect the interests of the State a sole shareholder of the Bank; * setting guidelines and targets relating to the Bank’s activities and approving reports relating to such guidelines and attainment of targets; * handling the appointment and resignation of the Chairman and other members of the Management Board and approving the terms of remuneration of the Chairman and the other members of the Management Board; * approving the Bank’s annual results, including those of any subsidiaries; * approving the distribution of profits and the term and procedures for the payment of dividends; * taking decisions on covering losses and the management of the general reserve fund; * supervising the Bank’s Audit Commission including approving its regulations, appointing and removing personnel of the Audit Commission and reviewing and approving reports and conclusions of the Audit Commission and external auditors; * taking decisions with respect to the establishment, reorganisation and liquidation of the Bank’s branches, representative offices and subsidiaries and approving regulations thereon and their statutes; * approval of the Bank entering into agreements in respect of significant disposals of the Bank’s property in accordance with the legislation and the Charter of the Bank, if the amount of such agreements exceeds 10 per cent. of the Bank’s authorised share capital; and * carrying out other functions prescribed by applicable Ukrainian legislation and the Bank’s Charter. The Supervisory Board consists of 15 members an equal number of whom are appointed by the Verkhovna Rada of Ukraine (the Parliament), the Cabinet of Ministers of Ukraine and the President of Ukraine for a period of five years. The Supervisory Board of Ukreximbank, the other bank wholly owned by the State, is appointed according to the same principle. Ten out of 15 members of the Bank’s Supervisory Board are also members of the Supervisory Board of Ukreximbank. c104221pu060Proof7:3.3.11B/LRevision:0OperatorChoD 97 The Chairman of the Supervisory Board is elected from the members, while the Deputy Chairman is elected from the members on the recommendation of the Chairman. The members of the Supervisory Board fulfil their functions without receiving any monetary remuneration. The name, positions and a short biography of each current member of the Supervisory Board as at 1 December 2010 are set out below: Appointed by the Cabinet of Ministers of Ukraine: Mr. Oleksandr Mykolaiovych Kushnirenko (born on 13 September 1965) – Member of the Supervisory Board; currently holds a position of Head of Executive Office of the Prime Minister of Ukraine; previously held various positions in the Executive Office of the First Vice Prime Minister of Ukraine and the Secretariat of the Finance and Banking Activities Committee of the Parliament of Ukraine; Mr. Kostiantyn Valeriiovych Liubchenko (born on 6 October 1968) – Member of the Supervisory Board; currently holds a position of First Deputy Minister of the Cabinet of Ministers of Ukraine; previously held positions of the First Deputy Minister of Economy of Ukraine and Deputy Chairman of the Council of Directors of CJSC ‘‘Gruppa Rozvytok’’; Mr. Sergii Oleksandrovych Rybak (born on 10 August 1970) – Chairman of the Supervisory Board; currently holds a position of Deputy Minister of Finance of Ukraine; previously held positions of Deputy Minister of Finance of Ukraine and consultant in the Global Economy and International Relations Institute of the Academy of Sciences of Ukraine; Mr. Igor Mykolayovych Sotulenko (born on 30 April 1959) – Member of the Supervisory Board; currently holds a position of member of the Supervisory Board of JSC ‘‘State Export-Import Bank of Ukraine’’; previously held various positions in ‘‘Minolta Trading Ukraine’’ and ‘‘Autointernational’’; and Mr. Sergii Ivanovych Kharchenko (born on 17 May 1956) – Member of the Supervisory Board; currently holds a position of Head of the State Treasury of Ukraine; previously held a position of Head of the State Treasury of Ukraine and was retired. Appointed by the Verkhovna Rada of Ukraine: Mr. Yury Vasyliovych Bordiuhov (born on 27 April 1957) – Member of the Supervisory Board; currently holds a position of Head of the Section on Management of Legal Departments of Regional Branches of the State Property Fund of Ukraine; previously held various positions in the State Property Fund of Ukraine; Mr. Danylo Mefodiyovych Volynets (born on 10 November 1958) – Member of the Supervisory Board; currently holds a position of Economic Advisor to the Director General of LLC ‘‘KUA ITTManagement’’; previously held various positions in LLC ‘‘KUA ITT-Management’’; Mr. Oleh Fedorovych Koshelenko (born on 28 October 1940) – Member of the Supervisory Board; currently holds a position of Chief Efficiency Consultant of CJSC ‘‘Smart-Holding’’; previously held various positions in LLC ‘‘Smart Group’’; Mr. Anatoliy Ivanovych Lytiuk (born on 2 August 1949) – Deputy Chairman of the Supervisory Board; currently retired; previously held a position of the member of the Management Board of OJSC ‘‘Azovstal Metal Works’’ and was a member of the Parliament of Ukraine; and Mr. Sergii Viktorovych Chekashkin (born on 3 October 1973) – Member of the Supervisory Board; previously held a position of the Director of Tax Policy Department of the Ministry of Finance of Ukraine and Deputy Head of the State Tax Administration of Ukraine. Appointed by the President of Ukraine: Mrs. Iryna Mykhailivna Akimova (born on 26 April 1960) – Member of the Supervisory Board; currently holds a position of First Deputy Chief of the Presidential Administration; previously held a position of General Director of LLC ‘‘Informational-Analytical Center ‘‘Vector’’ and was a member of the Parliament of Ukraine; Mr. Pavlo Ivanovych Gaidutskyi (born on 6 August 1950) – Member of the Supervisory Board; currently holds a position of Deputy Executive Director – Director on Science of the Institute of Strategic Estimates; previously held positions of advisor to the Prime Minister of Ukraine and Deputy Chairman of the Management Board of Bank ‘‘Arkada’’; c104221pu060Proof7:3.3.11B/LRevision:0OperatorChoD 98 Mr. Andrii Volodymyrovych Portnov (born on 27 October 1973) - Member of the Supervisory Board; currently holds a position of Deputy Chief – Chairman of the Judicial Reform Department of the Presidential Administration; previously worked as an attorney and was a member of the Parliament of Ukraine; Mr. Viktor Mykhailovych Fedosov (born on 21 September 1939) – Member of the Supervisory Board; currently holds a position of Head of the Finance Department of Vadym Hetman Kyiv National Economic University; previously held various positions in Vadym Hetman Kyiv National Economic University; and Mr. Valerii Ivanovych Khoroshkovskyi (born on 1 January 1969) – Member of the Supervisory Board; currently holds a position of Head of the Security Service of Ukraine; previously held positions of the Head of the State Customs Service of Ukraine and First Deputy Head of the Security Service of Ukraine. The business address of each member of the Supervisory Board is 12-G Hospitalna Street, Kyiv 01001. Management Board The Management Board, responsible for the daily management of the Bank, is the permanent executive body of the Bank and manages its operational activities. The Management Board is responsible for ensuring that the Bank operates within the framework established by the Bank’s Charter and is accountable to the Supervisory Board. The powers of the Management Board, inter alia, include: * implementation of decisions taken by the Supervisory Board; * submission of issues to be considered by the Supervisory Board; * review and approval of the Bank’s business plans, financial plans and budget estimates; * review of the Bank’s annual financial report and balance sheet and submission thereof to the Supervisory Board for approval; * setting the Bank’s accounting and reporting standards, regulations, procedures and internal controls; * taking decisions on the Bank entering into agreements in respect of significant disposals of the Bank’s property in accordance with the legislation and the Charter of the Bank, if the amount of such agreements does not exceed 10 per cent. of the Bank’s authorised share capital; * taking decision on any issues concerning the management of branches, representative offices, associated enterprises and other structural subdivisions of the Bank, including remuneration and welfare of the workforce; * approval of internal control and supervision systems to prevent money laundering; and * carrying out other functions prescribed by applicable Ukrainian legislation and the Bank’s Charter. The Chairman and other members of the Management Board are appointed by the Supervisory Board. Each member of the Management Board is a full-time employee of the Bank. The name, position and a short biography of each current member of the Management Board and a short biography as at 1 December 2010 are outlined below: Mr. Vyacheslav Ivanovych Kozak (born on 24 August 1971) – Chairman of the Management Board; appointed by the Supervisory Board in April 2010; previously held positions of Advisor to the Vice Prime Minister of Ukraine on Economy; Deputy Chairman of the Management Board on Corporate Business of PrivatBank; Head of CIS Debt and Loan Products Department of Dresdner Kleinwort Wasserstein and Head of the Representative Office of Credit Suisse in Ukraine; Mr. Denys Borysovych Kiryeyev (born on 1 January 1977) – First Deputy Chairman of the Management Board; appointed by the Supervisory Board in October 2010; previously held various positions in Credit Lyonnais Ukraine, Citi Bank Ukraine, ING Bank Ukraine, LLC ‘‘SCM Finance’’ and ‘‘SLAV Management’’ also is a member of the Supervisory Board of Ukreximbank; Mr. Roman Mykolayovych Mahuta (born on 30 August 1958) – First Deputy Chairman of the Management Board; appointed by the Supervisory Board in March 2007; previously held various positions in PrivatBank and Ukrainian Bank for Reconstruction and Development; c104221pu060Proof7:3.3.11B/LRevision:0OperatorChoD 99 Mr. Oleksandr Viktorovych Gluschenko (born on 20 June 1965) – Deputy Chairman of the Management Board; appointed by the Supervisory Board in October 2010; previously held various positions in Bank ‘‘Finance and Credit’’; Mr. Oleksandr Dmytrovych Hryshko (born on 4 September 1969) – Deputy Chairman of the Management Board; appointed by the Supervisory Board in October 2010; since 2005 held a position of Deputy Chairman of the Management Board – Director of the Retail Business Department of the Bank; Mr. Evhen Volodymyrovych Drachko-Yermolenko (born on 28 September 1974) – Deputy Chairman of the Management Board; appointed by the Supervisory Board in October 2010; previously held various positions in PrivatBank; Mr. Sergii Yakovych Lyashenko (born on 12 September 1964) – Deputy Chairman of the Management Board; appointed by the Supervisory Board in October 2010; previously held positions of Head of the State Tax Administration and Minister of Finance of the Autonomous Republic of Crimea and Head of Crimean Republican Branch of the Bank; Mr. Sergii Oleksandrovych Podrezov (born on 16 September 1970) – Deputy Chairman of the Management Board; appointed by the Supervisory Board in April 2003; previously held various positions in the Bank, including a position of Deputy Chairman of the Management Board – Head of Corporate Business Department of the Bank; Mr. Anton Oleksandrovych Tyutyun (born on 14 March 1977) – Deputy Chairman of the Management Board and Director of the Retail Business Department; appointed by the Supervisory Board in October 2010; previously held various positions in Ukrsotsbank and BTA-Bank; Mr. Hryhoriy Vasyliovych Borodin (born on 10 March 1946) – Deputy Chairman of the Management Board and Head of Luhansk Oblast Branch; appointed by the Supervisory Board in October 2005; previously held a position of Head of Luhansk Oblast Branch. The business address of each member of the Management Board is 12-G Hospitalna Street, Kyiv 01001. Audit Commission The Audit Commission has control over the financial and economic activities of the Bank. It supervises the Bank’s compliance with legislation and regulations of the NBU, reviews the reports of external and internal auditors and prepares the relevant proposals for the Supervisory Board. It also submits proposals relating to issues of financial security and stability of the Bank as well as the protection of customers’ interests, to the Supervisory Board for consideration. The Audit Commission inspects the financial and business activity of the Bank on the instruction of the Supervisory Board, on the request of the Management Board or on its own initiative. It may engage internal as well as independent external experts and auditors to assist it in exercising its powers. The Audit Commission prepares opinions to the reports and balance sheets of the Bank and the Supervisory Board may not approve an annual financial report of the Bank unless the Audit Commission has provided an opinion on such report. Pursuant to the Bank’s charter, the Audit Commission shall have three members appointed by the Supervisory Board of the Bank for a term of three years. Members of the Bank’s Management Board, the Supervisory Board or other employees of the Bank may not be appointed as members of the Audit Commission. The members of the Audit Commission at the date of this Prospectus are as follows: Mr. Vadym Valentynovych Linnyk – Head of the Audit Commission, currently holds a position of Deputy Director of the Division of Inspections in Production and Financial Services Sphere of the Chief Control and Revision Department; Mr. Yaroslav Vasylyovych Matuzka – Member of the Audit Commission, currently holds a position of Director of the Legal Department of the Ministry of Finance of Ukraine. Mr. Volodymyr Oleksandrovych Kotsyuba – Member of the Audit Commission, currently holds a position of Director of the Financial Services Markets Development Department of the Ministry of Finance of Ukraine. c104221pu060Proof7:3.3.11B/LRevision:0OperatorChoD 100 ASSET, LIABILITY AND RISK MANAGEMENT Overview The Bank has a comprehensive risk management strategy in respect of financial risk and operational risk. Financial risk management comprises the management of market risk which includes credit risk, liquidity risk, interest rate risk and foreign exchange risk, while operational risk management involves ensuring that the Bank’s internal procedures and policies operate so as to minimise exposure to operational and legal risks. The risk management process is critically important for maintaining the Bank’s profitability and ensuring compliance with regulatory requirements. Although Ukrainian legislation does not require compliance with the standards of risk management set by the Basel Committee on Banking Supervision (the Basel Committee), the Bank has been implementing the Basel Committee’s recommendations for several years and intends to continue to do so in the future. Additionally, the NBU has established minimum capital adequacy ratios that are mandatory for Ukrainian banks. The current NBU ratio is 10 per cent. Such ratios are based on methodology that is generally consistent with applicable standards of the Basel Committee. The Bank’s risk management systems have been developed according to this methodology. The Bank aims to implement the Basel II recommendations and take into account its international standards in further developing its risk management strategy. The Bank views this as an ongoing priority. In 2004, the Bank’s Management Board and Supervisory Board approved the Risk Management Concept (the RMC). The RMC is an overarching approach across the Bank, including all of its organisational departments, and its headquarters, local and regional outlets and branches, towards risk management. It defines the main risk categories which the Bank faces, and specifies the major organisational and functional levels of risk management within these categories. From a functional perspective, the RMC focuses on: * risk-generating departments; * risk supervision of the Bank as a whole; * risk monitoring of isolated structural units; and * risk monitoring by the Bank’s Management Board. The RMC does not regulate internal corporate risks arising from transactions between structural units of the Bank, unless such transactions potentially enhance the Bank’s risks on the whole. Additionally, the RMC does not outline the Bank’s policies on trends or types of a transaction, rather it deals only with the management of risks generated as a result of any such transaction. The Bank’s risk management policies aim to identify, analyse and manage the risks faced by the Bank, to set appropriate risk limits and controls and to continuously monitor risk levels and adherence to those levels. The basic principles of the Bank’s risk management policy are: * centralisation of liquidity, interest rate and currency risk management at the head office level; * unification of analyses and monitoring procedures for credit risk management, creditworthiness or each borrower and establishment of a credit rating scale; * definition of limits/restrictions on certain balance sheet items; * unifying pricing of transactions and services; * ensuring that risks are continually monitored; * establishing risk limits for transaction amounts, including limits for: the various risk committees of the Bank and its individual officers, limits on exposure to single borrowers, limits on exposure to related parties, credit portfolio concentration limits (by industry, counterparty groups, separate transactions/balance sheet items etc); * avoidance of conflicts of interest; and * ensuring internal control over compliance with policies and procedures. This policy is structured over three levels: general, medium and operational. The Bank’s strategy for asset and liability management is based on diversification of its assets and liabilities in terms of counterparty, region and sector, the matching of assets and liabilities in terms of maturity, sensitivity to interest rate movements and foreign exchange risk and the maintenance of capital adequacy levels. c104221pu060Proof7:3.3.11B/LRevision:0OperatorChoD 101 The independent risk control process does not include business risks such as changes in the environment, technology and industry. These risks are monitored through the Bank’s strategic planning process. Risk management structure Risk management policy, monitoring and control is conducted by the two executive arms of the Bank, the Assets and Liabilities Management Committee (the ALMC) and the Credit Committee, which are overseen by the Supervisory and Management Boards of the Bank. At an operational level, the Risk Management Department (the RMD) is also a key component of the Bank’s risk management strategy. Supervisory Board The Supervisory Board is responsible for the overall risk management process at the Bank and for approving the risk management objectives, strategies and principles. The Supervisory Board develops risk management concepts, allocates responsibility for risk management functions throughout the Bank and sets limits for lending approvals of the different risk management functions. Management Board The Management Board has the overall responsibility for the development of the risk management objectives and strategies and implementing risk management policies and procedures within the Bank. The Management Board updates the Bank’s risk management policies when required and monitors the functioning of the Bank’s risk management policies on an ongoing basis. Assets and Liabilities Management Committee The ALMC is a collegial operational body established by the Bank’s Management Board. It consists of fifteen of the Bank’s senior managers and is chaired by the Chairman of the Management Board. The ALMC meets not less than once a month and outlines the Bank’s policy for management of assets, liabilities, and market risks. The major functions of the ALMC are to identify, monitor and implement the following policies within the Bank: * bank capital allocation and support of adequate payment capacity based on balance-sheet risk, market risk and other exposure; * internal cash flow and funds management; * risk identification and management, including interest rate risks, exchange rate risks, currency risks and securities risk; * assets and liabilities management policy and reporting policy (short, medium and long-term); * control over operations handled by the Treasury; and * other tasks and functions. Credit Committee The Credit Committee functions on a permanent basis, consists of ten members and is chaired by the First Deputy Chairman of the Management Board. The Credit Committee meets not less than twice a week. The Credit Committee provides additional support to the overall risk management of the Bank, and also specifically determines the Bank’s policy in the lending and investment area, in line with both current business areas and strategic plans. The main targets of the Credit Committee are: * consideration of lending and investment transaction-related issues; * setting of limits and restrictions on credit risks in terms of separate lending products, foreign currencies, organisational departments, specific branches, borrowers and borrower groups; and * monitoring of the Bank’s activities, including asset management and lending. Risk Management Department The RMD seeks to promote the implementation of an efficient financial risk management system in compliance with the Risk Management Concept. The RMD is a separate structural unit of the Bank, assisting the ALMC, the Credit Committee and the Management Board of the Bank in implementing the Bank’s risk management policy. c104221pu060Proof7:3.3.11B/LRevision:0OperatorChoD 102 The RMD’s functions include monitoring and controlling financial risks by: * evaluating and analysing financial risks; * making proposals for the management of financial risks; * calculating limits (limits evaluation) and benchmarks to be approved by the ALMC and Credit Committee in accordance with internal guidelines; * informing the various sectors of the Bank and their respective committees of approved limits and benchmarks; * evaluating and analysing financial risks associated with the introduction of new or modified Bank products; * evaluating and analysing the portfolio risks of the Bank; * continual monitoring of compliance with limits and guidelines; and * preparing monthly liquidity forecasts and suggesting limits of liquidity ratios. The RMD also: * develops the Bank’s methodology for the evaluation and management of financial risks; * supervises activity of ALMC’s regional risk-management officers in implementing the Bank’s financial risk management policy; and * calculates limits on lending and investment operations and submits them to the ALMC, Credit Committee and the Management Board as appropriate for approval. Risk categorisation Credit risk Credit risk is the risk of a financial loss if a customer or counterparty fails to meet its contractual obligations, and arises principally from loans and advances and investment securities. For risk management reporting purposes, the Bank considers and consolidates all elements of credit risk exposure (such as individual customer and counterparty default risk, country and industry risk). Credit risk arises principally in the context of the Bank’s lending and investment activities. The Bank manages its credit risk by establishing internal policies and procedures. The overarching principle of credit risk management involves the Bank determining these parameters of key credit risk exposure, a constant monitoring process of the internal regulations to adhere to these limits and adequate corrective measures if actual levels of credit risk exposure reach undesirable levels. This is achieved by: * setting, monitoring and reviewing credit ratings of customers and counterparties; * setting, monitoring and controlling individual and portfolio lending limits and restrictions; * setting and monitoring internal exposure limits; * establishing risks-based loan pricing; * establishing allowances for impairment of assets. Allowances for impairment of assets are established on the basis of real credit risk evaluations that accord with the stringent requirements of the NBU and the requirements under the IFRS; * establishing collateral requirements in respect of lending transactions; and * supervision and monitoring of the loan portfolio quality. All stages of the credit granting process, starting from initial project analysis to implementation, are regulated by the Bank, using unified credit procedures. The Bank uses advanced credit risk measurement techniques, developed in accordance with the recommendations of specialists from the programme for Technical Aid to the Commonwealth of Independent States. A system of internal credit ratings (ICR), established by the NBU has also been adopted to ensure proper evaluation of individual credit risk. These ICRs are assessed in relation to specified parameters, defined in terms of both the nature of the business and of the specific transaction. The parameters are based on the general characteristics of the business (cash flows, seasonality of the company’s operations, its management, shareholders, etc.) and its commercial activities (its market position, prospects for the industry sector, a valuation of its production capacity, etc.), a review of its quality and credit history and an analysis of its financial performance and prospective trends in expansion of asset transactions. In addition, other factors which are taken into account include the c104221pu060Proof7:3.3.11B/LRevision:0OperatorChoD 103 potential borrower’s fulfilment of its existing credit agreements, its business plan, its ability to provide collateral, and its track record with the Bank. This assessment of counterparty credit risk is specifically assessed by the Bank at the time of the loan application and the loan-making decision, and also occurs on an ongoing basis through client monitoring. Credit Risk Related to Retail and Corporate Lending The Bank manages its credit risk by establishing limits in relation to each borrower and in relation to sectoral or geographical concentration, which are recommended by the relevant Credit Department and Risk Management Department and approved by the relevant Credit Committee or the Management Board. In cases where the amount of a potential loan exceeds the approval authority of the Management Board, the loan must be approved by the Supervisory Board. The Bank also mitigates its credit risk through the use of collateral. Such risks are monitored and reviewed regularly. Loan Approval Dependent on the type and size of loan, the Bank’s products are subject to the credit approval of any of, or a combination of, the branch level local Credit Committees, the oblast level Regional Credit Committee, the head office based Credit Committee or the Management Board. As a result of the global financial crisis, loan approval decisioning became increasingly centralised, with powers of local and regional decisioning now being reviewed on a quarterly basis. Individual credit risk is managed through: loan and customer (or counterparty) classification, using the system of ICR, on the basis of the customer’s (or counterparty’s) creditworthiness and an evaluation of the quality of such customer’s loan and repayment history; evaluation and monitoring of collateral value and liquidity; setting credit risk limits and monitoring compliance with such limits; and creation of adequate allowance for potential impairment of assets. For consumer loans, the process comprises a standardised approval procedure and loans are subject to maximum limits depending on the applicant’s income, stability of future earnings, liquidity and quality of collateral. The Regional Credit Committee (or, if the branch approval limit is exceeded, the Credit Committee) reviews a credit application and decides as to whether to grant the loan. When considering the risks associated with a particular corporate borrower, the Bank takes into account the borrower’s business and factors such as the quality of its management, its main business activities, its geographical location, suppliers, customers, other indebtedness, financial stability, turnover, likely return on the loan, the liquidity of the proposed collateral and whether it is sufficient in view of the credit risk. The Bank also considers risks associated with the industry in which the borrower operates and any current or potential changes in the political and economic situation. Concentration The Bank seeks to mitigate the risk of concentration within its loan portfolio by setting limits on its sectoral and geographic exposures. Concentrations of industry sector and customer sector (i.e. retail/ corporate) are reviewed on a monthly basis. The results of concentration analysis are used by the Management Board for the purposes of adjustment of risk management policies and procedures. This is achieved, for example, by setting limits on the maximum size of credit exposure with a single counterparty (including other banks), including restrictions by sub-limits covering on and off balance sheet exposures, which are set by the Credit Committee and the Management Board. Such limits have been established by the Bank in accordance with its lending policies in order to achieve this diversification. Collateral The Bank considers collateral an essential means of credit risk minimisation. The Bank accepts various types of collateral, including real estate, movables, securities, property rights and guarantees. The Bank also accepts property belonging to third parties (guarantors) and rights to property, securities and secured guarantees issued by other banks as collateral. Collateral eligibility is determined by taking into account its value and liquidity, the form of ownership of the borrower, its credit history, financial performance, rating and the term of the loan being considered. The Bank ensures that collateral is not pledged with other entities. Preferred types of collateral for the Bank are cash, guarantees of banks rated at or above the investment grade, state securities, merchandise in storage, mortgages and fixed assets. Non-government securities and property rights are generally accepted as additional security only. The Bank seeks to obtain a combination of different types of collateral in respect of each loan, taking into account the c104221pu060Proof7:3.3.11B/LRevision:0OperatorChoD 104 market conditions and financial prospects of the borrower, as well as accept collateral which is of a particularly high value for an individual borrower or guarantor. Monitoring The Bank monitors borrowers’ performance of their obligations under their loan agreements, primarily repayment of principal and interest. It also monitors the financial condition of borrowers on the basis of information provided by borrowers on a monthly and quarterly basis to determine whether loans are being used for the purposes prescribed, whether a corporate borrower is meeting targets set in its business plans, collateral values, and certain non-financial information, such as information on actual or pending legal proceedings. Constant monitoring of the Bank’s loan portfolio enables the Bank to react to changes in the quality of particular loans and determine whether changes to the Bank’s terms of lending are necessary. The Credit Committee and the Management Board are notified of the results of this monitoring on a regular basis and of the occurrence of any warning signs. In addition, the Bank has developed an internal reporting system which accumulates information on each loan and borrower enabling the Bank to assess the level of both individual and portfolio risks. Based on its analysis, the Bank either confirms the terms and conditions of outstanding loans or, where necessary, negotiates amendments with the borrower. This type of analysis is undertaken on a quarterly basis for corporate customers and on an annual basis for retail customers. The Bank has also implemented procedures in respect of its borrowers that experience temporary financial difficulties, as well as procedures for the borrowers that are unlikely to recover from financial difficulties. Market Risk The principal categories of market risk to which the Bank is exposed are described below. The corresponding risk management strategies adopted by the Bank are also outlined. Liquidity Risk Liquidity risk arises from mismatches between the maturities of assets and liabilities, which may result in the Bank being unable to meet its obligations in a timely manner. The matching and/or controlled mismatching of the maturities and interest rates of assets and liabilities is fundamental to the management of the Bank. An unmatched position potentially enhances profitability, but can also increase the risk of losses. The maturities of assets and liabilities and the ability to replace, at an acceptable cost, interest-bearing liabilities as they mature are important factors in assessing the liquidity of the Bank and its exposure to changes in interest and exchange rates. The main purpose of liquidity management is to ensure the unconditional ability of the Bank to fulfil its obligations when they fall due by maintaining acceptable (manageable) liquidity gaps. In order to manage liquidity risks, the Bank performs constant monitoring of future expected cash flow from client and banking operations, which is part of its asset/liability management process. The Bank’s policy in relation to liquidity risk during and in the immediate aftermath of the global financial crisis is guided by the belief that that stable liquidity is more important than absolute profitability. This is because appropriate liquidity became particularly important with the onset of the global financial and economic crisis during the second half of 2008. The Bank has developed a comprehensive set of policies and procedures to implement its liquidity risk management strategy. These policies and procedures define the structure of relations between the different committees, divisions and other units within the Bank for the purposes of risk management and liquidity monitoring and allocate responsibility for monitoring and actions in case of non-compliance within the established limits. Management’s approach to managing liquidity is to ensure, as far as possible, that it will always have sufficient liquidity to meet its liabilities when due, under both normal and stressed conditions, without incurring unacceptable losses or risking damage to the Bank’s reputation. The Bank’s strategy for asset and liability management is based on diversification of its assets and liabilities in terms of counterparty, region and sector, the matching of assets and liabilities in terms of maturity, sensitivity to interest rate movements and foreign exchange risk, and the maintenance of capital adequacy levels. Consequently, liquidity risk management provides for: * availability within the Bank of liquid funds sufficient to cover current and planned needs; * establishing an efficient system of identification and assessment of liquidity risk; c104221pu060Proof7:3.3.11B/LRevision:0OperatorChoD 105 * establishing an efficient system of support and decision-making with regard to liquidity risk management; * establishing an efficient system of monitoring of and control of liquidity risk; * establishing an efficient system for identifying and anticipating future risks and having preemptive measures in place to deal with such risks; * determining the Bank’s acceptable levels of liquidity risk by setting up of limits, implementation of procedures, regulations, guidelines and methodologies related to liquidity risk management; * distributing limits among profit centres of the Bank and arranging business process in the manner to provide the most favourable impact on the Bank’s income and capital; * ensuring banking operations are carried out in compliance with the Bank’s established limits (restrictions), procedures, regulations, guidelines and methodologies; * ensuring a comprehensive package of primary responses to stabilise liquidity risk (see ‘‘Contingency Plan’’ below); * providing for efficient interaction between the Bank’s departments on all organisational levels in the liquidity risk management process; * building the Bank’s capacity to cover cash outflow in a crisis scenario (be it systemic or close to systemic) during a period established by the ALMC; and * meeting the requirements of the NBU as to, among others, liquidity standards and standards of mandatory provisioning of attracted funds. The Bank adopts a conservative but positive approach to NBU requirements maintaining liquidity levels beyond NBU requirements. The Bank’s liquidity risk management policy also includes estimations of core current accounts (funds associated with stable customer relationships, with statistical methods applied to historic information on fluctuations of customer accounts balances). From an operational perspective, the Bank’s Management Board is responsible for outlining a liquidity risk management policy. The implementation of this policy is permanently delegated to the ALMC, which is also responsible for analysing funding sources on a monthly basis, taking into account changes in interest rates for the previous month and making decisions on the basis of those figures for asset and liability management. The Bank seeks to maintain appropriate liquidity by stress-testing the fundamentals of its risk management policy on a quarterly basis. Management believes that stress-testing has led to the maintenance of an adequate liquidity cushion. In addition, the Bank monitors early warning signs of systemic risk within the Ukrainian banking system in order to ensure that it might act to pre-empt or mitigate effects of market turbulence. Contingency Plan The Bank also has a set of internal guidelines entitled the ‘‘Contingency Plan’’ for maintaining liquidity in the event of an emergency. The relevant actions to be taken by the Bank in order to prevent or overcome a liquidity crisis are set out in this document. Matters covered include a list of pre-emptive measures to be taken to avoid a liquidity crisis, the methods used for the detection and analysis of a potential crisis, a comprehensive package of primary actions to stabilise liquidity risk, ways of managing the return of the Bank to normal operations and an analysis of the actions undertaken. Market Conditions Risk The Bank is exposed to market conditions risk because values such as interest rates, equity prices, foreign exchange rates and credit spreads (not relating to changes in an obligor’s or issuer’s credit standing) are subject to market volatility. The risk is that such changes will affect income or the value of financial instruments. The objective of market conditions risk management is to manage and control market conditions risk exposures to within acceptable parameters, while optimising the return on risk. Market conditions risk management is carried out by: * determining target threshold levels of key market indicators; * daily monitoring of key market indicators; and c104221pu060Proof7:3.3.11B/LRevision:0OperatorChoD 106 * supervising thresholds and using adequate corrective measures if key market risk indicators approach their threshold levels. Target threshold levels of key market risk indicators are updated regularly and approved by the Management Board. The Bank separates its exposure to market condition risk between trading and non-trading portfolios. The Bank’s trading portfolios are all held within the Treasury function. The Bank operates a conservative trading policy for risk management purposes, and open positions are not permitted. Decisions relating to the types of securities to be purchased by the Bank, trading in securities and setting limits for counterparties are made by the ALMC and Credit Committee. The Bank’s dealers operate within these limits. The back-office and RMD control and monitor the amount of open positions and adherence to established limits. The RMD is responsible for monitoring compliance with market risk limits and restrictions reports on such monitoring to the ALMC, the Credit Committee and the Bank’s management. The Treasury Department performs operations with securities in compliance with internal limits, restrictions and regulations, by-laws and procedures on price risk, decisions of responsible committees and the Management Board of the Bank based on its authorities. Approximately 90 per cent. of the Bank’s investment portfolio is made up of securities issued by State-owned entities. Any exposures to securities other than those of State-owned entities, are closely regulated, especially in respect of securities issued by large banking groups, approval for which needs to be given by the Credit Committee. The Supervisory Board of the Bank takes all decisions relating to direct investments in equities. Such investments are strictly limited and under the Bank’s Charter, only the Supervisory Board may decide to invest in shares of other companies. Under applicable Ukrainian banking law, a bank’s total exposure relating to equity investments may not exceed 60 per cent. of its capital and direct or indirect equity investment in a single company may not exceed 15 per cent. of its capital. Interest Rate Risk The Bank is exposed to interest rate risk principally as a result of mismatches in the maturity of its interest-bearing assets and liabilities. The Bank may incur losses in the event of unfavourable movements in interest rates. Accordingly, interest rate risk management requires the creation and function of a system of internal control of interest rate risks, involving departments of the Bank that deal with banking operations, the RMD, regional risk analysts and internal audit departments. This monitoring and control of interest rate risks includes analysis and supervision of: the processes of identifying, assessing, monitoring and controlling interest rate risks; efficacy of information systems and their maintenance; and compliance with the Bank’s limits (restrictions), methodologies, procedures, regulations and guidelines. From an operational perspective, the Management Board is responsible for outlining an interest rate risk management policy. The implementation of this policy is delegated to the ALMC. This accords with the Bank’s centralised liquidity risk management model, whereby the ALMC carries out management of the Bank’s interest rate risk. The ALMC also delegates authority in relation to the ongoing monitoring of interest rate risks to the RMD, which performs several interest rate risk management functions including monitoring compliance of the Bank’s head office and regional branches, reporting to the ALMC and the Bank’s Management Board on how limits are being adhered to and reporting to the ALMC on interest rate risk management. Additionally, the Credit Committee regulates the Bank’s lending and investment activity by taking into account limits, restrictions and procedures related to interest rate risk management as established by the Management Board and the ALMC. Outcomes of the monitoring of and control over interest rate risks are submitted to the ALMC and the Bank’s Management Board for review. Levels of tolerance to interest rate risks on specific transactions and portfolios of financial instruments are established by the relevant decision making power of either the ALMC and/or the Bank’s Management Board. Levels of tolerance to interest rate risks are then communicated to departments that incur this risk on the Bank’s behalf in the form of limits (restrictions), methodologies, procedures, regulations and guidelines. To manage interest rate risk, the Bank continually assesses market interest rates for different types of interest bearing assets and liabilities. The Bank also measures interest rate risk in each of the main c104221pu060Proof7:3.3.11B/LRevision:0OperatorChoD 107 international currencies separately. The Bank’s interest rate risk management procedures are the same for all currencies. The ALMC monitors the cumulative interest gap to total assets ratio (defined as the interest gap in each category divided by total assets). The level of mismatch of interest rate is monitored by the RMD. In the absence of any hedging instruments available on the Ukrainian market, the Bank seeks to match its interest rate positions. The evaluation and analysis of interest rate risk is performed each month. The results of such evaluation and analysis are discussed at ALMC meetings. The analysis of interest rate gap includes setting periodic forecasts. Assets and liabilities are then broken down by sensitivity to interest rate movements and these are further broken down by reference to their contractual repricing or maturity date. Calculations of gap, cumulative gap and gap ratios are carried out for each period and are compared to approved gap ratios and cumulative gap. Static and dynamic models can also be used for this analysis. Occasionally, supervision of the interest rate risk management process requires essential changes in the risk management instruments applied by the Bank. Interest rate risk management provides for: * maintaining net interest income (interest spread) on the level as established by the Bank’s business plan taking into account an optimal correlation of net interest income and interest risk; * establishing an efficient system of identification (detection) and assessment (measurement) of interest rate risks; * establishing an efficient system of support and decision-making with regard to interest rate risk management; * establishing an efficient system of monitoring of and control over interest rate risks; * determining the Bank’s tolerance levels to interest rate risks by setting up of limits (restrictions), implementation of procedures, regulations, guidelines and methodologies related to interest rate risks; and * providing an efficient interaction of the Bank’s departments at all organisational levels in the interest rate risk management process. For information on the sensitivity of the net interest income for the years ended 31 December 2009 and 31 December 2008 to changes in interest rates see Note 31 to the Audited Financial Statements. Foreign Exchange Risk Foreign exchange risk is the risk of losses resulting from adverse movements in different foreign currency exchange rates which affect the Bank’s income or the value of its portfolios. Foreign exchange risk arises when the actual or forecasted assets in a foreign currency are either greater or less than its liabilities in that currency. The Bank is exposed to the effects of unpredictable fluctuations in the prevailing foreign currency exchange rates on its financial position and cash flows. The Bank evaluates, monitors and sets limits for open positions using the hryvnia as its base currency. The NBU sets regulatory requirements for open currency positions, expressed as a percentage of the Bank’s regulatory capital. The Bank’s approach to foreign exchange risk management is based on principles of consolidated currency risk management and provides for: * meeting requirements of the NBU currency position ratios and other foreign exchange restrictions; * establishing an efficient system of identification (detection) and assessment (measurement) of foreign exchange risks; * establishing an efficient system of support and decision-making with regard to foreign exchange risk management; * establishing an efficient system of monitoring of and control over foreign exchange risks; * determining the Bank’s tolerance levels to foreign exchange risk by setting up of limits (restrictions), implementation of procedures, regulations, guidelines and methodologies related to particular operations and on the portfolio level; * ensuring execution of banking operations in compliance with the established limits (restrictions), procedures, regulations, guidelines and methodologies; and c104221pu060Proof7:3.3.11B/LRevision:0OperatorChoD 108 * providing for efficient interaction of the Bank’s departments on all organisational levels in the foreign exchange risk management process. The Bank has numerous key internal documents which regulate the Bank’s foreign exchange risk management process and determine tolerance levels of the Bank to foreign exchange risk. From this detailed currency sensitivity analysis, the Bank’s management are able to assess the possible impact of changes in foreign currency. The sensitivity analysis includes external loans within the Bank where the denomination of the loan is in a currency other than the currency of the lender of the borrower. From an operational perspective, the Bank’s Management Board is responsible for outlining a foreign exchange risk management policy. The implementation of this policy is delegated to the ALMC, which carries out management of the Bank’s foreign exchange risk. The ALMC delegates authority in relation to the ongoing management of the Bank’s currency position to the Main Operational Department. The Main Operational Department performs this role within ALMC-established limits and restrictions, and undertakes the foreign exchange risk management functions. In addition, the ALMC delegates the functions of ongoing monitoring of the Bank’s currency position to the RMD, which monitors compliance of the Bank’s structural divisions and regional branches with the NBU requirements and the Bank’s internal foreign currency risk limits and restrictions and reports to the ALMC and the Bank’s management on such compliance and foreign exchange risk management. Operational Risk Operational risk is the risk of direct or indirect loss, or damage to the Bank’s reputation, resulting from inadequate or failed internal processes or systems, or from human error or external events that affect its image or operations or that can have an adverse effect on its share price. Operational risk is inherent in all activities within the Bank and the Bank cannot expect to eliminate all operational risks. By developing a set of policies and procedures for controlling operational risks and (including those in connection with the high level of automation in the data transfer), processing and storing systems, by monitoring and responding to potential risks, the Bank is able to better manage such risks. It is the Bank’s policy to reduce the frequency and impact of operational risks in a cost-effective manner. The Bank seeks to achieve this by fostering a strong culture surrounding operational risk, based upon internal controls, quality management, leadership skills and well educated, qualified staff. The main process for identifying and monitoring operational risk is through the self-assessment of risk and control and through the recording of loss events, near misses and operational incidents. Each business unit regularly assesses its own risk and relevant controls and evaluates the possible impacts. If risk exceeds acceptable limits, then the Bank’s internal controls and the quality and efficiency of the internal processes are re-evaluated to lower future risk within acceptable risk limits. The comprehensive framework for managing operational risks also includes internal audit processes, money laundering compliance procedures and IT systems risk management. Lending Policies and Procedures The Bank’s credit approval bodies comprise the Supervisory Board, the Management Board and the Credit Committee. They are responsible for implementing the Bank’s lending strategy and forming a balanced and diversified loan portfolio. The Supervisory Board and the Management Board are authorised to approve loans limited only by the NBU restrictions as to the maximum limit for a single borrower, for a group of related borrowers or the maximum limit for larger borrowers. The Credit Committee is authorised to take decisions on loans up to a maximum limit of EUR 5 million for a single borrower or a group of related borrowers. Loans above this limit have to be approved by the Management Board or, if necessary, the Supervisory Board. The Credit Committee is also authorised to set limits for branches’ loans to corporate and retail customers. Additionally, the Bank’s Credit Committee authorises the Small Credit Committee of the head office, the Credit Committee of Regional Branch of the Bank in Kyiv and Kyiv Oblast, the Crimean Republican Committee and Regional Committees of the Bank (together, the Regional Committees) with the competence to make decisions and perform lending operations within set limits. Any decisions on extension of the loan or on any other changes in conditions of the loan contract shall be communicated to the Credit Committee, and on the basis thereof the lending transaction is performed, with the Bank’s head office exercising the monitoring of the transaction. c104221pu060Proof7:3.3.11B/LRevision:0OperatorChoD 109 The Bank considers collateral an essential means of risk minimisation. See ‘‘Risk categorisation – Credit risk – Collateral’’ above. Preferred types of collateral for the Bank are cash, guarantees of first class banks, state securities, merchandise in storage, mortgages and fixed assets. Non-government securities and property rights are generally accepted as additional security only. The Bank accepts combinations of different types of collateral depending on market conditions and prospects of the borrower. Credit review process: corporate loans The Supervisory Board, Management Board, Credit Committee, Small Credit Committee and Regional Committees, as appropriate, approve loans in accordance with the lending policy. The Bank’s business plan sets limits for bad and overdue loans in the loan portfolio and the ALMC determines the Bank’s loan pricing strategy. The limits applicable to credit decisions that Regional Committees may take without having to refer to the Supervisory Board, Management Board or Credit Committee, as appropriate, are determined according to the following criteria of the relevant Regional Committees: the quality of credit portfolio, the amount of non-performing loans in the credit portfolio, the qualifications of the staff involved in lending activities, the quality of documentation submitted to the Supervisory Board, Management Board or Credit Committee, as appropriate, for consideration, the due diligence procedures of the staff, its adherence to the Bank’s requirements for conducting credit operations and the average amounts of individual loans in the credit portfolio of that Regional Committees. Further, the Bank’s internal regulations and lending policy impose restrictions on loans (non-standard and standard banking products) in relation to maximum lending periods, lending and clearance procedures, interest rates, maximum amount of a loan depending on a provision value and minimal lending amounts. As discussed above, the Regional Committees can take decisions on loan applications up to a set level without reference back to the head office. If the Regional Committees gives a preliminary approval, the credit proposal is sent to the Credit Committee together with the minutes of the relevant Regional Committees meeting. The officers of the Credit Committee check each loan application to ensure that it conforms with internal regulations and the Bank’s credit policy and then approve or deny the disbursement of funds. Certain decisions, including relating to guarantees and securities, are taken only at Credit Committee level or higher. The Bank is continuously working on the improvement of its lending procedures and the improvement of the skills of its staff working in this field, with a special emphasis on perfecting the procedures for reducing credit risks. The loan approval procedure includes (for example, in head office): * Preliminary analysis. * Comprehensive analysis. * Visits to the borrower’s (and guarantor’s) premises. * Drafting the credit proposal. * Submission to the Credit Committee. * Creating and monitoring the Loan approval. * Preparation of legal documents. * Funds transfer. * Loan file. When a region credit proposal exceeds established limits, the regional credit officers evaluate credits and the local Regional Committee gives a preliminary approval or rejection. If approved by the Regional Committee, the proposal is sent to the Bank’s Corporate Business Department, together with supporting documentation. The officers at the Corporate Business Department perform an additional analysis of the proposal, check the terms of the loan and its conditions with the Legal Department, the Security Department, the Collateral Monitoring Division and the RMD (if necessary), and prepare their credit proposals for approval by the Bank’s Credit Committee as appropriate. c104221pu060Proof7:3.3.11B/LRevision:0OperatorChoD 110 Credit review process: retail loans The procedure of credit approval process for commercial and retail loans is substantially the same, except for the fact that the branches in regional offices may have their own limits and they may take decisions on granting loans to individuals on standard conditions. Security Department The Bank has established its own in-house Security Department, which is responsible for verifying the authenticity of the credit history and reputation (management, founders, etc.) of each client, researching information on the financial performance of customers which are not available in their statements, both at the time of credit approval and during the life of the loan. In the event that a loan is not repaid when due, the Security Department investigates other means of repayment of the debt, assists the Legal Department in handling legal enforcement proceedings and the claims process, co-operates with state authorities on enforcement proceedings and assists with recovery of monies and sales of property. Loan Classification and Allowances Under the Bank’s internal scoring system for its loan portfolio, loans are assessed based on a number of factors, the most important of which include: * borrower’s financial performance and creditworthiness (taking into account the performance of the sector of the economy in which the borrower operates); * quality of the borrower’s servicing of the current loan (timely repayment of interest and principal) and its credit history (including its record with other banks); * loan security (collateral) available; * quality of borrower’s management reputation; and * borrowers’ business growth prospects. In order to establish adequate allowances under UAS, loans are classified using a scoring methodology which includes an analysis of a borrower’s specific risks, industry risks and macroeconomic factors. The allowances are established in the relevant percentage (established by the NBU) of the amount of the loan adjusted for the amount of collateral. When determining reserves, the quality of collateral is also taken into account as well as the quantity. Allowance for impairment losses The Bank accounts for impairment of financial assets that are not carried at fair value when there is objective evidence that a financial asset or group of financial assets is impaired. The impairment losses are measured as the difference between carrying value and the present value of expected future cash flows, including amounts recoverable from guarantees and collateral, discounted at the financial asset’s original effective interest rate, for financial assets which are carried at amortised cost. If in a subsequent period the amount of the impairment loss decreases and the decrease can be related objectively to an event occurring after the impairment was recognised, the previously recognized impairment loss is reversed with an adjustment of the provision account. For financial assets carried at cost the impairment losses are measured as the difference between the carrying amount of the financial asset and the present value of estimated future cash flows discounted at the current market rate of return for a similar financial asset. Such impairment losses are not reversed. The change in the impairment is included into profits using the provision account. Assets recorded in the statement of financial position are reduced by the amount of the impairment. Factors that the Bank considers in determining whether it has objective evidence that an impairment loss has been incurred include information about the debtors’ or issuers’ liquidity, solvency and business and financial risk exposures, levels of and trends in delinquencies for similar financial assets, national and local economic trends and conditions, and the fair value of collateral and guarantees. These and other factors may, either individually or taken together, provide sufficient objective evidence that an impairment loss has been incurred in a financial asset or group of financial assets. Impairment losses are recognised in profit or loss when incurred as a result of one or more events (loss events) that occurred after the initial recognition of the financial asset and which have an impact on the amount or timing of the estimated future cash flows of the financial asset or group of financial assets that can be reliably estimated. c104221pu060Proof7:3.3.11B/LRevision:0OperatorChoD 111 If the Bank determines that no objective evidence exists that impairment was incurred for an individually assessed financial asset, whether significant or not, it includes the asset in a group of financial assets with similar credit risk characteristics and collectively assesses them for impairment. The primary factors that the Bank considers whether a financial asset is impaired is its overdue status and realisability of related collateral, if any. The following other principal criteria are also used to determine that there is objective evidence that an impairment loss has occurred: * any installment is overdue and the late payment cannot be attributed to a delay caused by the settlement systems; * the borrower experiences a significant financial difficulty as evidenced by borrower’s financial information that the Bank obtains; * the borrower considers bankruptcy or a financial reorganisation; * there is an adverse change in the payment status of the borrower as a result of changes in the national or local economic conditions that impact the borrower; and * the value of collateral significantly decreases as a result of deteriorating market conditions. For the purposes of a collective evaluation of impairment, financial assets are grouped on the basis of similar credit risk characteristics. These characteristics are relevant to the estimation of future cash flows for groups of such assets by being indicative on the debtors’ ability to pay all amounts due, according to the contractual terms of the assets being evaluated. Future cash flows in a group of financial assets that are collectively evaluated for impairment are estimated on the basis of contractual cash flows of assets, and experience of management in respect of the extent to which amounts will become overdue, as a result of past loss events and the success of recovery of overdue amounts. Past experience is adjusted on the basis of current observable data to reflect the effects of current conditions that do not affect past periods and to remove the effects of past conditions that do not exist currently. It should be understood that evaluation of losses involves an exercise of judgment. While it is possible that in particular periods the Bank may sustain losses which are substantial relative for impairment losses, it is the judgment of management that the impairment losses are adequate to absorb losses incurred on risk assets, at the reporting date. The Bank has also defined appropriate credit risk measures for assessing each loan, which are based on its expert assessment of the expected level of losses that the Bank may incur based on its evaluation of risks and its historical loss experience. Such credit risk factors form the basis of the calculation of the provision for loan impairment. Credit risk assessment focuses on whether the borrower has the ability to repay the debt on the agreed terms. The assessment is not entirely dependent upon the adequacy of the collateral. Collateral is considered to be the Bank’s recourse should the borrower default on the loan. Although collateral adequacy is a key component in determining the necessary loan loss provision, the Bank realises that in the current economic environment, the valuation, existence (control) and ability to realise collateral is subject to significant doubt in many instances. Accordingly, the eligible value of collateral is reviewed and analysed on a case-by-case basis. Problem Loan Recovery The internal procedures relating to problem loan recovery are described in the Bank’s internal provisions regarding problematic loans, which detail a systematic approach involving comprehensive procedures intended to enable the Bank to obtain the highest likelihood of repayment on nonperforming loans. Where problem loan recovery raises issues beyond the scope of internal documents of the Bank, they are dealt with in compliance with current legislation. Nevertheless, all internal documents of the Bank take into account current legislation requirements and relevant best practices, and aim to encompass all types of loan operations performed by the Bank. The Bank has developed and implemented a range of internal documents aimed at formalising the loan issue and bad loan recovery processes. These documents are developed in compliance with NBU requirements and the operational specifics of the Bank, and cover lending to corporate clients, individuals and banking institutions throughout all phases of the lending cycle. The Bank also undertakes specific assessment of loan risk based on group and type of counterparty. The Bank has developed internal documents that regulate the assessment of the financial condition of counterparties: c104221pu060Proof7:3.3.11B/LRevision:0OperatorChoD 112 * Procedure of Loan Operations Classification at OJSC Oschadbank institutions; * Methodology for the Determination of Loan Rating and Class of a Counterparty Insurance Company; and * Methodology for the Determination of Loan Rating and Class of a Counterparty Bank. The Procedure of Loan Operations Classification includes provisions regulating the assessment of the financial condition of corporate clients, individuals, State institutions and the Ukrainian Government bodies. In compliance with the classification procedure, corporate clients are assessed according to eight fields of activity and individuals according to six fields of lending. The Methodology for the Determination of Loan Rating and Class of a Counterparty Insurance Company, includes provisions regulating the assessment of the financial condition of life and non-life insurance company’s. Additionally, repo transactions on the inter-bank market are carried out in compliance with a special regulation. Approaches contained in this regulation are co-ordinated with requirements of other regulatory documents referring to inter-bank transactions. Similarly, transactions with property are carried out in compliance with regulations as to the kinds and types of property that may be accepted as pledge for loans provided by the Bank, and how frequently those property pledges will be monitored. From an operational perspective, when a problem with a loan arises, it is (either at head office or branch level) referred to the relevant structural unit. If payment is not made within 45 days of the due date in respect of a loan to an individual and 30 days in respect of a loan to a corporate client, the loan is passed to the Credit Committee for decisioning as to whether it should be considered a problem loan. If it is not a problem loan, the Bank’s Credit Services Unit continues to work with the borrower to identify the reason for delay and to agree upon actions to be taken. If the loan is classified as a problem loan, it is referred onward to the Legal Department and Department of Problem Assets. These departments work together to agree on the source of settlement of indebtedness and to arrange sale of the collateral if necessary. They also develop annual and quarterly plans for recovery of impaired assets and communicate these to regional branches, which base their own schedules and plans for asset recovery on such. The major steps that are taken by the Bank to enforce loan repayment are defined by Ukrainian legislation and regulated by both the NBU and internal Bank procedures. They include: * irrevocable set-off of indebtedness against funds in the current account of the borrower, if it is authorised by the loan agreement; * concluding agreement of transfer of the loan to another borrower or claiming from a guarantor under a guarantee agreement; * communication with borrower to reschedule the loan or conclude amicable agreement; * enforcement against funds of the borrower or guarantor; * enforcement against pledged assets and sale of collateral; and/or * appeal to the relevant Court to declare a borrower bankrupt. Before such actions are taken for loan repayment, they must first be considered and approved by the Credit Committee of the Bank. c104221pu060Proof7:3.3.11B/LRevision:0OperatorChoD 113 SELECTED STATISTICAL INFORMATION The following information is included for analytical purposes and should be read in connection with the Financial Statements contained elsewhere in this Prospectus, as well as ‘‘Management’s Discussion and Analysis of Financial Condition and Results of Operations’’ and the financial statements appearing in the F pages of this Prospectus. Average Balance Sheets and Interest Rate Data The tables below set forth average period-end balances of interest-earning assets and interest-bearing liabilities of the Bank as at 30 September 2010 and as at 31 December 2008 and 2009 under the IFRS together with the amount of interest earned or paid and the average rate of interest for such asset or liability. Nine months ended 30 September 2010 Average Balance(1) Interest earned / paid Average Annualised Rate % (UAH thousand, except percentages) Assets Cash and balances with the National Bank of Ukraine Due from banks Loan to customers Investments available for sale Other assets 2,709,432 3,291,049 47,438,302 5,877,954 438,861 2,521 86,176 4,921,296 714,148 116 0.1 3.5 13.8 16.2 — Total interest earning assets 59,755,598 5,724,257 12.8 Provisions for losses Total non-interest earning assets(4) (5,152,286) 2,028,248 — — — — Total average assets 56,631,560 5,724,257 13.5 Liabilities Due to banks Customer accounts Debt Securities issued Subordinated debt 15,908,631 23,837,523 455,363 812,097 1,436,941 1,137,920 47,155 56,019 12.0 6.4 13.8 9.2 Total average interest bearing liabilities 41,013,614 2,678,035 8.7 234,190 — — Total liabilities Total equity 41,247,804 15,383,756 2,678,035 — 8.7 — Total average liabilities and equity 56,631,560 2,678,035 6.3 n/a n/a n/a 3,046,222 4.1 6.8 Total non-interest bearing liabilities(5) Net interest spread(2) Net interest income and net interest margin(3) (1) Average balance is calculated by adding the opening and closing balances as at the reporting date and dividing by 2, based on balances in the statement of financial position. (2) Average rate on total interest earning assets minus average cost of total interest bearing liabilities. (3) Net interest margin is net interest income divided by average total interest earning assets. (4) Total non-interest earning assets comprises property, equipment and intangible assets. (5) Total non-interest bearing liabilities comprises deferred income tax liability and other liabilities. c104221pu070Proof7:3.3.11B/LRevision:0OperatorChoD 114 Year ended 31 December 2008 Average Balance(1) 2009 Interest Average Rate % Average Balance(1) Interest Average Rate % Assets Cash and balances with the National Bank of Ukraine Due from banks Loans to customers Investments available for sale Other assets 2,086,749 2,428,497 21,934,518 9,204,341 63,899 — 193,663 2,036,511 294,344 11 — 8.0 9.3 3.2 — 2,423,789 2,632,927 42,398,591 9,910,109 263,903 940 201,773 6,675,055 899,331 — — 7.7 15.7 9.1 — Total interest earning assets Provisions for losses Total non-interest earning assets(4) 35,718,004 (841,905) 1,619,784 2,524,529 — — 7.1 — — 57,629,319 (2,716,136) 1,964,574 7,777,099 — — 13.5 — — Total average assets 36,495,883 2,524,529 6.9 56,877,757 7,777,099 13.7 11,122,371 15,792,864 250,771 656,373 198,404 770,181 32,457 50,089 1.8 4.9 12.9 7.6 19,131,014 21,082,915 473,817 808,927 2,280,264 1,227,340 59,991 73,699 11.9 5.8 12.7 9.1 27,822,379 1,051,131 3.8 41,496,673 3,641,294 8.8 192.474 — — 149,249 — — Total liabilities Total equity 28,014,853 8,481,030 1,051,131 — 3.8 — 41,645,922 15,231,835 3,641,294 — 8.7 — Total average liabilities and equity 36,495,883 1,051,131 2.9 56,877,757 3,641,294 6.4 n/a n/a 3.3 n/a n/a 4.7 n/a 1,473,398 4.1 n/a 4,135,805 7.2 Liabilities Due to banks Customer accounts Debt securities issued Subordinated debt Total average interest bearing liabilities Total non-interest bearing liabilities(5) Net interest spread(2) Net interest income and net interest margin(3) (1) Average balance is calculated by adding the opening and closing balances as at the reporting date and dividing by 2, based on balances in the statement of financial position. (2) Average rate on total interest earning assets minus average cost of total interest bearing liabilities. (3) Net interest margin is net interest income divided by average total interest earning assets. (4) Total non-interest earning assets comprises property, equipment and intangible assets. (5) Total non-interest bearing liabilities comprises deferred income tax liability and other liabilities. c104221pu070Proof7:3.3.11B/LRevision:0OperatorChoD 115 Average Net Interest Margin and Spread The following table shows the Bank’s average interest-earning assets, average interest-bearing liabilities and net interest income and illustrates the comparative net interest margin and net interest spread for each of 2008 and 2009. The averages are based on the opening and closing balances for the respective years. 2008 2009 (UAH thousand, except percentages) 35,718,004 57,629,319 27,822,379 41,496,673 1,473,398 4,135,805 3.8 8.8 4.1 7.2 3.3 4.7 Total average interest-earning assets(1) Total average interest-bearing liabilities(2) Net interest income Average yield on average interest-bearing liabilities Net interest margin(3) Net interest spread(4) (1) Interest earning assets were calculated as a sum of all categories in the statement of financial position, which include interestearning instruments; thus the non-interest earning part may also be included (e.g. within cash and balances with the NBU category). (2) Interest-bearing liabilities were calculated as a sum of all categories in the statement of financial position, which include interest bearing instruments; thus non-interest bearing part may also be included. (3) Net interest margin is defined as net interest income (interest income less interest expenses) divided by average interest earning assets. (4) Net interest spread is defined as interest income before provision for impairment (divided by average interest earning assets) less interest expense (divided by average interest bearing liabilities). Analysis of Changes in Net Interest Income and Interest Expense-Volume and Rate Analysis The following tables analyse changes in the Bank’s net interest income attributable to changes in average volume of interest-earning assets and interest-bearing liabilities and changes in their respective interest rates for the periods presented from continuing operations. The net change attributable to changes in both volume and rate has been allocated proportionately to the change due to average volume and the change due to average rate. The changes are calculated on the basis of the simple average of the opening and closing balances for the respective periods, as provided in balance sheets set forth in the preceding tables. Nine months ended 30 September 2010 (ann.) compared to Year ended 31 December 2009 Total net interest change Volume Rate Volume/ Rate (UAH thousand) Interest income Balances with the National Bank of Ukraine Due from banks Loans and advances Investments available-for-sale Other assets 2,421 (86,872) (113,327) 52,866 155 221 50,435 793,430 (365,914) — 1,781 (109,849) (810,426) 706,054 93 419 (27,458) (96,331) (287,274) 62 Total interest income (144,757) 478,172 (212,347) (410,582) Interest expense Due to banks Current accounts Deposits Debt securities issued Subordinated debt (364,343) (38,259) 328,146 2,882 993 (384,083) 25,629 164,157 (2,337) 289 23,738 (58,962) 139,172 5,430 701 (3,998) (4,926) 24,817 (211) 3 Total interest expense (70,581) (196,345) 110,079 15,685 Net interest income (74,176) 674,517 (322,426) (426,267) c104221pu070Proof7:3.3.11B/LRevision:0OperatorChoD 116 Year ended 31 December 2009/2008 Total net interest change Due to change in volume Due to change in rate Volume/ Rate (UAH thousand) Interest income Balances with the National Bank of Ukraine Due from banks Loans and advances Investments available-for-sale Other assets 940 8,110 4,638,544 604,987 (11) — 16,302 1,899,987 22,570 34 745 (7,556) 1,416,767 540,939 (11) 195 (636) 1,321,790 41,478 (34) Total interest income 5,252,570 1,938,893 1,950,884 1,362,793 Interest expense Due to banks Current accounts Deposits Debt securities issued Subordinated debt 2,081,860 110,548 346,611 27,534 23,610 142,860 10,217 478,605 28,868 11,642 1,127,294 95,365 (71,976) (706) 9,711 811,706 4,966 (60,018) (628) 2,257 Total interest expense 2,590,163 672,192 1,159,688 758,283 Net interest income 2,662,407 1,266,701 791,196 604,510 c104221pu070Proof7:3.3.11B/LRevision:0OperatorChoD 117 Investment Portfolio The following tables set forth the financial assets measured at fair value for each type of the Bank’s investments in bonds and other fixed income securities and shares and other variable yield securities under IFRS. Nine months ended Year ended 30 September 31 December 2010 2009 (UAH thousand) Ukrainian Government debt securities: Medium-term Ukrainian Government debt securities Long-term Ukrainian Government debt securities, including securities with early redemption feature Ukrainian Government debt securities for settlement of budget indebtedness on value added tax 3,033,068 1,750,080 2,798,480 598,280 359 — 5,831,907 2,348,360 736,684 647,526 388,794 25,395 737,604 519,239 448,877 25,395 Less allowance for impairment losses 1,798,399 (125,541) 1,731,115 (74,824) Total debt securities available for sale 7,504,765 4,004,651 Other: Bonds issued Bonds issued Bonds issued Bonds issued by by by by State Mortgage Institution corporate entities banks local Ukrainian authorities Equity securities: Corporate shares Less allowance for impairment losses Total equity securities available for sale Total investments available for sale 23,063 (15,283) 23,063 (15,283) 7,780 7,780 7,512,545 4,012,431 Loan Portfolio The Bank’s loan portfolio comprises fixed rate loans of short-term and long-term duration. The Bank’s total loans, including amounts due from credit institutions and net of allowance for impairment, were UAH 48,672,617 thousand as at 31 December 2009 and UAH 36,076,729 thousand as at 31 December 2008, which accounted for 84.8 per cent. and 64.0 per cent. of total assets, respectively. Loans to customer net of allowance for loan impairment were UAH 45,716,277 thousand and UAH 33,891,518 thousand or 79.7 per cent. and 60.1 per cent. of total assets as at 31 December 2009 and 31 December 2008, respectively. The size of the Bank’s total (gross) loan portfolio, excluding amounts due from credit institutions, grew during the period by 42.5 per cent., from UAH 34,962,777 thousand as at 31 December 2008 to UAH 49,834,404 thousand as at 31 December 2009. The Bank’s allowance for loan impairment for loans to customers totalled UAH 4,118,127 thousand and UAH 1,071,259 thousand as at 31 December 2009 and 31 December 2008, respectively. c104221pu070Proof7:3.3.11B/LRevision:0OperatorChoD 118 The following table shows the maturity profile of the Bank’s loans as at 31 December 2008 and 31 December 2009: 2008 % of total portfolio 2009 % of total portfolio Less than 1 month From 1 to 3 months From 3 to 12 months 1-5 years Over 5 years and undefined (UAH thousand) 731,162 2,564,656 13,747,378 12,000,646 4,847,676 (%) 2.2 7.6 40.6 35.3 14.3 (UAH thousand) 407,681 15,821,794 18,948,834 6,082,080 4,455,888 (%) 0.9 34.6 41.5 13.3 9.7 Total 33,891,518 100.0 45,716,277 100.0 The following tables provide details of loans to customers by type of loan at the dates indicated. The following table shows the composition of the Bank’s loans to customers (net of allowance for impairment) by currency exposure as at 31 December 2008 and 2009. At 31 December 2008 2009 (UAH thousand) Currency Hryvnia Euro U.S. Dollars Other 31,109,571 365,924 2,398,391 17,632 37,773,755 1,223,805 6,718,717 — Total 33,891,518 45,716,277 The following table provides details of concentrations by industry sector of loans to customers made by the Bank, as at 31 December 2008 and 2009. 31 December 2009 % of total 31 December portfolio 2008 % of total portfolio Analysis by sector: Oil, gas and chemical production Individuals Energy Constructions and real estate Construction and road maintenance Trade Agriculture and food processing Machinery construction Transport Mining and metallurgy Manufacturing Services Financial services Media and communications Hotel and restaurant business Press and publishing Other 29,146,558 5,905,879 4,546,440 3,237,962 2,396,753 1,548,330 1,531,503 579,382 336,450 271,935 132,569 86,458 60,191 13,971 10,475 8,277 21,271 58.49 11.85 9.12 6.50 4.81 3.11 3.07 1.16 0.68 0.55 0.27 0.17 0.12 0.03 0.02 0.02 0.04 18,779,508 7,111,852 3,761,595 1,679,918 — 1,153,102 1,159,591 509,746 288,492 184,559 135,360 90,555 — 34,182 38,458 8,535 27,324 53.71 20.34 10.76 4.80 — 3.30 3.32 1.46 0.83 0.53 0.39 0.26 — 0.10 0.11 0.02 0.08 Total Gross Loans 49,834,404 100.0 34,962,777 100.0 c104221pu070Proof7:3.3.11B/LRevision:0OperatorChoD 119 Characteristics of our ten Largest Borrowers At 30 September 2010, the Bank’s ten largest borrowers amounted to UAH 32,704,045 thousand, or 73 per cent. of customer loans, the largest borrower represented 47 per cent. of its customer loan portfolio (in each case excluding loans to banks and off-balance sheet credit commitments). The Bank’s ten largest borrowers include loans across a range of industries, including oil, gas and chemical production, construction and road maintenance and energy. The Bank’s largest exposure to a single sector (oil, gas and chemical production) as at 30 September 2010 was UAH 21,384,536 thousand, or approximately, 65 per cent. of these ten borrowers. At 31 December 2009, the Bank’s ten largest borrowers amounted to UAH 37,225,435 thousand, or 75 per cent. of customer loans and the largest borrower represented 58 per cent. of its customer loan portfolio (in each case excluding loans to banks and off-balance sheet credit commitments). The Bank’s ten largest borrowers include loans across a range of industries, including oil, gas and chemical production, construction and road maintenance and energy. The Bank’s largest exposure to a single sector (oil, gas and chemical production) as at 31 December 2009 was UAH 29,089,711 thousand, or approximately, 78 per cent. of these ten borrowers. Loan Loss Allowances Under IFRS, we recognise losses in respect of impaired loans promptly where there is objective evidence that impairment of a loan or portfolio of loans has occurred. This is done on a consistent basis in accordance with our internal guidelines. There are two basic methods of calculating impairment losses: one for calculation of impairments on individual loans and another for calculation of losses assessed on a collective basis. Losses expected as a result of future events, no matter how likely, are not recognised. The following table sets forth the impairments or loan loss allowances and changes in loans, writeoffs and recoveries at the dates and for the periods indicated as well as change to income and period end allowances for loan losses. 31 December 2008 Provision Due from Banks Loans to customers Investments available for sale 57,652 1,071,259 43,945 2,001,329 5,190 103,407 Total 1,134,101 2,148,681 Write off 30 September of assets 2009 — (8,852) (Recovery of provision)/ Provision 101,597 3,063,736 66,651 4,118,127 108,597 90,107 50,717 3,273,930 4,274,885 1,703,878 — (8,852) 31 December 2009 Write off 30 September of assets 2010 (523) 1,653,684 — (2,288) 66,128 5,769,523 — 140,824 (2,288) 5,976,475 Status of loans and advances for each of the two years ended 31 December 2008 and 2009 are summarised as follows: 31 December 2008 31 December 2009 Loans and advances to Customers Total loans and advances (Banks & Customers) 2,839,182 183,809 5,287,075.0 44,547,329 8,126,257 44,731,138 37,205,640 (1,128,911) 3,022,991 (66,651) 49,834,404 (4,118,127) 52,857,395 (4,184,778) 36,076,729 2,956,340 45,716,277 48,672,617 Loans and advances to Banks Loans and advances to Customers Total loans and advances (Banks & Customers) Neither past due nor impaired Impaired 1,872,336 370,527 — 34,962,777 1,872,336 35,333,304 Gross Less: allowance for impairment 2,242,863 (57,652) 34,962,777 (1,071,259) Net 2,185,211 33,891,518 Loans and advances to Banks (UAH thousand) c104221pu070Proof7:3.3.11B/LRevision:0OperatorChoD 120 Liabilities Due to banks and customer accounts by maturity The following tables show the maturity of the Bank interest bearing balances of due to banks and customer accounts at the dates indicated. At 30 September 2010 Up to 1 month Up to 3 months 3-12 months 1-5 years Over 5 years Total (UAH thousand) Deposits due to banks Due to customers 133,462 13,015,851 60,000 3,565,269 1,030,000 2,544,889 14,411,633 3,278,979 — 88,495 15,635,095 22,493,483 Total deposits 13,149,313 3,625,269 3,574,889 17,690,612 88,495 38,128,578 Over 5 years Total At 31 December 2008 Up to 1 month Up to 3 months 3-12 months 1-5 years (UAH thousand) Deposits due to banks Due to customers 259,838 10,807,614 — 336,710 21,977,740 1,819,312 — 4,068,222 — 62,871 22,237,578 17,094,729 Total deposits 11,067,452 336,710 23,797,052 4,068,222 62,871 39,332,307 Over 5 years Total At 31 December 2009 Up to 1 month Up to 3 months 3-12 months 1-5 years (UAH thousand) Deposits due to banks Due to customers 86,953 11,849,952 6,467,202 7,927,866 8,791,757 1,556,815 672,212 2,708,611 — 60,202 16,018,124 24,103,446 Total deposits 11,936,905 14,395,068 10,348,572 3,380,823 60,202 40,121,570 Characteristics of 10 Largest Customer Accounts At 30 September 2010, the balances of the Bank’s ten largest customers amounted to UAH 1,854,580 thousand, or 8.1 per cent. of customer accounts and the balance of the largest customer represented 2.1 per cent. of its customer accounts. At 31 December 2009, the balances of the Bank’s ten largest customers amounted to UAH 7,500,691 thousand, or 30.4 per cent. of customer accounts and the balance of the largest customer represented 23.2 per cent. of its customer accounts. c104221pu070Proof7:3.3.11B/LRevision:0OperatorChoD 121 Borrowings The following table shows details of the types and maturities of the Bank’s borrowings at 31 December 2008 and 2009 and at 30 September 2010. At 30 September 2010 At 31 December 2009 (UAH thousand) (%) (UAH thousand) (%) Borrowings Debt securities issued Due to banks Customer accounts Subordinated debt Other financial liabilities 464,633 15,794,517 23,002,137 799,616 68,758 1.2 39.3 57.3 2.0 0.1 446,093 16,022,744 24,672,908 824,578 39,385 1.1 38.1 58.7 2.0 0.1 Total borrowings 40,129,661 100.0 42,005,708 100.0 Borrowings mature Up to 1 month 1 month to 3 months Over 3 months and up to a year 13,873,753 3,634,851 3,902,252 34.6 9.1 9.7 12,555,602 14,405,775 10,374,272 29.9 34.3 24.7 Total short-term borrowings Over 1 year and up to 5 years Over 5 years 21,410,856 18,630,221 88,584 53.4 46.4 0.2 37,335,649 3,818,860 851,199 88.9 9.1 2.0 Total borrowings 40,129,661 100.0 42,005,708 100.0 At 31 December 2008 (UAH thousand) (%) Borrowings Debt securities issued Due to banks Customer accounts Subordinated debt Other financial liabilities 501,541 22,239,283 17,492,921 793,276 42,716 1.2 54.2 42.6 1.9 0.1 Total borrowings 41,069,737 100.0 Borrowings mature Up to 1 month 1 month to 3 months Over 3 months and up to a year 11,512,095 344,914 24,125,301 28.1 0.8 58.7 Total short-term borrowings Over 1 year and up to 5 years Over 5 years 35,982,310 4,262,821 824,606 87.6 10.4 2.0 Total borrowings 41,069,737 100.0 c104221pu070Proof7:3.3.11B/LRevision:0OperatorChoD 122 Capital The following table sets forth the Bank’s risk-weighted assets and capital ratios at the dates indicated. The CAD ratio, calculated in accordance with Basel Capital Accord 1988, was 36.88 per cent. at 30 September 2010 and 32.26 per cent. at 31 December 2009. Under applicable law, Bank is required to maintain a total CAD ratio of at least 10 per cent. The ratio is calculated as follows: At 30 September At 31 December 2008 2009 2010 (UAH thousand, except percentages) On-balance sheet Off-balance sheet 37,849,401 468,358 49,833,373 199,565 43,514,489 457,932 Total Risk-weighted assets 38,317,759 50,032,938 43,972,421 13,892,000 13,892,000 13,892,000 212,846 322,315 370,217 14,104,846 14,214,315 14,262,217 Tier I capital Share capital Statutory reserves Retained earnings Total Tier I capital Tier II capital Property revaluation reserve Investments available for sale fair value reserve Subordinated loan 1,147,679 (131,796) 770,000 1,147,251 (18,626) 798,500 1,147,005 15,349 791,350 Total Tier II capital 1,785,883 1,927,125 1,953,704 15,890,729 16,141,440 16,215,921 Total regulatory capital 36.81% 41.47% Tier 1 capital adequacy ratio Regulatory capital adequacy ratio 28.41% 32.26% 32.43% 36.88% The following table shows the Bank’s return on average assets and return on average equity for the periods presented. Year ended 31 December Financial ratios Return on average assets(1) Return on average equity(1) (1) Average on yearly balances. c104221pu070Proof7:3.3.11B/LRevision:0OperatorChoD 123 Nine months ended 30 September 2008 2009 2010 0.1 0.5 0.2 0.7 0.6 2.2 Financial Assets and Liabilities The following tables categorise, by contractual re-pricing or maturity, the Bank’s financial assets and liabilities at 31 December 2008 and 2009. As at 31 December 2009 Up to 1 month 1 month to 3 months 3 months to 1 year 1 year to 5 years Over 5 years Maturity undefined Total (UAH thousand) FINANCIAL ASSETS Due from banks Loans to customers Investments available for sale Total interest bearing assets Cash and balances with the National bank of Ukraine Due from banks Investments available for sale Other financial assets 2,934,717 407,681 170,184 3,512,582 — 15,821,794 28,715 15,850,509 — 18,948,834 817,386 19,766,220 — 6,082,080 2,787,912 8,869,992 — 3,945,059 200,454 4,145,513 — 510,829 — 510,829 2,934,717 45,716,277 4,004,651 52,655,645 2,100,822 535 — 8,829 — 995 — 83 — 20,093 — 1,093 — — — 621 — — — 840 177,530 — 7,780 — 2,278,352 21,623 7,780 11,466 TOTAL FINANCIAL ASSETS 5,622,768 15,851,587 19,787,406 8,870,613 4,146,353 696,139 54,974,866 Due to banks Customer accounts Debt securities issued Subordinated debt Total interest bearing liabilities Due to banks Customer accounts Other financial liabilities 86,953 11,849,952 — 33,610 11,970,515 4,620 569,462 11,005 6,467,202 7,927,866 8,093 — 14,403,161 — — 2,614 8,791,757 1,556,815 — — 10,348,572 — — 25,700 672,212 2,708,611 438,000 — 3,818,823 — — 37 — 60,202 — 790,968 851,170 — — 29 — — — — — — — — 16,018,124 24,103,446 446,093 824,578 41,392,241 4,620 569,462 39,385 TOTAL FINANCIAL LIABILITIES 12,555,602 14,405,775 10,374,272 3,818,860 851,199 — 42,005,708 Liquidity gap Interest sensitivity gap (6,932,834) (8,457,933) 1,445,812 1,447,348 9,413,134 9,417,648 5,051,753 5,051,169 3,295,154 3,294,343 696,139 Cumulative interest sensitivity gap (8,457,933) (7,010,585) 2,407,063 7,458,232 10,752,575 4% 13% 19% FINANCIAL LIABILITIES Cumulative interest sensitivity gap as a percentage of total assets -15% -12% c104221pu070Proof7:3.3.11B/LRevision:0OperatorChoD 124 As at 31 December 2008 Up to 1 month 1 month to 3 months 3 months to 1 year 1 year to 5 years Over 5 years Maturity undefined Total (UAH thousand) FINANCIAL ASSETS Due from banks Loans to customers Investments available for sale Total interest bearing assets Cash and balances with the National Bank of Ukraine Due from banks Investments available for sale Other financial assets 1,970,376 731,162 1,001,785 3,703,323 79,920 2,564,656 179,791 2,824,367 100,000 13,747,378 13,439,615 27,286,993 — 12,000,646 1,067,663 13,068,309 — 4,586,515 — 4,586,515 — 261,161 — 261,161 2,150,296 33,891,518 15,688,854 51,730,668 2,487,747 34,915 — 13,224 — — — 465 — — 23,635 4,725 — — — 886 — — — 142 81,479 — — — 2,569,226 34,915 23,635 19,442 TOTAL FINANCIAL ASSETS 6,239,209 2,824,832 27,315,353 13,069,195 4,586,657 342,640 54,377,886 FINANCIAL LIABILITIES Due to banks Customer accounts Debt securities issued Subordinated debt Total interest bearing liabilities Due to banks Customer accounts Other financial liabilities 259,838 10,807,614 — 31,570 11,099,022 1,705 398,192 13,176 — 336,710 6,946 — 343,656 — — 1,258 21,977,740 1,819,312 300,000 — 24,097,052 — — 28,249 — 4,068,222 194,595 — 4,262,817 — — 4 — 62,871 — 761,706 824,577 — — 29 — — — — — — — — 22,237,578 17,094,729 501,541 793,276 40,627,124 1,705 398,192 42,716 TOTAL FINANCIAL LIABILITIES 11,512,095 344,914 24,125,301 4,262,821 824,606 — 41,069,737 Liquidity gap Interest sensitivity gap (5,272,886) (7,395,699) 2,479,918 2,480,711 3,190,052 3,189,941 8,806,374 8,805,492 3,762,051 3,761,938 342,640 Cumulative interest sensitivity gap (7,395,699) (4,914,988) (1,725,047) 7,080,445 10,842,383 13% 19% Cumulative interest sensitivity gap as a percentage of total assets -13% -9% -3% c104221pu070Proof7:3.3.11B/LRevision:0OperatorChoD 125 RELATED PARTY AND GOVERNMENT RELATED TRANSACTIONS Related Party Transactions The Bank applies similar procedures for the approval of loans and the setting of limits on loans to related parties as it does for non-related parties. All transactions with related parties (both individuals and corporations) are conducted on terms which fully comply with the internal regulations of the bank, including in respect of collateral. During the course of 2009 and 2010, the Bank provided various consumer loans to individuals, including employees, on standard terms. All loans provided to employees are subject to the same procedures and collateral requirements as those applicable to loans granted to non-related individuals. For the purposes of the Bank’s Financial Statements, parties are considered to be related if one party has the ability to control the other party or exercise 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 relationship, attention is directed to the substance of the relationship, not merely the legal form. All State-owned entities are considered as related parties of the Bank. The Bank has many Stateowned (where the State owns at least 50 per cent. + 1 share) entities among its customers and provides banking services and loan financing for such clients on the same commercial terms and conditions applicable to its private company clients. As at 30 September 2010, the Bank had 93 clients who were related parties of the Bank in accordance with IAS 24. Gross loans to these entities comprised UAH 31,182,120 thousand, or 69.2 per cent. of the Bank’s gross loan portfolio, compared to UAH 35,997,467 thousand, or 72.2 per cent., as at 31 December 2009 and UAH 22,674,510 thousand, or 64.9 per cent., at 31 December 2008. Naftogaz accounts for the majority of the Bank’s exposure to State-owned entities. As at 30 September 2010 the total amount of outstanding indebtedness under the loans agreement with Naftogaz and its subsidiary Ukrtransnafta was UAH 21,384,536 thousand, comprising 47 per cent. of the Bank’s gross loan portfolio, compared to UAH 29,089,711 thousand (58.0 per cent.) as at 31 December 2009 and UAH 18,766,610 thousand (54.0 per cent.) as at 31 December 2008. The Bank’s second largest exposure to a State-owned entity represents 7.4 per cent. of the Bank’s gross loan portfolio, and the Bank’s third largest exposure represents 4.7 per cent. of the Bank’s gross loan portfolio. Each of the loans to the 90 remaining related parties which are State-owned entities comprises 2.2 per cent. or less, of the Bank’s gross loan portfolio. For a more detailed description of the loans to the State-owned entity, Naftogaz, see ‘‘Business – Naftogaz financing programme’’. Additionally, the Bank had, as at 30 September 2010, three clients (legal entities) who were related parties but who were not State-owned entities. Total balance sheet indebtedness to these three clients as at 30 September 2010 was UAH 18,199 thousand, representing 0.04 per cent. of the Bank’s gross loan portfolio. The Bank has not entered into any other transactions with affiliates, non-consolidated subsidiaries, officers or directors of the Bank. Government Related Transactions Balance due to the NBU In 2008 the Bank received hryvnia-denominated loans from the NBU in aggregate amount of UAH 21,977,740 thousand. The loans were provided as part of a recapitalisation programme for the Bank and enabled the Bank’s funding of loans to Naftogaz. As at 30 September 2010, UAH 15,531,633 thousand remained outstanding under the NBU loans. As at 30 September 2010, the loans from the NBU were secured with a combination of pledged rights under the Naftogaz loans with carrying value of UAH 18,544,161 thousand, loans to other borrowers with carrying value of UAH 3,191,342 thousand, balances with the NBU with carrying value of UAH 425,000 thousand and debt securities available for sale with carrying value of UAH 240,915 thousand. c104221pu080Proof7:3.3.11B/LRevision:0OperatorChoD 126 THE ISSUER SSB No.1 PLC was incorporated in England and Wales on 8 December 2010 (registered number 07464396), as a public company with limited liability under the Companies Act 2006. The registered office of the Issuer is at 7th Floor, Phoenix House, 18 King William Street, London EC4N 7HE. The telephone number for the Issuer is +44 (0) 207 800 4100. The Issuer has no subsidiaries. The Issuer has been established as a special purpose vehicle or entity for the purpose of issuing the Notes. Since the date of its incorporation, the Issuer has not commenced operations and no financial statements have been made up as at the date of this Prospectus. Principal Activities The principal objects of the Issuer are set out in its Memorandum of Association and are, among other things, to acquire, hold and manage financial assets, to lend or advance money and to give credit to any persons (whether individuals or legal entities) for any purpose whatsoever within the United Kingdom or elsewhere, and whether secured (on any such property or otherwise) or unsecured, to carry on business as a financial institution, money lenders, bankers, capitalists, financiers and investors and to undertake all kinds of loans, debt instrument issuance, financial commitments and other operations and to provide any type of financial services including without limitation lending and participation in securities issues and the provision of services related to such issues. The Issuer will covenant to observe certain restrictions on its activities, which are detailed in Condition 3 (Issuer’s Covenant) of the ‘‘Terms and Conditions of the Notes’’ and Clause 15 of the Trust Deed. The issued share capital in the Issuer is legally and beneficially owned and controlled directly by Capita Trust Nominees No. 1 Limited, a limited liability company incorporated in England and Wales with registered number 05322518. Directors and Secretary The directors of the Issuer and their respective business addresses and other principal activities are: Name Business Address Principal Activity Capita Trust Corporate Services Limited 7th Floor, Phoenix House, 18 King William Street, London EC4N 7HE Corporate Director Capita Trust Corporate Limited 7th Floor, Phoenix House, 18 King William Street, London EC4N 7HE Corporate Director Susan Lawrence 7th Floor, Phoenix House, 18 King William Street, London EC4N 7HE Director The company secretary of the Issuer is Capita Trust Secretaries Limited, a company incorporated in England and Wales (registered number 05322656), whose business address is 7th Floor, Phoenix House, 18 King William Street, London EC4N 7HE. Capitalisation and Indebtedness The capitalisation and indebtedness of the Issuer as at the date of this Prospectus is as follows: 50,000 £1 shares issued to Capita Trust Nominees No. 1 Limited. Litigation There is no governmental, legal or arbitration proceedings (including any such proceedings which are pending or threatened of which the Issuer is aware) which may have, or has had since the date of its incorporation, significant effects on the Issuer’s financial position. c104221pu080Proof7:3.3.11B/LRevision:0OperatorChoD 127 Auditors Deloitte LLP are the Issuer’s independent auditors. The address of Deloitte LLP is Hill House, 1 Little New Street, London EC4A 3TR. Deloitte LLP are Chartered Accountants and Registered Auditors in England and Wales. c104221pu080Proof7:3.3.11B/LRevision:0OperatorChoD 128 THE LOAN AGREEMENT THIS AGREEMENT is made on 4 March 2011 BETWEEN: (1) JOINT STOCK COMPANY ‘‘STATE SAVINGS BANK OF UKRAINE’’, a bank in the form of a joint stock company incorporated under the laws of Ukraine whose registered office is at 12-G Hospitalna Street, Kyiv, 01001, Ukraine, identification code 00032129, as borrower (the Borrower) represented by Denys Kiryeyev, acting on the basis of the Resolution of the Management Board of the Borrower dated 2 February 2011 No. 31; and (2) SSB No.1 PLC, as lender (the Lender), a public limited company incorporated under the laws of England and Wales, whose registered office is at 7th Floor, Phoenix House, 18 King Williams Street, London EC4N 7HE, United Kingdom. WHEREAS: (A) The Lender has at the request of the Borrower agreed to make available to the Borrower a credit facility in the amount of U.S.$500,000,000 on the terms and subject to the conditions of this Agreement. (B) This Agreement will become effective on the date of registration of this Agreement with the National Bank of Ukraine (the NBU). It is agreed as follows: 1. DEFINITIONS AND INTERPRETATION 1.1 Definitions In this Agreement the following terms have the meanings given to them in this Clause 1.1: ABN AMRO Loan means U.S.$100 million loan agreement for the borrowing of funds on subordinated terms as a subordinated loan between the Borrower and ABN AMRO Bank N.V., London Branch, dated 29 December 2006, as supplemented, amended and restated from time to time; Account means the account with the account number 2367008400 and the account name ‘SSB No 1 $ SECURED CASH’ in the name of the Lender with the Principal Paying Agent; Additional Amounts has the meaning set forth in Clause 8.1 (Additional Amounts); Affiliate of any specified Person means (a) any other Person, directly or indirectly, controlling or controlled by or under direct or indirect common control with such specified Person, (b) any other Person who is a director or officer of such specified Person, of any Subsidiary of such specified Person or of any Person described in (a) above; Agency means any agency, authority, central bank, department, committee, government, legislature, minister, ministry, official or public or statutory person (whether autonomous or not) of, or of the government of, any state or supra-national body; Auditors means PJSC ‘‘Deloitte & Touche USC’’ or any internationally recognised firm of accountants approved by the Lender, such approval not to be unreasonably withheld; it being understood that it shall be reasonable for the Lender to withhold such approval if the Trustee does not approve of such firm in accordance with the relevant provisions of the Funding Documents; Authorised Signatory means, in the case of the Borrower, any of the persons referred to in the certificate listed as item 3 in Schedule 1 (Conditions Precedent Documents) hereto and, in the case of the Lender, a Person who is a duly authorised officer of the Lender at the relevant time; Banking Business means, in relation to the Borrower or any of its Subsidiaries, any type of banking business (including, without limitation, any inter-bank operations with maturities of 18 months or less, factoring, consumer credit and lending, commercial and residential property finance and mortgage lending, issuance of bank guarantees, letters of credit (and related cash cover provision), bills of exchange and promissory notes and making payments under such guarantees, letters of credit, bills and promissory notes, trading of securities, fund management c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 129 and professional securities market participation) which it conducts or may conduct pursuant to its licence issued by the appropriate authorities, accepted market practice and any applicable law; Borrowing Date means 10 March 2011 or such later date as may be agreed by the parties to this Agreement; Capital Stock means, with respect to any Person, any and all shares, interests, participations, rights to purchase, warrants, options or any other equivalent of any of the foregoing (however designated) in relation to the share capital of a company and any and all equivalent ownership interests in a Person other than a company, in each case whether now outstanding or hereafter issued; Change of Control shall be deemed to have occurred if: (a) Ukraine, whether through the Cabinet of Ministers of Ukraine or any other Agency of Ukraine, ceases to own, legally and beneficially, at least 51 per cent. of the Capital Stock of, or otherwise to control, the Borrower; or (b) an official public announcement is made by the Cabinet of Ministers of Ukraine or the State Property Fund of Ukraine of an intention that Ukraine would cease so to own or control the Borrower and (i) within the Relevant Period (see the definition of ‘‘Rating Decline’’ below) following such announcement there is a Rating Decline and (ii) in the announcement of the Rating Decline the relevant Rating Agency specifies that the proposed change in ownership or control of the Borrower is a factor in its decision to decrease or downgrade the Borrower’s rating; Change of Control Payment Date means the date specified as such in the notice from the Lender to the Borrower pursuant to Clause 7.3 (Repayment in the event of a Change of Control); Change of Law means, following the Borrowing Date, any of the enactment or introduction of any new law; the variation, amendment or repeal of an existing or new law; any ruling on or interpretation or application by a competent authority of any existing or new law; and the decision or ruling on, the interpretation or application of, or a change in the interpretation or application of, any law by any court of law, tribunal, central bank, monetary authority or agency or any Taxing Authority or fiscal or other competent authority or agency; which, in each case, occurs after the date hereof. For this purpose the term ‘‘law’’ means all or any of the following whether in existence at the date hereof or introduced hereafter and with which it is obligatory or customary for banks, other financial institutions or, as the case may be, companies in the relevant jurisdiction to comply: (a) any statute, treaty, order, decree, instruction, letter, directive, instrument, regulation, ordinance or similar legislative or executive action by any national or international or local government or authority or by any ministry or department thereof and other agencies of state power and administration (including, but not limited to, taxation departments and authorities); and (b) any letter, regulation, decree, instruction, request, notice, guideline, directive, statement of policy or practice statement given by, or required of, any central bank or other monetary authority, or by or of any Taxing Authority or fiscal or other authority or agency (whether or not having the force of law); Double Tax Treaty means the Convention of 10 February 1993 between the Government of the United Kingdom of Great Britain and Northern Ireland and the Government of Ukraine for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income and Capital Gains; Event of Default means any circumstances described as such in Clause 14 (Events of Default); Fees Letter means any letter agreement between, inter alios, the Borrower and the Lender setting out certain amounts payable by the Borrower in connection with this Agreement; Funding Documents means the Fees Letter, the subscription agreement dated 4 March 2011, the trust deed to be dated on or about 10 March 2011 and the agency agreement to be dated on or about 10 March 2011 entered into in connection with the issue of the Funding Instruments and the Funding Instruments themselves; c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 130 Funding Instruments means the U.S.$500,000,000 8.25 per cent. Loan Participation Notes due 2016 proposed to be issued by the Lender pursuant to the Funding Documents on or about 10 March 2011 for the purpose of funding the Loan; Group means the Borrower and its Subsidiaries from time to time taken as a whole; Guarantee means, in relation to any Indebtedness of any Person, any obligation of another Person to pay such Indebtedness including (without limitation): (a) any obligation to purchase such Indebtedness; (b) any obligation to lend money, to purchase or subscribe shares or other securities or to purchase assets or services in order to provide funds for the payment of such Indebtedness; (c) any indemnity against the consequences of a default in the payment of such Indebtedness; and (d) any other agreement to be responsible for such Indebtedness; IFRS means International Financial Reporting Standards, including International Accounting Standards and Interpretations, issued by the International Accounting Standards Board, as amended, supplemented or re-issued from time to time; IFRS Fiscal Period means any fiscal period for which the Borrower has produced financial statements in accordance with IFRS which have either been audited or reviewed by the Auditors; incur means issue, assume, guarantee, incur or otherwise become liable for; provided that, any Indebtedness or Capital Stock of a Person existing at the time such Person becomes a Subsidiary of another Person (whether by merger, consolidation, acquisition or otherwise) or is merged into a Subsidiary of another Person will be deemed to be incurred or issued by the other Person or such Subsidiary (as the case may be) at the time such Person becomes a Subsidiary of such other Person or is so merged into such Subsidiary; Indebtedness means any indebtedness for, or in respect of, moneys borrowed or raised including, without limitation, any amount raised by acceptance under any acceptance credit facility; any amount raised pursuant to any note purchase facility or the issue of bonds, notes, debentures, loan stock or any similar instrument; any amount raised pursuant to any issue of Capital Stock which is expressed to be redeemable; any amount raised under any other transaction having the economic effect of a borrowing (including any forward sale or purchase agreement) provided that, for the avoidance of doubt, such term shall not include any indebtedness owed to the State budget, any local budget or any non-budgetary fund of or in Ukraine for or on account of Taxes which are not overdue; Indemnity Amounts has the meaning set out in Clause 8.3 (Indemnity Amounts); Independent Appraiser means an investment banking firm or third party appraiser of international standing selected by the Borrower; provided that such firm or third party appraiser is not an Affiliate of the Borrower; Interest Payment Date means 10 September and 10 March in each year in which the Loan remains outstanding or if any such day is not a Business Day, the next succeeding Business Day, commencing on 10 September 2011, with the last Interest Payment Date falling on the Repayment Date; Interest Period means any of those periods mentioned in Clause 4 (Interest Periods); Lead Managers means Credit Suisse Securities (Europe) Limited and Morgan Stanley & Co. International plc; Loan shall have the meaning given to such term in Clause 2.1 (Grant of the Credit Facility); Material Adverse Effect means a material adverse change in, or material adverse effect on, the business, operations or financial condition of the Borrower or of the Group taken as a whole; Material Subsidiary means, at any given time, any Subsidiary of the Borrower (a) whose total assets or gross revenues (or, where the Subsidiary in question prepares consolidated accounts, whose total consolidated assets or gross consolidated revenues, as the case may be) represent at least 10 per cent. of the total assets or, as the case may be, total revenues of the Borrower and its Subsidiaries and for these purposes (i) the total assets and gross revenues of such Subsidiary 131 shall be determined by reference to its then most recent audited financial statements (or, if none, its then most recent management accounts) and (ii) the total assets and gross revenues of the Borrower shall be determined by reference to the Borrower’s then most recent audited financial statements (or, if none, its then most recent management accounts), in each case prepared in accordance with IFRS, or (b) to which is transferred the whole or substantially the whole of the undertaking and assets of a Subsidiary of the Borrower which immediately before the transfer is a Material Subsidiary of the Borrower. A certificate by any two members of the board of the Borrower that, in their opinion, a Subsidiary of the Borrower is or is not a Material Subsidiary, accompanied by a report by the Auditors addressed to the board of the Borrower as to proper extraction of the figures used by the members of the board of the Borrower in determining the Material Subsidiaries of the Borrower and mathematical accuracy of the calculations shall, in the absence of manifest error, be conclusive and binding on all parties; Officers’ Certificate means a certificate signed on behalf of the Borrower by two members of the board of the Borrower at least one of whom shall be the principal executive officer, principal accounting officer or principal financial officer of the Borrower and in the form set out in Schedule 2 (Form of Officers’ Certificate) hereto; Permitted Security Interests means: (a) Security Interests arising in the ordinary course of Banking Business including, without limitation: (i) Security Interests arising pursuant to any agreement (or other applicable terms and conditions) which are standard or customary in the relevant market in connection with (x) contracts entered into substantially simultaneously for sales and purchases at market prices of precious metals and/or securities and (y) the establishment of margin deposits and similar securities in connection with interest rate and foreign currency hedging operations and trading in securities; and (ii) Security Interests upon, or with respect to, any present or future assets or revenues or any part thereof which is created pursuant to any Repo; (b) Security Interests granted by third parties in favour of the Borrower or any of its Subsidiaries; (c) Security Interests on property acquired (or deemed to be acquired) under a financial lease, or claims arising from the use or loss of or damage to such property; provided that any such Security Interest secures only Indebtedness under such lease; (d) Security Interests securing Indebtedness of a Person existing at the time that such Person is merged into or consolidated with the Borrower or becomes a Subsidiary of the Borrower; provided that such Security Interests were not created in contemplation of such merger or consolidation or event and do not extend to any assets or property of the Borrower already existing or any Subsidiary of the Borrower other than those of the surviving Person and its Subsidiaries or the Person acquired and its Subsidiaries; (e) Security Interests already existing on assets or property acquired or to be acquired by the Borrower or a Subsidiary of the Borrower; provided that such Security Interests were not created in contemplation of such acquisition and do not extend to any other assets or property (other than proceeds of such acquired assets or property); (f) Security Interests granted upon or with regard to any property hereafter acquired by any member of the Group to secure the purchase price of such property or to secure Indebtedness incurred solely for the purpose of financing the acquisition of such property and transactional expenses related to such acquisition (other than a Security Interest created in contemplation of such acquisition); provided that the maximum amount of Indebtedness thereafter secured by such Security Interest does not exceed the purchase price of such property (including transactional expenses) or the Indebtedness incurred solely for the purpose of financing the acquisition of such property; (g) any Security Interest upon, or with respect to, any present or future assets or revenues or any part thereof which is created pursuant to any securitisation, asset-backed financing or similar financing structure whereby all payment obligations secured by such Security Interest or having the benefit of such Security Interest are to be discharged primarily from such assets or revenues; provided that the Indebtedness or Guarantee so secured pursuant c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 132 to this paragraph (g) at any one time shall not exceed an amount in any currency or currencies equivalent to 20 per cent. of the Borrower’s loans to customers before allowances for impairment (calculated by reference to the Borrower’s balance sheet as at the end of its most recent IFRS Fiscal Period) and subject as provided in Clause 13.6 (Disposals); (h) any Security Interests arising by operation of law; (i) any Security Interests not otherwise permitted by (h), provided that the aggregate principal amount Security Interests does not at any time exceed determined by reference to the Borrower’s balance IFRS Fiscal Period; and (j) any Security Interest arising out of the refinancing, extension, renewal or refunding of any Indebtedness secured by a Security Interest permitted by any of the above exceptions, provided that the Indebtedness thereafter secured by such Security Interest does not exceed the amount of the original Indebtedness and such Security Interest is not extended to cover any property not previously subject to such Security Interest; the preceding paragraphs (a) through of the Indebtedness secured by such 10 per cent. of the Group’s assets, sheet as at the end of its most recent Person means any individual, company, corporation, firm, partnership, joint venture, association, trust, institution, organisation, state or Agency or any other entity, whether or not having separate legal personality; Potential Event of Default means any event which may become (with the passage of time, the giving of notice and/or the making of a determination and/or the fulfilment of any other requirement) under this Agreement, an Event of Default; Principal Paying Agent means the party designated from time to time as principal paying agent under the Funding Documents; Prospectus means the prospectus, dated on or about the date of this Agreement, relating to the issuance of the Funding Instruments by the Lender; Qualifying Jurisdiction means any jurisdiction which has a double taxation treaty with Ukraine under which the payment of interest by Ukrainian borrowers to lenders established in such jurisdiction is generally able to be made (upon completion of any necessary formalities required in relation thereto) without deduction or withholding of Ukrainian income tax; Rate of Interest means 8.25 per cent. per annum; Rating Agency means Standard & Poor’s Rating Services, a division of The McGraw-Hill Companies, Inc. (S&P), Moody’s Investors Service Limited (Moody’s), Fitch Ratings Limited (Fitch) or any of their affiliates, successors or any rating agency substituted for any of them (or any permitted substitute of them) by the Borrower, from time to time with the prior written approval of the Lender and the Trustee; Rating Categories means (i) with respect to S&P, any of the following categories (any of which may or may not include a ‘‘+’’ or ‘‘-’’): AAA, AA, A, BBB, BB, B, CCC, CC, C and D (or equivalent successor categories); (ii) with respect to Moody’s, any of the following categories (any of which may or may not include a ‘‘1’’, ‘‘2’’ or ‘‘3’’): Aaa, Aa, A, Baa, Ba, B, Caa, Ca, C and D (or equivalent successor categories); and (iii) the equivalent of any such categories of S&P or Moody’s used by another rating agency (including, without limitation, Fitch), if applicable, and each such category is referred to herein as a ‘‘full’’ Rating Category; Rating Decline means that at any time within 90 days (which period shall be extended so long as the long term foreign currency debt or deposit rating of the Borrower is under publicly announced consideration for possible downgrade by any Rating Agency and is referred to herein as the Relevant Period) after an announcement by the Cabinet of Ministers or the State Property Fund of Ukraine as is referred to in the definition of Change of Control the long term foreign currency debt or deposit rating of the Borrower is decreased or downgraded by a Rating Agency by one or more full Rating Categories below such rating of the Borrower as of the date hereof (or if a Rating Agency has not assigned any such rating as of the date hereof, below the first such rating assigned to the Borrower by that Rating Agency after the date hereof); Relevant Event has the meaning given thereto in the Funding Documents; c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 133 Repayment Date means (i) 10 March 2016 or (ii) in case of Clauses 7.1 (Repayment for Tax Reasons and Change in Circumstances), 7.2 (Repayment for Illegality), 7.3 (Repayment in the event of a Change of Control) and 14.10 (Acceleration), the date specified in such Clauses, or, if such day is not a Business Day in each case above, the next succeeding Business Day; Repo means a securities repurchase or resale agreement or reverse repurchase or resale agreement, a securities borrowing agreement or any agreement relating to securities which is similar in effect to any of the foregoing and, for purposes of this definition, the term ‘‘securities’’ means any Capital Stock, debenture or other debt or equity instrument, or any derivative thereof, whether issued by any private or public company, any Agency or any supranational, international or multilateral organisation; Reserved Rights has the meaning given thereto in the Funding Documents; Same-Day Funds means U.S. dollar funds settled through the New York Clearing House Interbank Payments System or such other funds for payment in U.S. dollars as the Lender may at any time reasonably determine to be customary for the settlement of international transactions in New York City of the type contemplated hereby; Security Interest means any mortgage, pledge, encumbrance, lien, charge or other security interest (including, without limitation, anything analogous to any of the foregoing under the laws of any jurisdiction); Subsidiary of a Person means another Person, being a corporation or other business or entity: (a) which is controlled, directly or indirectly, by that first-named Person; or (b) more than half the issued share capital of which is beneficially owned, directly or indirectly, by that first-named Person; Taxes means any taxes, levies, duties, imposts or other charges or withholding of a similar nature no matter where arising (including interest and penalties thereon and additions thereto); Taxing Authority has the meaning set out in Clause 8.1 (Additional Amounts); Trustee means the party designated from time to time as trustee under the Funding Documents; Ukraine means Ukraine and any province or political sub-division thereof or therein; Ukrainian GAAP means generally accepted accounting principles, standards and practices in Ukraine; and United Kingdom means the United Kingdom of Great Britain and Northern Ireland and any political sub-division or agency thereof or therein. 1.2 Interpretation Any reference in this Agreement to: the Borrower or the Lender includes its and any subsequent successors, assignees and chargees in accordance with their respective interests including, without limitation, in case of the latter, any entity substituted in place of the Lender as issuer of the Funding Instruments pursuant to the Funding Documents; a Business Day means any day (other than a Saturday, Sunday or public holiday) on which commercial banks and foreign exchange markets settle payments (including dealings in foreign currencies) in the principal financial centre for such currency and Kyiv; control when used with respect to any Person means the power to direct the management and policies of such Person or to control the composition of such Person’s board or board of directors, directly or indirectly, whether through the ownership of voting securities, by contract or otherwise and the terms ‘‘controlling’’ and ‘‘controlled’’ have meanings correlative to the foregoing; the equivalent on any given date in one currency (the first currency) of an amount denominated in another currency (the second currency) is a reference to the amount of the first currency which could be purchased with the amount of the second currency at the spot rate of exchange quoted on the relevant Reuters page or, where the first currency is hryvnia and the second currency is U.S. dollars (or vice versa), at the official exchange rate of the NBU, at or about 10.00 a.m. (New York City time) or, as the case may be, between 1.00 p.m. and 4.00 p.m. (Kyiv time) on such date for the purchase of the first currency with the second currency; 134 a month means a period starting on one day in a calendar month and ending on the numerically corresponding day in the next succeeding calendar month; provided that, where any such period would otherwise end on a day which is not a business day, it shall end on the next succeeding Business Day, unless that day falls in the next calendar month, in which case it shall end on the immediately preceding Business Day and if a period starts on the last Business Day in a calendar month or if there is no numerically corresponding day in the month in which that period ends, that period shall end on the last Business Day in that later month (and references to months shall be construed accordingly); the rights of the Lender in this Agreement shall be read as references to rights of the Trustee pursuant to the charge and assignment referred to in Clause 19.3 (Assignments by the Lender) except as in relation to the Reserved Rights as specified in the Funding Documents; and VAT means value added tax, including any similar tax which may be imposed in place thereof from time to time. 1.3 Currency References U.S.$ and U.S. dollars denote the lawful currency of the United States of America and hryvnia denotes the lawful currency of Ukraine. 1.4 Statutes Any reference in this Agreement to a statute shall be construed as a reference to such statute as the same may have been, or may from time to time be, amended or re-enacted. 1.5 Headings Clause and Schedule headings are for ease of reference only. 1.6 Amended Documents Save where the contrary is indicated, any reference in this Agreement to any Funding Document or any other agreement or document shall be construed as a reference to such Funding Document or, as the case may be, such other agreement or document as the same may have been, or may from time to time be, amended, varied, novated or supplemented. 2. THE LOAN 2.1 Grant of the Credit Facility The Lender grants to the Borrower, upon the terms and subject to the conditions hereof, a single disbursement term credit facility in the amount of U.S.$500,000,000 (the Loan) and the Borrower hereby agrees to borrow such amount from the Lender on the Borrowing Date, subject as provided herein. 2.2 Purpose and Application The Loan is intended to be used by the Borrower primarily to provide loans to its customers and for general corporate purposes and, without affecting the obligations of the Borrower in any way, the Lender shall not be obliged to concern itself with such application. 3. AVAILABILITY OF THE LOAN 3.1 Draw-down Subject to the terms and conditions set out herein, the Loan will be available by way of a single draw-down which will be made by the Lender to the Borrower on the Borrowing Date by payment of the proceeds of the Loan to the Borrower’s U.S. dollar account with JP Morgan Chase Bank, New York, swift code CHASUS33, for the account of Joint Stock Company ‘‘State Savings Bank of Ukraine’’ account number 001-1-194057 with swift code COSBUAUK, provided that the Loan will only be advanced if: (a) the Lender has confirmed to the Borrower that it has received all of the documents listed in Schedule 1 (Conditions Precedent Documents) hereto and that each is in form and substance satisfactory to the Lender, save as the Lender may otherwise agree; c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 135 3.2 (b) the Lender has received (i) the full amount of the proceeds in accordance with the Funding Instruments and (ii) in full the amount referred to in Clause 3.2 (Fees) below; and (c) as of the Borrowing Date (i) no event has occurred or circumstance has arisen which would constitute an Event of Default or a Potential Event of Default, (ii) the representations and warranties set out in Clause 11 (Representations and Warranties of the Borrower) are true and accurate with respect to the facts and circumstances then subsisting and (iii) the fees owed by the Borrower to the Lender pursuant to Clause 3.2 (Fees) below shall have been paid. Fees The Borrower hereby agrees that it shall pay to the Lender, in Same-Day Funds, all required to be paid by the Borrower to the Lender pursuant to and in accordance Fees Letter between the Borrower and the Lender dated 4 March 2011 by 4:30 p.m. time) on the Business Day preceding the Borrowing Date or as otherwise provided in Letter. amounts with the (London the Fees 4. INTEREST PERIODS The Borrower will pay interest semi-annually in U.S. dollars to the Lender on the outstanding principal amount of the Loan from time to time at the Rate of Interest, calculated in accordance with the provisions of this Agreement (including, without limitation, Clause 5.2 (Calculation of Interest)). Interest shall accrue on the outstanding principal amount of the Loan from and including the Borrowing Date. Each period beginning on (and including) the Borrowing Date or any Interest Payment Date and ending on (but excluding) the next Interest Payment Date or the Repayment Date is herein called an Interest Period. Subject as provided in Clause 5.2 (Calculation of Interest), interest on the Loan will cease to accrue on the Repayment Date unless payment of principal is improperly withheld or refused, in which event interest will continue to accrue (before and after any judgment) on the outstanding principal amount of the Loan at the Rate of Interest to but excluding the date on which payment in full of the outstanding principal amount of the Loan is made. 5. PAYMENT AND CALCULATION OF INTEREST 5.1 Payments of Interest The Borrower shall pay to the Account in same day funds accrued interest on the outstanding principal amount of the Loan semi-annually in arrear in respect of each Interest Period calculated in accordance with Clause 5.2 (Calculation of Interest) not later than 11.00 a.m. (New York City time) on the Business Day falling two Business Days prior to the Interest Payment Date on which such Interest Period ends. 5.2 Calculation of Interest The Borrower shall compute the amount of interest accrued on the outstanding principal amount of the Loan on a monthly basis, subject to Clause 20.1 (Evidence of Debt). The amount of interest payable in respect of the Loan for any Interest Period shall be calculated by applying the Rate of Interest to the Loan, dividing the product by two and rounding the resulting figure to the nearest cent (half a cent being rounded upwards). The amount of interest payable in respect of the Loan for any period other than an Interest Period shall be calculated on the basis of a year of 360 days consisting of 12 months of 30 days each and, in the case of an incomplete month, the actual number of days elapsed. 5.3 Assumption when Calculating Interest Whenever under this Agreement interest is to be calculated to the last day of an Interest Period and the calculation is required to be made before such last day, the parties shall assume that the amount of the Loan outstanding on the last day of the relevant Interest Period is the same as the amount of the Loan outstanding on the day of the calculation. 6. REPAYMENT Except as otherwise provided herein, the Borrower shall, not later than 11.00 a.m. (New York City time) two Business Days prior to the Repayment Date falling on 10 March 2016, repay in full in same day funds the outstanding principal amount of the Loan together with, to the c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 136 extent not already paid in accordance with Clause 5.1 (Payment of Interest), all interest payable in respect of the last Interest Period (calculated to the Repayment Date) and all other amounts payable hereunder (calculated as aforesaid). 7. REPAYMENT UPON THE OCCURRENCE OF CERTAIN EVENTS 7.1 Repayment for Tax Reasons and Change in Circumstances If, (a) as a result of the application of, or any amendment to, or a change in or official interpretation of (i) the Double Tax Treaty (or in the double taxation treaty between Ukraine and any Qualifying Jurisdiction in which the Lender or any successor thereto is resident for tax purposes) or (ii) the laws or regulations of the United Kingdom or Ukraine (or any Qualifying Jurisdiction where the Lender is resident for tax purposes) or of any political sub-division thereof or any authority therein having power to tax or any Agency therein, the Borrower would thereby be required to pay Additional Amounts in respect of Taxes as provided in Clause 8.1 (Additional Amounts) or Indemnity Amounts as provided in Clause 8.3 (Indemnity Amounts); or (b) the Lender ceases to be resident for tax purposes in a Qualifying Jurisdiction, or has a permanent establishment in Ukraine for the purposes of the Double Tax Treaty, and as a result the Borrower would be required to withhold or deduct an amount on account of tax from any payment to be made under this Agreement; or (c) (for whatever reason) the Borrower would have to or has been required to pay additional amounts pursuant to Clause 10 (Changes in Circumstances), and, in any such case, such obligation cannot be avoided by the Borrower taking reasonable measures available to it, then the Borrower may (unless such repayment would be prohibited by Ukrainian legislation effective as at the proposed date of such repayment), upon not less than 30 days’ written notice to the Lender and to the Trustee specifying the date of payment and including an Officers’ Certificate to the effect that the Borrower would be required in the case of (a), (b) and (c) above to pay such Additional Amounts, Indemnity Amounts or additional amounts (including additional amounts payable pursuant to Clause 10 (Changes in Circumstances)), and in the case of (b) above to withhold or deduct such amounts and such obligation cannot be avoided by the Borrower taking reasonable measures, supported (where the certification relates to tax matters) by an opinion of an independent tax adviser of recognised standing in the relevant tax jurisdiction, repay the Loan in whole (but not in part) together with any Additional Amounts then payable under Clause 8.1 (Additional Amounts), Indemnity Amounts payable under Clause 8.3 (Indemnity Amounts), additional amounts and accrued interest. Any such notice of repayment given by the Borrower shall be irrevocable and shall oblige the Borrower to make such repayment on such date. No such notice shall be given earlier than 90 calendar days prior to the earliest date on which the Borrower would be obliged to pay such Additional Amounts, Indemnity Amounts or additional amounts, or deduct or withhold such amounts, as the case may be. 7.2 Repayment for Illegality If, at any time, it is or would be unlawful or contrary to any applicable law or regulation or regulatory requirement or directive of any agency of any state or otherwise for the Lender to make, fund or allow all or part of the Funding Instruments or the Loan to remain outstanding or for the Lender to maintain or give effect to any of its obligations or rights in connection with this Agreement and/or to charge or receive or to be paid interest at the rate applicable in relation to the Loan (an Illegality), then the Lender shall deliver to the Borrower a written notice (with a copy to the Trustee) (setting out in reasonable detail the nature and extent of the relevant circumstances) to that effect and: (a) if the Loan has not been made, the Lender shall not thereafter be obliged to make the Loan; and (b) if the Loan is then outstanding and the Lender so requires, the Borrower shall, on the latest date permitted by the relevant law or on such earlier day as the Borrower elects (as notified to the Lender not less than 30 days prior to the date of repayment), repay the c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 137 whole (but not part only) of the outstanding principal amount of the Loan together with accrued interest (up to but excluding the date of such payment) thereon and all other amounts owing to the Lender hereunder. 7.3 Repayment in the event of a Change of Control The Borrower shall notify the Lender and the Trustee promptly upon the occurrence of a Change of Control. In the event of a Change of Control, the Lender (or the Trustee, as the case may be) may require the Borrower to repay the Loan together with all accrued and unpaid interest and any other amounts outstanding hereunder on the Change of Control Payment Date, to the extent and in the amount that the Lender is required to pay the holders of the Funding Instruments as a result thereof as set forth in a written notice from the Lender to the Borrower (with a copy to the Trustee), including computation of such amount and specifying the Change of Control Payment Date, given at least five Business Days prior to the Change of Control Payment Date. Taking into account the terms of the Funding Instruments, the Lender shall, where reasonably practicable, specify a Change of Control Payment Date which falls before the date on which the actual Change of Control (as provided in paragraph (a) of the definition of that term) takes place. 7.4 Costs of Repayment The Borrower shall, not later than 11.00 a.m. (New York City time) two Business Days prior to the date of a repayment made in accordance with this Clause 7 (Repayment upon the Occurrence of Certain Events), pay all accrued interest (calculated to (but excluding) the date of repayment) and all other amounts owing or payable to the Lender hereunder. The Borrower shall indemnify the Lender on written demand against any administrative costs and legal expenses reasonably incurred and (if and to the extent required by applicable law) properly documented by the Lender on account of any repayment made in accordance with this Clause 7 (Repayment upon the Occurrence of Certain Events). 7.5 No Other Repayments and No Reborrowing The Borrower shall not repay the whole or any part of the outstanding principal amount of the Loan except at the times and in the manner expressly provided for in this Agreement. No amount prepaid under this Agreement may be reborrowed. 7.6 Purchase of Funding Instruments and Reduction of Loan Upon Cancellation of Funding Instruments The Borrower or any member of the Group may from time to time deliver or cause to be delivered to the Lender Funding Instruments, together with a request for the Lender to present such Funding Instruments to the Principal Paying Agent for cancellation, and may from time to time procure the delivery to the Principal Paying Agent of a Global Note Certificate (as such term is defined in the Funding Documents) with instructions to cancel a specified aggregate principal amount of Funding Instruments represented thereby, whereupon the Lender, as issuer of the Funding Instruments, shall request the cancellation of such Funding Instruments (or specified aggregate principal amount of Funding Instruments represented by such Global Note Certificate) as provided in the Funding Documents. Upon any such cancellation a principal amount of the Loan equal to the principal amount of such Funding Instruments shall be deemed to have been repaid as of the date of such cancellation and no further payment shall be made or required to be made by the Borrower in respect of such amounts. The Borrower shall, upon the request of the Lender or the Trustee from time to time, advise the person making the request of the aggregate principal amount of Funding Instruments then held by or on behalf of the Borrower. 8. TAXES 8.1 (a) Additional Amounts All payments to be made by the Borrower under this Agreement shall be made in full without set-off or counterclaim, free and clear of and without deduction for or on account of any present or future Taxes imposed by any taxing authority of or in, or having authority to tax in, Ukraine, the United Kingdom or any Qualifying Jurisdiction in which the Lender or any successor thereto is resident for tax purposes (each a Taxing Authority), unless the Borrower is required by applicable law to make such payment subject to the deduction or withholding of c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 138 such Taxes. In the event that the Borrower is required to make any such payment subject to deduction or withholding of any such Tax the Borrower shall, on the due date for such payment, pay such additional amounts (Additional Amounts) as may be necessary to ensure that the Lender or the Trustee, as the case may be, receives a net amount in U.S. dollars which, following any such deduction or withholding on account of Taxes, shall be not less than the full amount which it would have received had the payment been made without such deduction or withholding and shall deliver to the Lender (or the Trustee, as the case may be) without undue delay, evidence satisfactory to the Lender (or the Trustee, as the case may be) of such deduction or withholding and of the accounting therefor to the relevant authority. Notwithstanding the foregoing, the Borrower shall not be obliged to pay any Additional Amounts if and to the extent that the relevant withholding or deduction is required following and on account of the occurrence of a Relevant Event. (b) The Borrower shall not be required to pay to the Lender any Additional Amount under paragraph (a) which is greater than the amount which would have been payable by it to the Lender if the Lender was a tax resident of the United Kingdom or a Qualifying Jurisdiction at the time of such payment but on that date the Lender is not or ceased to be a tax resident of the United Kingdom or a Qualifying Jurisdiction other than as a result of any change after the date it became a Lender under this Agreement in (or in the interpretation, administration or application of) any law or Double Tax Treaty or any published practice or concession of any relevant taxing authority or to the extent that the Borrower is able to demonstrate that the requirement to make the tax deduction would not have arisen had the Lender complied with its obligations under Clause 8.2 (Double Tax Treaty Relief) below. (c) At least 30 calendar days prior to each date on which any payment under or with respect to the Loan is due and payable, if the Borrower will be obliged to pay Additional Amounts with respect to such payment (upon and subject to written notice by the Lender or by the Trustee), the Borrower will deliver to the Lender (and to the Trustee) an Officers’ Certificate stating the fact that such Additional Amounts will be payable and the amounts so payable. Whenever this Agreement mentions, in any context, the payment of amounts based upon the principal or premium, if any, interest or of any other amount payable under or with respect to the Loan, this includes, without duplication, payment of any Additional Amounts and Indemnity Amounts that may be applicable. The foregoing provisions shall apply, modified as necessary, to any Taxes imposed or levied by any Taxing Authority in any jurisdiction in which any successor obligor to the Borrower is organised. 8.2 (a) Double Tax Treaty Relief The Lender will use its reasonable endeavours to furnish the Borrower, as soon as practicable after the start of each calendar year or, in any event, not later than 14 days prior to the first Interest Payment Date in each calendar year (or as frequently as required under Ukrainian law and requested by the Borrower to enable the Borrower to claim relief as provided below) with a duly signed and completed tax certificate issued by the competent taxing authority in the United Kingdom in respect of that year confirming that the Lender is a tax resident in the United Kingdom within the meaning of the Double Tax Treaty (each, a Tax Certificate). The Borrower shall claim relief from deducting withholding tax or a reduction in the withholding tax rate to the maximum extent possible in accordance with the Double Tax Treaty in respect of payments to be made by the Borrower under this Agreement. (b) Each of the Lender and the Borrower shall make reasonable and timely efforts to co-operate and assist each other in obtaining relief from withholding of Ukrainian income tax pursuant to the Double Tax Treaty which shall, for the avoidance of doubt, include (but not be limited to) the Lender making reasonable and timely efforts to: (i) furnish the Borrower with such information or forms (including a power of attorney in form and substance acceptable to the Borrower authorising it to file each Tax Certificate on behalf of the Lender with the relevant taxing authority) as required under Ukrainian law to enable the Borrower to apply to obtain relief from deduction or withholding of Ukrainian tax or, as the case may be, to apply to obtain a tax refund if a relief from deduction or withholding of Ukrainian tax has not been obtained on the basis of the relevant provisions of the Double Tax Treaty, and 139 (ii) obtain any available tax refund if a relief from deduction or withholding of Ukrainian tax has not been obtained on the basis of the relevant provisions of the Double Tax Treaty; and (iii) procure that each Tax Certificate is stamped or otherwise approved by the competent Tax Authority, and apostilled or otherwise legalised. (c) If a relief from deduction or withholding of Ukrainian tax or a tax refund under this Clause 8.2 has not been obtained and further to an application of the Borrower to the relevant Ukrainian tax authorities the latter request the Lender’s hryvnia bank account details for the purposes of payment of such tax refund directly to the Lender, the Lender shall at the request of the Borrower (i) use reasonable efforts to procure that such hryvnia bank account of the Lender is duly opened and maintained, and (ii) thereafter furnish the Borrower with the details of such hryvnia bank account. This paragraph (c) is without prejudice to the Borrower’s obligations to pay Additional Amounts pursuant to Clause 8.1 (Additional Amounts). (d) Nothing contained in this Clause 8.2 shall interfere with the right of the Lender to arrange its affairs generally in whatever manner it thinks fit nor oblige the Lender to disclose confidential information or any information relating to its affairs generally. The Borrower and the Lender will inform each other, in a reasonable and timely manner, on the status of the procedures and the steps necessary to be taken in pursuance of this Clause 8.2. The Lender makes no representation as to the application or interpretation of the Double Tax Treaty. (e) If the Lender becomes resident for tax purposes in another Qualifying Jurisdiction, references in paragraphs (a) and (b) to taxing authority of the United Kingdom, Tax Certificate and Double Tax Treaty shall be read, respectively, as including references to the taxing authority of the Qualifying Jurisdiction, a Qualifying Jurisdiction Tax Certificate and the double tax treaty between Ukraine and the Qualifying Jurisdiction. 8.3 Indemnity Amounts Without prejudice to or duplication of the provisions of Clause 8.1 (Additional Amounts), if the Lender notifies the Borrower that: (a) it is obliged to make any deduction or withholding for or on account of any Taxes from any payment which the Lender (as issuer of the Funding Instruments) is obliged to make under or in respect of the Funding Instruments or any Funding Documents and the Lender (as issuer of the Funding Instruments) is required under the terms and conditions of the Funding Instruments or such Funding Documents to pay additional amounts to the holders of the Funding Instruments in connection therewith, the Borrower shall pay to the Lender within 30 days of such notice (and otherwise in accordance with the terms of this Agreement) such additional amounts as are equal to the additional payments which the Lender (as issuer of the Funding Instruments) would be required to make under the terms and conditions of the Funding Instruments or such Funding Documents, assuming in each case that an equivalent amount had been received from the Borrower, in order that the net amount received by each holder of Funding Instruments or other party to the relevant Funding Documents is equal to the amount which such holder or party would have received had no such withholding or deduction been required to be made; and/or (b) it is obliged to pay any Taxes imposed by a Taxing Authority (other than Taxes assessed on the Lender by reference to its overall net income) in relation to any payments received by it under this Agreement, the Funding Instruments or any Funding Documents, the Borrower shall, as soon as reasonably practicable following, and in any event within 60 calendar days of, a written demand made by the Lender, indemnify the Lender in relation to such payment or liability provided that (if and to the extent required by applicable law) such payment or liability is properly documented. Any payments required to be made by the Borrower under this Clause 8.3 are collectively referred to as Indemnity Amounts. For the avoidance of doubt, the provisions of this Clause 8.3 shall not apply to any withholding or deductions of Taxes with respect to the Loan which are subject to payment of Additional Amounts under Clause 8.1 (Additional Amounts). c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 140 8.4 Tax Claims If the Lender intends to make a claim pursuant to Clause 8.3 (Indemnity Amounts), it shall notify the Borrower thereof as soon as reasonably practicable after the Lender becomes aware of any obligation to make the relevant withholding, deduction or payment; provided that nothing herein shall require the Lender to disclose any confidential information relating to the organisation of its affairs. 8.5 (a) Tax Credits and Tax Refunds If a payment is made under Clause 8.1 (Additional Amounts) or 8.3 (Indemnity Amounts) by the Borrower for the benefit of the Lender and the Lender determines in its absolute discretion (acting in good faith) that it has received or been granted a credit against, a relief or remission for or a repayment of, any Taxes, then, if and to the extent that the Lender, in its absolute discretion (acting in good faith), determines that such credit, relief, remission or repayment is in respect of or calculated by reference to the corresponding deduction, withholding, liability, expense, loss or payment giving rise to such payment by the Borrower, the Lender shall, to the extent that it can do so without prejudice to the retention of the amount of such credit, relief, remission or repayment, pay to the Borrower such amount as the Lender shall, in its absolute discretion (acting in good faith), have concluded to be attributable to such deduction, withholding, liability, expense, loss or payment; provided that the Lender shall not be obliged to make any payment under this Clause 8.5 in respect of any such credit, relief, remission or repayment until the Lender is, in its absolute discretion (acting in good faith), satisfied that its Tax affairs for its Tax year in respect of which such credit, relief, remission or repayment was obtained have been finally settled and further provided that the Lender shall not be obliged to make any such payment if and to the extent that the Lender determines in its absolute discretion (acting in good faith) that to do so would leave it (after the payment) in a worse after-Tax position than it would have been in had the payment not been required under Clause 8.1 (Additional Amounts) or 8.3 (Indemnity Amounts). Without prejudice to the Lender’s obligations under Clause 8.2 (Double Tax Treaty Relief), nothing contained in this Clause 8.5 shall interfere with the right of the Lender to arrange its Tax affairs in whatever manner it thinks fit nor oblige the Lender to disclose confidential information or any information relating to its Tax affairs generally or any computations in respect thereof. (b) If as a result of a failure to obtain relief from deduction or withholding of any Tax imposed by any Taxing Authority, in particular in accordance with the Double Tax Treaty, such Tax is deducted or withheld by the Borrower pursuant to Clause 8.1 (Additional Amounts) and an Additional Amount is paid by the Borrower to the Lender in respect of such deduction or withholding, the Borrower may apply, under the supervision and on behalf of the Lender, to the relevant Taxing Authority for a Tax refund. If and to the extent that any Tax refund is credited by such Taxing Authority to a bank account of the Lender, the Lender shall as soon as reasonably possible notify the Borrower of the receipt of such Tax refund and promptly transfer the entire amount of the Tax refund to an account specified by the Borrower if and to the extent that the Lender determines in its absolute discretion (acting in good faith) that to do so will leave it (after the payment and after deduction of costs and expenses incurred in relation to such Tax refund for which the Borrower is liable) in no worse an after-Tax position than it would have been in had there been no failure to obtain relief from such withholding or deduction. 8.6 Tax Position of the Lender The Lender represents that it (i) is a resident in the United Kingdom for United Kingdom tax purposes as a result of being a United Kingdom incorporated company and is subject to taxation in the United Kingdom and has applied for a Tax Certificate for 2011, (ii) does not have a permanent establishment in Ukraine, and (iii) does not have any current intentions to effect, during the term of the Loan, any corporate action or reorganisation or change of taxing jurisdiction that would result in the Lender ceasing to be a resident in the United Kingdom. c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 141 9. 9.1 TAX RECEIPTS Notification of Requirement to Deduct Tax If, at any time, the Borrower is required by law to make any deduction or withholding from any sum payable by it hereunder (or if thereafter there is any change in the rates at which or the manner in which such deductions or withholdings are calculated), the Borrower shall promptly notify the Lender. 9.2 (a) Evidence of Payment of Tax The Borrower shall provide the Lender with Tax receipts evidencing the payment of any Taxes deducted or withheld by it from each Tax Authority imposing such Taxes or, if such receipts are not obtainable, other evidence of such payments by the Borrower reasonably acceptable to the Lender. The Borrower will also provide English translations of such receipts. (b) The Lender will use its reasonable endeavours to provide the Borrower with Tax receipts evidencing the payment of any Taxes deducted or withheld by it from each Tax Authority imposing such Taxes or, if such receipts are not obtainable, other evidence of such payments by the Lender reasonably acceptable to the Borrower. 10. 10.1 CHANGES IN CIRCUMSTANCES Increased Costs If, by reason of any Change of Law, other than a Change of Law which relates to the basis of computation of, or rate of, Tax on, the net income of the Lender: (a) the Lender incurs an additional cost as a result of the Lender entering into or performing its obligations (including its obligation to make the Loan) under this Agreement (excluding Taxes payable by the Lender on its overall net income); or (b) the Lender becomes liable to make any additional payment on account of Taxes or otherwise (not being Taxes imposed on its net income or the amounts due pursuant to the Fees Letter) on or calculated by reference to the amount of the Loan and/or to any sum received or receivable by it hereunder except where compensated under Clause 8.1 (Additional Amounts) or under Clause 8.3 (Indemnity Amounts), then the Borrower shall, from time to time within 30 days of written demand of the Lender, pay to the Lender amounts sufficient to hold harmless and indemnify it from and against, as the case may be, such cost or liability, provided that (if and to the extent required by applicable law) the cost or liability is properly documented and that the Lender will not be entitled to indemnification where such additional cost or liability arises as a result of the gross negligence, fraud or wilful default of the Lender and provided, further, that the amount of such increased cost or liability shall be deemed not to exceed an amount equal to the proportion of any cost or liability which is directly attributable to this Agreement. 10.2 Increased Costs Claims If the Lender intends to make a claim pursuant to Clause 10.1 (Increased Costs), it shall promptly notify the Borrower thereof and provide a description in writing in reasonable detail of the relevant reason (as described in Clause 10.1 (Increased Costs) above) including a description of the relevant affected jurisdiction or country and the date on which the change in circumstances took effect. This written description shall demonstrate the connection between the change in circumstance and the increased costs and shall be accompanied by relevant supporting documents evidencing the matters described therein, provided that nothing herein shall require the Lender to disclose any confidential information relating to the organisation of its or any other Person’s affairs. 10.3 Mitigation If circumstances arise which would result in any payment being required to be made by the Borrower pursuant to Clauses 8.1 (Additional Amounts) or 8.3 (Indemnity Amounts) or this Clause 10, then, without in any way limiting, reducing or otherwise qualifying the rights of the Lender or the Borrower’s obligations under any of the above mentioned provisions, the Lender shall as soon as reasonably practicable upon becoming aware of the same notify the Borrower thereof and, in consultation with the Borrower and to the extent it can lawfully do so and without material prejudice to its own position, take reasonable steps to avoid or mitigate the c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 142 effects of such circumstances including (without limitation) by the change of its lending office . Provided that the Lender shall be under no obligation to take any such action if, in its reasonable opinion, to do so might have any adverse effect upon its business, operations or financial condition or might be in breach of any provisions of, or any arrangements which it may have made in connection with the Funding Documents. 11. REPRESENTATIONS AND WARRANTIES OF THE BORROWER The Borrower makes the representations and warranties set out in Clause 11.1 (Status; Material Subsidiaries) to Clause 11.14 (Compliance with Laws) (inclusive) on the date hereof and acknowledges that the Lender has entered into this Agreement in reliance on those representations and warranties. 11.1 Status; Material Subsidiaries It is duly established and validly existing under Ukrainian law as a bank in the form of a joint stock company, has full power and authority to own, lease and operate its assets and properties and conduct its business as it is currently conducted and is able lawfully to execute and perform its obligations and the transactions contemplated under this Agreement. At the date of this Agreement the Borrower has no Material Subsidiaries. 11.2 Governmental Approvals Save as provided in Clause 13.1 (Maintenance of Legal Validity), all actions or things required to be taken, fulfilled or done by the applicable laws and regulations of Ukraine (including, without limitation the obtaining of any authorisation, order, licence or qualification of or with any court or governmental agency) and all registrations, filings or notarisations required by the laws and regulations of Ukraine in order to ensure (i) that the Borrower and each of its Subsidiaries is able to own its assets and carry on its business as currently conducted and, if not, the absence of which could not reasonably be expected to have a Material Adverse Effect and (ii) the due execution, delivery, validity and performance by the Borrower of this Agreement has been obtained, fulfilled or done and is in full force and effect (provided that the registration of this Agreement with the NBU will be obtained upon execution of this Agreement but not later than the Borrowing Date). 11.3 Pari Passu Obligations Under the laws of Ukraine in force at the date of this Agreement, the claims of the Lender against the Borrower under this Agreement will rank at least pari passu in right of payment with the claims of all its other unsecured and unsubordinated creditors, save those whose claims are mandatorily preferred by any bankruptcy, insolvency, liquidation, moratorium or similar laws of general application. 11.4 No Deduction Without prejudice to the provisions of Clause 8.1 (Additional Amounts), under the laws of Ukraine in force at the date of this Agreement, in accordance with the terms of the Double Tax Treaty and subject to the due satisfaction by the payee of certain conditions set forth therein and of certain requirements of applicable Ukrainian legislation, in particular as provided in Clause 8.2 (Double Tax Treaty Relief), payments of interest by the Borrower to the payee under this Agreement may be made without deduction on account of the generally applicable withholding tax (at a rate of 15 per cent.) established by applicable Ukrainian legislation. 11.5 Governing Law Under the laws of Ukraine in force at the date of this Agreement, in any proceedings taken in Ukraine in relation to this Agreement, the choice of English law as the governing law of this Agreement and any arbitral award with respect to this Agreement obtained in the United Kingdom will be recognised and enforced in Ukraine after compliance with the applicable procedural rules in Ukraine. c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 143 11.6 Admissibility in Evidence All acts, conditions and things required to be done, fulfilled and performed (other than by the Lender) to make this Agreement admissible in evidence in Ukraine (whether in arbitration proceedings or otherwise) have been done, fulfilled and performed. 11.7 Valid and Binding Obligations Upon registration of this Agreement with the NBU, the obligations expressed to be assumed by the Borrower in this Agreement will be legal, valid and binding, subject to applicable bankruptcy, insolvency, fraudulent conveyance, reorganisation, moratorium and similar laws relating to or affecting creditors’ rights generally and to general principles of equity, enforceable against it. 11.8 No Stamp Taxes Under the laws of Ukraine in force at the date of this Agreement, the execution and delivery of any Funding Document is not subject to any registration tax, stamp duty or similar levy imposed by any Taxing Authority of or in, or having authority to tax in, Ukraine. 11.9 No Default No event has occurred or circumstance has arisen which would constitute an Event of Default or a Potential Event of Default. 11.10 No Material Proceedings There are no legal or administrative or arbitration proceedings current or pending or, to the best of the knowledge and belief of the Borrower, threatened before any court, tribunal, arbitration panel or Agency which might have a Material Adverse Effect. 11.11 No Material Adverse Change Save as disclosed in the Prospectus, since 30 September 2010 there has been no material adverse change, or any development involving a prospective material adverse change of which the Borrower is or might reasonably be expected to be aware, in the business, financial condition or results of operations of the Group. 11.12 Financial Statements The Borrower’s audited financial statements for the two financial years ended 31 December 2009 and 2008, together with the related notes appearing in the Prospectus, were prepared in accordance with International Financial Reporting Standards (IFRS) and its audited condensed interim financial information for the nine months ended 30 September 2010 and 30 September 2009 was prepared in accordance with International Accounting Standard 34 ‘‘Interim Financial Reporting’’, consistently applied and present (in conjunction with the notes thereto) fairly in all material respects (in accordance with IFRS in the case of audited financial statements) the financial condition of the Group as at the dates as of which they were prepared and the results of the operations of the Group during the periods then ended. 11.13 Execution of Agreements Its execution and delivery of this Agreement and its exercise of its rights and performance of its obligations hereunder do not and will not: (a) conflict with or result in a breach of any of the terms of, or constitute a default under, any material instrument, agreement or order to which the Borrower or any of its Material Subsidiaries is a party or by which it or its properties is bound; (b) conflict with the provisions of the constitutional documents of the Borrower or any resolution of its shareholders; or (c) give rise to any event of default or moratorium in respect of any of the obligations of the Borrower or any of its Material Subsidiaries or the creation of any lien, encumbrance or other security interest (howsoever described) in respect of any of the assets of the Borrower or any of its Material Subsidiaries, which, in any case, could reasonably be expected to have a Material Adverse Effect on the Borrower’s ability to perform its obligations under this Agreement. c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 144 11.14 Compliance with Laws The Borrower and each of its Subsidiaries is in compliance with, in all material respects, all applicable laws and regulations. 11.15 Repetition Each of the representations and warranties contained in this Clause 11 shall be deemed to be repeated by the Borrower on the Borrowing Date. 12. REPRESENTATIONS AND WARRANTIES OF THE LENDER The Lender makes the representations and warranties set out in Clause 8.6 (Tax Position of the Lender) and this Clause 12 and acknowledges that the Borrower has entered into this Agreement in reliance on those representations and warranties. 12.1 Status The Lender is a public limited company duly incorporated under the laws of the United Kingdom and is resident for United Kingdom taxation purposes in the United Kingdom and has full corporate power and authority to enter into this Agreement and each Funding Document and to undertake and perform the obligations expressed to be assumed by it herein and therein. 12.2 Authorisation Each of this Agreement and each Funding Document has been duly authorised, executed and delivered by the Lender and is a legal, valid and binding obligation of the Lender, enforceable against the Lender in accordance with its terms, except that the enforcement thereof may be subject to bankruptcy, insolvency, fraudulent conveyance, reorganisation, moratorium and other similar laws relating to or affecting creditors’ rights generally and to general principles of equity. 12.3 Consents and Approvals All authorisations, consents and approvals required by the Lender for or in connection with the execution of this Agreement and each Funding Document and the performance by the Lender of the obligations expressed to be undertaken in such agreements have been obtained and are in full force and effect. 12.4 No Conflicts The execution of this Agreement and each Funding Document and the undertaking and performance by the Lender of the obligations expressed to be assumed by it herein and therein will not conflict with, or result in a breach of or default under, the laws of the United Kingdom. 13. COVENANTS The covenants in this Clause 13 remain in force from the effective date of this Agreement for so long as the Loan or any part of it is or may be outstanding. 13.1 Maintenance of Legal Validity The Borrower shall obtain, comply with the terms of and do all that is necessary to maintain in full force and effect all authorisations, approvals, licences and consents and make or cause to be made all registrations, recordings and filings required in or by the applicable laws and regulations of Ukraine to enable it lawfully to enter into and perform its obligations under this Agreement (including in respect of any payments due hereunder) to which it is a party and to ensure the legality, validity, enforceability or admissibility in evidence in Ukraine of this Agreement. c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 145 13.2 Notification of Default The Borrower shall promptly inform the Lender and the Trustee in writing on becoming aware of the occurrence of any Event of Default or Potential Event of Default and, upon receipt of a written request to that effect from the Lender or the Trustee, confirm to the Lender and the Trustee that, save as previously notified to the Lender and the Trustee or as notified in such confirmation, no Event of Default or Potential Event of Default has occurred. 13.3 Claims Pari Passu The Borrower shall ensure that at all times the claims of the Lender and the Trustee against it under this Agreement rank at least pari passu in right of payment with the claims of all other unsecured and unsubordinated creditors of the Borrower, save for those claims that are mandatorily preferred by any bankruptcy, insolvency, liquidation or similar laws of general application. 13.4 Negative Pledge The Borrower shall not and shall not permit any of its Material Subsidiaries, directly or indirectly, to create, incur or suffer to exist any Security Interests, other than Permitted Security Interests, on any of its or their assets, now owned or hereafter acquired, securing any Indebtedness or any Guarantee of any Indebtedness, unless the Loan is secured equally and rateably with such other Indebtedness or Guarantee or otherwise as approved by the Lender and the Trustee. 13.5 Mergers The Borrower shall not, and shall ensure that none of its Material Subsidiaries will, without the prior written consent of the Lender and the Trustee, enter into any reorganisation (whether by way of a merger, accession, division, separation or transformation, as these terms are construed under applicable Ukrainian legislation), or participate in any other type of corporate reconstruction, if any such reorganisation or other type of corporate reconstruction would result in a Material Adverse Effect, provided that, the Borrower may in a single transaction or a series of related transactions, directly or indirectly, consolidate or merge with or into, or convey, transfer, lease, or otherwise dispose of, all or substantially all of the Borrower’s properties or assets (determined on a consolidated basis), to any Subsidiary of the Borrower, where the resulting, surviving or transferee Person (the Successor Entity), shall be the Borrower or, if not the Borrower, shall be a Person organised and validly existing under the laws of Ukraine and such Successor Entity, if not the Borrower, shall expressly assume, by an agreement supplemental to this Agreement in form and substance satisfactory to the Lender and the Trustee, executed and delivered to the Lender and the Trustee, the due and punctual payment of the principal and interest under this Agreement and the performance and observance of every covenant of the Borrower under this Agreement. 13.6 (a) Disposals Without prejudice to the provisions of Clause 13.7 (Transactions with Affiliates), the Borrower shall not, and shall ensure that none of its Material Subsidiaries will, within a 12 month period, sell, lease, transfer or otherwise dispose of, to a Person other than the Borrower or a Subsidiary of the Borrower, as the case may be, by one or more transactions or series of transactions (whether related or not), the whole or any part of its revenues or its assets which together constitute more than 10 per cent. of the gross assets of the Group unless such transaction(s) is/are on an arm’s-length basis and has/have been approved by a decision adopted by the competent governing body of the Borrower or the relevant Material Subsidiary (as the case may be). (b) This Clause 13.6 shall not apply to (i) any sale, lease, transfer or other disposition of any assets of the Borrower or property pledged as collateral by or to the Borrower or any of its Subsidiaries in the ordinary course of the Borrower’s or, as the case may be, the relevant Subsidiary’s business, (ii) any revenues or assets (or any part thereof) the subject of any securitisation of receivables, asset-backed financing or similar financing structure whereby all payment obligations are to be discharged primarily from such assets or revenues provided that principal amount raised pursuant to any financing referred to in this sub-Clause (ii) when aggregated with the principal amount of any previous and then outstanding such financing and c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 146 the then outstanding principal amount of any Indebtedness or Guarantee referred to in the proviso to paragraph (g) of the definition of Permitted Security Interest does not exceed an amount equal to 20 per cent. of the Borrower’s loans to customers before allowances for impairment (calculated by reference to the Borrower’s balance sheet as at the end of its most recent IFRS Fiscal Period) or (iii) any compensation or employee benefit arrangements with any officer or director of the Borrower or any of its Subsidiaries arising as a result of their employment contract. 13.7 (a) Transactions with Affiliates The Borrower shall not, and shall ensure that none of its Subsidiaries, directly or indirectly, conduct any business, enter into or permit to exist any transaction or series of related transactions (including the purchase, sale, transfer, assignment, lease, conveyance or exchange of any property or the rendering of any service) with, or for the benefit of, any Affiliate (an Affiliate Transaction), including intercompany loans, unless the terms of such Affiliate Transaction are (taking into account the standing and credit rating of the relevant Affiliate) no less favourable to the Borrower or such Subsidiary, as the case may be, than those that could be obtained in a comparable arm’s-length transaction with a Person that is not an Affiliate of the Borrower or any of its Subsidiaries. (b) With respect to an Affiliate Transaction involving aggregate payments or value in excess of U.S.$15,000,000, the Borrower shall deliver to the Lender and the Trustee a written opinion from an Independent Appraiser to the effect that such Affiliate Transaction is fair, from a financial point of view, to the Borrower, provided that in no event shall the aggregate amount of all Affiliate Transactions exceed 35 per cent. of the Group’s assets, determined by reference to the Borrower’s balance sheet as at the end of its most recent IFRS Fiscal Period. (c) This Clause 13.7 shall not apply to (i) any Affiliate Transaction made pursuant to a contract existing on the date hereof and advised in writing to the Lender (excluding any amendments or modifications thereof made after the date hereof) or (ii) transactions between or among all or any of the Borrower and/or its Subsidiaries and paragraph (b) of this Clause 13.7 shall not apply to any Affiliate Transaction where the Affiliate in question is an Agency of Ukraine or a Person which is a Subsidiary of an Agency of Ukraine. 13.8 Payment of Taxes and Other Claims The Borrower shall, and shall ensure that its Material Subsidiaries pay or discharge or cause to be paid or discharged, before the same shall become overdue, all Taxes, assessments and governmental charges levied or imposed upon, or upon the income, profits or property of, the Borrower and its Material Subsidiaries; provided that, none of the Borrower nor any Material Subsidiary shall be required to pay or discharge or cause to be paid or discharged any such tax, assessment, charge or claim (i) whose amount, applicability or validity is being contested in good faith by appropriate proceedings and for which adequate reserves in accordance with IFRS or other appropriate provision has been made or (ii) whose amount, together with all such other unpaid or undischarged Taxes, assessments, charges and claims, does not in the aggregate exceed U.S.$1,000,000 (or its equivalent in other currencies). 13.9 (a) Financial Information The Borrower hereby undertakes that it will deliver to the Lender and the Trustee within 180 days after the end of each of its financial years, copies of the Borrower’s audited financial statements for such financial year, prepared in accordance with IFRS and together with the report of the Auditors thereon. (b) The Borrower hereby undertakes that it will deliver to the Lender and the Trustee within 120 days after the end of the second quarter of each of its financial years, copies of the Borrower’s unaudited financial statements for six months, prepared in accordance with IFRS. To the extent that the Borrower produces quarterly unaudited financial statements (Quarterly Statements), prepared in accordance with IFRS, the Borrower further undertakes to provide copies of Quarterly Statements within four months after the end of each quarter. (c) The Borrower hereby undertakes that it will deliver to the Lender and the Trustee, without undue delay, such additional information regarding the financial position or the business of the Borrower as the Lender or the Trustee may reasonably request. c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 147 (d) The Borrower hereby undertakes that it will supply or procure to be supplied to the Lender (in sufficient copies as may reasonably be required by the Lender) with a copy to the Trustee all such information as the Irish Stock Exchange (or any other or further stock exchange or stock exchanges or any other relevant authority or authorities on which the Funding Instruments may, from time to time, be listed or admitted to trading) may require in connection with the listing or admittance to trading of the Funding Instruments. 13.10 Maintenance of Capital Adequacy The Borrower shall not, and shall ensure that each Subsidiary which carries on a Banking Business shall not, permit its total capital adequacy ratio to fall below the minimum total capital adequacy ratio required by the NBU and, in the case of a Subsidiary which carries on a Banking Business outside Ukraine, the relevant banking authority responsible for setting and/or supervising capital adequacy for financial institutions in the relevant jurisdiction in which such Subsidiary carries on its Banking Business. 13.11 Limitation on restrictions on distributions from Material Subsidiaries The Borrower shall not, and shall not permit any of its Material Subsidiaries to, create or otherwise cause or permit to exist or become effective any consensual encumbrance or consensual restriction on the ability of any Subsidiary: (a) to pay dividends or make any other distributions on its share capital; (b) to make any loans or advances or pay any Indebtedness owed to the Borrower; or (c) to transfer any of its property or assets to the Borrower other than encumbrances or restrictions existing under applicable law, any Funding Document or any other agreement in effect prior to the date hereof and advised in writing to the Lender. 13.12 Compliance Certificates On each Interest Payment Date, the Borrower shall deliver to the Lender and the Trustee written notice in the form of an Officers’ Certificate stating whether any Event of Default or Potential Event of Default has occurred and, if it has occurred and shall be continuing, the action the Borrower is taking or proposes to take with respect thereto. 13.13 Amendments to this Agreement The Borrower shall not without the prior written consent of the Lender make any amendments to (i) this Agreement or (ii) the notification submitted to the NBU in respect of this Agreement and registered by the NBU (as evidenced by the respective registration notation) (the Registration Notification) that would, by virtue of their execution and subsequent registration by the NBU, in the case of amendments to this Agreement, or by virtue of their being made, in the case of amendments to the Registration Notification, in either case result in a lower maximum interest rate being applied to the amounts payable by the Borrower under this Agreement (including, but not limited to, interest payments, fees and indemnity amounts) than as set by the NBU as at the date hereof. 13.14 Restricted Payments The Borrower shall not, directly or indirectly: (a) declare or pay any dividend, in cash or otherwise, or make any other distribution (whether by way of redemption, acquisition or otherwise) in respect of its share capital; or (b) voluntarily purchase, redeem or otherwise retire for value any Capital Stock or subordinated debt, (any such action being referred to herein as a Restricted Payment) if at the time (i) an Event of Default has occurred or results therefrom or (ii) such Restricted Payment when aggregated with all other Restricted Payments previously made in respect of the relevant fiscal year exceeds 30 per cent. of the Group’s net profit (calculated in accordance with Ukrainian GAAP) for such fiscal year PROVIDED THAT so long as at the time no Event of Default has occurred or results therefrom, the Borrower may make any prepayment permitted or required under the ABN AMRO Loan and any such prepayment shall not constitute a Restricted Payment. c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 148 14. EVENTS OF DEFAULT Each of Clause 14.1 (Failure to Pay) to Clause 14.9 (Analogous Events) describes the circumstances which constitute an Event of Default for the purposes of this Agreement. If one or more Events of Default shall occur and be continuing, the Lender (or the Trustee, as applicable) shall be entitled to the remedies set forth in Clause 14.10 (Acceleration). 14.1 Failure to Pay The Borrower fails to pay any sum due from it hereunder at the time, in the currency and in the manner specified herein, and such failure is not remedied within five Business Days of the due date for payment. 14.2 Obligations The Borrower fails duly to perform or comply with, or is otherwise in breach of any other of its obligations (other than set out in Clause 14.1 (Failure to Pay)) expressed to be assumed by it in this Agreement and such failure or breach is not remedied within 15 days after the Lender (and, following a Relevant Event, the Trustee) has given notice of it to the Borrower requiring the same to be remedied. 14.3 Cross Default Any Indebtedness of the Borrower or any of its Subsidiaries becomes due and payable prior to the stated maturity thereof (other than at the option of the debtor) or the Borrower or any of its Subsidiaries shall fail to make any payment of principal in respect of any Indebtedness of the Borrower or any of its Subsidiaries or to make any payment under any Guarantee of any Indebtedness on the date on which such payment is due and payable or by the expiration of any grace period originally applicable thereto, unless the aggregate amount of Indebtedness relating to all the above events is less than U.S.$10,000,000 (or its equivalent in any other currency). 14.4 Validity and Illegality The validity of this Agreement is contested by the Borrower or the Borrower shall deny any of its obligations under this Agreement or (save as provided in Clause 13.1 (Maintenance of Legal Validity)) it is, or will become, unlawful for the Borrower to perform or comply with any of its obligations under this Agreement or any of such obligations shall become unenforceable or cease to be legal, valid and binding in a manner which has a material adverse effect on the rights or claims of the Lender or, following a Relevant Event, the Trustee under this Agreement. 14.5 Authorisations Any regulation, decree, consent, approval, licence or other authority necessary to enable the Borrower to enter into or (save as provided in Clause 13.1 (Maintenance of Legal Validity)) perform its obligations under this Agreement or for the validity or enforceability thereof shall expire or be withheld, revoked or terminated or otherwise cease to remain in full force and effect or shall be modified in a manner which adversely affects any rights or claims of the Lender or, following a Relevant Event, the Trustee under this Agreement. 14.6 (a) Revocation of Licence; Insolvency The occurrence of any of the following events: (i) revocation of the general banking licence of the Borrower or, if applicable, of any of its Subsidiaries; (ii) any of the Borrower or any of its Material Subsidiaries seeking, consenting or acquiescing in the introduction of proceedings for its liquidation or bankruptcy or the appointment of a liquidation commission or a similar officer of any of the Borrower or any of its Material Subsidiaries, as the case may be; (iii) the presentation or filing of a petition in respect of any of the Borrower or any of its Material Subsidiaries in any court, arbitration court or before any agency alleging or for the bankruptcy, insolvency, dissolution, liquidation (or any analogous proceeding) of any of the Borrower or any of its Material Subsidiaries; (iv) the institution of the temporary administration, supervision, external management, bankruptcy management or analogous regime with respect to any of the Borrower or any of its Material Subsidiaries; (v) the convening or announcement of an intention to convene a meeting of creditors of any of the Borrower or any of its Material c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 149 Subsidiaries for the purposes of considering an amicable settlement and/or (vi) any extra judicial liquidation or analogous act in respect of any of the Borrower or any of its Material Subsidiaries by any Agency in or of Ukraine. (b) The Borrower or any of its Material Subsidiaries (i) fails or is unable to pay its debts generally as they become due, or (ii) consents by answer or otherwise to the commencement against it of an involuntary case in bankruptcy or any other such action or proceeding or to the appointment of a custodian of it or for any substantial part of its property or (iii) a court of competent jurisdiction enters an order for relief or a decree in an involuntary case in bankruptcy or any other such action or proceeding or for the appointment of a custodian in respect of the Borrower or any of its Material Subsidiaries or any part of their property and such order or decree remains unstayed and in effect for 60 days. (c) The shareholders of the Borrower shall have approved any plan of liquidation or dissolution of the Borrower. 14.7 Judgments The aggregate amount of unsatisfied judgments, decrees or orders of courts or other appropriate law-enforcement bodies (from which no further appeal or judicial review is permissible under applicable law) for the payment of money against the Borrower and/or any Subsidiaries of the Borrower exceeds U.S.$10,000,000 or the equivalent thereof in any other currency or currencies and there is a period of 60 days following the entry thereof (or, if later, the date therein specified for payment) during which all such judgments, decrees or orders are not discharged, waived or the execution thereof stayed and such default continues for five days. 14.8 Business The Borrower ceases to carry on the principal business it carried on at the date hereof. 14.9 Analogous Events Any event occurs which under the laws of any relevant jurisdiction has an analogous effect to any of the events referred to in Clauses 14.4 (Validity and Illegality) to 14.7 (Judgments). 14.10 Acceleration If an Event of Default has occurred and is continuing, the Lender and/or the Trustee may by written notice to the Borrower declare the outstanding principal amount of the Loan to be immediately due and payable (whereupon the same shall become immediately due and payable together with accrued interest thereon and any other sums then owed by the Borrower hereunder) or declare the outstanding principal amount of the Loan to be due and payable on demand of the Lender and/or the Trustee. 14.11 Amounts Due on Demand If, pursuant to Clause 14.10 (Acceleration), the Lender or the Trustee declares the outstanding principal amount of the Loan to be due and payable on demand of the Lender or the Trustee, then, and at any time thereafter, the Lender or the Trustee may by written notice to the Borrower require repayment of the outstanding principal amount of the Loan on such date as it may specify in such notice (whereupon the same shall become due and payable on such date together with accrued interest thereon and any other sums then owed by the Borrower hereunder) or withdraw its declaration with effect from such date as it may specify in such notice. 14.12 No calculation by Trustee For the avoidance of doubt, for the purpose of Clauses 14.10 and 14.11 above, the Trustee shall have no liability or responsibility to any Party or any other Person for any calculations hereunder including (but not limited to) the calculation of the outstanding principal amount of the Loan, any interest accrued thereon or any other sums owed by the Borrower. c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 150 15. INDEMNITY 15.1 (a) The Borrower’s Indemnity The Borrower undertakes to the Lender, that if the Lender and/or the Trustee (each an indemnified party) properly incurs any loss, liability, cost, claim, charge or expense, together with in each case any VAT thereon) (a Loss) (i) as a result of or in connection with any Event of Default or Potential Event of Default or (ii) as a result of or in connection with the Lender exercising its powers and performing its obligations under this Agreement and the Funding Documents (including, but not limited to, legal fees and expenses), the Borrower shall pay to the Lender and/or the Trustee, as the case may be, subject to the presentation of properly documented evidence thereof (such evidence only to be presented if and to the extent required by applicable law), an amount equal to such Loss and all costs, charges and expenses which it or any indemnified party may pay or incur in connection with investigating, disputing or defending any such action or claim as such costs, charges and expenses are incurred. (b) The indemnity in paragraph (a) above shall not apply to a Loss: (i) which is caused by an indemnified party’s own gross negligence or wilful default, misconduct or fraud; (ii) which is recovered under Clause 8.1 (Additional Amounts); or (iii) where an indemnity is sought already under Clause 8.3 (Indemnity Amounts), 10 (Changes in Circumstances) or 18 (Costs and Expenses). 15.2 Independent Obligation Clause 15.1 (The Borrower’s Indemnity) constitutes a separate and independent obligation of the Borrower from its other obligations under or in connection with this Agreement or any other obligations of the Borrower in connection with the issue of the Funding Instruments and shall not affect, or be construed to affect, any other provisions of this Agreement or any such other obligations. 15.3 Survival The obligations of the Borrower pursuant to Clauses 8.1 (Additional Amounts), 8.2 (Double Tax Treaty Relief), 8.3 (Indemnity Amounts), 10 (Changes in Circumstances), 15.1 (The Borrower’s Indemnity), 15.2 (Independent Obligation) and 17.3 (No Set-off) shall survive the borrowing and the repayment of the Loan, in each case by the Borrower, and the termination of this Agreement. 16. CURRENCY OF ACCOUNT AND PAYMENT 16.1 Currency of Account The U.S. dollar is the currency of account and payment for each and every sum at any time due from the Borrower hereunder. 16.2 Currency Indemnity If any sum due from the Borrower under this Agreement or any order or judgment given or made in relation hereto has to be converted from the currency (the first currency) in which the same is payable hereunder or under such order or judgment into another currency (the second currency) for the purpose of (a) making or filing a claim or proof against the Borrower, (b) obtaining an order or judgment in any court or other tribunal or (c) enforcing any order or judgment given or made in relation hereto, the Borrower shall indemnify and hold harmless the Lender and the Trustee from and against any loss suffered or properly incurred as a result of any discrepancy between (i) the rate of exchange used for such purpose to convert the sum in question from the first currency into the second currency and (ii) the rate or rates of exchange at which the Lender (or, as the case may be, the Trustee) may in the ordinary course of business purchase the first currency with the second currency upon receipt of a sum paid to it in satisfaction, in whole or in part, of any such order, judgment, claim or proof. c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 151 17. PAYMENTS 17.1 Payments to the Lender On each date on which this Agreement requires an amount denominated in U.S. dollars to be paid by the Borrower, the Borrower shall make the same available to the Lender by payment in U.S. dollars and in Same-Day Funds (or in such other funds as may for the time being be customary for the settlement of international banking transactions in U.S. dollars) not later than 11.00 a.m. (New York City time) on the Business Day falling two Business Days prior to the Interest Payment Date to the Account other than amounts payable (i) in respect of Reserved Rights (as such term is defined in the Trust Deed), (ii) under the Fees Letter or (iii) in relation to Clause 15.1 (The Borrower’s Indemnity) which the Borrower shall pay to such account or accounts as the Lender and/or the Trustee shall notify to the Borrower; provided that if at any time the Trustee notifies the Borrower that a Relevant Event has occurred, the Borrower shall make all subsequent payments, which would otherwise be made to the Account, to such other account as shall be notified by the Trustee to the Borrower. Without prejudice to its obligations under Clause 5.1 (Payment of Interest), the Borrower shall procure that, before 10.00 a.m. (London time) on two Banking Days before the due date of each payment made by it under this Clause 17.1, the bank effecting payment on its behalf confirms to the Lender or the Trustee (as the case may be) or to such person as the Lender or the Trustee may direct by tested telex or authenticated SWIFT message the payment instructions relating to such payment. The Lender and/or the Trustee shall use their reasonable endeavours to provide the Borrower with information and documents as may be required by the applicable Ukrainian legislation for the purposes of making payments by the Borrower to any account other than the Account. 17.2 Alternative Payment Arrangements If, at any time, it shall become impracticable (by reason of any action of any governmental authority or any change of law, exchange control regulations or any similar event) for the Borrower to make any payments under this Agreement in the manner specified in Clause 17.1 (Payments to the Lender), then the Borrower may agree with the Lender (or, as the case may be, the Trustee) alternative arrangements for the payment to the Lender (or, as the case may be, the Trustee) of amounts due (prior to the delivery of any notice referred to in Clause 17.1 (Payments to the Lender)) under this Agreement provided that, in the absence of any such agreement with the Lender (or, as the case may be, the Trustee), the Borrower shall be obliged to make all payments due to the Lender (or, as the case may be, the Trustee) in the manner specified above. 17.3 No Set-off All payments required to be made by the Borrower hereunder shall be calculated without reference to any set-off or counterclaim and shall be made free and clear of and without any deduction for or on account of any set-off or counterclaim. 18. COSTS AND EXPENSES 18.1 Transaction Expenses and Fees The Borrower agrees that it shall make the payments to the Lender as specified in the Fees Letter. 18.2 Preservation and Enforcement of Rights The Borrower shall, from time to time on written demand of the Lender (or, as the case may be, the Trustee) reimburse the Lender (or, as the case may be, the Trustee) for all properly incurred costs and expenses (including legal fees and expenses) provided that (if and to the extent required by applicable law) such costs and expenses are properly documented together with any VAT thereon properly incurred in or in connection with the preservation and/or enforcement of any of its rights under this Agreement (except where the relevant claim is successfully defended by the Borrower). c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 152 18.3 Stamp Taxes The Borrower shall pay all stamp, registration and other similar duties or Taxes (including any interest or penalties thereon or in connection therewith) to which the Funding Documents or any judgment given against the Borrower in connection therewith is or at any time may be subject and shall, from time to time on written demand of the Lender (or the Trustee), indemnify the Lender (or, as the case may be, the Trustee) against any liabilities, losses, costs, expenses (including, without limitation, legal fees and any applicable value added tax) and claims, actions or demand (such liabilities, losses, costs, expenses, claims, actions, or demand to be properly documented if and to the extent required by applicable law) resulting from any failure to pay or any delay in paying any such duty or tax. 18.4 Costs Relating to Amendments and Waivers The Borrower shall, from time to time on written demand of the Lender (or the Trustee) (and without prejudice to the provisions of Clause 15.1 (The Borrower’s Indemnity) and Clause 18.2 (Preservation and Enforcement of Rights)) pay to the Lender (and, as the case may be, the Trustee) at such daily and/or hourly rates as the Lender (or, as the case may be, the Trustee) shall from time to time reasonably determine for all time expended by the Lender (or, as the case may be, the Trustee), their respective directors, officers and employees, and for all costs and expenses (including telephone, fax, copying and travel costs) they may properly incur (such costs and expenses to be properly documented if and to the extent required by applicable law), in connection with the Lender (and, as the case may be, the Trustee) taking such action as it may consider appropriate in connection with: (a) any meeting of holders of the Funding Instruments or the granting or proposed granting of any waiver or consent requested under this Agreement by the Borrower; (b) any actual or potential breach by the Borrower of any of its obligations under this Agreement; (c) the occurrence of any event which is an Event of Default or a Potential Event of Default; or (d) any amendment or proposed amendment to this Agreement or any Funding Document requested by the Borrower. In that regard, the Lender shall, promptly upon request by the Borrower, convene a meeting of the holders of the Funding Instruments in accordance with the terms and conditions of the Funding Instruments and the provisions of the Funding Documents. 19. ASSIGNMENTS AND TRANSFERS 19.1 Binding Agreement This Agreement shall be binding upon and enure to the benefit of each party hereto and its or any subsequent successors and assigns. 19.2 No Assignments and Transfers by the Borrower The Borrower shall not be entitled to assign or transfer all or any of its rights, benefits and obligations hereunder. 19.3 Assignments by the Lender Subject to the Funding Documents and applicable law, the Lender may not assign or transfer, in whole or in part, any of its rights and benefits or obligations under this Agreement except for the charge by way of first fixed charge granted by the Lender in favour of the Trustee of the Lender’s rights and benefits under this Agreement and the absolute assignment by way of security by the Lender to the Trustee of certain rights, interest and benefits under this Agreement and to the Account, in each case pursuant to the Funding Documents. If and to the extent required by applicable law or regulation of Ukraine, assignment or transfer by the Lender of its rights and benefits or obligations under this Agreement shall become effective upon registration with the NBU of an assignee or a transferee as the Lender under this Agreement. c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 153 20. CALCULATIONS AND EVIDENCE OF DEBT 20.1 Evidence of Debt The Lender shall maintain accounts evidencing the amounts from time to time lent by and owing to it hereunder and in any legal action or proceeding arising out of or in connection with this Agreement, in the absence of manifest error and subject to the provision by the Lender to the Borrower of written information describing in reasonable detail the calculation or computation of such amounts together with the relevant supporting documents evidencing the matters described therein, the entries made in such accounts shall be conclusive evidence of the existence and amounts of the obligations of the Borrower therein recorded. 20.2 Change of Circumstance Certificates A certificate signed by two Authorised Signatories of the Lender (or, as the case may be, the Trustee) describing in reasonable detail the amount by which a sum payable to it hereunder is to be increased under Clause 8.1 (Additional Amounts) or the amount for the time being required to indemnify it against any such cost, payment or liability as is mentioned in Clause 8.3 (Indemnity Amounts) or Clause 10.1 (Increased Costs) or Clause 15.1 (The Borrower’s Indemnity) shall, in the absence of manifest error, be conclusive evidence of the existence and amounts of the specified obligations of the Borrower. 21. REMEDIES AND WAIVERS, PARTIAL INVALIDITY 21.1 Remedies and Waivers No failure by the Lender or the Trustee to exercise, nor any delay by the Lender or the Trustee in exercising, any right or remedy hereunder shall operate as a waiver thereof, nor shall any single or partial exercise of any right or remedy prevent any further or other exercise thereof or the exercise of any other right or remedy. The rights and remedies herein provided are cumulative and not exclusive of any rights or remedies provided by law. 21.2 Partial Invalidity If, at any time, any provision hereof is or becomes illegal, invalid or unenforceable in any respect under the law of any jurisdiction, neither the legality, validity or enforceability of the remaining provisions hereof nor the legality, validity or enforceability of such provision under the law of any other jurisdiction shall in any way be affected or impaired thereby. 22. NOTICES; LANGUAGE 22.1 Written Notice All notices, requests, demands or other communication to be made under this Agreement shall be in writing and, unless otherwise stated, shall be delivered by fax or post. 22.2 (a) Giving of Notice Any communication or document to be delivered by one person to another pursuant to this Agreement shall (unless that other person has by 15 days’ written notice specified another address) be made or delivered to that other person, addressed as follows: (i) If to the Borrower: Joint Stock Company State Savings Bank of Ukraine 12-G Hospitalna Street Kyiv, 01001 Ukraine Attention: Chairman of the Management Board and External Borrowings Department (ii) Tel: + 380 44 247 85 40 Fax: + 380 44 247 85 37 If to the Lender: c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 154 SSB No.1 PLC 7th Floor, Phoenix House 18 King William Street London EC4N 7HE United Kingdom Tel: +44 (0) 207 800 4100 Fax: +44 (0) 207 800 4180 Email: spvservices@capitafiduciary.co.uk Attention: SPV Services (iii) If to the Trustee: BNY Corporate Trustee Services Limited One Canada Square London E14 5AL United Kingdom Attention: Corporate Trust Administration Fax: +44 (0)207 964 2536 (b) Each communication and document to be made or delivered by one party to another pursuant to this Agreement shall, unless that other party has by 15 calendar days’ written notice to the same specified another address or fax number, be made or delivered to that other party at the address or fax number specified in this Clause 22.2 and shall be effective upon receipt by the addressee on a business day in the city of the recipient; provided that, (i) any such communication or document which would otherwise take effect after 4:00 p.m. on any particular business day in the city of the addressee shall not take effect until 10:00 a.m. on the immediately succeeding business day in the city of the addressee and (ii) any communication or document to be made or delivered by one party to the other party shall be effective only when received by such other party and then only if the same is expressly marked for the attention of the department or officer identified with such other party’s signature below, or such other department or officer as such other party shall from time to time specify for this purpose. 22.3 English Language Each communication and document delivered by one party to another pursuant to this Agreement shall be in the English language or accompanied by a translation into English certified (by an officer of the person delivering the same) as being a true and accurate translation. In the event of any discrepancies between the English and Ukrainian versions of such communication or document, or any dispute regarding the interpretation of any provision in the English or Ukrainian versions of such communication or document, the English version of such communication or document shall prevail, unless the document is a statutory or other official document. 22.4 Language of Agreement This Agreement has been executed in both the English language and the Ukrainian language. In the event of any discrepancies between the English and Ukrainian versions of this Agreement, or any dispute regarding the interpretation of any provision in the English or Ukrainian versions of this Agreement, the English version of this Agreement shall prevail and any question of interpretation shall be addressed solely in the English language. 23. LAW AND JURISDICTION 23.1 English Law This Agreement, including any non-contractual obligations arising out of or in connection with this Agreement, is governed by, and shall be construed in accordance with, English law. 23.2 Arbitration Subject to Clause 23.3 (English Courts), the parties to this Agreement agree that any claim, dispute or difference of whatever nature arising under, out of or in connection with this Agreement (including a claim, dispute or difference regarding its existence, termination or c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 155 validity) (a Dispute), shall be referred to and finally settled by arbitration in accordance with the Rules of the London Court of International Arbitration (LCIA) (the Rules) as at present in force and as modified by this Clause 23.2, which Rules shall be deemed incorporated into this Clause 23.2. The number of arbitrators shall be three, one of whom shall be nominated by the claimant(s), one by the respondent(s) and the third of whom, who shall act as chairman, shall be nominated by the two party-nominated arbitrators. The parties may nominate and the LCIA Court may appoint arbitrators from among the nationals of any country, whether or not a party is a national of that country. The seat of arbitration shall be London, England and the language of arbitration shall be English. Sections 45 and 69 of the Arbitration Act 1996 shall not apply. 23.3 English Courts At any time before the Lender has nominated an arbitrator to resolve any Dispute or Disputes pursuant to Clause 23.2 (Arbitration), the Lender may elect by notice in writing to the Borrower that such Dispute(s) shall instead be heard by the courts of England or by any other court of competent jurisdiction. Following any such election, no arbitral tribunal shall have jurisdiction in respect of such Dispute(s). 23.4 Appropriate Forum The Borrower irrevocably waives any objection which it might now or hereafter have to the courts of England being nominated as the forum to hear and determine any proceedings and to settle any Disputes, and agrees not to claim that any such court is not a convenient or appropriate forum. 23.5 Service of Process The Borrower agrees that the service of process relating to any Dispute in England or Wales may be by delivery to Law Debenture Corporate Services Limited, Fifth Floor, 100 Wood Street, London EC2V 7EX. If such person is not or ceases to be effectively appointed to accept service of process, the Borrower shall immediately appoint a further person in England or Wales to accept service of process on its behalf and, failing such appointment within 15 days, the Lender shall be entitled to appoint such a person by written notice to the Borrower. Nothing in this Clause 23.5 shall affect the right of the Lender to serve process in any other manner permitted by law. 23.6 Non-exclusivity The submission by the Borrower to the jurisdiction of the English courts shall not (and shall not be construed so as to) limit the right of the Lender and the Trustee to bring proceedings in any other court of competent jurisdiction. 23.7 Waiver of Immunity To the extent that the Borrower may in any jurisdiction claim for itself, its assets or revenue, immunity from suit, execution, attachment (whether in aid of execution, before making a judgment, aware or otherwise) or other legal proceedings, including in relation to an enforcement of an arbitral award, and to the extent that such immunity (whether or not claimed) may be attributed in any such jurisdiction to the Borrower, its assets or revenue, the Borrower agrees not to claim and irrevocably waives such immunity to the fullest extent permitted by the law of such jurisdiction. 24. CONTRACTS (RIGHTS OF THIRD PARTIES) ACT 1999 A person who is not a party to this Agreement has no rights under the Contracts (Rights of Third Parties) Act 1999 to enforce any term of this Agreement, other than the Trustee in relation to Clause 8.1 (Additional Amounts), Clause 13 (Covenants), Clause 14 (Events of Default), Clause 15 (Indemnity), Clause 16.2 (Currency Indemnity), Clause 17.1 (Payments to the Lender), Clause 18.2 (Preservation and Enforcement of Rights), Clause 18.3 (Stamp Taxes) and Clause 18.4 (Costs Relating to Amendments and Waivers) and Clause 23 (Law and Jurisdiction), but this does not affect any right or remedy of a third party which exists or is available apart from that Act. c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 156 25. 25.1 NBU REQUIREMENTS Registration This Agreement shall become effective on the date of its registration with the NBU which shall be evidenced by the registration notation of the NBU issued to the Borrower by the NBU in relation to the Loan Agreement. 25.2 Maximum Interest Rate Notwithstanding any other provisions hereof to the contrary, if and to the extent required by any law or regulations of Ukraine, the amount of payments payable by the Borrower under this Agreement throughout the term of the Agreement (including, but not limited to, interest payments, fees and indemnity amounts and other amounts under the Agreement, other than payment of principal) shall not exceed, in aggregate per annum, the amount calculated by reference to the maximum interest rate established by the NBU for foreign currency loans from non-residents effective as at the date of the filing for registration of this Agreement or any amendments thereto with the NBU. For the avoidance of doubt, any application of this requirement shall not limit the rights of the Lender (and/or the Trustee, as relevant) under Clause 14.1 (Failure to Pay) or Clause 14.10 (Acceleration) of this Agreement. 25.3 Amendments and Supplements If and to the extent required by any law or regulation of Ukraine applicable at the time of making any amendment or supplement to this Agreement, such amendment or supplement shall become effective only upon registration thereof with the NBU. c104221pu090Proof7:3.3.11B/LRevision:0OperatorChoD 157 TERMS AND CONDITIONS OF THE NOTES The following is the text of the Terms and Conditions of the Notes, which will be endorsed on each Note in definitive form. The terms and conditions applicable to any Note in global form will differ from those terms and conditions which would apply to the Note were it in definitive form to the extent described under ‘‘Summary of Provisions Relating to the Notes while in Global form’’ below. The US$500,000,000 8.25 per cent. Loan Participation Notes due 2016 (the Notes, which expression includes any Further Notes (as defined in the Trust Deed) issued pursuant to Condition 13 (Further Issues) and forming a single series therewith) of SSB No.1 PLC (the Issuer) are constituted by, are subject to, and have the benefit of, a trust deed dated 10 March 2011 (as amended or supplemented from time to time, the Trust Deed) between the Issuer and BNY Corporate Trustee Services Limited as trustee (the Trustee, which expression includes all persons for the time being trustee or trustees appointed under the Trust Deed) and are the subject of an agency agreement dated 10 March 2011 (as amended or supplemented from time to time, the Agency Agreement) between the Issuer, The Bank of New York Mellon (Luxembourg) S.A., as registrar (the Registrar, which expression includes any successor registrar appointed from time to time in connection with the Notes), The Bank of New York Mellon, London Branch as principal paying agent (the Principal Paying Agent, which expression includes any successor principal paying agent appointed from time to time in connection with the Notes), The Bank of New York, Mellon (Ireland) Limited as the Irish paying agent (the Irish Paying Agent, which expression includes any successor Irish paying agent appointed from time to time in connection with the Notes), the transfer agent named therein (the Transfer Agent, which expression includes any successor or additional transfer agents appointed from time to time in connection with the Notes), the paying agents named therein (together with the Principal Paying Agent, the Paying Agents, which expression includes any successor or additional paying agents appointed from time to time in connection with the Notes) and the Trustee. References herein to the Agents are to the Registrar, the Transfer Agent, the Irish Paying Agent and the Paying Agents and any reference to an Agent is to any one of them. Certain provisions of these Conditions are summaries of the Trust Deed and the Agency Agreement and subject to their detailed provisions. The Noteholders (as defined below) are entitled to the benefit of, bound by, and are deemed to have notice of, all the provisions of the Trust Deed and are deemed to have notice of those provisions of the Agency Agreement applicable to them. Copies of the Trust Deed and the Agency Agreement are available for inspection during normal business hours at the registered office for the time being of the Trustee, being at the date hereof One Canada Square, London E14 5AL, United Kingdom and at the Specified Offices (as defined in the Agency Agreement) of each of the Agents, the initial Specified Offices of which are set out below. The Issuer has authorised the creation, issue and sale of the Notes for the sole purpose of financing the US$500,000,000 loan (the Loan) to Joint Stock Company ‘‘State Savings Bank of Ukraine’’ (the Borrower). The Issuer and the Borrower have recorded the terms of the Loan in an agreement between the Borrower and the Issuer, as lender, dated 4 March 2011 (as amended and supplemented from time to time, the Loan Agreement). In each case where amounts of principal, interest and Additional Amounts (as defined in the Loan Agreement), if any, due pursuant to Condition 6 (Payments) and Condition 7 (Taxation) are stated herein or in the Trust Deed to be payable in respect of the Notes, the obligation of the Issuer to make any such payment shall constitute an obligation only to pay to the Noteholders (as defined in Condition 2(a)), on each date upon which such amounts of principal, interest and Additional Amounts (as defined in the Loan Agreement), if any, are due in respect of the Notes, to the extent of the sums of principal, interest, Additional Amounts and Indemnity Amounts (each as defined in the Loan Agreement), if any, actually received by or for the account of the Issuer pursuant to the Loan Agreement, less any amounts in respect of the Reserved Rights (as defined below). Noteholders must therefore rely solely and exclusively upon the covenant to pay under the Loan Agreement and the credit and financial standing of the Borrower. Noteholders shall have no recourse (direct or indirect) to any other assets of the Issuer. As security for the Issuer’s payment obligations under the Trust Deed and in respect of the Notes, the Issuer as lender under the Loan Agreement has: (A) charged by way of security to the Trustee all of the Issuer’s rights, interests and benefits in and to (i) principal, interest and other amounts now or hereafter paid and payable by the Borrower to the Issuer as lender under the Loan Agreement and (ii) all amounts now or hereafter paid or payable by the Borrower to the Issuer under or in respect of any claim, award or judgment relating to the Loan Agreement (in each case other than its right to amounts in respect of any c104221pu100Proof7:3.3.11B/LRevision:0OperatorChoD 158 rights, interests and benefits of the Issuer under the following Clauses of the Loan Agreement: Clause 3.2 (Fees), the second sentence of Clause 7.4 (Costs of Repayment); Clause 8.2 (Double Tax Treaty Relief); Clause 8.3(b) (Indemnity Amounts); Clause 10 (Changes in Circumstances); Clause 11 (Representations and Warranties of the Borrower); Clause 15 (Indemnity); Clause 16.2 (Currency Indemnity); Clause 17.3 (No Set off); and Clause 18 (Costs and Expenses) (to the extent that the Issuer’s claim is in respect of one of the aforementioned clauses of the Loan Agreement) (such rights are referred to herein as the Reserved Rights)); (B) charged by way of security to the Trustee all of the Issuer’s rights, interests and benefits in and to all sums held on deposit from time to time, in the Account (as defined in the Trust Deed) with the Principal Paying Agent, together with the debt represented thereby (except to the extent such debt relates to Reserved Rights) pursuant to the Trust Deed (this sub clause (B), together with sub clause (A) other than the Reserved Rights, the Charged Property); and (C) assigned absolutely by way of security to the Trustee all of the Issuer’s rights, interests and benefits whatsoever, both present and future, whether proprietary, contractual or otherwise under or arising out of or evidenced by the Loan Agreement (including, without limitation, the right to declare the Loan immediately due and payable and to take proceedings to enforce the obligations of the Borrower thereunder) other than the Charged Property and the Reserved Rights and amounts payable by the Borrower in relation to the Charged Property and the Reserved Rights (the Transferred Rights), together, the Security Interests. In certain circumstances, the Trustee can (subject to it being indemnified and/or secured and/or prefunded to its satisfaction) be required by Noteholders holding at least 25 per cent. of the principal amount of the Notes then outstanding or by an Extraordinary Resolution (as defined in the Trust Deed) of the Noteholders to exercise certain of its powers under the Trust Deed (including those arising in connection with the Security Interests). However, it may not be possible for the Trustee to take certain actions in relation to the Notes and, accordingly, in such circumstances the Trustee will be unable to take such actions, notwithstanding the provision of an indemnity or security or prefunding to it, and it will thus be for the Noteholders to take such actions directly. 1. (a) Form, Denomination and Status Form and denomination: The Notes are in registered form, without interest coupons attached, in the denominations of US$200,000 and integral multiples of US$1,000 in excess thereof (each, an Authorised Holding). (b) Status: The sole purpose of the issue of the Notes is to provide the funds for the Issuer to finance the Loan. The Notes constitute the obligation of the Issuer to apply an amount equal to the principal amount of the Notes solely for financing the Loan and to account to the Noteholders for principal and interest and Additional Amounts (as defined in the Loan Agreement), if any, due pursuant to Condition 6 (Payments) and Condition 7 (Taxation) in respect of the Notes in an amount equivalent to sums of principal, interest, Additional Amounts and Indemnity Amounts (as defined in the Loan Agreement), if any, actually received by or for the account of the Issuer pursuant to the Loan Agreement (less any amounts in respect of Reserved Rights), the right to receive which is, inter alia, being charged by way of security to the Trustee by virtue of the Security Interests as security for the Issuer’s payment obligations under the Trust Deed and in respect of the Notes. Payments in respect of the Notes to the extent of the sums actually received by or for the account of the Issuer by way of principal, interest, Additional Amounts or Indemnity Amounts (each as defined in the Loan Agreement), if any, pursuant to the Loan Agreement (less any amounts in respect of the Reserved Rights) will be made pro rata among all Noteholders (subject to Condition 7 (Taxation)), on the dates on which such payments are due in respect of the Notes subject to the conditions attaching to, and in the currency of, such payments under the Loan Agreement. The Issuer shall not be liable to make any payment in respect of the Notes other than as expressly provided herein and in the Trust Deed. The Issuer shall be under no obligation to exercise in favour of the Noteholders any rights of set off or of banker’s lien or to combine accounts or counterclaim that may arise out of other transactions between the Issuer and the Borrower. c104221pu100Proof7:3.3.11B/LRevision:0OperatorChoD 159 Noteholders are deemed to have accepted that: (i) neither the Issuer nor the Trustee makes any representation or warranty in respect of, and shall at no time have any responsibility for, or (save as otherwise expressly provided in the Trust Deed and paragraph (vi) below) liability, or obligation in respect of the performance and observance by the Borrower of its obligations under the Loan Agreement or the recoverability of any sum of principal, interest, Additional Amounts or Indemnity Amounts (each as defined in the Loan Agreement) or other amounts, if any, due or to become due from the Borrower under the Loan Agreement; (ii) neither the Issuer nor the Trustee shall at any time have any responsibility for, or obligation or liability in respect of, the condition (financial, operational or otherwise), creditworthiness, affairs, status, nature or prospects of the Borrower; (iii) neither the Issuer nor the Trustee shall at any time have any responsibility for, or obligation or liability in respect of, any misrepresentation or breach of warranty or any act, default or omission of the Borrower under or in respect of the Loan Agreement; (iv) neither the Issuer nor the Trustee shall at any time have any responsibility for, or liability or obligation in respect of, the performance and observance by the Registrar, any Transfer Agent or any Paying Agent of their respective obligations under the Agency Agreement; (v) the financial servicing and performance of the terms of the Notes depend solely and exclusively upon performance by the Borrower of its obligations under the Loan Agreement, its covenant to pay under the Loan Agreement and its credit and financial standing. The Borrower has represented and warranted to the Issuer in the Loan Agreement that the Loan Agreement constitutes legal, valid and binding obligations of the Borrower. The representations and warranties given by the Borrower in Clause 11 (Representations and Warranties of the Borrower) of the Loan Agreement are given by the Borrower to the Issuer for the sole benefit of the Issuer and neither the Trustee nor any Noteholder shall have any remedies or rights against the Borrower that the Issuer may have with respect to such representations or warranties, other than any right the Trustee may have pursuant to the assignment of the Transferred Rights; (vi) the Issuer (and, pursuant to the assignment of the Transferred Rights, the Trustee) will rely on self certification by the Borrower and certification by third parties as a means of monitoring whether the Borrower is complying with its obligations under the Loan Agreement and shall not otherwise be responsible for investigating any aspect of the Borrower’s performance in relation thereto (other than, with respect to the Issuer only, the Borrower’s obligation to make payments of principal and interest under the Loan Agreement) and, subject as further provided in the Trust Deed, the Trustee will not be liable for any failure to make the usual or any investigations which might be made by a security holder in relation to the property which is the subject of the Security Interests and held by way of security for the Notes, and shall not be bound to enquire into or be liable for any defect or failure in the right or title of the Issuer to the secured property represented by the Security Interests whether such defect or failure was known to the Trustee or might have been discovered upon examination or enquiry or whether capable of remedy or not, nor will it have any liability for the enforceability of the security created by the Security Interests whether as a result of any failure, omission or defect in registering or filing or otherwise protecting or perfecting such security and the Trustee will have no responsibility for the value of such security; and (vii) if the Borrower is required by law to make any withholding or deduction for or on account of tax from any payment under the Loan Agreement or if the Issuer is required by law to make any withholding or deduction for or on account of tax from any payment in respect of the Notes, the sole obligation of the Issuer will be to pay the Noteholders sums equivalent to the sums actually received from the Borrower pursuant to the Loan Agreement in respect of such payment, including, if applicable, Additional Amounts or Indemnity Amounts (each as defined in the Loan Agreement) in respect of the tax required to be so withheld or deducted; the Issuer shall not be obliged to take any actions or measures as regards such deductions or withholdings other than those set in Clause 8 (Taxes) and Clause 10.3 (Mitigation) of the Loan Agreement. c104221pu100Proof7:3.3.11B/LRevision:0OperatorChoD 160 Save as otherwise expressly provided herein and in the Trust Deed, no proprietary or other direct interest in the Issuer’s rights under or in respect of the Loan Agreement or the Loan exists for the benefit of the Noteholders. No Noteholder will have any entitlement to enforce any of the provisions in the Loan Agreement or have direct recourse to the Borrower except through action by the Trustee under the Security Interests. The Trustee shall not be required to take proceedings to enforce payment under the Trust Deed or, pursuant to the Transferred Rights, the Loan Agreement unless it has been indemnified and/or secured and/or prefunded by the Noteholders to its satisfaction against all liabilities, proceedings, claims and demands to which it may thereby become liable and all costs, charges and expenses which may be incurred by it in connection therewith. As provided in the Trust Deed, the obligations of the Issuer are solely to make payments of amounts in aggregate equal to principal, interest, Additional Amounts, Indemnity Amounts (each as defined in the Loan Agreement) or other amounts, if any, actually received by or for the account of the Issuer pursuant to the Loan Agreement (less any amounts in respect of Reserved Rights), the right to which is being charged by way of security to the Trustee as aforesaid. Noteholders must therefore rely solely and exclusively upon the covenant to pay under the Loan Agreement and the credit and financial standing of the Borrower. Noteholders shall have no recourse (direct or indirect) to any other assets of the Issuer. The obligations of the Issuer to make payments as stated in the previous paragraph constitute direct and general obligations of the Issuer which will at all times rank pari passu among themselves and at least pari passu with all other present and future unsecured obligations of the Issuer, save for such obligations as may be preferred by provisions of law that are both mandatory and of general application. Payments made by the Borrower under the Loan Agreement to, or to the order of, the Trustee or (before such time that the Issuer has been required by the Trustee, pursuant to the terms of the Trust Deed, to pay to or to the order of the Trustee) the Principal Paying Agent will satisfy pro tanto the obligations of the Issuer in respect of the Notes. 2. (a) Register, Title and Transfers Register: The Registrar will maintain outside the United Kingdom a register (the Register) in respect of the Notes in accordance with the provisions of the Agency Agreement. In these Conditions, the Holder of a Note means the person in whose name such Note is for the time being registered in the Register (or, in the case of a joint holding, the first named thereof) and Noteholder shall be construed accordingly. A certificate (each, a Note Certificate) will be issued to each Noteholder in respect of its registered holding. Each Note Certificate will be numbered serially with an identifying number which will be recorded in the Register. The Global Note Certificate will be deposited with The Bank of New York Mellon, as common depositary for Euroclear and Clearstream, Luxembourg and registered in the name of The Bank of New York Depository (Nominees) Limited, as nominee for the Common Depositary. (b) Title: The Holder of each Note shall (except as otherwise required by law) be treated as the absolute owner of such Note for all purposes (whether or not it is overdue and regardless of any notice of ownership, trust or any other interest therein, any writing on the Note Certificate relating thereto (other than the endorsed form of transfer) or any notice of any previous loss or theft of such Note Certificate) and no person shall be liable for so treating such Holder. No person shall have any right to enforce any term or condition of the Notes or the Trust Deed under the Contracts (Rights of Third Parties) Act 1999. (c) Transfers: Subject to Condition 2(f) (Closed periods) and Condition 2(g) (Regulations concerning transfers and registration) below, a Note may be transferred upon surrender of the relevant Note Certificate, with the endorsed form of transfer duly completed (including any certificates as to compliance with restrictions on transfer included therein), at the Specified Office of the Registrar or such relevant Transfer Agent, together with such evidence as the Registrar or (as the case may be) the Transfer Agent may reasonably require to prove the title of the transferor and the authority of the individuals who have executed the form of transfer; provided, however, that a Note may not be transferred unless the principal amount of Notes transferred and (where not all of the Notes held by a Holder are being transferred) the principal amount of the balance of c104221pu100Proof7:3.3.11B/LRevision:0OperatorChoD 161 Notes not transferred are Authorised Holdings. Where not all the Notes represented by the surrendered Note Certificate are the subject of the transfer, a new Note Certificate in respect of the balance of the Notes will be issued to the transferor. (d) Registration and delivery of Note Certificates: Within five business days of the surrender of a Note Certificate in accordance with Condition 2(c) (Transfers) above, the Registrar will register the transfer in question and deliver a new Note Certificate of a like principal amount to the Notes transferred to each relevant Holder at its address (as specified by such Holder to the Registrar) or (as the case may be) the Specified Office of any Transfer Agent or (at the request and risk of any such relevant Holder) by uninsured first class mail (airmail if overseas) to the address specified for the purpose by such relevant Holder. In this paragraph, business day means a day on which commercial banks are open for general business (including dealings in foreign currencies) in the city where the Registrar or (as the case may be) the relevant Transfer Agent has its Specified Office and Kyiv. (e) No charge: The transfer of a Note will be effected without charge by or on behalf of the Issuer, the Registrar or any Transfer Agent but against such indemnity as the Registrar or (as the case may be) such Transfer Agent may require in respect of any tax or other duty of whatsoever nature which may be levied or imposed in connection with such transfer. (f) Closed periods: Noteholders may not require transfers to be registered during the period of 15 days ending on the due date for any payment of principal or interest in respect of the Notes. (g) Regulations concerning transfers and registration: All transfers of Notes and entries on the Register are subject to the detailed regulations concerning the transfer of Notes scheduled to the Agency Agreement. The regulations may be changed by the Issuer with the prior written approval of the Trustee, the Registrar and the Borrower. A copy of the current regulations will be mailed (free of charge) by the Registrar and/or any Transfer Agent to any Noteholder who requests in writing a copy of such regulations. 3. Issuer’s Covenant As provided in the Trust Deed, so long as any of the Notes remain outstanding (as defined in the Trust Deed), the Issuer will not, without the prior written consent of the Trustee or an Extraordinary Resolution or Written Resolution (as defined in the Trust Deed), agree to any amendments to or any modification or waiver of, or authorise any breach or proposed breach of, the terms of the Loan Agreement and will act at all times in accordance with any instructions of the Trustee from time to time with respect to the Loan Agreement, except as otherwise expressly provided in the Trust Deed and the Loan Agreement. Any such amendment, modification, waiver or authorisation made with the consent of the Trustee shall be binding on the Noteholders and any such amendment or modification shall be notified by the Issuer to the Noteholders in accordance with Condition 14 (Notices). 4. (a) Interest Interest on the Notes is equal to 8.25 per cent. per annum (the Rate of Interest) (the ‘‘Due Interest’’), provided that, subject to and in accordance with Condition 6 (Payments), on each Interest Payment Date the Issuer shall pay to the Noteholders only an amount of interest equal to and in the same currency as the amount of interest actually received by or for the account of the Issuer pursuant to the Loan Agreement (the Current Paid Interest). The amount equal to the difference between the Due Interest and the Current Paid Interest (if any) shall remain due by the Issuer, but shall be deferred (the Deferred Interest). Interest shall accrue on the Loan from day to day from (and including) the Issue Date to (but excluding) the due date for repayment thereof unless payment of principal is improperly withheld or refused, in which event interest will continue to accrue (before or after any judgment) at the Rate of Interest to but excluding the date on which payment in full of the outstanding principal amount of the Loan is made. (b) The amount of interest payable in respect of the Loan for any Interest Period shall be calculated by applying the Rate of Interest to the principal amount of the Loan, dividing the product by two and rounding the resulting figure to the nearest cent (half a cent being rounded upwards). If interest on the Loan is required to be calculated for any period other than an Interest Period, it will be calculated on the basis of a year of 360 days consisting of 12 months of 30 days each and, in the case of an incomplete month, the actual number of days elapsed. c104221pu100Proof7:3.3.11B/LRevision:0OperatorChoD 162 (c) As used in this Condition, Interest Payment Date and Interest Period shall have the meanings given to them in the Loan Agreement and Issue Date shall have the meaning given to the term Borrowing Date in the Loan Agreement. In the Loan Agreement, Interest Payment Date is defined as 10 September and 10 March in each year commencing 10 September 2011 in which the Loan remains outstanding. The final Interest Payment Date shall be 10 March 2016. Under the Loan Agreement, the Borrower is required, two Business Days prior to each Interest Payment Date, to pay to the Issuer an amount equal to and in the same currency as the full amount of interest accruing during the Interest Period ending on such Interest Payment Date. 5. (a) Redemption and Purchase Scheduled redemption: Unless previously repaid pursuant to Clause 7 (Repayment upon the occurrence of certain events) of the Loan Agreement, the Borrower will be required to repay the Loan on its due date as provided in the Loan Agreement and, unless previously redeemed pursuant to this Condition 5 or Condition 12 (Enforcement), all the Notes will be redeemed at their outstanding principal amount on 10 March 2016, subject as provided in Condition 6 (Payments). (b) Redemption by the Issuer: The Notes shall be redeemed by the Issuer in whole, but not in part, at any time, on giving not less than 30 days’ nor more than 90 days’ notice to the Noteholders (which notice shall be irrevocable and shall specify a date for redemption, being the same date as that set forth in the notice of repayment referred to in Condition 5(b)(i) or (ii) below) in accordance with Condition 14 (Notices) at the principal amount thereof, together with interest accrued and unpaid to the date fixed for redemption and any Additional Amounts and Indemnity Amounts (each as defined in the Loan Agreement) in respect thereof, if, immediately before giving such notice, the Issuer satisfies the Trustee that: (i) the Issuer has received a notice of repayment from the Borrower pursuant to Clause 7.1 (Repayment for Tax Reasons and Change in Circumstances) of the Loan Agreement, which includes, inter alia, the Borrower’s right to give notice that it has decided to repay the Loan in the event that the Issuer is, subject to receipt of corresponding amounts from the Borrower, required to pay Additional Amounts (as defined in the Loan Agreement) in respect of United Kingdom Taxes as provided in Condition 7 (Taxation); or (ii) the Issuer has delivered a notice to the Borrower, the contents of which require the Borrower to repay the Loan, in accordance with the provisions of Clause 7.2 (Repayment for Illegality) of the Loan Agreement. The Issuer shall deliver to the Trustee a certificate signed by two officers of the Issuer stating that the Issuer is entitled to effect such redemption in accordance with this Condition 5(b). A copy of the Borrower’s notice of repayment contemplated by Clause 7.1 (Repayment for Tax Reasons and Change in Circumstances) of the Loan Agreement or details of the circumstances contemplated by Clause 7.2 (Repayment for Illegality) of the Loan Agreement and the date fixed for redemption shall be set forth in the notice. The Trustee shall be entitled to accept any notice or certificate delivered by the Issuer in accordance with this Condition 5(b) as sufficient evidence of the satisfaction of the applicable circumstances in which event they shall be conclusive and binding on the Noteholders. Upon the expiry of any such notice given by the Issuer to the Noteholders as is referred to in this Condition 5(b), the Issuer shall be bound to redeem the Notes in accordance with this Condition 5, subject as provided in Condition 6 (Payments). (c) Redemption at the option of the Noteholders upon a Change of Control: (i) Upon the occurrence of a Change of Control (as defined in the Loan Agreement), in accordance with Condition 14 (Notices) the Issuer will make an offer to purchase all or any part of the Notes pursuant to the offer described below (the Change of Control Offer) at a price per Note in cash (the Change of Control Payment) equal to the principal amount thereof plus accrued and unpaid interest thereon to the date of repurchase, plus Additional Amounts (as defined in the Loan Agreement), if any, to the date of repurchase. Pursuant to Clause 7.3 (Repayment in the event of a Change of Control) of the Loan Agreement, the Issuer is required to give notice to the Borrower (with a copy to the Trustee), including computation of such amount and specifying the Change of Control Payment Date, setting c104221pu100Proof7:3.3.11B/LRevision:0OperatorChoD 163 out the Change of Control Payment required to be made by the Issuer for such Notes on the Change of Control Payment Date (the Change of Control Notice) and thereafter the Borrower will repay the Loan to the extent corresponding to the aggregate principal amount plus accrued and unpaid interest and Additional Amounts (as defined in the Loan Agreement), if any, on the Notes to be repurchased in accordance with this Condition 5(c) and will pay accrued and unpaid interest and Additional Amounts (as defined in the Loan Agreement), if any, on the Notes to be repurchased. The Issuer, upon distribution of the Change of Control Notice, shall also give notice thereof to the Noteholders in accordance with Condition 14 (Notices) with a copy to the Agents and the Trustee, with the following information: (A) that a Change of Control Offer is being made pursuant to this Condition 5(c) and all Notes properly tendered pursuant to such Change of Control Offer will be accepted for payment; (B) the purchase price and the purchase date, which will be a Business Day (as defined in the Loan Agreement) falling not less than 30 calendar days nor more than 60 calendar days after the date of delivery by the Issuer of the Change of Control Notice (the Change of Control Payment Date), provided that the Issuer shall, where reasonably practicable, specify a Change of Control Payment Date which falls before the date on which Ukraine, whether through the Cabinet of Ministers of Ukraine or any other Agency of Ukraine (as defined in the Loan Agreement), ceases to own, legally and beneficially, at least 51 per cent. of the Capital Stock (as defined in the Loan Agreement) of, or otherwise to control the Borrower; (C) that any Note not properly tendered or not tendered at all will remain outstanding and continue to accrue interest and Additional Amounts (as defined in the Loan Agreement), if any; (D) that unless the Issuer defaults in the payment of the Change of Control Payment, all Notes accepted for payment pursuant to the Change of Control Offer will cease to accrue interest and Additional Amounts (as defined in the Loan Agreement), if any, on the Change of Control Payment Date; (E) that Noteholders electing to have any Notes repurchased pursuant to a Change of Control Offer will be required to surrender the Notes, with the form entitled Option to Purchase Notice set out in a schedule to the Agency Agreement completed, to the Paying Agent and at the address specified in the notice prior to the close of business on the fourth Business Day preceding the Change of Control Payment Date; and (F) that Noteholders will be entitled to withdraw their tendered Notes and their election to require the Issuer to repurchase such Notes provided that the Paying Agent receives prior to the close of business on the third Business Day preceding the Change of Control Payment Date, a facsimile transmission or letter setting out the name of the Noteholder, the principal amount of Notes tendered for repurchase, and a statement that such Noteholder is withdrawing his tendered Notes and his election to have such Notes repurchased. (ii) (d) No later than the second Business Day (as defined in the Loan Agreement) prior to the Change of Control Payment Date, the Borrower will, pursuant to Clause 7.4 (Costs of Repayment) of the Loan Agreement, repay the loan (together with all accrued interest (calculated to (but excluding) the date of repayment) and all other amounts owing and payable thereunder) in an amount corresponding to the aggregate principal amount in respect of all Notes properly tendered and not properly withdrawn as set out in the Change of Control Notice plus accrued and unpaid interest and Additional Amounts (as defined in the Loan Agreement) (if any) thereon. On the Change of Control Payment Date, the Issuer will, to the extent permitted by law and subject to such repayment, (i) accept for payment all Notes properly tendered and not properly withdrawn pursuant to the Change of Control Offer and (ii) deliver, or cause to be delivered, to the Principal Paying Agent for cancellation on behalf of the Issuer the Notes so accepted together with a certificate of two authorised officers of the Issuer stating that such Notes have been tendered to and purchased by the Issuer. In accordance with the instructions of the Noteholder set out in the Option to Purchase Notice, the Paying Agent will promptly pay to the Noteholder the Change of Control Payment for such Notes. The Issuer will publicly announce, and will provide notice to Noteholders in accordance with Condition 14 (Notices), the results of the Change of Control Offer on or as soon as practicable after the Change of Control Payment Date. No other redemption: Except where the Loan is accelerated pursuant to Clause 14.6(c) (Revocation of Licence; Insolvency) of the Loan Agreement, the Issuer shall not be entitled to redeem the Notes prior to that due date otherwise than as provided in this Condition 5 (Redemption and Purchase) and Condition 12 (Enforcement). c104221pu100Proof7:3.3.11B/LRevision:0OperatorChoD 164 (e) Purchase: The Issuer or the Borrower may at any time purchase Notes in the open market or otherwise and at any price. Such Notes may be held or resold (provided that any such resale is outside the United States as defined in Regulation S under the U.S. Securities Act of 1933, as amended (the Securities Act)) or surrendered by the purchaser through the Issuer to the Registrar for cancellation. (f) Cancellation: All Notes so redeemed or purchased and surrendered for cancellation by the Issuer shall be cancelled and all Notes purchased by the Borrower and surrendered to the Issuer pursuant to Clause 7.6 (Purchase of Funding Instruments and Reduction of Loan Upon Cancellation of Funding Instruments) of the Loan Agreement, together with an authorisation addressed to the Registrar by the Borrower, shall be cancelled. 6. (a) Payments Principal: Payments of principal shall be made by U.S. dollar cheque drawn on, or, upon application by a Holder of a Note to the Specified Office of the Principal Paying Agent not later than the fifteenth day before the due date for any such payment, by transfer to a U.S. dollar account maintained by the payee with, a bank in New York City or London, as the case may be, and shall only be made upon surrender (or, in the case of part payment only, endorsement) of the relevant Note Certificates at the Specified Office of any Paying Agent. (b) Interest: Payments of interest shall be made by U.S. dollar cheque drawn on, or upon application by a Holder of a Note to the Specified Office of the Principal Paying Agent not later than the fifteenth day before the due date for any such payment, by transfer to a U.S. dollar account maintained by the payee with, a bank in New York City or London as the case may be, and (in the case of interest payable on redemption), and shall only be made upon surrender (or, in the case of part payment only, endorsement) of the relevant Note Certificates at the Specified Office of any Paying Agent. (c) Payments subject to fiscal laws: All payments in respect of the Notes are subject in all cases to any applicable fiscal or other laws and regulations in the place of payment, but without prejudice to the provisions of Condition 7 (Taxation). No commissions or expenses shall be charged to the Noteholders in respect of such payments. (d) Payments on business days: Where payment is to be made by transfer to a U.S. dollar account, payment instructions (for value the due date, or, if the due date is not a business day, for value the next succeeding business day) will be initiated and, where payment is to be made by U.S. dollar cheque, the cheque will be mailed (i) (in the case of payments of principal and interest payable on redemption) on the later of the due date for payment and the day on which the relevant Note Certificate is surrendered (or, in the case of part payment only, endorsed) at the Specified Office of a Paying Agent and (ii) (in the case of payments of interest payable other than on redemption) on the due date for payment. A Holder of a Note shall not be entitled to any interest or other payment in respect of any delay in payment resulting from (A) the due date for a payment not being a business day or (B) a cheque mailed in accordance with this Condition 6 (Payments) arriving after the due date for payment or being lost in the mail. In this paragraph, business day means any day (other than a Saturday, Sunday or public holiday) on which commercial banks and foreign exchange markets settle payments (including dealings in foreign currencies) in the principal financial centre for such currency and, in the case of surrender (or, in the case of part payment only, endorsement) of a Note Certificate, in the place in which the Note Certificate is surrendered (or, as the case may be, endorsed). (e) Partial payments: If a Paying Agent makes a partial payment in respect of any Note, the Issuer shall procure that the amount and date of such payment are noted on the Register and, in the case of partial payment upon presentation of a Note Certificate, that a statement indicating the amount and the date of such payment is endorsed on the relevant Note Certificate. (f) Record date: Each payment in respect of a Note will be made to the person shown as the Holder in the Register at the opening of business in the place of the Registrar’s Specified Office on the fifteenth day before the due date for such payment (the Record Date). Where payment in respect of a Note is to be made by cheque, the cheque will be mailed to the address shown as the address of the Holder in the Register at the opening of business on the relevant Record Date. c104221pu100Proof7:3.3.11B/LRevision:0OperatorChoD 165 (g) Payment to the Account: Save as the Trustee may otherwise direct at any time after the security created pursuant to the Trust Deed becomes enforceable, the Issuer will pursuant to the provisions of Clause 7.1 (Issuer to pay Principal Paying Agent) of the Agency Agreement require the Borrower to make all payments of principal, interest, Additional Amounts (as defined in the Loan Agreement), Indemnity Amounts (as defined in the Loan Agreement) or other amounts, if any, to be made pursuant to the Loan Agreement, less any amounts in respect of the Reserved Rights, to the Account. (h) Payment obligations limited: Notwithstanding any other provisions to the contrary, the obligations of the Issuer to make payments under Condition 5 (Redemption and Purchase) and this Condition 6 shall constitute an obligation only to pay to the Noteholders on such date upon which a payment is due in respect of the Notes, to the extent of sums of principal, interest, Additional Amounts (as defined in the Loan Agreement), Indemnity Amounts (as defined in the Loan Agreement) or other amounts, if any, actually received by or for the account of the Issuer pursuant to the Loan Agreement, less any amount in respect of the Reserved Rights. The Issuer will have no other financial obligation under the Notes. 7. Taxation All payments by or on behalf of the Issuer in respect of the Notes shall be made in full without set off or counterclaim, free and clear of and without deduction or withholding for or on account of any present or future taxes, levies, duties, assessments, fees or other governmental charges or withholding of a similar nature no matter where arising (including interest and penalties thereon and additions thereto) no matter how they are levied or determined (Taxes) imposed by any taxing authority of or in, or having authority to tax in the United Kingdom, unless such deduction or withholding of Taxes is required by law. In that event, the Issuer shall, subject as provided below, pay such additional amounts as will result in the receipt by the Noteholders after such withholding or deduction of such amounts as would have been received by them if no such withholding or deduction had been made or required to be made. The foregoing obligation to pay additional amounts, however, will not apply to any: (a) Taxes that would not have been imposed but for the existence of any present or former connection between such Noteholder and the United Kingdom or Ukraine other than the mere receipt of such payment or the ownership or holding of such Note; (b) Taxes that would not have been imposed but for the presentation of the Note by the Noteholder for payment (of principal or interest) on a date more than 30 days after the Relevant Date (as defined below); (c) Taxes required to be deducted or withheld by any Paying Agent from a payment on a Note, if such payment could have been made without deduction or withholding by any other Paying Agent in a Member State of the European Union; and (d) Taxes imposed on a payment to an individual which are required to be made pursuant to European Council Directive 2003/48/EC on the taxation of savings income in the form of interest payments or any law implementing or complying with, or introduced in order to conform to, such Directive. Notwithstanding the foregoing provisions, the Issuer shall only make payments of additional amounts to the Noteholders pursuant to this Condition 7 to the extent and at such time as it shall have actually received an equivalent amount for such purposes from the Borrower under the Loan Agreement by way of Additional Amounts or Indemnity Amounts (each as defined in the Loan Agreement) or otherwise. To the extent that the Issuer receives a lesser sum from the Borrower under the Loan Agreement, the Issuer shall account to each Noteholder entitled to receive such additional amount pursuant to this Condition 7 for an additional amount equivalent to a pro rata portion of such sum (if any) as is actually received by, or for the account of, the Issuer pursuant to the provisions of the Loan Agreement on the date of, in the currency of, and subject to any conditions attaching to such payment to the Issuer. In these Conditions, Relevant Date means whichever is the later of (a) the date on which the payment in question first becomes due and (b) if the full amount payable has not been received by the Principal Paying Agent or the Trustee on or prior to such due date, the date on which (the full amount having been so received) notice to that effect has been given to the Noteholders by the Issuer in accordance with Condition 14 (Notices). c104221pu100Proof7:3.3.11B/LRevision:0OperatorChoD 166 Any reference in these Conditions to principal or interest shall be deemed to include, without duplication, any additional amounts in respect of principal or interest (as the case may be) which may be payable under this Condition 7 or any undertaking given in addition to or in substitution of this Condition 7 pursuant to the Trust Deed or the Loan Agreement. 8. Prescription Claims for principal and interest on redemption shall become void unless the relevant Note Certificates are surrendered for payment within ten years, and claims for interest due other than on redemption shall become void unless made within five years, of the appropriate Relevant Date. 9. Replacement of Note Certificates If any Note Certificate is lost, stolen, mutilated, defaced or destroyed, it may be replaced at the Specified Office of the Registrar or Transfer Agent, subject to all applicable laws and stock exchange requirements, upon payment by the claimant of the expenses incurred in connection with such replacement and on such terms as to evidence, security, indemnity and otherwise as the Issuer, Registrar and Transfer Agent may reasonably require. Mutilated or defaced Note Certificates must be surrendered before replacements will be issued. 10. (a) Trustee and Agents Appointment, Removal and Retirement of Trustee: The power of appointing new trustees is be vested in the Issuer pursuant to the Trust Deed but no person shall be appointed who shall not previously have been approved by an Extraordinary Resolution. A trust corporation may be appointed sole trustee hereof but subject thereto there shall be at least two trustees hereof one at least of which shall be a trust corporation. The Noteholders shall together have the power, exercisable by Extraordinary Resolution, to remove any trustee or trustees for the time being hereof. The removal of any trustee shall not become effective unless there remains a trustee hereof (being a trust corporation) in office after such removal. Subject to the conditions set out in the Trust Deed, the Issuer may appoint a new trustee if the United Kingdom ceases to be the jurisdiction in which the Trustee is resident and acting through for taxation purposes. Subject to the conditions set out in the Trust Deed, the Trustee may retire at any time upon giving not less than three calendar months’ notice in writing to the Issuer without assigning any reason therefor and without being responsible for any costs occasioned by such retirement. (b) Indemnification of the Trustee: Under separate agreement between the Borrower and the Trustee, the Trustee is entitled to be indemnified and relieved from responsibility in certain circumstances and, under the Trust Deed, to be paid its costs and expenses in priority to the claims of the Noteholders. The Trust Deed, the fees distribution letter to be dated on or about 10 March 2011 and the fees indemnity letter to be dated on or about 10 March 2011 contain provisions for the indemnification of the Trustee, provisions for its relief from responsibility, including relieving it from taking action unless indemnified and/or secured and/or prefunded to its satisfaction, and provisions entitling it to be paid its costs and expenses in priority to the claims of the Noteholders. (c) Trustee contracting with the Issuer and the Borrower: The Trust Deed also contains provisions pursuant to which the Trustee is entitled, inter alia, (i) to enter into business transactions with the Issuer and/or the Borrower and/or any subsidiary of the Issuer and/or the Borrower and to act as trustee for the holders of any other securities issued or guaranteed by, or relating to, the Issuer and/or the Borrower and/or any subsidiary of the Issuer and/or the Borrower, (ii) to exercise and enforce its rights, comply with its obligations and perform its duties under or in relation to any such transactions or, as the case may be, any such trusteeship without regard to the interests of, or consequences for, the Noteholders and (iii) to retain and not be liable to account for any profit made or any other amount or benefit received thereby or in connection therewith. (d) Trustee to have regard to Interests of Noteholders as one Class: In connection with the exercise by it of any of its trusts, powers, authorities and discretions (including, without limitation, any modification, waiver, authorisation, determination or substitution), the Trustee shall have regard to the general interests of the Noteholders as a class but shall not have regard to any interests c104221pu100Proof7:3.3.11B/LRevision:0OperatorChoD 167 arising from circumstances particular to individual Noteholders (whatever their number) and, in particular but without limitation, shall not have regard to the consequences of any such exercise for individual Noteholders (whatever their number) resulting from their being for any purpose domiciled or resident in, or otherwise connected with, or subject to the jurisdiction of, any particular territory or any political sub division thereof and the Trustee shall not be entitled to require, nor shall any Noteholder be entitled to claim, from the Issuer, the Trustee or any other person any indemnification or payment in respect of any tax consequence of any such exercise upon individual Noteholders except to the extent already provided for in Condition 7 (Taxation) and/or any undertaking given in addition to, or in substitution for, Condition 7 (Taxation) pursuant to the Trust Deed. (e) In acting under the Agency Agreement and in connection with the Notes, the Agents act solely as agents of the Issuer and (to the extent provided therein) the Trustee and do not assume any obligations towards or relationship of agency or trust for or with any of the Noteholders. Under separate agreement between the Borrower and the Agents, the Agents are entitled to be indemnified and relieved from certain responsibilities in certain circumstances. (f) Initial Paying Agents: The initial Agents and their initial Specified Offices are listed below. The Issuer reserves the right (with the prior approval of the Trustee) at any time to vary or terminate the appointment of any Agent and to appoint a successor principal paying agent or registrar and additional or successor paying agents and transfer agents; provided, however, that the Issuer shall at all times maintain (a) a principal paying agent and a registrar, (b) a paying agent and a transfer agent in Ireland, and (c) a paying agent with a specified office in a member state of the European Union that will not be obliged to withhold or deduct tax pursuant to any European Union Directive on the taxation of savings implementing the conclusions of the ECOFIN Council meeting of 26 to 27 November 2000 or any law implementing or complying with, or introduced to conform to, such Directive. Notice of any change in any of the Agents or in their Specified Offices shall promptly be given to the Noteholders in accordance with Condition 14 (Notices). 11. (a) Meetings of Noteholders; Modification and Waiver; Substitution Meetings of Noteholders: The Trust Deed contains provisions for convening meetings of Noteholders to consider matters relating to the Notes, including the modification of any provision of the Loan Agreement or any provision of these Conditions or the Trust Deed. Such a meeting may be convened on no less than 14 days’ notice by the Trustee or the Issuer or by the Trustee upon the request in writing of Noteholders holding not less than one tenth of the aggregate principal amount of the outstanding Notes. The quorum at any meeting convened to vote on an Extraordinary Resolution will be one or more persons holding or representing more than half of the aggregate principal amount of the outstanding Notes or, at any adjourned meeting, one or more persons holding or representing whatever the principal amount of the outstanding Notes held or represented, unless the business of such meeting includes consideration of proposals, inter alia, (i) to change any date fixed for payment of principal or interest in respect of the Notes, (ii) to reduce the amount of principal or interest payable on any date in respect of the Notes, (iii) to alter the method of calculating the amount of any payment in respect of the Notes or the date for any such payment, (iv) to change the currency of payments under the Notes, (v) to change the quorum requirements relating to meetings or the majority required to pass an Extraordinary Resolution, (vi) to alter the governing law of the Conditions, the Trust Deed or the Loan Agreement, (vii) to change any date fixed for payment of principal or interest under the Loan Agreement, (viii) to alter the method of calculating the amount of any payment under the Loan Agreement or (ix) to change the currency of payment or, without prejudice to the rights under Condition 11(b) (Modification) below, change the definition of ‘‘Event of Default’’ under the Loan Agreement (each, a Reserved Matter), in which case the necessary quorum will be one or more persons holding or representing not less than two thirds, or at any adjourned meeting not less than one third, in principal amount of the Notes for the time being outstanding. Any Extraordinary Resolution duly passed at any such meeting shall be binding on all the Noteholders, whether present or not. Extraordinary Resolution means a resolution passed at a Meeting duly convened and held in accordance with schedule 4 (Provisions for Meetings of Noteholders) of the Trust Deed by a majority of not less than three quarters of the votes cast. c104221pu100Proof7:3.3.11B/LRevision:0OperatorChoD 168 In addition, a resolution in writing signed by or on behalf of the holders of not less than 90 per cent. of the Notes then outstanding (a Written Resolution) will take effect as if it were an Extraordinary Resolution. Such a resolution in writing may be contained in one document or several documents in the same form, each signed by or on behalf of one or more Noteholders. (b) Modification: The Trustee may from time to time and at any time without the consent or sanction of the Noteholders concur with the Issuer (and, if applicable, the Borrower) in making (a) any modification to these Conditions or the Trust Deed (other than in respect of Reserved Matters as specified and defined in schedule 4 (Provisions for Meetings of Noteholders) of the Trust Deed or any provision of the Trust Deed referred to in that specification), the Notes, the Agency Agreement or, pursuant to the Transferred Rights, the Loan Agreement, which in the opinion of the Trustee, it may be proper to make if, in the opinion of the Trustee, such modification will not be materially prejudicial to the interests of Noteholders or (b) any modification to the Notes, these Conditions, the Agency Agreement, the Loan Agreement or the Trust Deed if in the opinion of the Trustee such modification is of a formal, minor or technical nature or is to correct a manifest error. Any such modification shall be binding on the Noteholders and, unless the Trustee otherwise agrees, the Issuer shall cause such modification to be Noteholders as soon as practicable thereafter in accordance with Condition 14 (Notices). (c) Authorisation, Waiver and Determination: In addition, the Trustee may, without the consent or sanction of the Noteholders, authorise or waive any proposed breach or breach of the Notes, these Conditions or the Trust Deed by the Issuer, the Agency Agreement or, pursuant to the Transferred Rights, the Loan Agreement by the Borrower, or determine that any event which would or might otherwise give rise to a right of acceleration under the Loan Agreement or constitute a Relevant Event (as defined in Condition 12 (Enforcement)) shall not be treated as such (other than a proposed breach or breach relating to the subject of a Reserved Matter) if, in the opinion of the Trustee, the interests of the Noteholders will not be materially prejudiced thereby. (d) Notification to Noteholders: Unless the Trustee agrees otherwise, any such modification, authorisation or waiver shall be notified to the Noteholders as soon as practicable thereafter and in accordance with Condition 14 (Notices). (e) Substitution: The Trust Deed and the Loan Agreement contain provisions under which the Issuer may, without the consent of the Noteholders, transfer the obligations of the Issuer as principal debtor under the Trust Deed and the Notes and its rights as Lender under the Loan Agreement to a third party provided that certain conditions specified in the Trust Deed are fulfilled. 12. Enforcement At any time after an Event of Default (as defined in the Loan Agreement) or Relevant Event (as defined below) shall have occurred and be continuing, the Trustee may, at its discretion and without notice, institute such proceedings as it thinks fit to enforce its rights under the Trust Deed in respect of the Notes, but it shall not be bound to do so unless: (a) it has been so requested in writing by the Holders of at least 25 per cent. in principal amount of the outstanding Notes or has been so directed by an Extraordinary Resolution; and (b) it has been indemnified and/or provided with security and/or prefunded to its satisfaction against all liabilities, proceedings, claims and demands to which it may thereby become liable and all costs, charges and expenses which may be incurred by it in connection therewith. The Trust Deed also provides that, in the case of an Event of Default or a Relevant Event, the Trustee may, and shall if requested to do so by Noteholders of at least 25 per cent. in principal amount of the Notes outstanding or if directed to do so by an Extraordinary Resolution and, in either case, subject to it being secured and/or prefunded and/or indemnified to its satisfaction, (1) require the Issuer to declare all amounts payable under the Loan Agreement by the Borrower to be due and payable (where an Event of Default has occurred and is continuing), or (2) enforce the security created in the Trust Deed (in the case of a Relevant Event). Upon repayment of the Loan following an Event of Default, the Notes will be redeemed or repaid at c104221pu100Proof7:3.3.11B/LRevision:0OperatorChoD 169 the principal amount thereof together with interest accrued to the date fixed for redemption together with any Additional Amounts (as defined in the Loan Agreement) due in respect thereof pursuant to Condition 7 (Taxation) and thereupon shall cease to be outstanding. For the purposes of these Conditions, Relevant Event means the earlier of (i) the failure by the Issuer to make any payment of principal or interest on the Notes when due to the extent it is obligated to do so pursuant to these Conditions; (ii) the filing of an application for the institution for bankruptcy, insolvency or composition proceedings over the assets of the Issuer in the United Kingdom; and (iii) the taking of any action in furtherance of the dissolution of the Issuer. For the avoidance of doubt, no Additional Amounts (as defined in the Loan Agreement) shall be payable if and to the extent that such withholding or deduction is required following and on account of a Relevant Event. No Noteholder may proceed directly against the Issuer unless the Trustee, having become bound to do so, fails to do so within a reasonable time and such failure is continuing. 13. Further Issues The Issuer may from time to time, with the consent of the Borrower but without the consent of the Noteholders, in accordance with the Trust Deed, create and issue Further Notes (as defined in the Trust Deed) having the same terms and conditions as the Notes in all respects (or in all respects except for the issue date and/or the first payment of interest) so as to form a single series with the Notes. Such Further Notes shall be issued under a deed supplemental to the Trust Deed. In relation to such further issue, the Issuer will enter into a loan agreement supplemental to the Loan Agreement with the Borrower on the same terms as the original Loan Agreement (or on the same terms except for the borrowing date and/or the first payment of interest and/or the rate of interest) subject to any modifications which, in the sole opinion of the Trustee, would not materially prejudice the interests of the Noteholders. The Issuer will provide a further fixed charge and absolute assignment by way of security in favour of the Trustee of its rights under such supplemental loan agreement equivalent to the rights charged and assigned as Security Interests in relation to the Issuer’s rights under the original Loan Agreement which will, together with the Security Interests referred to in these Conditions, secure both the Notes and such Further Notes. 14. Notices All notices to the Noteholders will be valid if, so long as the Notes are listed on the Irish Stock Exchange and the guidelines of that exchange so require, they are filed with the Companies Announcements Office of the Irish Stock Exchange. The Issuer shall also ensure that notices are duly published in a manner which complies with the rules and regulations of any stock exchange or the relevant authority on which the Notes are for the time being listed. Any such notice will be deemed to have been given on the date of the first publication or, where required to be published in more than one newspaper, on the date of the first publication in all required newspapers. If publication as provided above is not practicable, notice will be given in such other manner, and shall be deemed to have been given on such date, as the Trustee may approve. 15. Limited Recourse If at any time following: (a) the occurrence of the scheduled redemption date set out in Condition 5(a) (Scheduled redemption) or any earlier date upon which all of the Notes are due and payable; and (b) Realisation of the Loan Agreement and application in full of any amounts available to pay amounts due and payable under the Notes in accordance with the Trust Deed and the Conditions, the proceeds of such Realisation are insufficient, after payment of all other claims ranking in priority in accordance with the applicable priority (or priorities) of payments, to pay in full any Deferred Interest and any other amounts then due and payable under the Notes then the amount remaining to be paid, including but not limited to Deferred Interest, (after such application in full of the amounts first referred to in (b) above) under the Notes shall, on the day following such application in full of the amounts referred to in (b) above, cease to be due and payable by the Issuer. c104221pu100Proof7:3.3.11B/LRevision:0OperatorChoD 170 For the purposes of this Condition 15: Realisation means, in relation to the Loan Agreement, the deriving, to the fullest extent practicable, (in accordance with the provisions of the Trust Deed and other transaction documentation) of proceeds from or in respect of the Loan Agreement including (without limitation) through sale or through performance by the Borrower. Notwithstanding any other Clause or provision in the Conditions or any transaction document, no provision other than this Condition 15 shall limit or in any way reduce the amount of interest that would otherwise be payable by the Issuer under any Note, if and to the extent that such limitation or reduction falls to any extent to be determined by reference to the results of any business or part of a business or the value of any property. For the avoidance of doubt, the Notes are therefore limited recourse obligations of the Issuer only. In each case where amounts are stated to be payable in respect of the Notes, the obligation of the Issuer to make any such payment shall constitute an obligation only to account to the Noteholders, on each date upon which such amounts are due in respect of the Notes, for all amounts (if any) actually received by or for the account of the Issuer pursuant to the Loan Agreement (disregarding any amounts in respect of Reserved Rights). The Issuer will have no other financial obligation under the Notes. Accordingly, Noteholders are deemed to have agreed that they will rely solely and exclusively on the Borrower’s covenants to pay and perform its obligations under the Loan Agreement and the credit and financial standing of the Borrower. Noteholders shall have no recourse (direct or indirect) to any other assets of the Issuer. None of the Noteholders (nor any other person acting on behalf of any of them) shall be entitled at any time to institute against the Issuer, or join in any institution against the Issuer of, any bankruptcy, administration, moratorium, reorganisation, controlled management, arrangement, insolvency, examinership, winding-up or liquidation proceedings or similar insolvency proceedings under any applicable bankruptcy or similar law in connection with any obligation of the Issuer relating to the Notes or otherwise owed to the creditors, save for lodging a claim in the liquidation of the Issuer which is initiated by another party or taking proceedings to obtain a declaration or judgment as to the obligations of the Issuer. No Noteholder shall have any recourse against any director, shareholder, or officer of the Issuer in respect of any obligations, covenants or agreement entered into or made by the Issuer in respect of the Notes. 16. (a) Governing Law and Jurisdiction Governing law: The Notes, the Loan Agreement and the Trust Deed and all matters arising from or connected with the Notes, the Loan Agreement and the Trust Deed, including any non contractual obligations arising out of or in connection therefrom, are governed by, and shall be construed in accordance with, English law. (b) Jurisdiction: The Issuer has in the Trust Deed (i) irrevocably agreed for the benefit of the Trustee and the Noteholders that the courts of England shall have exclusive jurisdiction to settle any dispute (a Dispute) arising from or connected with the Notes; (ii) agreed that those courts are the most appropriate and convenient courts to settle any Dispute and, accordingly, that it will not argue that any other courts are more appropriate or convenient; (iii) designated a person in England to accept service of any process on its behalf; (iv) consented to the enforcement of any judgment; and (v) to the extent that it may in any jurisdiction claim for itself or its assets immunity from suit, execution, attachment (whether in aid of execution, before judgment or otherwise) or other legal process, and to the extent that in any such jurisdiction there may be attributed to itself or its assets or revenues such immunity (whether or not claimed), agreed not to claim and irrevocably waived such immunity to the full extent permitted by the laws of such jurisdiction. The Trust Deed also states that nothing contained in the Trust Deed prevents the Trustee or any of the Noteholders from taking proceedings relating to a Dispute (Proceedings) in any other courts with jurisdiction and that, to the extent allowed by law, the Trustee or any of the Noteholders may take concurrent Proceedings in any number of jurisdictions. 17. Contracts (Rights of Third Parties) Act 1999 No person shall have any right to enforce any term or condition of the Notes under the Contracts (Rights of Third Parties) Act 1999, but this does not affect any right or remedy of any person which exists or is available apart from that Act. c104221pu100Proof7:3.3.11B/LRevision:0OperatorChoD 171 There will appear at the foot of the Conditions endorsed on or (as the case may be) attached to each Individual Note Certificate the names and Specified Offices of the Registrar, the Paying Agents and the Transfer Agent as set out at the end of this Prospectus. c104221pu100Proof7:3.3.11B/LRevision:0OperatorChoD 172 SUMMARY OF PROVISIONS RELATING TO THE NOTES IN GLOBAL FORM Global Note Certificate The Notes will be represented by a Global Note Certificate which will be registered in the name of The Bank of New York Depository (Nominees) Limited as nominee for, and deposited with, a common depositary for Euroclear and Clearstream, Luxembourg. For so long as all of the Notes are represented by a Global Note Certificate and such Global Note Certificate is held on behalf of Euroclear and/or Clearstream, Luxembourg, the Trustee, Paying Agent, Transfer Agent and Registrar shall, for the purposes of performing the functions under the Trust Deed be entitled to deem, treat and have regard to the interests of each person (other than Euroclear or Clearstream, Luxembourg) who is for the time being shown in the records of Euroclear or Clearstream, Luxembourg as the holder of a particular principal amount of such Notes (each an Accountholder) (in which regard any certificate or other document issued by Euroclear or Clearstream, Luxembourg as to the principal amount of such Notes standing to the account of such person shall be conclusive and binding for all purposes) as the holder of such principal amount of such Notes for all purposes in place of the holder of the Global Note Certificate to the extent of the principal amount of Notes in respect of which such person is an Accountholder. Neither the Trustee, the Paying Agent, the Transfer Agent nor the Registrar shall have any responsibility to or be liable for any aspect of the records relating to ownership of interests in the Global Note certificate. Exchange The Global Note Certificate will become exchangeable in whole, but not in part, for individual note certificates (Individual Note Certificates) if (a) Euroclear or Clearstream, Luxembourg is closed for business for a continuous period of 14 days (other than by reason of legal holidays) or announces an intention permanently to cease business or (b) the Issuer has failed to pay an amount in respect of the Notes within five days of the date on which such amount became due and payable under the Conditions; or (c) the Issuer would suffer a material disadvantage in respect of the Notes as a result of a change in the laws or regulations (taxation or otherwise) which would not be suffered were the Notes evidenced by Individual Note Certificates and a certificate to such effect signed by two authorised signatories of the Issuer is delivered to the Trustee. Thereupon (in the case of (a) and (b) above) the Holder may give notice to the Issuer, and (in the case of (c) above) the Issuer may give notice to the Trustee and the Noteholders of its intention to exchange the Global Note Certificate for Individual Note Certificates. Whenever the Global Note Certificate is to be exchanged for Individual Note Certificates, such Individual Note Certificates will be issued in an aggregate principal amount equal to the principal amount of the Global Note Certificate within five business days of the delivery, by or on behalf of the registered Holder of the Global Note Certificate, Euroclear and/or Clearstream, Luxembourg, to the Registrar of such information as is required to complete and deliver such Individual Note Certificates (including, without limitation, the names and addresses of the persons in whose names the Individual Note Certificates are to be registered and the principal amount of each such person’s holding) against the surrender of the Global Note Certificate at the Specified Office of the Registrar. Such exchange will be effected in accordance with the provisions of the Agency Agreement and the regulations concerning the transfer and registration of Notes scheduled thereto and, in particular, shall be effected without charge to any Holder or the Trustee, but against such indemnity as the Registrar may require in respect of any tax or other duty of whatsoever nature which may be levied or imposed in connection with such exchange. Amendments to Conditions In addition, the Global Note Certificate will contain provisions which modify the Terms and Conditions of the Notes as they apply to the Notes evidenced by the Global Note Certificate. The following is a summary of certain of those provisions: Notices Notwithstanding Condition 14 (Notices), so long as the Global Note Certificate is held on behalf of Euroclear, Clearstream, Luxembourg or any other clearing system provided such other clearing system is regarded as a recognised clearing system by the Irish Revenue Commissioners (an Alternative Clearing System), notices to Holders of Notes represented by the Global Note Certificate may be given by delivery of the relevant notice to Euroclear, Clearstream, Luxembourg or (as the case may be) such Alternative Clearing System for communication to the relative Accountholders rather than c104221pu100Proof7:3.3.11B/LRevision:0OperatorChoD 173 by publication as required by Condition 14 (Notices), provided that, for so long as the Notes are listed on the Irish Stock Exchange Limited and the guidelines of the Irish Stock Exchange Limited so require, notice will also be given by filing in the Companies Announcements Office of the Irish Stock Exchange. Any such notice shall be deemed to have been given to the Noteholders on the second day after the day on which such notice is delivered to Euroclear and/or Clearstream, Luxembourg or (as the case may be) such Alternative Clearing System as aforesaid. Payment To the extent that the Issuer has actually received and retained the relevant funds from the Borrower, payments in respect of Notes represented by a Global Note Certificate will be made against presentation for endorsement and, if no further payment of principal or interest is to be made in respect of the Notes, against presentation and surrender of such Global Note Certificate to or to the order of the Registrar. Upon payment of any principal, the amount so paid shall be endorsed by or on behalf of the Registrar on behalf of the Issuer on the schedule to the Global Note Certificate. Payment while Notes are represented by a Global Note Certificate will be made in accordance with the procedures of Euroclear and Clearstream, Luxembourg or any alternative clearing system as appropriate. Meetings The Holder of the Global Note Certificate will be treated as being two persons for the purposes of any quorum requirements of, or the right to demand a poll at, a meeting of Noteholders. Trustee Powers In considering the interests of Noteholders while the Global Note Certificate is held on behalf of a clearing system, the Trustee may have regard to any information provided to it by such clearing system or its operator as to the identity (either individually or by category) of its Accountholders with entitlements to the Global Note Certificate and may consider such interests as if such Accountholders were the holders of the Global Note Certificate. Prescription Claims against the Issuer in respect of principal and interest on the Notes while the Notes are represented by the Global Note Certificate will become void unless it is presented for payment within a period of 10 years (in the case of principal) and five years (in the case of interest) from the appropriate Relevant Date (as defined in Condition 8 (Prescription)). Euroclear and Clearstream, Luxembourg References in the Global Note Certificate and this summary to Euroclear and/or Clearstream, Luxembourg shall be deemed to include references to any other clearing system approved by the Trustee. The address of Euroclear is 1 Boulevard du Roi Albert 11, B 1210 Brussels, Belgium. The address of Clearstream, Luxembourg is L 2967 Luxembourg. c104221pu100Proof7:3.3.11B/LRevision:0OperatorChoD 174 SUBSCRIPTION AND SALE The Lead Managers have, pursuant to the terms and conditions set forth in a subscription agreement, dated 4 March 2011 (the Subscription Agreement), agreed with the Issuer and the Borrower, subject to the satisfaction of certain conditions set forth therein, to subscribe and pay for the Notes at the issue price of 100 per cent. of the principal amount of the Notes. The Borrower has agreed to pay certain commissions, fees, costs and expenses in connection with the Loan and the offering of the Notes and to reimburse certain of the Lead Managers, the Issuer and the Trustee for certain of their expenses in connection with the offering of the Notes. The Lead Managers are entitled to be released and discharged from their obligations under the Subscription Agreement in certain circumstances prior to payment being made to the Issuer. The yield of the Notes is 8.25 per cent. per annum. The yield is calculated as at the Issue Date on the basis of the issue price. It is not an indication of future yield. An entity affiliated to a Lead Manager has agreed to purchase up to U.S.$25,000,000 in principal amount of the Notes from the Lead Managers in their capacity as the initial purchasers of the Notes. United States The Notes have not been and will not be registered under the Securities Act and may not be offered or sold within the United States or to, or for the account or benefit of, U.S. persons (as defined in Regulation S) except in accordance with Regulation S or pursuant to an exception from, or in a transaction not subject to, the registration requirements of the Securities Act. Each Joint Lead Manager has severally represented, warranted and agreed that it has not offered or sold, and will not offer or sell, any Notes constituting part of its allotment except in accordance with Rule 903 of Regulation S under the Securities Act. Each Lead Managers also represents, warrants and agrees that it has offered and sold the Notes, and will offer and sell the Notes (i) as part of their distribution at any time and (ii) otherwise until 40 days after the later of the commencement of the offering and the Closing Date (the distribution compliance period) only in accordance with Rule 903 of Regulation S of the Securities Act. Each Lead Managers agrees that, at or prior to confirmation of sale of Notes, it will have sent to each distributor, dealer or person receiving a selling concession, fee or other remuneration that purchases Notes from it during the distribution compliance period a confirmation or notice to substantially the following effect: ‘‘The Securities covered hereby have not been registered under the U.S. Securities Act of 1933, as amended (the Securities Act), and may not be offered and sold within the United States or to, or for the account or benefit of, U.S. persons (i) as part of their distribution at any time or (ii) otherwise until 40 days after the later of the commencement of the offering and the closing date, except in either case in accordance with Regulation S under the Securities Act. Terms used above have the meaning given to them by Regulation S.’’ Each Lead Managers has represented and agreed that neither it, its affiliates nor any persons acting on its or their behalf have engaged or will engage in any directed selling efforts with respect to the Notes, and it and they have complied and will comply with the offering restrictions requirement of Regulation S. Terms used in the paragraph above and this paragraph have the meaning given to them by Regulation S. United Kingdom Each Joint Lead Manager has represented, warranted and agreed that: (a) it has only communicated or caused to be communicated and will only communicate or cause to be communicated an invitation or inducement to engage in investment activity (within the meaning of Section 21 of the FSMA) received by it in connection with the issue or sale of any Notes in circumstances in which Section 21(1) of the FSMA does not apply to the Issuer; and (b) it has complied and will comply with all applicable provisions of the FSMA with respect to anything done by it in relation to the Notes in, from, or otherwise involving the United Kingdom. Russian Federation Each Joint Lead Manager has represented and agreed that the Notes have not been and will not be offered, transferred or sold as part of their initial distribution or at any time thereafter to or for the benefit of any persons (including legal entities) resident, incorporated, established or having their c104221pu110Proof7:3.3.11B/LRevision:0OperatorChoD 175 usual residence in the Russian Federation or to any person located within the territory of the Russian Federation unless and to the extent otherwise permitted under Russian Law; it being understood and agreed that this Prospectus may be distributed to persons in the Russian Federation in a manner that does not constitute an advertisement or offering of the Notes in Russia (each as defined under Russian law). Ukraine Each Joint Lead Manager represents, warrants and undertakes that the Notes shall not be offered by any of them for circulation, distribution, placement, sale, purchase or other transfer in the territory of Ukraine. Accordingly, nothing in the Prospectus or any other documents, information or communications related to the Notes shall be interpreted as containing any offer or invitation to, or solicitation of, any such circulation, distribution, placement, sale, purchase or other transfer in the territory of Ukraine. Hong Kong Each Joint Lead Manager has represented, warranted and undertaken that: (a) it has not offered or sold and will not offer or sell in Hong Kong, by means of any document, any Notes other than (i) to persons whose ordinary business is to buy or sell shares or debentures (whether as principal or agent); (ii) to ‘‘professional investors’’ as defined in the Securities and Futures Ordinance (Cap. 571) of Hong Kong and any rules made under that Ordinance; or (iii) in other circumstances which do not result in the document being a ‘‘prospectus’’ as defined in the Companies Ordinance (Cap. 32) of Hong Kong or which do not constitute an offer to the public within the meaning of that Ordinance; and (b) it has not issued or had in its possession for the purposes of issue, and will not issue or have in its possession for the purposes of issue, whether in Hong Kong or elsewhere, any advertisement, invitation or document relating to the Notes, which is directed at, or the contents of which are likely to be accessed or read by, the public of Hong Kong (except if permitted to do so under the securities laws of Hong Kong) other than with respect to Notes which are or are intended to be disposed of only to persons outside Hong Kong or only to ‘‘professional investors’’ as defined in the Securities and Futures Ordinance and any rules made under that Ordinance. Singapore The Prospectus has not been registered as a prospectus with the Monetary Authority of Singapore (the MAS) under the Securities and Futures Act, Chapter 289 of Singapore (the Securities and Futures Act). Accordingly, the Notes may not be offered or sold or made the subject of an invitation for subscription or purchase nor may the Prospectus or any other document or material in connection with the offer or sale or invitation for subscription or purchase of such Notes be circulated or distributed, whether directly or indirectly, to any person in Singapore other than (a) to an institutional investor pursuant to Section 274 of the Securities and Futures Act, (b) to a relevant person, or any person pursuant to Section 275(1A) of the Securities and Futures Act, and in accordance with the conditions specified in Section 275 of the Securities and Futures Act, or (c) pursuant to, and in accordance with the conditions of, any other applicable provision of the Securities and Futures Act. Each of the following relevant persons specified in Section 275 of the Securities and Futures Act which has subscribed or purchased Notes, namely a person who is: (c) a corporation (which is not an accredited investor) the sole business of which is to hold investments and the entire share capital of which is owned by one or more individuals, each of whom is an accredited investor; or (d) a trust (where the trustee is not an accredited investor) whose sole purpose is to hold investments and each beneficiary is an accredited investor, should note that shares, debentures and units of shares and debentures of that corporation or the beneficiaries’ rights and interest in that trust shall not be transferable for six months after that corporation or that trust has acquired the Notes under Section 275 of the Securities and Futures Act except: c104221pu110Proof7:3.3.11B/LRevision:0OperatorChoD 176 (i) to an institutional investor under Section 274 of the Securities and Futures Act or to a relevant person, or any person pursuant to Section 275(1A) of the Securities and Futures Act, and in accordance with the conditions, specified in Section 275 of the Securities and Futures Act; (ii) where no consideration is given for the transfer; or (iii) by operation of law. Republic of Italy Each Lead Manager has represented and agreed that it has not made and will not make an offer of the Notes which are the subject of the offering, contemplated by the Prospectus to the public in the Republic of Italy (Italy) other than: (a) to professional investors (investitori qualificati) as defined pursuant to Article 100, paragraph 1 (a), of Legislative Decree No 58, 24 February 1998 (the Financial Services Act) and Article 34ter, paragraph 1(b), of CONSOB Regulation 11971, 14 May 1999 (the Issuers Regulation), all as amended and restated from time to time; or (b) in any other circumstances provided under Article 100, paragraph 1, of the Financial Services Act and under Article 34-ter, paragraph 1, of the Issuers Regulation, where exemptions from the requirement to publish a prospectus are provided. For the purposes of this provision, the expression ‘‘offer of Notes to the public’’ in Italy means the communication in any form and by any means of sufficient information on the terms of the offer and the Notes to be offered so as to enable an investor to decide to purchase or subscribe the Notes, including the placement through authorised intermediaries. Any investor purchasing the Notes is solely responsible for ensuring that any offer or resale of the Notes by such investor occurs in compliance with applicable Italian laws and regulations. The Notes and the information contained in the Prospectus are intended only for the use of its recipient. No person resident or located in Italy other than the original recipients of the Prospectus may rely on it or its content. Moreover, and subject to the foregoing, each Lead Manager has acknowledged that any offer, sale or delivery of the Notes or distribution of copies of this document or any other document relating to the Notes in Italy under (a) or (b) above will be: (a) made by an investment firm, bank or financial intermediary permitted to conduct such activities in Italy in accordance with the Financial Services Act, Legislative Decree No. 385 of 1 September 1993 (the Banking Act) and CONSOB regulation No. 11522, 1 July 1998, all as amended; (b) in compliance with the so-called subsequent notification to the Bank of Italy, pursuant to Article 129 of the Banking Act, if applicable; and (c) in compliance with any other applicable laws and regulations including any relevant limitations which may be imposed by CONSOB. General Other than the approval of this Prospectus by the Central Bank, no action has been or will be taken in any jurisdiction by the Issuer, the Borrower or the Lead Managers that would, or is intended to, permit a public offer of the Notes, or possession or distribution of any offering material in relation thereto, in any country or jurisdiction where action for that purpose is required. Each Joint Lead Manager has severally undertaken to the Issuer and the Borrower that it will not, directly or indirectly, offer or sell any Notes or distribute or publish any prospectus, form of application, advertisement or other document or information in any country or jurisdiction except under circumstances that will, to the best of its knowledge and belief upon due enquiry, result in compliance with any applicable laws and regulations and all offers and sales of Notes by it will be made on the same terms. No Joint Lead Manager is authorised to make any representation or use any information in connection with the issue, offering and sale of the Notes other than as contained in this Prospectus or any amendment or supplement to it. c104221pu110Proof7:3.3.11B/LRevision:0OperatorChoD 177 TAXATION The following is a general summary of certain Ukrainian and United Kingdom tax considerations relevant to the purchase, ownership and disposition of the Notes as well as taxation of interest payments on the Loan subject to terms and conditions of the Notes. It does not purport to be a complete analysis of all tax considerations relating to the Notes and the Loan, whether in those countries or elsewhere. Prospective purchasers of the Notes should consult their own tax advisers as to which countries’ tax laws could be relevant to acquiring, holding and disposing of Notes and receiving payments of interest, principal and/or other amounts under the Notes and the consequences of such actions under the tax laws of such countries. The summary is based upon the law as in effect as of the date of this Prospectus and is subject to any change in law that may take effect after such date. Ukrainian Tax Considerations General The following summary is included for general information only. Potential investors in and holders of the Notes should consult their own tax advisers as to the tax consequences under the laws of Ukraine of the acquisition, ownership and disposition of the Notes. This summary is based upon the Ukrainian tax laws and regulations as in effect on the date of this Prospectus. Such laws and regulations are subject to change or varying interpretations. As with other areas of Ukrainian legislation, tax law and practice in Ukraine is not as clearly established as that of more developed jurisdictions. It is possible, therefore, that the current interpretation of the law or practice of its application may change or that the laws may be amended. Accordingly, it is possible that payments to be made to the Issuer under the Loan Agreement and/or to the holders of the Notes could become subject to taxation in Ukraine or that rates currently in effect with respect to such payments could be increased in ways that cannot be anticipated as of the dale of this Prospectus. Tax on Interest Payments Under the Loan Under Ukrainian tax legislation, income received by non -resident entities from Ukrainian sources in the form of interest shall be subject to withholding tax in Ukraine at the rate of 15 per cent. At the same time, if an applicable double tax treaty, ratified by Ukraine, provides for reduction in or relief of income from taxation in Ukraine, the treaty provisions shall prevail over provisions of the Ukrainian tax laws. The United Kingdom and Ukraine have entered into the Double Tax Treaty. Under provisions of the Double Tax Treaty, interest arising in Ukraine and paid to a resident of the United Kingdom shall be taxable only in the United Kingdom if such resident is the beneficial owner of the interest and is subject to tax in respect of the interest in the United Kingdom, and except when the interest is derived through the resident’s permanent establishment in Ukraine. Based on professional advice it has received, the Bank believes that, under the Double Tax Treaty, as currently applied, payments of interest on the Loan will not be subject to withholding taxation in Ukraine, provided that the above specified conditions under the Double Tax Treaty are met and, in addition, that certain Ukrainian law requirements are satisfied. Under applicable Ukrainian law, the Issuer’s residence in the United Kingdom for purposes of the Double Tax Treaty will be evidenced by a certificate issued by the taxing authority in the United Kingdom or by the Issuer’s being listed in the S.W.I.F.T. International Bank Identifier Code. A new tax residency certificate must be obtained by the Issuer for each calendar year. Ukraine does not have an established practice of utilizing the concept of ‘‘beneficial ownership’’ of interest. For tax law purposes, this concept was introduced in Ukraine by the new Tax Code of Ukraine, the main part of which became effective on 1 January 2011. Under the Tax Code, a person that acts as agent, nominal holder (owner) or intermediary in respect of Ukrainian source income would not qualify as the ‘‘beneficial owner’’ of the income. Although the Ukrainian tax authorities did not apply the ‘‘beneficial ownership’’ concept to deny tax treaty benefits to foreign lenders in the past, and there is yet no practice of interpretation or application of such concept in Ukraine, there is a risk that, based on the above specified provisions of the new Tax Code, the Issuer may be viewed by the Ukrainian tax authorities as failing to satisfy the ‘‘beneficial ownership’’ test in respect of interest under the Loan Agreement. In such event, the payment of interest to the Issuer would not be exempt from the Ukrainian withholding tax, and the Borrower would be required to pay the Additional Amounts under the tax gross-up provisions of the Loan Agreement to compensate the Issuer for such tax withholding (see ‘‘Gross-up Provision’’ below). c104221pu110Proof7:3.3.11B/LRevision:0OperatorChoD 178 In addition, Article 11 (7) of the Double Tax Treaty contains a ‘‘main purpose’’ anti avoidance provision. If it were the main purpose or one of the main purposes of any person concerned with the creation or assignment of the debt claim under the Loan Agreement to avail the Issuer of the treaty benefits (i.e., exemption of interest income received under the Loan Agreement from withholding taxation in Ukraine) by means of that creation or assignment, the Issuer would not be entitled to the benefits under Article 11 of the Double Tax Treaty. The tax authorities of Ukraine may potentially use Article 11(7) of the Double Tax Treaty to deny treaty benefits. Tax on Issue and Interest Payments under the Notes No Ukrainian withholding tax should apply to the issue of the Notes or interest payments under the Notes because the Notes will not be issued and interest payments on the Notes will not be made by the Borrower or from Ukraine. Tax on Payment of Instalments of Principal and On Redemption of the Notes The amount received by the Issuer as repayment or prepayment of principal amount of any loan is not treated as income. Therefore, it shall not be subject to any income taxation in Ukraine either by withholding or otherwise. The amounts received by non-resident Noteholders on redemption of the Notes should not be subject to taxation in Ukraine as the payment on redemption of the Notes will not be made by the Borrower or from Ukraine. Gross Up Provision If payments under the Loan Agreement are subject to any withholding (as a result of which the Issuer would reduce payments under the Notes in the amount of such withholding), then, subject to certain exceptions relating to maintenance by the Issuer of its incorporation in a Qualifying Jurisdiction, the Borrower would be obliged to pay such additional amounts as may be necessary so that the net payments received by the Issuer were not less than the amount it would have received in the absence of such withholding. In such circumstances, the Borrower would have the right to prepay the Loan as fully set out in the Loan Agreement. Notwithstanding the foregoing, Ukrainian tax law prohibits contractual provisions with non-residents where a resident entity takes responsibility for covering foreign party’s tax liability. According to a clarification issued by Ukraine’s tax authorities, payment of additional amounts to a non-resident entity in order to compensate for tax deducted in Ukraine contradicts the above requirement of Ukrainian tax law. Although the position of the tax authorities expressed in the clarification is not legally binding, if interpreted broadly, the restriction would apply to the gross up provisions of the Loan Agreement and obligations of the Borrower to pay additional amounts thereunder. As a result, the gross up provision could be found null and void and therefore, unenforceable in Ukraine. If the Trustee were to enforce the security under the Trust Deed following an Event of Default or Relevant Event, the Trustee would receive payments of principal and interest under the Loan Agreement in the name of the Issuer or in its own name. As a result, the benefits of the Double Tax Treaty may cease to be applicable to payments under the Loan Agreement and such payments may become subject to withholding taxation in Ukraine. If this were to occur, the Bank is not obliged to pay additional amounts on account of Ukrainian taxes withheld and the Trustee (on behalf of the Noteholders) would only be entitled to receive an amount net of such taxes. The Issuer is obliged to make payments under the Notes to Noteholders only to the extent of the amount of principal, interest and Additional Amounts or Indemnity Amounts (both as defined in the Conditions), if any, actually received by or for the account of the Issuer under the Loan Agreement, less any amount in respect of Reserved Rights (as defined in the Conditions). See also ‘‘Risk Factors – Risks Relating to the Offering, the Notes and the Trading Market’’. Transfer of Notes to Ukrainian Investors If Notes are held by a non-resident entity, any gains derived by the non-resident entity from the sale or other disposition of Notes in favour of a Ukrainian resident entity will be subject to withholding taxation in Ukraine at a rate of 15 per cent. If Notes are held by a non-resident individual, any gains derived by the individual from the sale or other disposition of Notes to a Ukrainian legal entity are generally subject to Ukrainian personal income tax at the marginal rate of 17 per cent. The gains derived by the non-resident entity or individual from the sale or other disposition of Notes, otherwise c104221pu110Proof7:3.3.11B/LRevision:0OperatorChoD 179 subject to income taxation in Ukraine, may be exempt from taxation in Ukraine under provisions of applicable double tax treaties. Tax Implications for Residents of Ukraine A Noteholder who is an individual or legal entity resident in Ukraine for tax purposes (including a permanent establishment of a non-resident legal entity) is subject to taxation in Ukraine on net basis on its worldwide income (income attributable to permanent establishments in Ukraine). Interest from holding debt securities is included into the taxable income of a resident taxpayer, while the principal amount generally is not treated as income. United Kingdom Taxation The following is a summary of the United Kingdom withholding taxation treatment at the date hereof in relation to payments of principal and interest in respect of the Notes. It is based on current law and the practice of Her Majesty’s Revenue and Customs (HMRC), which may be subject to change, sometimes with retrospective effect. The comments do not deal with other United Kingdom tax aspects of acquiring, holding or disposing of Notes. The comments relate only to the position of persons who are absolute beneficial owners of the Notes. The following is a general guide for information purposes and should be treated with appropriate caution. It is not intended as tax advice and it does not purport to describe all of the fax considerations that may be relevant to a prospective purchaser. Noteholders who are in any doubt as to their tax position should consult their professional advisers. Noteholders who may be liable to taxation in jurisdictions other than the United Kingdom in respect of their acquisition, holding or disposal of the Notes are particularly advised to consult their professional advisers as to whether they are so liable (and if so under the laws of which jurisdictions), since the following comments relate only to certain United Kingdom taxation aspects of payments in respect of the Notes. In particular, Noteholders should be aware that they may be liable to taxation under the laws of other jurisdictions in relation to payments in respect of the Notes even if such payments may be made without withholding or deduction for or on account of taxation under the laws of the United Kingdom. UK Withholding Tax on UK Source Interest The Notes will constitute ‘‘quoted Eurobonds’’ provided they are and continue to be listed on a recognised stock exchange. Whilst the Notes are and continue to be quoted Eurobonds, payments of interest on the Notes may be made without withholding or deduction for or on account of United Kingdom income tax. Securities will be ‘‘listed on a recognised stock exchange’’ for this purpose if they are admitted to trading on an exchange designated as a recognised stock exchange by an order made by the Commissioners for HMRC and either they are included in the United Kingdom official list (within the meaning of Part 6 of the Financial Services and Markets Act 2000) or they are officially listed, in accordance with provisions corresponding to those generally applicable in European Economic Area States, in a country outside the United Kingdom in which there is a recognised stock exchange. The Irish Stock Exchange is a recognised stock exchange. The Issuer’s understanding of current HMRC practice is that securities which are listed on the Main Standard of that Exchange may be regarded as ‘‘listed on a recognised stock exchange’’ for these purposes. In all cases falling outside the exemption described above, interest under deduction of United Kingdom income tax at the basic rate such relief as may be available following a direction from HMRC applicable double taxation treaty, or to any other exemption which on the Notes may fall to be paid (currently 20 per cent.) subject to pursuant to the provisions of any may apply. Provision of information Holders should note that where any interest on Notes is paid to them (or to any person acting on their behalf) by the Issuer or any person in the United Kingdom acting on behalf of the Issuer (a paying agent), or is received by any person in the United Kingdom acting on behalf of the relevant Holder (other than solely by clearing or arranging the clearing of a cheque) (a collecting agent), then the Issuer, the paying agent or the collecting agent (as the case may be) may in certain cases, be required to supply to HMRC details of the payment and certain details relating to the Holder (including the Holder’s name and address). These provisions will apply whether or not the interest has been paid subject to withholding or deduction for or on account of United Kingdom income tax. In certain circumstances, the details provided to HMRC may be passed by HMRC to the tax authorities of certain other jurisdictions. c104221pu110Proof7:3.3.11B/LRevision:0OperatorChoD 180 Information may also be required to be reported in accordance with regulations made pursuant to the EU Savings Directive (see below). Other Rules Relating to United Kingdom Withholding Tax Where interest has been paid under deduction of United Kingdom income tax, Holders who are not resident in the United Kingdom may be able to recover all or part of the tax deducted if there is an appropriate provision in any applicable double taxation treaty. The references to ‘‘interest’’ in this ‘‘United Kingdom Taxation’’ section above mean ‘‘interest’’ as understood in United Kingdom tax law. The statements above do not take any account of any different definitions of ‘‘interest’’ or principal’’ which may prevail under any other law or which may be created by the Terms and Conditions of the Notes or any related documentation. The above description of the United Kingdom withholding tax position assumes that there will be no substitution of the Issuer and does not consider the tax consequences of any such substitution. EU Savings Tax Directive Under the EU Savings Tax Directive, each Member State is required to provide to the tax authorities of another Member State details of payments of interest or other similar income paid by a person within its jurisdiction to, or collected by such a person for, an individual resident or certain limited types of entity established in that other Member State. However, for a transitional period, Austria and Luxembourg are instead required (unless during that period they elect otherwise) to apply a withholding system in relation to such payments, deducting tax at rates rising over time to 35 per cent. The transitional period is to terminate at the end of the first full fiscal year following agreement by certain non EU countries to the exchange of information relating to such payments. A number of non EU countries including Switzerland have adopted similar measures (either provision of information or transitional withholding). The European Commission has proposed certain amendments to the EU Savings Tax Directive, which may, if implemented, amend or broaden the scope of the requirements described above. For the avoidance of doubt, should the Issuer, the Principal Paying Agent or any institution where the Notes are deposited be required to withhold any amount as a direct or indirect consequence of the EU Savings Tax Directive, then, there is no requirement for the Issuer to pay any additional amounts relating to such withholding. c104221pu110Proof7:3.3.11B/LRevision:0OperatorChoD 181 GENERAL INFORMATION 1. Application has been made to list the Notes on the Irish Stock Exchange by the Issuer, through the Listing Agent, The Bank of New York Mellon (Ireland) Limited. The Bank of New York Mellon (Ireland) Limited is acting solely in its capacity as listing agent for the Issuer in connection with the Notes and is not itself seeking admission of the Notes to the Official List of the Irish Stock Exchange or to trading on its regulated market for the purposes of the Prospectus Directive. 2. The Notes have been accepted for clearance through Euroclear and Clearstream, Luxembourg with a Common Code of 059429469. The International Securities Identification Number (ISIN) for the Notes is XS0594294695. 3. For so long as any of the Notes are outstanding, copies of the following documents may be inspected in physical form at the specified offices of the Principal Paying Agent and the Irish Paying Agent during normal business hours: (a) the charter of the Borrower (with an English translation); (b) the constitutional documents of the Issuer; (c) a copy of this Prospectus, together with any supplement to this Prospectus; (d) the Paying Agency Agreement; (e) the Trust Deed, which includes the forms of the Global Note Certificate and the Individual Note Certificates; (f) the annual reports and the audited unconsolidated financial statements of the Borrower in respect of the financial years ended 31 December 2009 and 2008; (g) copies of the audited condensed interim unconsolidated financial information for the nine months ended 30 September 2010 and 30 September 2009 of the Borrower; (h) copies (with an English translation) of the authorisations listed below; and (i) the Loan Agreement. 4. The Borrower has obtained or will obtain all necessary consents, approvals and authorisations in Ukraine in connection with its entry into, and the performance of its obligations under, the Loan Agreement. No consents, approvals, authorisations or orders of any regulatory authorities are required by the Issuer under the laws of the United Kingdom for its entry into, and the performance of its obligations under, the Loan Agreement or for the issue and performance of the Notes. 5. The Borrower and the Issuer have obtained all necessary corporate consents, approvals and authorisations required in connection with the Loan and the issue and performance of the Notes. The issuance of the Notes and the granting of the Loan were authorised by the Issuer by a resolution of the board of directors of the Issuer passed on 2 March 2011. The Loan was authorised by the Borrower by a resolution of the Management Board passed on 2 February 2011. 6. The auditors of the Borrower are PJSC ‘‘Deloitte & Touche USC’’ whose business address is located at 48-50A Zhylianska St., Kyiv, 01033, Ukraine. The Borrower’s IFRS financial statements as at and for the years ended 31 December 2009 and 2008 included in this document have been audited by PJSC ‘‘Deloitte & Touche USC’’ which reports expressed qualified opinion on those statements. The Borrower’s condensed interim financial information for the nine months ended 30 September 2010 and 30 September 2009 prepared in accordance with IAS 34 ‘‘Interim Financial Reporting’’ included in this document have been audited by PJSC ‘‘Deloitte & Touche USC’’. PJSC ‘‘Deloitte & Touche USC’’ is regulated by the Audit Chamber of Ukraine. 7. The Borrower is incorporated under the laws of Ukraine as a joint stock company and was registered with the NBU on 31 December 1991 (registration number 4) and has been established for an indefinite period of time. The Borrower’s business address is 12-G Hospitalna Street, Kyiv, 01001, Ukraine and the telephone number of the Borrower is +380 44 247 8540. 8. None of the Borrower, its subsidiaries or the Issuer are, or have been involved in any governmental, legal or arbitration proceedings (including any such proceedings which are pending or threatened of which any of the Borrower, its subsidiaries or the Issuer are aware) c104221pu110Proof7:3.3.11B/LRevision:0OperatorChoD 182 during the 12 months before the date of this Prospectus which may have, or have had in the recent past, significant effects on any of the Borrower’s, its subsidiaries’ or the Issuer’s financial position or profitability. 9. There has been no material adverse change in the prospects of the Borrower and its subsidiaries since 31 December 2009 or in the case of the Issuer, since its incorporation, nor has there been any significant change in the financial or trading position of the Borrower and its subsidiaries, taken as a whole, which has occurred since 31 December 2009 or in the case of the Issuer, since its incorporation. 10. Neither the Borrower nor the Issuer has entered into any material contracts outside the ordinary course of its business which could result in the Borrower, its subsidiaries or the Issuer being under an obligation or entitlement that is material to the Borrowers’ ability to meet its obligations under the Loan Agreement or the Issuer’s ability to make payments under the Notes, as the case may be. 11. There are no potential conflicts of interest between any duties of the members of the administrative, management or supervisory bodies of the Borrower towards the Borrower and their private interests and/or other duties. 12. The Trust Deed provides, inter alia, that the Trustee may act and/or rely on the opinion or advice of or a certificate of any information obtained from any lawyer, banker, valuer, surveyor, broker, auctioneer, accountant, auditor or other expert (whether or not addressed to the Trustee), notwithstanding that such opinion, advice, certificate or information contains a monetary or other limit on the liability of any of the above mentioned persons in respect thereof. 13. The Issuer does not intend to provide any post issuance transaction information regarding the Notes or the underlying collateral. 14. The total fees and expenses in connection with the admission of the Notes to trading on the Irish Stock Exchange are expected to be approximately EUR 5,000. c104221pu110Proof7:3.3.11B/LRevision:0OperatorChoD 183 APPENDIX 1 THE BANKING SECTOR AND BANKING REGULATIONS IN UKRAINE The following information has been extracted from publicly available sources (such as information contained on official websites and in publications of governmental agencies of Ukraine, including the NBU and other governmental or mass media sources). It has not been independently verified by the Borrower, the Issuer or the Lead Managers. Neither the Borrower, the Issuer nor the Lead Managers accept any responsibility for the accuracy or completeness of this information. See ‘‘Risk Factors – Risks Relating to Ukraine – Official statistics and other data published by State authorities may not be reliable’’. The Ukrainian Banking Sector The Ukrainian banking sector is a two-tier structure made up of the NBU and commercial banks of various types and forms of ownership including the State-owned Joint Stock Company ‘‘The State Export-Import Bank of Ukraine’’ (Ukreximbank) and the Bank. Three commercial banks (‘‘Rodovid Bank’’, ‘‘Ukrgasbank’’ and ‘‘Kyiv’’) were recapitalised in 2009 by the Government. As a result of such recapitalisation, the State became the majority shareholder in those banks (with the State-owned stake ranging from 87.7 per cent. up to almost 100 per cent.). In addition, the State Finance Institution for Innovations owns 99.99 per cent. of the share capital of the Ukrainian Bank for Reconstruction and Development. The banks act in accordance with, among other laws, the Law of Ukraine ‘‘On the National Bank of Ukraine’’ of 20 May 1999 (the National Bank Law), the Law of Ukraine ‘‘On Banks and Banking Activity’’ of 7 December 2000 (the Banking Law), the Ukrainian legislation on joint stock companies and other business entities, as well as various NBU regulations and their respective Charters. Role of the NBU The NBU is the central bank of Ukraine. Established in 1991 and governed by the Constitution of Ukraine and the National Bank Law, the NBU is a specialised state institution with the principal objective of ensuring the external and internal stability of the national currency and has broad regulatory and supervisory functions in the banking sector. The NBU is empowered to develop and conduct monetary policy, organise banking settlements and the foreign exchange system, ensure stability of the monetary, financial and banking systems of Ukraine and protect the interests of commercial bank depositors. The NBU sets the official exchange rate of the national currency with respect to foreign currencies, the discount rate and other interest rates. The NBU is also responsible for the accumulation and custody of the State’s gold and currency reserves. In addition, it registers commercial banks, issues licences, supervises the operations of Ukrainian banks and determines the procedures for providing emergency funds to commercial banks. The principal governing bodies of the NBU are the Council and the Board. The Council, the highest governing body of the NBU, consists of 15 members, seven of whom are appointed by Parliament and seven of whom are appointed by the President. The Governor of the NBU (nominated by the President and appointed by Parliament for a seven year term) acts ex officio as the fifteenth member of the Council. The Council is charged, in particular, with formulating the principles of Ukraine’s monetary policy and has the right to veto the Board’s decisions if they contravene such principles. The Board, which is comprised of the Governor, his or her deputies and other members of the Board, is responsible for implementing Ukraine’s monetary policy, the development and implementation of other NBU policies and generally managing the activities of the NBU. On 9 July 2010, the Parliament approved a law which entered into force on 20 October 2010, subject to certain provisions coming into effect from 1 January 2012. The law significantly amended the legislative framework that governs the activities of the NBU in order to comply with the arrangements reached by Ukraine with the IMF and the World Bank. The primary purpose of this law is to strengthen the independence of the NBU. Among other things, from 20 October 2010, the law tightens qualification requirements for members of the NBU Council and the Board, and increases the term of office of the NBU Governor from five years to seven years. Monetary Policy The NBU implements monetary policy. Currently, the NBU uses instruments such as mandatory reserve requirements for banks, interest rates, refinancing of commercial banks, deposit operations, REPO-operations and stabilising loans for banks with temporary problems. The main channel for the c104221pu115Proof7:3.3.11B/LRevision:0OperatorChoD A-1 release of funds into circulation is the foreign currency market. With signs of the economy beginning to stabilise after the financial crisis in 1998 and the ensuing economic instability in the region, the NBU reduced the discount rate from 45 per cent. at the beginning of 2000 to 12.5 per cent. by the end of 2001, and to 7.0 per cent. in December 2002. Since then, the discount rate has been subject to periodic changes by the NBU and ranged from 7.5 per cent. to 9.5 per cent. during 2004-2007. In 2008 the discount rate rose to 10 per cent. as of 1 January 2008 and up to 12 per cent. as of 30 April 2008. In 2009 the discount rate decreased to 11 per cent. as at 15 June 2009 and to 10.25 as at 12 August 2009. In 2010, the NBU further decreased the discount rate to 9.5 per cent. on 8 June 2010, 8.5 per cent. on 8 July 2010 and 7.75 per cent. on 10 August 2010. Since 1 March 2004, the NBU has been determining separate interest rates for overnight unsecured loans (11.25 per cent. for example as at 9 February 2011) and overnight loans secured by the Ukrainian Government debt securities (9.25 per cent. as at 9 February 2011). From 17 November 2006, the NBU has been setting separate interest rates for deposit certificates issued by the NBU for different terms. The NBU declared that its main goal in respect of monetary policy in 2010 was to maintain the stability of the hryvnia as a basis for sustainable social and economic development. In order to achieve this goal the NBU intended to manage the growth of money supply in line with the growth of real GDP, to further manage the level of monetisation in the economy (i.e. ratio of money supply to national income) and to ensure the stability of the financial system of Ukraine by way of, among other things, taking measures for financial rehabilitation of banks. As at 9 February 2011, the main goals of the NBU’s monetary policy for 2011 have not yet been published. Regulation Banking activities in Ukraine are regulated by several laws and numerous regulations issued by the NBU. The principal legislation in the area is the Banking Law. The NBU oversees compliance with the Banking Law, regulations and other legislation and imposes appropriate sanctions for violations of those laws and regulations. The NBU adopted the ‘‘Banking Regulation Instruction’’ (which establishes capital adequacy, liquidity and other ratios), pursuant to the authority granted under the Banking Law and the National Bank Law. The NBU also sets accounting, reporting, auditing and other requirements for commercial banks. A Ukrainian commercial bank may carry out so-called ‘‘exclusive banking activities’’ (i.e., taking deposits, opening and maintaining of bank accounts and investment of raised funds) only with a banking licence issued by the NBU. Banks are permitted to carry out additional banking transactions subject to obtaining a special written permit from the NBU. Reporting Requirements Banks are required to submit an annual report that contains audited financial statements and consolidated financial statements if a bank has affiliates under its control, as well as a general description of the bank’s business. Financial statements include a balance sheet, income statement, statement of changes in equity and cash flow statements, a summary of significant accounting policies (as may be relevant) and other explanatory notes. The general description section describes the basic features of a bank’s activities and its organisation and management. Interim financial statements are submitted by banks on a quarterly basis and consist of a balance sheet, income statement, off-balance sheet liabilities statement, trust management accounts and a cover letter. The purpose of the cover letter is to describe and explain events and operations, which are material and important for a fair presentation of the financial position of a bank. Banks are also required to submit to the NBU statistical data on a daily, weekly and monthly basis that ensures permanent review by the NBU of a bank’s performance and financial position. Securing Deposits of Individuals The Law of Ukraine ‘‘On the Fund for the Guaranteeing of Deposits of Individuals’’ of 20 September 2001 No. 2740III (the Deposits Securing Law) introduced a system of securing deposits held by individuals with Ukrainian banks modifying the system established in 1998 by the Presidential Decree ‘‘On Measures for the Protection of the Rights of Individual Depositors of Commercial Banks of Ukraine’’ of 10 September 1998 No. 996/98 (the Decree). Pursuant to the Deposits Securing Law, commercial banks in Ukraine are obliged to pay into the Fund for the Guaranteeing of Deposits of Individuals (the Fund) established by the Decree and functioning pursuant to the Deposits Securing Law, an initial contribution in the amount of 1 per cent. of their registered share capital (payable once after obtaining a banking licence) and a regular contribution of 0.25 per cent. of the aggregate amount of deposits placed with them, including interest accrued (payable twice a year). Banks may also be required to pay a special contribution into the Fund if the income of the Fund is not c104221pu115Proof7:3.3.11B/LRevision:0OperatorChoD A-2 sufficient to repay and service loans borrowed by the Fund in order to meet compensation claims following the collapse of a bank in the banking system. From 1 January 2011, under the Deposits Securing Law, the guaranteed deposit amount with a commercial bank, including interest, was decreased from a maximum of UAH 150,000 per depositor back to UAH 1,200 per depositor, the level in place prior to October 2008. Nevertheless, the Fund decided to retain the maximum guaranteed amount for deposits opened by individuals in one bank at the level of UAH 150,000 per depositor. Deposits are recognised as ‘‘unavailable’’ (i.e. eligible for compensation from the Fund) on the date of appointment of a bank’s liquidator. The Deposits Securing Law does not apply to the Borrower. As of 1 February 2011, the Fund had 170 member banks and five temporary member banks. As of 1 February 2011, the total amount of funds accumulated by the Fund amounted to UAH 3,656 million. Reserve and Liquidity Requirements In 2001, the NBU adopted regulations relating to the mandatory reserves of commercial banks which provide for the NBU to impose sanctions for failure to maintain prescribed amounts of mandatory reserves. Such sanctions are payable from a bank’s profits. Currently, a commercial bank is required to annually transfer no less than 5 per cent. of its profits to its reserve fund, unless such reserve fund is equal to 25 per cent. of the bank’s regulatory capital. The NBU may require commercial banks to increase their mandatory reserve amounts. The NBU has established mandatory reserve requirements to maintain the liquidity of the banking system and the stability of the Ukrainian hryvnia. Banks are required to maintain certain reserves in current accounts with the NBU. There are no restrictions on withdrawal of funds from the NBU. However, if minimum average requirements are not met, a bank could be subject to certain penalties imposed by the NBU in accordance with applicable regulations. Reserve requirements are computed as a percentage of certain of the bank’s liabilities. In particular, with effect from 1 February 2009, the reserves may not be less than the aggregate of: (i) 7 per cent. of call deposits and current accounts of customers in foreign currency, (ii) 4 per cent. of customers’ term deposits in foreign currency and (iii) 2 per cent. of funds borrowed from nonresident banks and financial organisations. Currently, call deposits, term deposits and current accounts of customers in national currency are not subject to such mandatory reserve requirements. In addition, since 1 August 2008, Ukrainian banks have been required to maintain reserves for shortterm (less than 183 days) funds (e.g., loans and deposits) received from non-residents at a level of 20 per cent. of the aggregate amount of such funds. Overnight loans and deposits, as well as loans and deposits guaranteed by the Government or received from international financial organisations, to which Ukraine is a member, are exempt from the above reserve requirements. The NBU temporarily suspended this requirement on 13 October 2008 but reinstated it with effect from 1 October 2010. In addition, with effect from 1 May 2010, a bank is required to maintain 100 per cent. of the amount of the mandatory reserves formed during its previous reporting period in a separate account with the NBU. The NBU has also established three separate liquidity ratios. A bank must have an instant liquidity ratio of at least 20 per cent. (i.e., the ratio of certain bank’s funds on its correspondent accounts and cash to its current liabilities), a current liquidity ratio of at least 40 per cent. (i.e., the ratio of bank’s assets with maturities of up to (and including) 31 days to liabilities with maturities of up to (and including) 31 days) and a short-term liquidity ratio of at least 60 per cent. (i.e., the ratio of liquid assets with maturities of up to one year to liabilities with maturities of up to one year). For the purposes of compliance with the liquidity ratios, liquid assets with maturities of up to one year include cash funds, bank metals, funds placed with correspondent accounts opened with the NBU (excluding the funds placed as reserves), term deposits placed with the NBU, certain funds placed with correspondent accounts with commercial banks, debt securities in the bank’s trade portfolio, available-for-sale portfolio and held-to-maturity portfolio, certain interbank deposits and loans and loans and advances to customers. Liabilities with maturities of up to one year include funds on the NBU correspondent account opened with the bank, demand liabilities, budget funds, loans (including overdue indebtedness under short-term and long-term loans) and term deposits from the NBU, certain interbank loans and deposits, customer deposits, debt instruments issued by the bank, subordinated debt, past due indebtedness under interbank loans and term deposits, accounts payable in relation to assets acquisition and liabilities under all types of guarantees and committed credit lines to banks and customers. c104221pu115Proof7:3.3.11B/LRevision:0OperatorChoD A-3 Capital Requirements The NBU has established requirements for capital adequacy, minimum share capital requirements and minimum regulatory capital requirements. According to the NBU requirements, the regulatory capital adequacy ratio of a bank set by the NBU should be at least 10 per cent. of its risk-weighted assets, and should be at least 9 per cent. of its total assets. For banks that have been operating for less than 12 months, regulatory capital ratio is required to be no less than 15 per cent. of its risk-weighted assets and for banks that have been operating for between 12 and 24 months, the regulatory capital ratio is required to be no less than 12 per cent. of its risk-weighted assets. Risk-weighted assets, or credit risk profile of a bank, are calculated by applying various risk weights to bank’s assets and offbalance-sheet commitments according to the terms set by NBU. The minimum share capital requirements are established as of the date of a bank’s registration. The minimum share capital requirements for a national, regional and cooperative bank established prior to 4 October 2006 were c5 million, c3 million and c1 million, respectively. From 4 October 2006 until November 2009, the minimum share capital requirement for all banks at the time of their registration was c10 million. With effect from 24 November 2009, the minimum share capital requirement for all banks at the time of their registration is UAH 75 million (approximately U.S.$9.4 million as at 10 February 2011). Regulatory capital (i.e. the sum of principal (core) capital and additional capital) of a bank cannot be less than its share capital and minimum regulatory capital requirements established by the NBU. From 1 May 2004, the NBU calculated the minimum regulatory capital requirement in UAH in an amount equivalent to the euro amount set forth by the Banking Regulation Instruction. With effect from 10 October 2008, the NBU revised the minimum regulatory capital requirement for banks, establishing a c10 million (UAH 74.2 million as determined by the NBU for 2009) minimum amount of regulatory capital for all Ukrainian banks (as opposed to previously effective differentiated requirements based on the length of a bank’s operating activity). From 17 July 2010, the new minimum regulatory capital requirement for the banks was established at the level of UAH 120 million for all banks. Banks with regulatory capital below the minimum required amount have to increase the capital to comply with the newly established requirements by 1 January 2012. Although this minimum regulatory capital requirement is currently being challenged in court, the NBU continues applying this requirement and monitors banks’ compliance with it. Loan Provisioning Banks must meet mandatory requirements to cover net loan risks and must review those provisions on a monthly basis. Some loans and securities transactions do not require any provision. These include ‘‘budget loans’’, intercompany credit transactions between entities within one banking group (for banks 100 per cent. owned by foreign entities, credit transactions with the parent company if such company is assigned an investment-grade credit rating), real-estate backed leasing transactions, subordinated loans, uncommitted off balance sheet credit lines (other than commitments extended to banks), funds in foreign currency transferred to the NBU, securities issued by central State executive authorities and the NBU as well as shares in stock exchanges, securities depositaries, payment systems and credit bureaus. Other loans are classified into five major categories to which the following provisioning requirements are applied: standard loans (1 per cent. provisioning requirement for loans in hryvnia, 2 per cent. for loans in foreign currency to borrowers who have foreign currency earnings and 50 per cent. for loans in foreign currency to borrowers who have no foreign currency earnings), loans on watch (5 per cent. for loans in hryvnia, 7 per cent. for loans in foreign currency to borrowers who have foreign currency earnings and 100 per cent. for loans in foreign currency to borrowers who have no foreign currency earnings), substandard loans (20 per cent. for loans in hryvnia, 25 per cent. for loans in foreign currency to borrowers who have foreign currency earnings and 100 per cent. for loans in foreign currency to borrowers who have no foreign currency earnings), doubtful loans (50 per cent. for loans in hryvnia, 60 per cent. for loans in foreign currency to borrowers who have foreign currency earnings and 100 per cent. for loans in foreign currency to borrowers who have no foreign currency earnings) and bad loans (100 per cent.). Recent Developments in the Banking Sector The Ukrainian banking sector has suffered from a number of significant weaknesses, which have included, among others, undercapitalisation, weak corporate governance and management, poor asset c104221pu115Proof7:3.3.11B/LRevision:0OperatorChoD A-4 quality and excessive political intervention in some banks. Since 1997, Ukraine has been implementing a series of banking sector reforms under the IMF reform programme with the aim of supporting commercial banks that undertake structural reforms and demonstrate long-term stability of their activities. Since the beginning of 1998, the NBU has required banks to prepare accounts that are based in many aspects on the International Financial Reporting Standards. As part of the IMF programme on banking sector reform, Parliament adopted the Banking Law on 7 December 2000. The Banking Law provides a legal basis for strengthening the regulation of the banking system. In addition, in line with the IMF’s recommendations, the Banking Law aims to reform second tier banks and modify the deposit securing scheme to include provisions that would allow the exclusion of problem banks (including, in particular, any of the large banks if they should fail to comply with restructuring agreements), so that any costs of the scheme will first be funded by the scheme itself and then by the Government, but not the NBU. Under the terms of the IMF programme on banking sector reform, the NBU undertakes to monitor and audit the seven largest banks in Ukraine, including the two State-owned banks. The NBU oversees the activities of commercial banks using both off-site and on-site inspections and through a system of audits. On 1 January 2004, the Laws of Ukraine ‘‘On Mortgage’’ and ‘‘On Mortgage Lending, Transactions with Consolidated Mortgage Debt and Mortgage-Backed Certificates’’ came into force, which were further supplemented by the Law of Ukraine ‘‘On Mortgage Bonds’’ with effect from 24 January 2006. These laws permit, amongst other things, the issuance of mortgage-backed financial instruments and their trading on securities markets. In March 2004, the regulations came into force that introduced new methods of refinancing (including ‘‘swap’’ operations) and allowed commercial banks to pledge mortgage-backed certificates and Eurobonds issued by the State for refinancing purposes. Since June 2006, commercial banks have been allowed to pledge, for refinancing purposes, proprietary rights on deposits placed by them with the NBU. Further, other regulations that became effective in May 2004 set forth minimum regulatory capital requirements in hryvnia rather than euro, allow banks to issue subordinated debt securities (including notes, bonds and deposit certificates) and grant the NBU the powers to set the maximum interest rates that banks may pay on their subordinated debt. In June 2005, Ukraine adopted a new law on credit histories and credit bureaus allowing the establishment of so called credit bureaus which would collect information on borrowers (both individuals and legal entities) and would keep credit histories of each borrower. The information gathered by such credit bureaus has assisted Ukrainian banks in evaluating and minimising the credit risk associated with prospective borrowers. Between October 2004 and 5 August 2009 Ukrainian banks were only permitted to be established in the form of an open joint stock company or a cooperative bank. Banks existing in the form of a closed joint stock company or a limited liability company had three years to change their form into an open joint stock company or a cooperative bank. Further, on 30 April 2009, the Law of Ukraine ‘‘On Joint Stock Companies’’ entered into force providing that joint stock companies in Ukraine are to be established in the form of a private or public joint stock company. Companies established previously in the form of open or closed joint stock companies are required to reorganise into public or private joint stock companies by 30 April 2011. Since 5 August 2009, banks may be established only in the form of a public joint stock company or a cooperative bank. The Ukrainian banking market is expected to become more competitive as a result of enactment of laws permitting foreign banks to operate branch offices in Ukraine and Ukraine’s accession to the WTO. Since 16 May 2008, foreign banks have been allowed to operate branch offices in Ukraine subject to certain access criteria established by the Banking Law. One of the pre-requisites to be satisfied before general permission is granted to open and operate a branch is that the NBU and a bank supervisory authority of the foreign state where the relevant parent is head quartered execute an agreement about their co-operation in the bank supervision field and the harmonisation of principles and terms of such supervision. To date, only a few such agreements have been signed by the NBU, including with banking regulators of countries such as Armenia, Belarus, China, Cyprus, Hungary, Kyrgyzstan, Latvia, Lithuania, Luxembourg, Poland, Russia and Turkey. The global economic downturn and financial turmoil in developed economies in the second half of 2008 revealed the significant weaknesses in the Ukrainian banking system resulting in considerable withdrawals of deposits and lending freezes which contributed to liquidity problems faced by many Ukrainian banks. The NBU has taken a number of measures to address the instability in Ukrainian sector, including measures aimed at preventing funds outflows and ensuring due liquidity levels of banks. On 31 October 2008, Parliament passed the Law of Ukraine ‘‘On Immediate Measures to c104221pu115Proof7:3.3.11B/LRevision:0OperatorChoD A-5 Avoid Negative Consequences of the Financial Crisis and Amendments to Certain Legislative Acts of Ukraine’’ which, together with the relevant regulation of the Cabinet of Ministers of Ukraine and resolutions of the NBU, established the regulatory framework for recapitalisation of Ukrainian banks by the government through the purchase of shares of such banks. The decision on recapitalisation of particular banks is made by the Cabinet of Ministers of Ukraine upon the NBU’s proposal. Three Ukrainian banks (‘‘Rodovid Bank’’, ‘‘Ukrgasbank’’ and ‘‘Kyiv’’) were recapitalised under such procedure as a result of which the State became the majority shareholder in these banks. Recapitalisation of another large bank, Nadra Bank, with participation of the State is being considered by the Government and the NBU. On 24 November 2009 the law ‘‘On Amendments to Certain Legislative Acts of Ukraine Aimed at Overcoming the Adverse Effects of the Financial Crisis’’ became effective containing, among other things, a number of provisions relating to Ukrainian banks and banking services. In particular, the law introduced a temporary (until 1 January 2011) prohibition on physical cash pay-outs on foreign currency loans and the grant of foreign currency loans to individuals other than for certain limited purposes, and established new rules for the restructuring by banks of problem loans as well as a prohibition on enforcement against mortgaged residential real estate other than in specified circumstances. The NBU is responsible for the reorganisation or closure and liquidation of insolvent banks to strengthen confidence in the banking sector. In 2001, one of Ukraine’s largest banks, Bank Ukraina, was declared insolvent by the NBU and its liquidation was finalised in April 2009. As at 21 January 2011, 18 banks were in liquidation. Competition As at 1 January 2011, 194 commercial banks were registered in Ukraine, from which 176 banks have been granted licenses by the NBU to perform banking transactions. As at 1 January 2011, assets of all commercial banks in Ukraine amounted to UAH 942.1 billion (over U.S.$ 118.4 billion), their credit portfolio (including interbank loans) amounted to UAH 755.0 billion (approximately U.S.$ 94.9 billion), their equity capital amounted to UAH 137.7 billion (over U.S.$ 17.3 billion), corporate deposits and current accounts amounted to UAH 144.0 billion (over U.S.$ 18.1 billion) and retail deposits and current accounts amounted to UAH 270.7 billion (approximately U.S.$ 34.0 billion) (all figures in this paragraph have been converted using the exchange rate U.S.$1= UAH 7.96). According to the NBU, in 2010, the share capital of Ukrainian banks having licences to perform banking operations increased by 22.4 per cent., amounting to UAH 145.9 billion as at 1 January 2011, while the equity capital of such banks increased by 19.6 per cent. to UAH 137.7 billion as at 1 January 2011. During 2010, the assets and total liabilities of Ukrainian banks having licenses to perform banking operations increased by 7.0 per cent. and 5.1 per cent. and amounted to UAH 942.1 billion and UAH 804.4 billion, respectively. The regulatory capital of Ukrainian banks increased by 18.5 per cent. during 2010, amounting to UAH 160.9 billion as at 1 January 2011. For 2011, commercial banks operating in Ukraine are divided by the NBU into four groups according to size of assets. In particular, 17 major banks with total assets of more than UAH 14.0 billion were classified in the first group. 22 banks with total assets of more than UAH 4.5 billion were classified in the second group, 21 banks with total assets of more than UAH 2.0 billion were classified in the third group and 115 banks with total assets of less than UAH 2.0 billion were classified in the fourth group. As of 1 January 2011, 55 banks in Ukraine had some foreign capital, of which 20 were fully foreign owned. Banks with foreign capital comprise over 40.6 per cent. of the total share capital of banks in Ukraine. c104221pu115Proof7:3.3.11B/LRevision:0OperatorChoD A-6 JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” Condensed Interim Financial Information For the nine months ended 30 September 2010 F-1 JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” TABLE OF CONTENTS Page STATEMENT OF MANAGEMENT‟S RESPONSIBILITIES FOR THE PREPARATION AND APPROVAL OF THE CONDENSED INTERIM FINANCIAL INFORMATION FOR THE NINE MONTHS ENDED 30 SEPTEMBER 2010 INDEPENDENT AUDITORS‟ REPORT 1 2-3 CONDENSED INTERIM FINANCIAL INFORMATION FOR THE NINE MONTHS ENDED 30 SEPTEMBER 2010: Condensed interim statement of comprehensive income 4-5 Condensed interim statement of financial position 6 Condensed interim statement of changes in equity 7 Condensed interim statement of cash flows 8-9 Selected explanatory notes to the condensed interim financial information F-2 10-62 JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” STATEMENT OF MANAGEMENT’S RESPONSIBILITIES FOR THE PREPARATION AND APPROVAL OF THE CONDENSED INTERIM FINANCIAL INFORMATION FOR THE NINE MONTHS ENDED 30 SEPTEMBER 2010 Management is responsible for the preparation of the condensed interim financial information that presents fairly the financial position of the Joint Stock Company “State Savings Bank of Ukraine” (the “Bank”) as at 30 September 2010, the results of its operations, cash flows and changes in equity for the nine-month period then ended and a summary of significant accounting policies and other explanatory notes, in accordance with International Accounting Standard 34 (“IAS 34”). In preparing the condensed interim financial information, management is responsible for: Properly selecting and applying accounting policies; Presenting information, including accounting policies, in a manner that provides relevant, reliable, comparable and understandable information; Providing additional disclosures when compliance with the specific requirements of IAS 34 is insufficient to enable users to understand the impact of particular transactions, other events and conditions on the Bank‟s financial position and financial performance; Stating whether IAS 34 has been followed, subject to any material departures disclosed and explained in the condensed interim financial information; and Making an assessment of the Bank‟s ability to continue as a going concern for the foreseeable future. Management is also responsible for: Designing, implementing and maintaining an effective and sound system of internal controls, throughout the Bank; Maintaining adequate accounting records that are sufficient to show and explain the Bank‟s transactions and disclose with reasonable accuracy at any time the financial position of the Bank, and which enable them to ensure that the condensed interim financial information of the Bank complies with IAS 34; Maintaining statutory accounting records in compliance with legislation and accounting standards of Ukraine; Taking such steps as are reasonably available to them to safeguard the assets of the Bank; and Detecting and preventing fraud and other irregularities. The condensed interim financial information for the nine months ended 30 September 2010 was authorized for issue on 24 January 2011 by the Management Board. 24 January 2011 24 January 2011 1 F-3 PJSC “Deloitte & Touche USC” 48-50A, Zhylyanska St. Kyiv 01033 Ukraine Tel.: +38 (044) 490 9000 Fax: +38 (044) 490 9001 www.deloitte.com.ua INDEPENDENT AUDITOR’S REPORT To the Shareholders and the Management Board of Joint Stock Company “State Savings Bank of Ukraine”: We have audited the accompanying condensed interim financial information of Joint Stock Company “State Savings Bank of Ukraine” (the “Bank”) as at 30 September 2010, which comprise the condensed interim statement of financial position as at 30 September 2010, and the condensed interim statement of comprehensive income, the condensed interim statement of changes in equity and the condensed interim statement of cash flows for the nine months then ended, and a summary of significant accounting policies and other explanatory information. Management’s responsibility for the condensed interim financial information Management is responsible for the preparation and fair presentation of this condensed interim financial information in accordance with International Accounting Standard (“IAS”) 34 “Interim Financial Reporting” and for such internal control as management determines is necessary to enable the preparation of financial statements that are free from material misstatement, whether due to fraud or error. Auditor’s responsibility Our responsibility is to express an opinion on this condensed interim financial information based on our audit. We conducted our audit in accordance with International Standards on Auditing. Those standards require that we comply with ethical requirements and plan and perform the audit to obtain reasonable assurance whether this condensed interim financial information is free from material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the condensed interim financial information. The procedures selected depend on the auditor‟s judgment, including the assessment of the risks of material misstatement of the condensed interim financial information, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity‟s preparation and fair presentation of the condensed interim financial information in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity‟s internal control. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of accounting estimates made by management, as well as evaluating the overall presentation of the condensed interim financial information. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our qualified audit opinion. Deloitte refers to one or more of Deloitte Touche Tohmatsu, a Swiss Verein, and its network of member firms, each of which is a legally separate and independent entity. Please see www.deloitte.com/about for a detailed description of the legal structure of Deloitte Touche Tohmatsu and its Member Firms. © 2011 PJSC "Deloitte & Touche USC". All rights reserved. F-4 Basis for qualified opinion We were unable to obtain sufficient audit evidence to satisfy ourselves as to the correctness of the disclosures of liquidity risk calculated using discounted and undiscounted cash flows as at 30 September 2010 and 31 December 2009, which are disclosed in Note 30 to the interim condensed financial information. As discussed in Note 2, the Bank has adopted the revaluation model for the subsequent measurement of its buildings which requires it to conduct revaluations with sufficient regularity such that the carrying amounts as at the date of statement of financial position do not differ materially from those using fair values. Buildings in the statement of financial position were revalued as at 1 November 2008 and the Bank has not carried out a valuation since that date. In view of the deterioration of property values in Ukraine as a result of the global economic crisis and in the absence of valuations to support the carrying value of buildings as at 30 September 2010 and 31 December 2009, we are unable to determine whether the carrying amount of buildings is fairly stated. As discussed in Note 2, the Bank did not apply the requirement of IAS 29 “Financial Reporting in Hyperinflationary Economies”, which requires restatement of non-monetary assets and equity to account for the effects of inflation up to 31 December 2000. We were unable to determine the effect of this departure from IAS 29 “Financial Reporting in Hyperinflationary Economies” on share capital, property revaluation reserve and retained earnings as at 30 September 2010 and 31 December 2009. As discussed in Note 2, the Bank has not disclosed segment information as required by IFRS 8 “Operating Segments”. Qualified opinion In our opinion, except for the effects of such adjustments, if any, as might have been determined to be necessary had we been able to satisfy ourselves as to the matters described in the first and second paragraphs of the Basis for qualified opinion above and except for the effect on the condensed interim financial information of the matters referred to in the preceding two paragraphs, the condensed interim financial information presents fairly, in all material respects, the financial position of the Bank as at 30 September 2010, and its financial performance and its cash flows for the nine months then ended in accordance with IAS 34 “Interim Financial Reporting”. Emphasis of matter Without further qualifying our opinion we draw attention to Notes 25 and 30 to this condensed interim financial information, which disclose a significant concentration of operations with related parties and concentration risk management policy of the Bank. 24 January 2011 3 F-5 JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” CONDENSED INTERIM STATEMENT OF COMPREHENSIVE INCOME FOR THE NINE MONTHS ENDED 30 SEPTEMBER 2010 (in Ukrainian Hryvnias and in thousands, except for earnings per share which are in Ukrainian Hryvnias ) Notes Interest income Interest expense 4, 25 4, 25 NET INTEREST INCOME BEFORE PROVISION FOR IMPAIRMENT LOSSES ON INTEREST BEARING ASSETS Provision for impairment losses on interest bearing assets 5, 25 NET INTEREST INCOME Nine months ended 30 September 2010 5,724,257 (2,678,035) 5,716,495 (2,714,912) 3,046,222 3,001,583 (1,703,878) (2,148,681) 1,342,344 Fee and commission income Fee and commission expense Net gain on foreign exchange operations Net realised gain/(loss) on investments available for sale (Provision)/recovery of provision for impairment losses on other operations Net other income 791,458 (135,929) 86,908 33,757 754,934 (120,833) 115,670 (6,474) 5 (25,136) 20,023 1,056 13,260 771,081 757,613 2,113,425 1,610,515 (1,447,800) (1,304,927) OPERATING INCOME 8, 25 PROFIT BEFORE INCOME TAX Income tax expense 9 NET PROFIT 4 F-6 852,902 6, 25 6, 25 7 NET NON-INTEREST INCOME OPERATING EXPENSES Nine months ended 30 September 2009 665,625 305,588 (410,160) (222,012) 255,465 83,576 JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” CONDENSED INTERIM STATEMENT OF COMPREHENSIVE INCOME (CONTINUED) FOR THE NINE MONTHS ENDED 30 SEPTEMBER 2010 (in Ukrainian Hryvnias and in thousands, except for earnings per share which are in Ukrainian Hryvnias) Notes OTHER COMPREHENSIVE INCOME Nine months ended 30 September 2010 Nine months ended 30 September 2009 Net change in fair value of investments available for sale, net of deferred income tax effect 15,349 (23,027) Reclassification adjustments for gains included in profit or loss from comprehensive income on disposal of investments available for sale, net of deferred income tax effect 18,626 131,796 OTHER COMPREHENSIVE INCOME AFTER INCOME TAX 33,975 108,769 289,440 192,345 18,389 6,016 TOTAL COMPREHENSIVE INCOME EARNINGS PER SHARE Basic and diluted (Ukrainian Hryvnias) 10 24 January 2011 24 January 2011 The notes on pages 10-62 form an integral part of this condensed interim financial information. 5 F-7 JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” CONDENSED INTERIM STATEMENT OF FINANCIAL POSITION AS AT 30 SEPTEMBER 2010 (in Ukrainian Hryvnias and in thousands) ASSETS: Cash and balances with the National Bank of Ukraine Due from banks Loans to customers Investments available for sale Property, equipment and intangible assets Other assets Notes 30 September 2010 31 December 2009 11, 25 12, 25 13, 25 14, 25 15 16 3,140,511 3,492,979 39,272,676 7,512,545 2,067,644 386,251 2,278,352 2,956,340 45,716,277 4,012,431 1,988,852 438,259 55,872,606 57,390,511 15,794,517 23,002,137 464,633 276,091 111,041 799,616 16,022,744 24,672,908 446,093 15,803 65,445 824,578 40,448,035 42,047,571 13,892,000 1,147,005 15,349 370,217 13,892,000 1,147,251 (18,626) 322,315 15,424,571 15,342,940 55,872,606 57,390,511 TOTAL ASSETS LIABILITIES AND EQUITY LIABILITIES: Due to banks Customer accounts Debt securities issued Deferred income tax liability Other liabilities Subordinated debt 17, 25 18, 25 19 9 20 21 Total liabilities EQUITY: Share capital Property revaluation reserve Investments available for sale fair value reserve Retained earnings 22 Total equity TOTAL LIABILITIES AND EQUITY 24 January 2011 24 January 2011 The notes on pages 10-62 form an integral part of this condensed interim financial information. 6 F-8 JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” CONDENSED INTERIM STATEMENT OF CHANGES IN EQUITY FOR THE NINE MONTHS ENDED 30 SEPTEMBER 2010 (in Ukrainian Hryvnias and in thousands) Notes Property revaluation reserve Investments available for sale fair value reserve 13,892,000 1,147,679 (131,796) 212,846 15,120,729 - (263) 108,769 83,839 192,345 30 September 2009 13,892,000 1,147,416 (23,027) 296,685 15,313,074 31 December 2009 13,892,000 1,147,251 (18,626) 322,315 15,342,940 - - - (207,809) (207,809) - (246) 33,975 255,711 289,440 13,892,000 1,147,005 15,349 370,217 15,424,571 31 December 2008 Total comprehensive income for the period Dividends declared and paid Total comprehensive income for the period 30 September 2010 22 Share capital 24 January 2011 Retained earnings 24 January 2011 The notes on pages 10-62 form an integral part of this condensed interim financial information. 7 F-9 Total equity JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” CONDENSED INTERIM STATEMENT OF CASH FLOWS FOR THE NINE MONTHS ENDED 30 SEPTEMBER 2010 (in Ukrainian Hryvnias and in thousands) Notes CASH FLOWS FROM OPERATING ACTIVITIES: Interest received Interest paid Fees and commissions received Fees and commissions paid Operations with foreign currency Other operating income received Staff costs paid Operating expenses paid Cash flows from operating activities before changes in operating assets and liabilities Changes in operating assets and liabilities (Increase)/decrease in operating assets: Restricted balances with the National Bank of Ukraine Due from banks Loans to customers Other assets Increase/(decrease) in operating liabilities: Due to banks Customer accounts Other liabilities 11 Net cash inflow/(outflow) from operating activities before taxation Income tax paid Nine months ended 30 September 2010 5,602,209 (2,707,480) 791,458 (135,929) 99,288 23,489 (1,017,652) (312,023) 5,153,209 (2,637,474) 754,934 (120,833) 87,823 15,909 (912,133) (284,646) 2,343,360 2,056,789 (247,470) 135,900 4,667,794 (18,528) (87,048) 883,593 (12,655,434) (59,377) (140,919) (1,542,424) 9,335 (6,945,744) 7,136,300 768 5,207,048 (9,670,153) (115) Net cash inflow/(outflow) from operating activities Nine months ended 30 September 2009 (430,162) 5,206,933 (10,100,315) (19,349,624) 15,982,003 (252,029) 519 (14,406,859) 26,433,059 (61,762) 579 (3,619,131) 11,965,017 CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of investments available for sale Proceeds on sale of investments available for sale Purchase of property, equipment and intangible assets Proceeds on sale of property and equipment Net cash (outflow)/inflow from investing activities CASH FLOWS FROM FINANCING ACTIVITIES: Dividends paid Proceeds from debt securities issued Repayment of debt securities issued 22 Net cash outflow from financing activities 8 F-10 (207,809) 62,000 (45,113) (62,006) (190,922) (62,006) JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” CONDENSED INTERIM STATEMENT OF CASH FLOWS (CONTINUED) FOR THE NINE MONTHS ENDED 30 SEPTEMBER 2010 (in Ukrainian Hryvnias and in thousands) Notes Nine months ended 30 September 2010 Effect of change in foreign exchange rate fluctuations on cash and cash equivalents (14,821) NET INCREASE IN CASH AND CASH EQUIVALENTS Nine months ended 30 September 2009 19,464 1,382,059 1,822,160 CASH AND CASH EQUIVALENTS at the beginning of the period 11 4,184,264 2,976,344 CASH AND CASH EQUIVALENTS at the end of the period 11 5,566,323 4,798,504 24 January 2011 24 January 2011 The notes on pages 10-62 form an integral part of this condensed interim financial information. 9 F-11 JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” NOTES TO THE CONDENSED INTERIM FINANCIAL INFORMATION FOR THE NINE MONTHS ENDED 30 SEPTEMBER 2010 1. ORGANISATION The Bank was established in accordance with the Decree of the President of Ukraine No. 106 dated 20 May 1999 and the Resolution of the Government of Ukraine No. 876 dated 21 May 1999, by converting the State Specialized Commercial Savings Bank of Ukraine into the Joint Stock Company “State Savings Bank of Ukraine” in the form of an open joint stock company. The Joint Stock Company “State Savings Bank of Ukraine” was registered by the National Bank of Ukraine (the “NBU”) on 26 May 1999, registration number 4 and change of its name into Joint Stock Company “State Savings Bank of Ukraine” was registered by the NBU on 28 December 1999. The Bank has operated under a full banking license, issued by the National Bank of Ukraine, starting from 16 January 2002. The Bank is licensed by the State Commission for securities and stock market for trading with securities. The Bank‟s primary business consists of processing banking accounts and attracting deposits from legal entities and individuals, originating loans, transferring payments, trading with securities and foreign currencies. As at 30 September 2010 and 31 December 2009 the Bank was a 100% state-owned bank. The registered office of the Bank is located at St. Hospitalna 12G, Kyiv, Ukraine. As at 30 September 2010 and 31 December 2009 the Bank had 23 regional branches, Main branch in Kyiv and Kyiv region, Crimea republican branch; 255 and 329 sub-branches, 5,743 and 5,730 operational outlets within Ukraine, respectively. The number of employees of the Bank as at 30 September 2010 and 31 December 2009 was 39,236 and 40,315, respectively. This condensed interim financial information was authorized for issue by the Management Board of the Bank on 20 December 2010. 2. BASIS OF PRESENTATION Accounting basis – The condensed interim financial information has been prepared in accordance with International Accounting Standard 34 “Interim Financial Reporting” (“IAS 34”), except as discussed below, accordingly, it does not include all of the information required by International Financial Reporting Standards (“IFRS”) issued by the International Accounting Standards Board (“IASB”). This condensed interim financial information should be read in conjunction with the Bank‟s annual financial statements. In accordance with International Accounting Standard (“IAS”) 29 “Financial Reporting in Hyperinflationary Economies” the economy of Ukraine was considered to be hyperinflationary during year 2000 and prior years. The Bank did not apply provisions of IAS 29 to restate its share capital and non-monetary assets. The effect of this departure from IAS 29 on share capital, property revaluation reserve and retained earnings as at and for the periods ended 30 September 2010 and 31 December 2009 has not been determined. 10 F-12 In accordance with International Financial Reporting Standard (“IFRS”) 8 “Operating Segments” information about the Bank‟s operating segments, products and services, the geographical areas in which it operates, and its major customers is required to be disclosed if an entity files, or is in the process of filing, its financial statements with a securities commission or other regulatory organisation for the purpose of issuing any class of instruments in a public market. In the past the Bank did not apply the provisions of IFRS 8 as management considered it was not relevant for the Bank. The Bank will apply IFRS 8 for its annual financial statements as at 31 December 2010. Since the results of the Bank‟s operations closely relate to and depend on changing market conditions, the results of the Bank‟s operations for the interim period are not necessarily indicative of the results for the year. This condensed interim financial information has been prepared on the assumption that the Bank is a going concern and will continue in operation for the foreseeable future. Management and the shareholder have the intention to further develop the business of the Bank in Ukraine. Management believes that the going concern assumption is appropriate for the Bank due to its sufficient capital adequacy ratio, the commitment of the shareholder to support the Bank, and, based on historical experience, that short-term obligations will be refinanced in the normal course of business. This condensed interim financial information is presented in thousands of Ukrainian Hryvnias, unless otherwise indicated. The condensed interim financial information has been prepared under the historical cost convention, except for the revaluation of property in accordance with IAS 16 “Property, Plant and Equipment”, which is recorded at revalued amounts and measurement of certain financial instruments in accordance with IAS 39 “Financial Instruments: Recognition and Measurement”, which are recorded at fair value. The Bank maintains its accounting records in accordance with Ukrainian law. This condensed interim financial information has been prepared from Ukrainian statutory accounting records and have been adjusted to conform with IFRS. Entered adjustments include certain reclassifications to reflect the economic substance of underlying transactions including reclassifications of certain assets and liabilities, income and expenses to appropriate financial statement captions. Functional currency – Items included in the condensed interim financial information of the Bank are measured using the currency that best reflects the economic substance of the underlying events and circumstances relevant to the Bank (the “functional currency”). The functional currency of this condensed interim financial information is the Ukrainian Hryvnia (“UAH”). 3. SIGNIFICANT ACCOUNTING POLICIES Recognition and measurement of financial instruments – The Bank recognizes financial assets and liabilities on its statement of financial position when it becomes a party to the contractual obligation of the instrument. Regular way purchase and sale of the financial assets and liabilities are recognized using settlement date accounting. Regular way purchases of financial instruments that will be subsequently measured at fair value between trade date and settlement date are accounted for in the same way as for acquired instruments. Financial assets and liabilities are initially recognized at fair value plus, in the case of a financial asset or financial liability not at fair value through profit or loss, transaction costs that are directly attributable to acquisition or issue of the financial asset or financial liability. The accounting policies for subsequent re-measurement of these items are disclosed in the respective accounting policies set out below. 11 F-13 Derecognition of financial assets and liabilities Financial assets – A financial asset (or, where applicable a part of a financial asset or part of a group of similar financial assets) is derecognized where: The rights to receive cash flows from the asset have expired; The Bank has transferred its rights to receive cash flows from the asset, or retained the right to receive cash flows from the asset, but has assumed an obligation to pay them in full without material delay to a third party under a „pass-through‟ arrangement; and The Bank either (a) has transferred substantially all the risks and rewards of the asset, or (b) has neither transferred nor retained substantially all the risks and rewards of the asset, but has transferred control of the asset. A financial asset is derecognized when it has been transferred and the transfer qualifies for derecognition. A transfer requires that the Bank either: (a) transfers the contractual rights to receive the asset‟s cash flows; or (b) retains the right to the asset‟s cash flows but assumes a contractual obligation to pay those cash flows to a third party. After a transfer, the Bank reassesses the extent to which it has retained the risks and rewards of ownership of the transferred asset. If substantially all the risks and rewards have been retained, the asset remains on the statement of financial position. If substantially all of the risks and rewards have been transferred, the asset is derecognized. If substantially all the risks and rewards have been neither retained nor transferred, the Bank assesses whether or not is has retained control of the asset. If it has not retained control, the asset is derecognized. Where the Bank has retained control of the asset, it continues to recognize the asset to the extent of its continuing involvement. Financial liabilities – A financial liability is derecognized when the obligation is discharged, cancelled, or expires. Where an existing financial liability is replaced by another from the same lender on substantially different terms, or the terms of an existing liability are substantially modified, such an exchange or modification is treated as a de-recognition of the original liability and the recognition of a new liability, and the difference in the respective carrying amounts is recognized in the statement of comprehensive income. Cash and cash equivalents – Cash and cash equivalents include cash on hand, unrestricted balances on correspondent accounts with the National Bank of Ukraine, advances to banks in countries included in the Organization for Economic Co-operation and Development (“OECD”), except for margin deposits for operations with plastic cards, which may be converted to cash within a short period of time. For purposes of determining cash flows, the minimum reserve deposit required by the National Bank of Ukraine is not included as a cash equivalent due to restrictions on its availability. Precious metals – Assets and liabilities in precious metals are translated at the official rate set by National Bank of Ukraine computed based on the first fixing of the London Metal Exchange rates using the UAH/USD exchange rate effective on the date. Changes in the bid prices are recorded in net gain/(loss) on foreign exchange operations. Due from banks – In the normal course of business the Bank maintains advances and deposits for various periods of time with other banks. Due from banks with a fixed maturity term are subsequently measured at amortized cost using the effective interest method. Those that do not have fixed maturities are carried at amortized cost based on maturities estimated by the management. Amounts due from banks are carried net of any allowance for impairment losses. 12 F-14 Repurchase and reverse repurchase agreements – In the normal course of business the Bank enters into sale and purchase back agreements (“repos”) and purchase and sale back agreements of financial assets (“reverse repos”). Repos and reverse repos are utilized by the Bank as an element of its treasury management and trading business. A repo is an agreement to transfer a financial asset to another party in exchange for cash or other consideration and a concurrent obligation to reacquire the financial assets at a future date for an amount equal to the cash or other consideration exchanged plus interest. These agreements are accounted for as financing transactions. Financial assets sold under repo are retained in the financial statements and consideration received under these agreements is recorded as collateralized deposit received within balances due to banks. Assets purchased under reverse repos are recorded in the financial statements as cash placed on deposit which is collateralized by securities and other assets and are classified within balances due from banks/loans to customers. In the event that assets purchased under reverse repo are sold to third parties, the results are recorded with the gain or loss included in net gains/(losses) on respective assets. Any related income or expense arising from the pricing difference between purchase and sale of the underlying assets is recognized as interest income or expense in the statement of comprehensive income. Derivative financial instruments – In the normal course of business, the Bank enters into various derivative financial instruments including foreign exchange contracts concluded by the Bank with other banks to purchase/sale and exchange of foreign currency and currency rate swaps to manage currency and liquidity risks. Derivative financial instruments are initially recognized at fair value at the date a derivative contract is entered into, and are subsequently re-measured to their fair value at each reporting date. The fair values are estimated based on quoted market prices or pricing models that take into account the current market and contractual prices of the underlying instruments and other factors. Derivatives are carried as assets when their fair value is positive and as liabilities when it is negative. Derivatives are included in financial assets and liabilities at fair value through profit or loss in the statement of financial position, or if their amounts are immaterial they are included in other assets or liabilities. Gains and losses resulting from these instruments are included in net gain/(loss) from financial assets and liabilities at fair value through profit or loss in the statement of comprehensive income, or if their amounts are immaterial they are included in net gain/(loss) on foreign exchange operations. Derivative financial instruments entered into by the Bank are not designated as hedges and do not qualify for hedge accounting. Loans to customers – Loans to customers are non-derivative assets with fixed or determinable payments that are not quoted in an active market, other than those classified in other categories of financial assets. Loans to customers granted by the Bank are initially recognized at fair value plus related transaction costs that directly relate to the acquisition or the creation of such financial assets. Where the fair value of consideration given does not equal the fair value of the loan, for example where the loan is issued at lower than market rates, the difference between the fair value of consideration given and the fair value of the loan is recognized as a loss on initial recognition of the loan and included in the statement of comprehensive income according to nature of the losses. Subsequently, loans are carried at amortized cost using the effective interest method. Loans to customers are carried net of any allowance for impairment losses. The effective interest rate is the rate that exactly discounts estimated future cash payments or receipts through the expected life of the financial instrument or, when appropriate, a shorter period to the net carrying amount of the financial asset or financial liability. 13 F-15 Write off of loans – Loans are written off against allowance for impairment losses based on the decision of the Management Board. Such decisions are taken when all available possibilities to collect the amounts due have been exercised and available collateral has been sold. Subsequent recoveries of amounts previously written off are reflected as an offset to the charge for impairment of financial assets in the statement of comprehensive income in the period of recovery. Allowance for impairment losses – The Bank accounts for impairment of financial assets that are not carried at fair value when there is objective evidence that a financial asset or group of financial assets is impaired. The impairment losses are measured as the difference between carrying value and the present value of expected future cash flows, including amounts recoverable from guarantees and collateral, discounted at the financial asset‟s original effective interest rate, for financial assets which are carried at amortized cost. If in a subsequent period the amount of the impairment loss decreases and the decrease can be related objectively to an event occurring after the impairment was recognized, the previously recognized impairment loss is reversed with an adjustment of the provision account. For financial assets carried at cost the impairment losses are measured as the difference between the carrying amount of the financial asset and the present value of estimated future cash flows discounted at the current market rate of return for a similar financial asset. Such impairment losses are not reversed. The change in the impairment is included into profits using the provision account. Assets recorded in the statement of financial position are reduced by the amount of the impairment. Factors that the Bank considers in determining whether it has objective evidence that an impairment loss has been incurred include information about the debtors‟ or issuers‟ liquidity, solvency and business and financial risk exposures, levels of and trends in delinquencies for similar financial assets, national and local economic trends and conditions, and the fair value of collateral and guarantees. These and other factors may, either individually or taken together, provide sufficient objective evidence that an impairment loss has been incurred in a financial asset or group of financial assets. Impairment losses are recognized in profit or loss when incurred as a result of one or more events (“loss events”) that occurred after the initial recognition of the financial asset and which have an impact on the amount or timing of the estimated future cash flows of the financial asset or group of financial assets that can be reliably estimated. If the Bank determines that no objective evidence exists that impairment was incurred for an individually assessed financial asset, whether significant or not, it includes the asset in a group of financial assets with similar credit risk characteristics and collectively assesses them for impairment. The primary factors that the Bank considers whether a financial asset is impaired is its overdue status and realisability of related collateral, if any. The following other principal criteria are also used to determine that there is objective evidence that an impairment loss has occurred: Any instalment is overdue and the late payment cannot be attributed to a delay caused by the settlement systems; The borrower experiences a significant financial difficulty as evidenced by borrower‟s financial information that the Bank obtains; The borrower considers bankruptcy or a financial reorganisation; There is an adverse change in the payment status of the borrower as a result of changes in the national or local economic conditions that impact the borrower; The value of collateral significantly decreases as a result of deteriorating market conditions. 14 F-16 For the purposes of a collective evaluation of impairment, financial assets are grouped on the basis of similar credit risk characteristics. These characteristics are relevant to the estimation of future cash flows for groups of such assets by being indicative on the debtors‟ ability to pay all amounts due, according to the contractual terms of the assets being evaluated. Future cash flows in a group of financial assets that are collectively evaluated for impairment are estimated on the basis of contractual cash flows of assets, and experience of management in respect of the extent to which amounts will become overdue, as a result of past loss events and the success of recovery of overdue amounts. Past experience is adjusted on the basis of current observable data to reflect the effects of current conditions that do not affect past periods and to remove the effects of past conditions that do not exist currently. It should be understood that evaluation of losses involves an exercise of judgment. While it is possible that in particular periods the Bank may sustain losses which are substantial relative for impairment losses, it is the judgment of management that the impairment losses are adequate to absorb losses incurred on risk assets, at the reporting date. Investments available for sale – Investments available for sale represent debt and equity investments that are intended to be held for an indefinite period of time. Such securities are initially recorded at fair value. Subsequently the securities are measured at fair value, with such re-measurement recognized directly in equity, except for impairment losses, foreign exchange gains or losses and interest income accrued using the effective interest method, which are recognized directly in the statement of comprehensive income. When sold, gain/(loss) previously recorded in equity is recycled through the statement of comprehensive income. The Bank uses quoted market prices to determine the fair value for the investments available for sale. If the market for investments is not active, the Bank establishes fair value by using valuation techniques. Valuation techniques include using recent arm‟s length market transactions between knowledgeable, willing parties, reference to the current fair value of another instrument that is substantially the same, discounted cash flow analysis and other methods. If there is a valuation technique commonly used by market participants to price the instrument and that technique has been demonstrated to provide reliable estimates of prices obtained in actual market transactions, the Bank uses that technique. Interest income earned on investments available for sale is reflected in the statement of comprehensive income as interest income on investment available for sale. Non-marketable debt and equity securities are stated at amortized cost and cost, respectively, less impairment losses, if any, unless fair value can be reliably measured. When there is objective evidence that investments available for sale have been impaired, the cumulative loss previously recognized in equity is removed from equity and recognized in the statement of comprehensive income for the period. Reversals of such impairment losses on debt instruments, which are objectively related to events occurring after the impairment, are recognized in the statement of comprehensive income for the period. Reversals of such impairment losses on equity instruments are not recognized in the statement of comprehensive income. Property, equipment and intangible assets – Property, equipment and intangible assets other than buildings are carried at historical cost less accumulated depreciation and amortization and any recognized impairment loss, if any. Depreciation on assets under construction and those not placed in service commences from the date the assets are ready for their intended use. 15 F-17 Depreciation of property and equipment and amortization of intangible assets is charged on the historical (revalued) cost of property, equipment and intangible assets and is designed to write off assets over their useful economic lives. It is calculated on a straight line basis at the following annual rates: Buildings Furniture, office equipment and motor vehicles Intangible assets 2% - 3% 10% - 33% 25% Leasehold improvements are amortized over the life of the related leased asset. Expenses related to repairs and renewals are charged when incurred and included in operating expenses unless they qualify for capitalization. The Bank has adopted a revaluation model for the subsequent measurement of its buildings. Buildings are stated in the statement of financial position at their revalued amounts, being the fair value at the date of revaluation, less any subsequent accumulated depreciation and subsequent accumulated impairment losses. Revaluations are performed with sufficient regularity such that the carrying amounts do not differ materially from those that would be determined using fair values at the date of statement of financial position. Any revaluation increase arising on the revaluation of such buildings is credited to the property revaluation reserve, except to the extent that it reverses a revaluation decrease for the same asset previously recognized as an expense, in which case the increase is credited to the statement of comprehensive income to the extent of the decrease previously charged. A decrease in carrying amount arising on the revaluation of such buildings is charged as an expense to the extent that it exceeds the balance, if any, held in the property revaluation reserve relating to a previous revaluation of that asset. The decrease is debited directly in equity to the property revaluation reserve to the extent of any credit balance existing in the property revaluation reserve in respect of that asset. Depreciation on revalued buildings is charged to the statement of comprehensive income. On the subsequent sale or retirement of a revalued property, the attributable revaluation surplus remaining in the property revaluation reserve is transferred directly to retained earnings. Impairment is recognized in the respective period and is included in net other income. After the recognition of an impairment loss the depreciation charge for property and equipment and intangible assets is adjusted in future periods to allocate the assets‟ revised value, less its residual value (if any), on a systematic basis over its remaining useful life. Operating leases – Leases of assets under which the risks and rewards of ownership are effectively retained with the lessor are classified as operating leases. Lease payments under operating lease are recognized as expenses on a straight-line basis over the lease term and included into operating expenses. Taxation – Income tax expense represents the sum of the current and deferred tax expense. The current tax expense is based on taxable profit for the year. Taxable profit differs from profit before income tax as reported in the statement of comprehensive income because it excludes items of income or expense that are taxable or deductible in other years and it further excludes items that are never taxable or deductible. The Bank‟s current tax expense is calculated using tax rates that have been enacted during the reporting period. 16 F-18 Deferred tax is the tax expected to be payable or recoverable on differences between the carrying amounts of assets and liabilities in the financial statements and the corresponding tax bases used in the computation of taxable profit, and is accounted for using the balance sheet liability method. Deferred tax liabilities are generally recognized for all taxable temporary differences and deferred tax assets are recognized to the extent that it is probable that taxable profits will be available against which deductible temporary differences can be utilized. Such assets and liabilities are not recognized if the temporary difference arises from goodwill or from the initial recognition (other than in a business combination) of other assets and liabilities in a transaction that affects neither the tax profit nor the accounting profit. The carrying amount of deferred tax assets is reviewed at each reporting date and reduced to the extent that it is no longer probable that sufficient taxable profits will be available to allow all or part of the asset to be recovered. Deferred tax is calculated at the tax rates that are expected to apply in the period when the liability is settled or the asset is realized. Deferred tax is charged or credited in the statement of comprehensive income, except when it relates to items charged or credited directly to equity, in which case the deferred tax is also dealt with in equity. Deferred income tax assets and deferred income tax liabilities are offset and reported net on the statement of financial position if: The Bank has a legally enforceable right to set off current income tax assets against current income tax liabilities; and Deferred income tax assets and the deferred income tax liabilities relate to income taxes levied by the same taxation authority on the same taxable entity. Ukraine also has various other taxes, which are assessed on the Bank‟s activities. These taxes are included as a component of operating expenses in the statement of comprehensive income. Due to banks, customer accounts, debt securities issued and subordinated debt – Due to banks, customer accounts, debt securities issued and subordinated debt are initially recognized at fair value. Subsequently amounts due are stated at amortized cost and any difference between net proceeds and the redemption value is recognized in the statement of comprehensive income over the period of the borrowings using the effective interest method. Those that do not have fixed maturities are carried at amortized cost based on expected maturities. Provisions – Provisions are recognized when the Bank has a present legal or constructive obligation as a result of past events, and it is probable that an outflow of resources embodying economic benefits will be required to settle the obligation and a reliable estimate of the obligation can be made. Contingencies – Contingent liabilities are not recognized in the statement of financial position but are disclosed unless the possibility of any outflow in settlement is remote. A contingent asset is not recognized in the statement of financial position but disclosed when an inflow of economic benefits is probable. Financial guarantee contracts issued and letters of credit – Financial guarantee contracts and letters of credit issued by the Bank are credit insurance that provides for specified payments to be made to reimburse the holder for a loss it incurs because a specified debtor fails to make payment when due under the original or modified terms of a debt instrument. Such financial guarantee contracts and letters of credit issued are initially recognized at fair value. 17 F-19 Subsequently they are measured at the higher of (a) the amount recognized as a provision in accordance with IAS 37 “Provisions, Contingent Liabilities and Contingent Assets”; and (b) the amount initially recognized less, where appropriate, cumulative amortization of initial premium revenue received over the financial guarantee contracts or letter of credit issued. Share capital – Contributions to share capital are recognized at cost. Costs directly attributable to the issue of new shares are deducted from equity net of any related income taxes. Dividends on ordinary shares are recognized in equity as a reduction in the period in which they are declared. Dividends that are declared after the reporting date are treated as a subsequent event under IAS 10 “Events after the Reporting Period” (“IAS 10”) and disclosed accordingly. Retirement and other benefit obligations – In accordance with the requirements of the Ukrainian legislation, the Bank withholds amounts of pension contributions from employee salaries and pays them to the Pension Fund of Ukraine. In addition, such pension system provides for calculation of current payments by the employer as a percentage of current total disbursements to staff. Such expense is charged in the period the related salaries are earned. Upon retirement an employee receives retirement benefit payments made by the Pension Fund of Ukraine. The Bank does not have any pension arrangements separate from the state pension system of Ukraine, which requires current contributions by an employer calculated as a percentage of current gross salary payments. In addition, the Bank has no post-retirement benefits or other significant compensated benefits requiring accrual. Recognition of income and expense Recognition of interest income and expense – Interest income and expense are recognized on an accrual basis using the effective interest rate method. The effective interest rate method is a method of calculating the amortized cost of a financial asset or a financial liability (or group of financial assets or financial liabilities) and allocating the interest income or interest expense over the relevant period. Once a financial asset or a group of similar financial assets has been written down (partly written down) as a result of an impairment loss, interest income is thereafter recognized using the interest rate used to discount the future cash flows for the purpose of measuring the impairment loss. Interest income also includes income earned on investments in securities. Other income is credited to the statement of comprehensive income when the related transactions are completed. Recognition of fee and commission income and expense – Loan origination fees are deferred, together with the related direct costs, and recognized as an adjustment to the effective interest rate of the loan. Where it is probable that a loan commitment will lead to a specific lending arrangement, the loan commitment fees are deferred, together with the related direct costs, and recognized as an adjustment to the effective interest rate of the resulting loan. Where it is unlikely that a loan commitment will lead to a specific lending arrangement, the loan commitment fees are recognized in the statement of comprehensive income over the remaining period of the loan commitment. Where a loan commitment expires without resulting in a loan, the loan commitment fee is recognized in the statement of comprehensive income on expiry. Loan servicing fees are recognized as revenue as the services are provided. Loan syndication fees are recognized in the statement of comprehensive income when the syndication has been completed. All other commissions are recognized when services are provided. 18 F-20 Foreign currency translation – Monetary assets and liabilities denominated in foreign currencies are translated into Ukrainian Hryvnia at the appropriate spot rates of exchange ruling at the reporting date. Foreign currency transactions are accounted for at the exchange rates prevailing at the date of the transaction. Profits and losses arising from these translations are included in net gain/(loss) on foreign exchange operations. Rates of exchange – The official exchange rates at period-end used by the Bank in the preparation of the financial information are as follows: 30 September 2010 31 December 2009 30 September 2009 7.91350 10.77107 7.98500 11.44889 8.01000 11.65375 UAH/1 US Dollar UAH/1 Euro Offset of financial assets and liabilities – Financial assets and liabilities are offset and reported net on the statement of financial position when the Bank has a legally enforceable right to set off the recognized amounts and the Bank intends either to settle on a net basis or to realize the asset and settle the liability simultaneously. In accounting for a transfer of a financial asset that does not qualify for derecognition, the Bank does not offset the transferred asset and the associated liability. Areas of significant management judgment and sources of estimation uncertainty – The preparation of this condensed interim financial information in accordance with IAS 34 requires management to make estimates and assumptions that affect the reported amounts. Management evaluates its estimates and judgments on an ongoing basis. Such estimates and assumptions are based on the information available to the Bank‟s management as at the date of this condensed interim financial information. Therefore, actual results could differ from those estimates and assumptions. Estimates that are particularly susceptible to change relate to the provisions for impairment losses and the fair value of financial instruments. Key assumptions concerning the future and other key sources of uncertainty estimation at the reporting date, that have a significant risk of causing a material adjustment to the carrying amounts of assets and liabilities within the next financial period include: Loans to customers Property, equipment and intangible assets Investments available for sale 30 September 2010 31 December 2009 39,272,676 2,067,644 7,512,545 45,716,277 1,988,852 4,012,431 Loans to customers – Loans to customers are measured at amortized cost less allowance for impairment losses. The estimation of allowances for impairments involves the exercise of significant judgment. The Bank regularly reviews its loans to assess for impairment. The Bank estimates allowances for impairment with the objective of maintaining balance sheet provisions at a level believed by management to be sufficient to absorb losses incurred in the Bank‟s loan portfolio. The calculation of provisions on impaired loans is based on the likelihood of the asset being written off and the estimated loss on such a write-off. These assessments are made using statistical techniques based on historic experience. These determinations are supplemented by the application of management judgment. 19 F-21 The Bank considers accounting estimates related to provisions for loans key sources of estimation uncertainty because: (i) they are highly susceptible to change from period to period as the assumptions about future default rates and valuation of losses relating to impaired loans and advances are based on recent performance experience, and (ii) any significant difference between the Bank‟s estimated losses (as reflected in the provisions) and actual losses will require the Bank to make provisions which, if significantly different, could have a material impact on its future statement of comprehensive income and its statement of financial position. The Bank uses management‟s judgment to estimate the amount of any impairment loss in cases where a borrower has financial difficulties and there are few available sources of historical data relating to similar borrowers. Similarly, the Bank estimates changes in future cash flows based on past performance, past customer behaviour, observable data indicating an adverse change in the payment status of borrowers in a group, and national or local economic conditions that correlate with defaults on assets in the group. Management uses estimates based on historical loss experience for assets with credit risk characteristics and objective evidence of impairment similar to those in the group of loans. The Bank uses management‟s judgment to adjust observable data for a group of loans to reflect current circumstances not reflected in historical data. The allowances for impairment of financial assets in the financial statements have been determined on the basis of existing economic and political conditions. The Bank is not in a position to predict what changes in conditions will take place in Ukraine and what effect such changes might have on the adequacy of the allowances for impairment of financial assets in future periods. Valuation of Financial Instruments – Financial instruments that are as available for sale and all derivatives are stated at fair value. The fair value of such financial instruments is the estimated amount at which the instrument could be exchanged between willing parties, other than in a forced or liquidation sale. If a quoted market price is available for an instrument, the fair value is calculated based on the market price. When valuation parameters are not observable in the market or cannot be derived from observable market prices, the fair value is derived through analysis of other observable market data appropriate for each product and pricing models which use a mathematical methodology based on accepted financial theories. Pricing models take into account the contract terms of the securities as well as market-based valuation parameters, such as interest rates, volatility, exchange rates and the credit rating of the counterparty. Where marketbased valuation parameters are missed, management will make a judgment as to its best estimate of that parameter in order to determine a reasonable reflection of how the market would be expected to price the instrument. In exercising this judgment, a variety of tools are used including proxy observable data, historical data, and extrapolation techniques. The best evidence of fair value of a financial instrument at initial recognition is the transaction price unless the instrument is evidenced by comparison with data from observable markets. Any difference between the transaction price and the value based on a valuation technique is not recognized in the statement of comprehensive income on initial recognition. Subsequent gains or losses are only recognized to the extent that it arises from a change in a factor that market participants would consider in setting a price. The Bank considers that the accounting estimate related to valuation of financial instruments where quoted markets prices are not available is a key source of estimation uncertainty because: (i) it is highly susceptible to change from period to period because it requires management to make assumptions about interest rates, volatility, exchange rates, the credit rating of the counterparty, valuation adjustments and specific feature of the transactions and (ii) the impact that recognizing a change in the valuations would have on the assets reported on its statement of financial position as well as its profit/(loss) could be material. 20 F-22 Had management used different assumptions regarding the interest rates, volatility, exchange rates, the credit rating of the counterparty and valuation adjustments, a larger or smaller change in the valuation of financial instruments where quoted market prices are not available would have resulted that could have had a material impact on the Bank‟s reported net income. Property, equipment and intangible assets – Certain property (buildings) is measured at fair value. The date of the latest appraisal was 1 November 2008. The sales comparison method was used for estimation of fair value of buildings and office premises. No revaluation was made as at 30 September 2010 and 31 December 2009. Previous appraisal was performed as at 1 November 2006. The following methods were used: sales comparison, income capitalization, and construction costs for new buildings. Until 1 November 2006 revalued cost of buildings includes effects of indexation and revaluation as described below. The indexation of buildings until 31 December 1997 was deemed necessary by the Ukrainian Government to reflect the effects of inflation and currency devaluation that occurred in both the Soviet Union and Ukraine. Buildings were adjusted by inflation as stipulated by the Ukrainian Government regulations several times until 31 December 1997. In 1998 the Bank performed a revaluation of buildings according to the instructions of the NBU, without involvement of independent and professionally qualified appraisers. The revaluation was intended to bring the carrying value of buildings in line with the estimated market value as at 1 January 1998. The results of revaluation were recorded in the property revaluation reserve. No appraisal was performed from 1998 until 1 November 2006. Taxation – Interim period income tax expense is accrued using the tax rate that would be applicable to expected total annual earnings, that is, the estimated average annual effective income tax rate applied to the pre-tax income of the interim period. Deferred income tax assets – Deferred income tax assets are recognized for all deductible temporary differences to the extent that is that it is probable that taxable profit will be available against which the deductable temporary differences can be utilized. Estimation of probability is based on management forecast of future taxable profit and is supplemented with subjective judgments by the management of the Bank. Provision for other off-balance sheet commitments – The accounting estimates and judgments related to the provision for off-balance sheet commitments is an area of significant management judgment because the underlying assumptions used for both the individually and collectively assessed impairment can change from period to period and may significantly affect the Bank‟s results of operations. Related parties identification – Identification of related parties requires exercise of significant management judgment in determining related party relationships. The same accounting policies, presentations and methods of computations have been followed in this interim financial information as were applied in the preparation of the Bank‟s financial statements for the years ended 31 December 2009 and 2008. Adoption of new and revised standards – In the current period, the Bank has adopted all of the new and revised Standards and Interpretations issued by the IASB and IFRIC of the IASB that are relevant to its operations and effective for annual reporting periods beginning on or after 1 January 2010. The adoption of these new and revised Standards and Interpretations has not resulted in significant changes to the amounts reported for the current or prior periods except where, if applicable, referred to in the notes or statements described above. 21 F-23 Improvements to IFRS 2009 – In April 2009, the IASB issued amendments to IFRS, which resulted from the IASB‟s annual improvement project. They comprise amendments that result in accounting changes for presentation, recognition or measurement purposes as well as terminology or editorial amendments related to a variety of individual IFRS standards. Most of the amendments are effective for annual periods beginning on or after 1 January 2010, with earlier application permitted. The adoption of the amendments did not have a material impact on the Bank‟s financial statements. Standards and interpretations issued and not yet adopted – At the date of authorization of these condensed interim financial information, other than the Standards and Interpretations (related to the Bank‟s activities) adopted by the Bank in advance of their effective dates, the following Interpretations were in issue but not yet effective. Improvements to IFRS 2010 – In May 2010, the IASB issued amendments to IFRS, which resulted from the IASB‟s annual improvement project. They comprise amendments that result in accounting changes for presentation, recognition or measurement purposes as well as terminology or editorial amendments related to a variety of individual IFRS standards. Most of the amendments are effective for annual periods beginning on or after 1 January 2011, with earlier application permitted. The Bank is currently evaluating the potential impact that the adoption of the amendments will have on its financial statements. IAS 24 – In November 2009, the IASB issued a revised version of IAS 24, “Related Party Disclosures” (“IAS 24”). IAS 24 provides a partial exemption from the disclosure requirements for government-related entities and clarifies the definition of a related party. The revised standard is effective for annual periods beginning on or after 1 January 2011, with earlier application permitted. The Bank is currently evaluating the potential impact that the adoption of IAS 24 will have on its financial statements. IFRS 9 – In November 2009, the IASB issued IFRS 9, “Financial Instruments”, as a first step in its project to replace IAS 39, “Financial Instruments: Recognition and Measurement”. IFRS 9 introduces new requirements for how an entity should classify and measure financial assets that are in the scope of IAS 39. The standard requires all financial assets to be classified on the basis of the entity‟s business model for managing the financial assets, and the contractual cash flow characteristics of the financial asset. A financial asset is measured at amortized cost if two criteria are met: (a) the objective of the business model is to hold the financial asset for the collection of the contractual cash flows, and (b) the contractual cash flows under the instrument solely represent payments of principal and interest. If a financial asset meets the criteria to be measured at amortized cost, it can be designated at fair value through profit or loss under the fair value option, if doing so would significantly reduce or eliminate an accounting mismatch. If a financial asset does not meet the business model and contractual terms criteria to be measured at amortized cost, then it is subsequently measured at fair value. IFRS 9 also removes the requirement to separate embedded derivatives from financial asset hosts. It requires a hybrid contract with a financial asset host to be classified in its entirety at either amortized cost or fair value. IFRS 9 requires reclassifications when the entity‟s business model changes, which is expected to be an infrequent occurrence; in this case, the entity is required to reclassify affected financial assets prospectively. There is specific guidance for contractually linked instruments that create concentrations of credit risk, which is often the case with investment tranches in a securitization. In addition to assessing the instrument itself against the IFRS 9 classification criteria, management should also „look through‟ to the underlying pool of instruments that generate cash flows to assess their characteristics. To qualify for amortized cost, the investment must have equal or lower credit risk than the weighted-average credit risk in the underlying pool of instruments, and those instruments must meet certain criteria. 22 F-24 If a „look through‟ is impracticable, the tranche must be classified at fair value through profit or loss. Under IFRS 9, all equity investments should be measured at fair value. However, management has an option to present directly in gains (losses) not recognized in the income statement unrealized and realized fair value gains and losses on equity investments that are not held for trading. Such designation is available on initial recognition on an instrument-by-instrument basis and is irrevocable. There is no subsequent recycling of fair value gains and losses to profit or loss; however, dividends from such investments will continue to be recognized in profit or loss. IFRS 9 is effective for annual periods beginning on or after 1 January 2013, with earlier application permitted. IFRS 9 should be applied retrospectively; however, if adopted before 1 January 2012, comparative periods do not need to be restated. The Bank is currently evaluating the potential impact that the adoption of IFRS 9 will have on its financial statements. 4. NET INTEREST INCOME Net interest income comprises: Nine months ended 30 September 2010 Nine months ended 30 September 2009 4,944,488 65,621 714,148 4,806,798 165,655 744,042 Total interest income 5,724,257 5,716,495 Interest income comprises: Interest income on financial assets recorded at amortized cost: Interest on loans to customers Interest on due from banks Other interest income 4,921,296 88,697 116 4,811,147 161,304 2 5,010,109 4,972,453 714,148 744,042 Total interest income 5,724,257 5,716,495 Interest expense comprises: Interest expenses on financial liabilities recorded at amortized cost: Interest on due to banks Interest on customer accounts Interest on subordinated debt Interest on debt securities issued (1,436,941) (1,137,920) (56,019) (47,155) (1,768,929) (846,191) (54,693) (45,099) Total interest expense (2,678,035) (2,714,912) Net interest income before provision for impairment losses on interest bearing assets 3,046,222 3,001,583 Interest income comprises: Interest income on financial assets recorded at amortized cost: - interest income on impaired financial assets, including assets assessed on portfolio basis - interest income on unimpaired financial assets Interest income on financial assets at fair value Interest income on financial assets at fair value: Interest on investments available for sale 23 F-25 5. ALLOWANCE FOR IMPAIRMENT LOSSES AND OTHER PROVISIONS The movements in allowance for impairment losses on interest earning assets were as follows: Due from banks Loans to customers Investments available for sale 31 December 2008 57,652 1,071,259 Provision Write-off of assets 43,945 - 2,001,329 (8,852) 103,407 - 2,148,681 (8,852) 30 September 2009 101,597 3,063,736 108,597 3,273,930 31 December 2009 66,651 4,118,127 90,107 4,274,885 1,653,684 (2,288) 50,717 - 1,703,878 (2,288) 5,769,523 140,824 5,976,475 (Recovery of provision)/provision Write-off of assets 30 September 2010 (523) 66,128 5,190 Total 1,134,101 The movements in allowances for impairment losses on other operations were as follows: Other assets 31 December 2008 10,291 Provision/(recovery of provision) Write-off of assets 6. 2,210 (758) Guarantees and other commitments Total 6,622 16,913 (3,266) - (1,056) (758) 30 September 2009 11,743 3,356 15,099 31 December 2009 12,995 4,123 17,118 Provision/(recovery of provision) 27,221 (2,085) 25,136 30 September 2010 40,216 2,038 42,254 Nine months ended 30 September 2010 Nine months ended 30 September 2009 754,785 29,034 1,453 583 5,603 699,144 48,593 1,983 898 4,316 791,458 754,934 Fee and commission expense: Settlements and cash operations Foreign exchange operations Securities operations Other (118,060) (7,794) (935) (9,140) (97,233) (12,333) (1,682) (9,585) Total fee and commission expense (135,929) (120,833) FEE AND COMMISSION INCOME AND EXPENSE Fee and commission income and expense comprise: Fee and commission income: Settlements and cash operations Foreign exchange operations Off-balance sheet operations Securities operations Other Total fee and commission income 24 F-26 7. NET GAIN ON FOREIGN EXCHANGE OPERATIONS Net gain on foreign exchange operations comprises: Nine months ended 30 September 2010 8. Nine months ended 30 September 2009 Dealing, net Translation differences, net 99,288 (12,380) 87,823 27,847 Total net gain on foreign exchange operations 86,908 115,670 Nine months ended 30 September 2010 Nine months ended 30 September 2009 Staff costs Depreciation and amortization Property and equipment maintenance Operating leases Utilities Office maintenance Communications Taxes, other than income tax Security expenses Professional services Business trip expenses Insurance expense Advertising costs Other expenses 1,051,400 84,304 72,437 71,621 47,875 31,262 22,090 18,733 14,597 6,359 6,143 4,191 1,446 15,342 946,872 73,340 59,133 63,401 39,088 25,509 21,854 30,707 12,710 6,603 4,966 5,451 968 14,325 Total operating expenses 1,447,800 1,304,927 OPERATING EXPENSES Operating expenses comprise: 9. INCOME TAXES The Bank provides for taxes based on the tax accounts maintained and prepared in accordance with the tax regulations of Ukraine and which may differ from International Financial Reporting Standards. The Bank is subject to certain permanent tax differences due to non-tax deductibility of certain expenses and a tax free regime for certain income. 25 F-27 Deferred taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for tax purposes. Temporary differences as at 30 September 2010 and 31 December 2009 relate mostly to different methods of income and expense recognition as well as to recorded values of certain assets. Temporary differences as at 30 September 2010 and 31 December 2009 comprise: 30 September 2010 31 December 2009 1,518,164 111,688 42,017 23,857 14,711 4,256 1,348,146 101,615 48,860 14,146 11,481 2,587 1,714,693 1,526,835 428,673 381,709 (259,541) (23,941) 169,132 357,768 Taxable temporary differences: Property, equipment and intangible assets Investments available for sale Subordinated debt (1,389,253) (388,058) (3,581) (1,370,061) (123,972) (252) Total taxable temporary differences (1,780,892) (1,494,285) Deferred tax liability at the statutory tax rate (25%) (445,223) (373,571) Net deferred tax liabilities (276,091) (15,803) Deductible temporary differences: Loans to customers Customer accounts Other liabilities Debt securities issued Other assets Due from banks Total deductible temporary differences Deferred tax assets at the statutory tax rate (25%) Deferred tax asset not recognised Deferred tax assets Relationships between tax expenses and accounting profit for the periods ended 30 September 2010 and 2009 are explained as follows: Nine months ended 30 September 2010 Nine months ended 30 September 2009 Profit before income tax 665,625 305,588 Statutory tax rate Tax at the statutory tax rate Effect of non-deductible expenses and non-taxable income Change of deferred tax asset not recognised 25% 166,406 8,154 235,600 25% 76,397 2,562 143,053 Income tax expense 410,160 222,012 Current income tax expense Deferred income tax expenses/(recovery) of deferred income tax expenses 161,197 372,252 248,963 (150,240) Income tax expense 410,160 222,012 26 F-28 Movement in deferred tax liability for the periods ended 30 September 2010 and 31 December 2009 was as follows: Nine months ended 30 September 2010 At the beginning of the period Year ended 31 December 2009 (15,803) (134,207) Change in deferred income tax balances recognized in profit or loss Changes in deferred income tax balances recognized in other comprehensive income (248,963) 156,127 (11,325) (37,723) At the end of the period (276,091) (15,803) Nine months ended 30 September 2010 Nine months ended 30 September 2009 255,465 83,576 Weighted average number of ordinary shares for purposes of basic and diluted earnings per share (in units) 13,892 13,892 Earnings per share – basic and diluted (UAH) 18,389 6,016 10. EARNINGS PER SHARE Profit: Net profit for the period attributable to ordinary shareholders 11. CASH AND BALANCES WITH THE NATIONAL BANK OF UKRAINE 30 September 2010 31 December 2009 Cash Balances with the National Bank of Ukraine 1,209,342 1,931,169 1,195,221 1,083,131 Total cash and balances with the National Bank of Ukraine 3,140,511 2,278,352 The balances with the National Bank of Ukraine as at 30 September 2010 and 31 December 2009 include UAH nil and UAH 177,530 thousand, respectively, which represent the obligatory minimum reserve deposits with the NBU. According to updated regulation of the NBU in 2010 the obligatory minimum reserve with the NBU is a subject to decrease on amount of certain types of securities issued by the Ukrainian Government or by state-owned entities under specified projects that the Bank holds in its portfolio. 27 F-29 Cash and cash equivalents for the purposes of the statement of cash flows comprise the following: Cash and balances with the National Bank of Ukraine Due from banks in OECD countries Less guarantee deposits in OECD countries (Note 12) Less minimum reserve deposits with the National Bank of Ukraine Less balances with the National Bank of Ukraine pledged as security Total cash and cash equivalents 30 September 2010 31 December 2009 3,140,511 2,866,910 2,278,352 2,097,835 6,007,421 4,376,187 (16,098) - (14,393) (177,530) (425,000) - 5,566,323 4,184,264 As at 30 September 2010 and 31 December 2009 balances with the National Bank of Ukraine, with carrying value of UAH 425,000 thousand and UAH nil, respectively, were pledged as security for loans received from the National Bank of Ukraine (Note 17). 12. DUE FROM BANKS Due from banks comprise: Correspondent accounts with other banks Time deposits with other banks Loans under reverse repurchase agreements Less allowance for impairment losses Total due from banks 30 September 2010 31 December 2009 3,147,561 352,302 59,244 2,721,171 272,549 29,271 3,559,107 3,022,991 (66,128) (66,651) 3,492,979 2,956,340 Movements in allowance for impairment losses on balances due from banks for the periods ended 30 September 2010 and 2009 are disclosed in Note 5. As at 30 September 2010 and 31 December 2009, due from banks included accrued interest income in the amount of UAH 3,416 thousand and UAH 119 thousand, respectively. As at 30 September 2010 and 31 December 2009 due from other banks at total amount of UAH 59,244 thousand and UAH 29,271 thousand were effectively collateralized by securities – Ukrainian Government debt securities purchased under reverse repurchase agreements, with fair value amounted to UAH 59,948 thousand and UAH 30,120 thousand, respectively. As at 30 September 2010 and 31 December 2009 loans under reverse repurchase agreements have contractual maturities in November 2010 and January 2010, respectively. As at 30 September 2010 and 31 December 2009 the maximum credit risk exposure on due from banks amounted to UAH 3,492,979 thousand and UAH 2,956,340 thousand, respectively. 28 F-30 As at 30 September 2010 and 31 December 2009 due from banks included guarantee deposits placed by the Bank for its operations with plastic cards and letters of credit in the amount of UAH 16,098 thousand and UAH 14,393 thousand, respectively. As at 30 September 2010 and 31 December 2009 the Bank had placements with ten banks, totalling UAH 3,351,921 thousand (94%) and UAH 2,854,179 thousand (94%), respectively, which represents a significant concentration. 13. LOANS TO CUSTOMERS Loans to customers comprise: 30 September 2010 31 December 2009 44,977,296 64,903 44,547,329 5,287,075 45,042,199 49,834,404 Less allowance for impairment losses (5,769,523) (4,118,127) Total loans to customers 39,272,676 45,716,277 Loans to customers Loans under reverse repurchase agreements Movements in allowances for impairment losses for the year ended 30 September 2010 and 2009 are disclosed in Note 5. As at 30 September 2010 and 31 December 2009 loans to customers included accrued interest income in the amount of UAH 1,073,386 thousand and UAH 1,063,799 thousand, respectively. The table below summarizes the amount of loans secured by respective collateral, rather than the fair value of the collateral itself: 30 September 2010 31 December 2009 33,339,834 9,837,295 1,815,665 49,405 40,518,184 8,986,073 320,154 9,993 45,042,199 49,834,404 Less allowance for impairment losses (5,769,523) (4,118,127) Total loans to customers 39,272,676 45,716,277 Loans collateralized by equipment, other movables and rights thereon Loans collateralized by pledge of real estate and rights thereon Unsecured loans Loans collateralized by cash deposits 29 F-31 The table below represents the borrowers‟ sector structure as at 30 September 2010 and 31 December 2009: 30 September 2010 31 December 2009 21,545,967 5,205,687 5,157,563 3,886,164 3,333,131 1,567,522 1,499,493 1,010,893 625,558 436,063 317,416 204,800 148,914 64,903 8,956 8,094 313 20,762 29,146,558 5,905,879 4,546,440 3,237,962 2,396,753 1,548,330 1,531,503 579,382 336,450 271,935 132,569 86,458 60,191 10,475 8,277 13,971 21,271 45,042,199 49,834,404 Less allowance for impairment losses (5,769,523) (4,118,127) Total loans to customers 39,272,676 45,716,277 Analysis by sector: Oil, gas and chemical production Individuals Energy Construction and real estate Construction and road maintenance Trade Agriculture and food processing Municipal authority Machinery construction Transport Mining and metallurgy Manufacturing Services Financial services Hotel and restaurant business Press and publishing Media and communications Other The Bank received real estate property and other assets by taking possession of collateral it held as security. As at 30 September 2010 and 31 December 2009 such assets in amount of UAH 111,191 thousand and UAH 111,005 thousand, respectively, are included in other assets (Note 16). Loans to individuals comprise the following products: Consumer loans, collateralized by real estate and guarantees Mortgage loans Car loans Consumer loans Other Less allowance for impairment losses Total loans to individuals 30 September 2010 31 December 2009 2,275,746 1,084,547 967,653 656,810 220,931 2,411,974 1,110,723 1,238,158 936,557 208,467 5,205,687 5,905,879 (1,488,918) (1,009,372) 3,716,769 4,896,507 As at 30 September 2010 and 31 December 2009 a maximum credit risk exposure on loans to customers amounted to UAH 39,272,676 thousand and UAH 45,716,277 thousand, respectively. As at 30 September 2010 and 31 December 2009 a maximum credit risk exposure on contingent liabilities and loan commitments extended by the Bank to its customers amounted to UAH 270,372 thousand and UAH 113,220 thousand, respectively (Note 23). 30 F-32 As at 30 September 2010 and 31 December 2009 loans to customers of UAH 32,704,045 thousand (73%) and UAH 37,225,435 thousand (75%), respectively, were granted to ten borrowers or group of borrowers, which represents a significant concentration. As at 30 September 2010 and 31 December 2009 the above stated amounts include loans issued to the related state-owned companies PJSC “NJSC “Naftogaz of Ukraine” and OJSC “Ukrtransnafta” in the total gross amount of UAH 21,384,536 thousand (47%) and UAH 29,089,711 thousand (58%), which represents a significant concentration (Note 30). As at 30 September 2010 and 31 December 2009 the following loans were provided to the related state-owned companies PJSC “NJSC “Naftogaz of Ukraine” and OJSC “Ukrtransnafta”: Name PJSC “NJSC “Naftogaz of Ukraine” PJSC “NJSC “Naftogaz of Ukraine” PJSC “NJSC “Naftogaz of Ukraine” PJSC “NJSC “Naftogaz of Ukraine” PJSC “NJSC “Naftogaz of Ukraine” Interest rate, % Maturity 30 September 2010 Maturity Interest 31 December rate, 2009 % 13.75 31 March 2015 11,933,967 29 December 2010 14.50 12,009,704 11.25 31 March 2015 5,513,390 30 June 2010 14.00 6,345,063 11.25 31 March 2015 3,332,362 4 June 2010 13.50 3,774,267 21 June 2011 304,068 21 June 2010 16.50 307,388 16.50 30 March 2011 159,699 30 March 2010 16.50 345,981 OJSC “Ukrtransnafta” 19.00 25 March 2011 49,000 25 March 2011 19.00 49,000 OJSC “Ukrtransnafta” 19.00 25 March 2011 49,000 25 March 2011 19.00 49,000 OJSC “Ukrtransnafta” PJSC “NJSC “Naftogaz of Ukraine” PJSC “NJSC “Naftogaz of Ukraine” PJSC “NJSC “Naftogaz of Ukraine” PJSC “NJSC “Naftogaz of Ukraine” 19.00 25 March 2011 43,050 25 March 2011 19.00 43,050 10.10 3,354,878 16.50 - - - 26 February 2010 - - - 2 March 2010 9.50 1,600,329 - - - 26 February 2010 7.92 939,373 - - - 6.40 271,678 30 March 2010 21,384,536 29,089,711 Less allowance for impairment losses (2,300,627) (1,790,761) Total 19,083,909 27,298,950 As at 31 December 2009 loans to PJSC “NJSC “Naftogaz of Ukraine” included loans under reverse repurchase agreements in the amount of UAH 5,226,885 thousand. Reverse repurchase agreements were concluded on Ukrainian Government debt securities of special issue. In 2010 mutual obligations between the Bank and the NBU regarding sale of bonds and repayment of loans under reverse repurchase agreements were settled. Subsequent to 31 December 2009 the Bank restructured loans outstanding as at the end of 2009 to state-owned company PJSC “NJSC “Naftogaz of Ukraine” in the amount UAH 22,782,403 thousand. Maturity of loans was changed from 2010 till 2011 - 2015, interest rates were changed as presented in the table above. 31 F-33 Carrying value of loans under reverse repurchase agreements and fair value of assets pledged as at 30 September 2010 comprise: 30 September 2010 Carrying Fair value of value of loans collateral 64,903 59,507 64,903 59,507 Bonds issued by State Mortgage Institution Total Carrying value of loans under reverse repurchase agreements and fair value of assets pledged as at 31 December 2009 comprise: 31 December 2009 Carrying Fair value of value of loans collateral 5,226,885 5,035,805 60,190 60,353 5,287,075 5,096,158 Ukrainian Government debt securities Bonds issued by State Mortgage Institution Total As at 30 September 2010 and 31 December 2009 loans under reverse repurchase agreements have contractual maturities from October 2010 and from February 2010 to May 2010, respectively. As at 30 September 2010 and 31 December 2009 loans to PJSC “NJSC “Naftogaz of Ukraine” with carrying value of UAH 18,544,161 thousand and UAH 20,365,112 thousand, respectively, were pledged as security for loans received from the National Bank of Ukraine (Note 17). As at 30 September 2010 and 31 December 2009 loans to other borrowers with carrying value of UAH 3,191,342 thousand and UAH 2,450,341 thousand, respectively, were pledged as security for loans received from the National Bank of Ukraine (Note 17). The table below summarizes an analysis of loans to customers by impairment: Loans to customers individually determined to be impaired Loans to customers collectively determined to be impaired Unimpaired loans to customers (REPO) Total Carrying value before allowance 30 September 2010 Allowance Carrying for value impairment losses Carrying value before allowance 31 December 2009 Allowance Carrying for value impairment losses 27,995,721 3,505,527 24,490,194 26,317,299 2,524,687 23,792,612 16,981,575 2,263,996 14,717,579 18,230,030 1,593,440 16,636,590 64,903 - 64,903 5,287,075 - 5,287,075 45,042,199 5,769,523 39,272,676 49,834,404 4,118,127 45,716,277 32 F-34 14. INVESTMENTS AVAILABLE FOR SALE Investments available for sale comprise: Ukrainian Government debt securities: Medium-term Ukrainian Government debt securities Long-term Ukrainian Government debt securities, including securities with early redemption feature Ukrainian Government debt securities for settlement of budget indebtedness on value added tax Other: Bonds issued by State Mortgage Institution Bonds issued by corporate entities Bonds issued by banks Bonds issued by local Ukrainian authorities Less allowance for impairment losses 30 September 2010 31 December 2009 3,033,068 1,750,080 2,798,480 598,280 359 - 5,831,907 2,348,360 736,684 647,526 388,794 25,395 737,604 519,239 448,877 25,395 1,798,399 1,731,115 (125,541) Total debt securities available for sale (74,824) 7,504,765 4,004,651 23,063 23,063 (15,283) (15,283) 7,780 7,780 7,512,545 4,012,431 Equity securities: Corporate shares Less allowance for impairment losses Total equity securities available for sale Total investments available for sale Movements in allowances for impairment losses for the periods ended 30 September 2010 and 2009 are disclosed in Note 5. As at 30 September 2010 and 31 December 2009, debt securities available for sale included accrued interest income in the amount of UAH 184,567 thousand and UAH 92,196 thousand, respectively. As at 30 September 2010 and 31 December 2009 debt securities with carrying value of UAH 240,915 thousand and UAH 463,211 thousand, respectively, were pledged as security for loans received from the National Bank of Ukraine (Note 17). 33 F-35 15. PROPERTY, EQUIPMENT AND INTANGIBLE ASSETS Property, equipment and intangible assets comprise: Buildings Leasehold improvements At historical/revalued cost 31 December 2009 Additions Transfers Disposals Other 30 September 2010 1,793,221 61,077 474 14,341 (65) 3,829 7,202 (3,765) - Furniture, office equipment and motor vehicles 645,090 91,833 (8,707) - Construction in progress 59,912 58,298 (14,341) (37) - Intangible assets 24,194 1,635 (133) - Total 2,583,494 159,442 (12,707) 3,829 1,811,800 64,514 728,216 103,832 25,696 2,734,058 29,707 44,041 500,258 - 20,636 594,642 15,897 (2) 8,034 (3,765) 45,602 48,310 549,796 - 22,706 666,414 30 September 2010 1,766,198 16,204 178,420 103,832 2,990 2,067,644 31 December 2009 1,763,514 17,036 144,832 59,912 3,558 1,988,852 Accumulated depreciation 31 December 2009 Charge for the period Eliminated on disposals 30 September 2010 58,170 (8,632) - 2,203 (133) 84,304 (12,532) Net book value 34 F-36 Buildings Leasehold improvements At historical/revalued cost 31 December 2008 Construction in progress Intangible assets 558,419 62,104 20,156 (2,064) 98,951 (12,280) 24,400 (26,413) (179) 1,793,221 61,077 645,090 59,912 24,194 2,583,494 8,933 30,179 450,654 - 18,076 507,842 20,774 - 15,924 (2,062) 61,761 (12,157) - 29,707 44,041 500,258 - 20,636 594,642 31 December 2009 1,763,514 17,036 144,832 59,912 3,558 1,988,852 31 December 2008 1,755,151 12,806 107,765 62,104 2,469 1,940,295 31 December 2009 3,375 26,413 (651) 20,545 Total 42,985 Additions Transfers Disposals 1,764,084 Furniture, office equipment and motor vehicles 3,728 (79) 2,448,137 150,610 (15,253) Accumulated depreciation 31 December 2008 Charge for the year Eliminated on disposals 31 December 2009 2,637 (77) 101,096 (14,296) Net book value 35 F-37 As at 1 November 2008 the buildings and office premises owned by the Bank were revalued to market prices by independent appraisers. Sales comparison method was used for estimation of fair value of buildings and office premises. No update of revaluations was performed for the period from November 2008 to 30 September 2010. If buildings would have been accounted at historical cost less accumulated depreciation and impairment losses, their carrying value would be UAH 293,951 thousand and UAH 283,421 thousand as at 30 September 2010 and 31 December 2009, respectively. Certain buildings not yet put into operations are shown within the construction in progress category. The carrying amount of buildings held within construction in progress as at 30 September 2010 and 31 December 2009 comprises UAH 43,724 thousand and UAH 5,494 thousand, respectively. 16. OTHER ASSETS Other assets comprise: Other financial assets: Other accounts receivable Accrued income Fair value of currency swap and spot agreements Accounts receivable from other banks on operations with securities Less allowance for impairment losses Other non-financial assets: Collateral received by the Bank Prepayments for purchase of assets Current income tax assets Precious metals Prepayment for precious metals Inventory Prepaid expenses Receivables on taxes and obligatory payments Other Total other assets 30 September 2010 31 December 2009 40,151 12,748 3,936 585 11,133 12,618 381 329 57,420 24,461 (40,216) (12,995) 17,204 11,466 111,191 93,411 80,222 33,223 14,724 13,757 12,952 3,264 6,303 111,005 824 241,304 41,577 13,683 11,416 2,900 4,084 369,047 426,793 386,251 438,259 Movements in allowances for impairment losses for the periods ended 30 September 2010 and 2009 are disclosed in Note 5. Precious metals represent gold and silver in vault. 36 F-38 17. DUE TO BANKS Due to banks comprise: 30 September 2010 31 December 2009 Loans from the National Bank of Ukraine Correspondent accounts of other banks Loans from other banks 15,531,633 220,422 42,462 15,931,171 91,573 - Total due to banks 15,794,517 16,022,744 As at 30 September 2010 and 31 December 2009 due to banks included accrued interest expenses in the amount of UAH 2,056 thousand and UAH 1,276 thousand, respectively. As at 30 September 2010 and 31 December 2009 due to banks included loans from the NBU in the amount of UAH 15,531,633 thousand (98%) and UAH 15,931,171 thousand (99%), respectively, which represents a significant concentration. As at 30 September 2010 loans received from the National Bank of Ukraine in the amount of UAH 15,531,633 thousand bear interest weighted average 9.9 % per annum, with maturity in the years from 2010 till 2015. As at 31 December 2009 loans received from the National Bank of Ukraine in the amount of UAH 15,931,171 thousand bear interest weighted average 13.1 % per annum, with maturity in the years from in 2010 and 2012. Subsequent to as at 31 December 2009 the Bank renegotiated terms of loans from NBU outstanding as at the year in the amount UAH 15,931,171 thousand to support its liquidity position and in connection with restructuring of loans issued to PJSC “NJSC “Naftogaz of Ukraine” (Note 13). Maturity of loans was changed from 2010 - 2012 till 2010 - 2015, weighted average interest rates were changed from 13.1% till 9.9%. As at 30 September 2010 loans from the NBU in the amount of UAH 15,531,633 thousand were secured by debt securities available for sale with carrying value of UAH 240,915 thousand, loans to PJSC “NJSC “Naftogaz of Ukraine” with carrying value UAH 18,544,161 thousand, loans to other borrowers with carrying value UAH 3,191,342 thousand and balances with the National Bank of Ukraine, with carrying value of UAH 425,000 thousand (Notes 14, 13, 11). As at 31 December 2009 loans from the NBU in the amount of UAH 15,931,171 thousand were secured by debt securities available for sale with carrying value of UAH 463,211 thousand, loans to PJSC “NJSC “Naftogaz of Ukraine” with carrying value UAH 20,365,112 thousand and loans to other borrowers with carrying value UAH 2,450,341 thousand (Notes 14 and 13). 18. CUSTOMER ACCOUNTS Customer accounts comprise: 30 September 2010 31 December 2009 Repayable on demand Term deposits 12,193,748 10,808,389 10,783,725 13,889,183 Total customer accounts 23,002,137 24,672,908 As at 30 September 2010 and 31 December 2009 customer accounts included accrued interest expenses in the amount of UAH 508,654 thousand and UAH 521,861 thousand, respectively. 37 F-39 As at 30 September 2010 and 31 December 2009 the aggregate balances of top ten customers amounted to UAH 1,854,580 thousand and UAH 7,500,691 thousand, which comprise 8% and 30%, respectively. The table below represents customer accounts‟ sector structure as at 30 September 2010 and 31 December 2009: 30 September 2010 31 December 2009 Individuals Energy Services Agriculture and food processing Trade Media and communications Construction and real estate Transport Mining and metallurgy Manufacturing Machinery construction Hotel and restaurant business Press and publishing Oil, gas and chemical production State authorities Other 18,448,603 1,318,789 1,122,329 400,979 358,906 319,717 224,493 91,804 38,204 34,644 26,227 14,738 8,120 6,167 588,417 15,043,792 926,924 492,058 280,585 299,421 860,196 226,075 203,004 31,709 18,377 25,048 8,242 8,899 51,483 5,726,375 470,720 Total customer accounts 23,002,137 24,672,908 Analysis by sector: Subsequent to 31 December 2009 the Bank repaid deposits to the State Treasury in the amounts of USD 600,000 thousand (UAH 4,791,000 thousand) and EUR 81,700 thousand (UAH 935,375 thousand), according to terms of deposit agreements. 19. DEBT SECURITIES ISSUED In 2008 the Bank issued the following debt securities, outstanding as at reporting date: A series B series Maturity of principal Annual coupon rate, % 10 February 2011 7 February 2013 16.00% 14.00% Total debt securities issued Carrying value, 30 September 2010 306,776 157,857 Annual coupon rate, % Carrying value, 31 December 2009 16.00% 10.50% 464,633 As at 30 September 2010 and 31 December 2009 domestic debt securities issued included accrued interest expense in the amount of UAH 9,545 thousand and UAH 8,100 thousand, respectively. The bond-holders had the right to demand repayment of the A series bonds by the Bank at their nominal value after the end of the sixth coupon period – 13 August 2009. 38 F-40 243,216 202,877 446,093 The bond-holders had the right to demand repayment of the B series bonds by the Bank at their nominal value after the end of the tenth coupon period – 12 August 2010. Annual coupon rate for A series from first till sixth coupon period was set in the Prospectus. Annual coupon rate for A series from seventh till twelfth coupon period was set by the Management Board of the Bank according to present market conditions. Annual coupon rate for B series from first till tenth coupon period was set in the Prospectus. Annual coupon rate for B series from eleventh till twelfth coupon period was set by the Management Board of the Bank according to present market conditions. 20. OTHER LIABILITIES Other liabilities comprise: Other financial liabilities: Accrued bonuses and salary Expenses accrued Fair value of currency swap and spot agreements Other payables Other Other non-financial liabilities: Taxes payable, other than income tax Unused vacation reserve Provision for guarantees and other commitments Total other liabilities 30 September 2010 31 December 2009 47,315 2,015 1,870 1,395 16,163 25,377 1,472 2,002 5,630 4,904 68,758 39,385 24,109 16,136 2,038 5,277 16,660 4,123 42,283 26,060 111,041 65,445 Movements in provision for guarantees and other commitments for the periods ended 30 September 2010 and 2009 are disclosed in Note 5. 21. SUBORDINATED DEBT Subordinated debt comprises: ABN AMRO Bank N.V. Currency Maturity of principal Interest rate, % USD 19 January 2017 9% Total subordinated debt 30 September 2010 31 December 2009 799,616 824,578 799,616 824,578 As at 30 September 2010 and 31 December 2009 subordinated debt included accrued interest expense in the amount of UAH 14,939 thousand and UAH 33,610 thousand, respectively. In the event of bankruptcy or liquidation of the Bank, repayment of this debt is subordinate to the repayments of the Bank‟s liabilities to all other creditors. 39 F-41 In accordance with terms of loan agreement, the Bank should comply, among others, with the following covenants: The Bank is required to submit its audited annual financial statements prepared in accordance with IFRS within 180 days from the reporting date; The Bank is required to submit its unaudited interim financial statements for the six months ending 30 June prepared in accordance with IFRS within 90 days from the reporting date. ABN AMRO Bank N.V. has the right to enforce obligations of the Bank regarding compliance with the covenants. No specific action is prescribed by the agreement in case of the Bank‟s noncompliance with the covenants. 22. SHARE CAPITAL Share capital comprises: Total shares authorized, issued and fully paid Total share capital 30 September 2010 Number Amount, of shares, thousand in units UAH 31 December 2009 Number Amount, of shares, thousand in units UAH 13,892 13,892,000 13,892 13,892,000 13,892 13,892,000 13,892 13,892,000 All ordinary shares have a nominal value of UAH 1,000 thousand per share, rank equally and carry one vote. On 17 March 2009 the State Commission for securities and stock market issued the certificate on 13,892 shares of the Bank to register total amount of shares of the Bank including new shares in the amount of 12,970 issued in 2008. In 2010 the Bank paid share of profit based on the financial results of year 2009, to the general fund of State budget of Ukraine as in the accordance with the requirements of art. 59 Law of Ukraine “On State Budget of Ukraine of 2010” in the amount UAH 207,809 thousand. 23. COMMITMENTS AND CONTINGENCIES In the normal course of business, the Bank is a party to financial instruments with off-balance sheet risk in order to meet the needs of its customers. These instruments, involving varying degrees of credit risk, are not reflected in the statement of financial position. The Bank‟s maximum exposure to credit loss under contingent liabilities and commitments to extend credit, in the event of non-performance by the other party where all counterclaims, collateral or security prove valueless, is represented by the contractual amounts of those instruments. The Bank uses the same credit control and management policies in undertaking off-balance sheet commitments as it does for on-balance operations. 40 F-42 As at 30 September 2010 and 31 December 2009 the nominal or contract amounts were: Contingent liabilities and credit commitments Guarantees issued and similar commitments Irrevocable commitments on loans and unused credit lines Total contingent liabilities and credit commitments 30 September 2010 Nominal amount 31 December 2009 Nominal amount 643 269,729 197 113,023 270,372 113,220 As at 30 September 2010 and 31 December 2009 provision for impairment losses on guaranties and other commitments amounted to UAH 2,038 thousand and UAH 4,123 thousand, respectively (Notes 5, 20). Extension of loans to customers within loans and credit line limits is approved by the Bank on a case-by-case basis and depends on borrowers‟ financial performance, debt service and other conditions. As at 30 September 2010 and 31 December 2009 total amount of such commitments come to UAH 2,120,514 thousand and UAH 1,724,352 thousand, respectively. Capital commitments – As at 30 September 2010 and 31 December 2009 the Bank had no capital commitments. Operating lease commitments – Where the Bank is the lessee, the future minimum lease payments under non cancellable operating leases are as follows: Less than 1 year Later than 1 year and not later than 5 years Later than 5 years Total operating lease commitments 30 September 2010 31 December 2009 62,949 79,042 50,064 63,907 76,335 70,653 192,055 210,895 Legal proceedings – From time to time and in the normal course of business, claims against the Bank are received from customers and counterparties. Management is of the opinion that no material unaccrued losses will be incurred and accordingly no provision has been made in this condensed interim financial information. Taxation – Due to presence in the Ukrainian commercial legislation, and tax legislation in particular, of provisions allowing more than one interpretation, and also due to the practice developed in a generally unstable environment by the tax authorities of making arbitrary judgment of business activities, if a particular treatment based on management‟s judgment of the Bank‟s business activities was to be challenged by the tax authorities, the Bank may be assessed additional taxes, penalties and interest. Such uncertainty may relate to the valuation of financial instruments, loss and impairment provisions and the market level for the pricing of deals. The Bank believes that it has already made all tax payments, and therefore no allowance has been made in the condensed interim financial information. Tax records remain open to review by the tax authorities for three years. 41 F-43 During the tax review conducted in 2006, additional tax liabilities and financial sanctions totalling UAH 11,070 thousand were assessed. The tax authorities challenged the tax deductibility of the provision for doubtful receivables. The Bank did not agree with the tax authorities and on 9 June 2006 filed a court case. On 20 September 2006 the court requested an external expert to assess the appropriateness of deductibility of the provision. On 12 March 2007 the Kyiv Research Institute of Legal Expertise agreed with the Bank‟s approach. On 31 October 2007 the court found in favour of the Bank. The tax authorities appealed the decision under appeal procedure. This decision was confirmed by the Kyiv Administrative Court of Appeal, thus it has come into effect. Tax authorities appealed court decisions to the Higher Administrative Court of Ukraine; the court confirmed the decision in 2010. The tax authorities referred with cassation to the Higher Administrative Court of Ukraine, it accepted cassation and transferred to Regional Administrative Court of Kyiv, however as at the date of issue of this condensed interim financial information the date of court session was not yet appointed. No provisions for this additional tax assessment are made in this condensed interim financial information. Pensions and retirement plans – Employees receive pension benefits in accordance with the laws and regulations of Ukraine, which requires current contributions by the employer calculated as a percentage of current gross salary payments; such expense is charged in the period the related salaries are earned. Employees have the right to receive pension in the amount of such accumulated payments from state pension fund. As at 30 September 2010 and 31 December 2009 the Bank was not liable for any supplementary pensions, post-retirement health care, insurance benefits, or retirement indemnities to its current or former employees. Operating environment – The principal business activities of the Bank are within Ukraine. Emerging markets such as Ukraine are subject to different risks than more developed markets, including economic, political and social, and legal and legislative risks. As has happened in the past, actual or perceived financial problems or an increase in the perceived risks associated with investing in emerging economies could adversely affect the investment climate in Ukraine and the Ukraine‟s economy in general. Laws and regulations affecting businesses in Ukraine continue to change rapidly. Tax, currency and customs legislation within Ukraine is subject to varying interpretations, and other legal and fiscal impediments contribute to the challenges faced by entities currently operating in Ukraine. The future economic direction of Ukraine is largely dependent upon economic, fiscal and monetary measures undertaken by the government, together with legal, regulatory, and political developments. The global financial turmoil that has negatively affected Ukraine‟s financial and capital markets in 2008 and 2009 has receded and Ukraine‟s economy returned to growth in 2010. However significant economic uncertainties remain. Adverse changes arising from systemic risks in global financial systems, including any tightening of the credit environment could slow or disrupt the Ukraine‟s economy, adversely affect the Bank‟s access to capital and cost of capital for the Bank and, more generally, its business, results of operations, financial condition and prospects. 42 F-44 24. SUBSEQUENT EVENTS On 4 December 2010, the Tax Code of Ukraine (the “Code”) was officially published. In its entirety, the Code will become effective on 1 January 2011. Section III of the Code that deals with corporate income tax (“CIT”) will become effective from 1 April 2011. Therefore, the Tax Code is inactive as at reporting date – 30 September 2010. It should be stated that The Tax Code provides for a gradual reduction of the CIT rate from 25% to: 23% – from 1 April 2011 to 31 December 2011; 21% – from 1 January 2012 to 31 December 2012; 19% – from 1 January 2013 to 31 December 2013; 16% – from 1 January 2014. Due to the fact that the new CIT rules were not enacted or substantially enacted as at 30 September 2010, any changes in deferred tax assets/liabilities on above mentioned reduction of tax rates are to be recognized in subsequent reporting periods. Subsequent to 30 September 2010 PJSC “NJSC “Naftogaz of Ukraine” decided to issue bonds, with the proceeds of such issue to be used to repay the existing loan facilities with the Bank. The Bank envisages that it will purchase the majority of the new PJSC “NJSC “Naftogaz of Ukraine” bonds so that its exposure to PJSC “NJSC “Naftogaz of Ukraine” is restructured into more liquid instruments with more diversified maturity. 25. TRANSACTIONS WITH RELATED PARTIES Related parties or transactions with related parties, as defined by IAS 24 “Related Party Disclosures”, represent: (a) Parties that directly, or indirectly through one or more intermediaries: control, or are controlled by, or are under common control with, the Bank (this includes parents, subsidiaries and fellow subsidiaries); have an interest in the Bank that gives then significant influence over the Bank; and that have joint control over the Bank; (b) Associates – enterprises on which the Bank has significant influence and which is neither a subsidiary nor a joint venture of the investor; (c) Joint ventures in which the Bank is a venturer; (d) Members of key management personnel of the Bank or its parent; (e) Close members of the family of any individuals referred to in (a) or (d); (f) Parties that are entities controlled, jointly controlled or significantly influenced by, or for which significant voting power in such entity resides with, directly or indirectly, any individual referred to in (d) or (e); or (g) Post-employment benefit plans for the benefit of employees of the Bank, or of any entity that is a related party of the Bank. Other related parties are represented by state-owned entities, where ownership of the State is more than 50%, state-owned banks and state authorities. 43 F-45 In considering each possible related party relationship, attention is directed to the substance of the relationship, and not merely the legal form. The Bank had the following transactions outstanding as at 30 September 2010 and 31 December 2009 with related parties: 30 September 2010 Related party Total category balances as per financial statements caption Balances with the NBU - other related parties Due from banks, net: - other related parties Loans to customers, gross: - key management personnel of the Bank - other related parties \ Allowance for impairment of loans to customers: - other related parties Investments available for sale, net: - other related parties Due to banks: - other related parties Customer accounts: - key management personnel of the Bank - other related parties Contingent liabilities and credit commitments: - key management personnel of the Bank - other related parties 31 December 2009 Related party Total category balances as per financial statements caption 1,931,169 1,931,169 1,931,169 1,083,131 1,083,131 1,083,131 81,874 81,874 3,492,979 145,368 145,368 2,956,340 31,182,453 45,042,199 36,001,156 49,834,404 333 31,182,120 3,689 35,997,467 (3,086,664) (3,086,664) (5,769,523) (2,066,245) (2,066,245) (4,118,127) 7,068,675 7,068,675 7,512,545 3,423,243 3,423,243 4,012,431 15,618,681 15,618,681 15,794,517 15,992,437 15,992,437 16,022,744 2,224,117 23,002,137 7,627,342 24,672,908 13,158 2,210,959 15,008 7,612,334 904,783 2,390,886 112 904,671 602,076 202 601,874 44 F-46 1,837,572 Included in the statement of comprehensive income for the periods ended 30 September 2010 and 2009 are the following amounts which arose due to transactions with related parties: Nine months ended 30 September 2010 Related party Total category transactions as per financial statements caption Interest income - key management personnel of the Bank - other related parties 3,967,416 Interest expense - key management personnel of the Bank - other related parties (1,522,437) Provision for impairment losses on interest bearing assets - other related parties 5,724,257 47 3,967,369 Nine months ended 30 September 2009 Related party Total category transactions as per financial statements caption 3,961,800 5,716,495 335 3,961,465 (2,678,035) (1,040) (1,521,397) (1,892,278) (2,714,912) (981) (1,891,297) (1,062,391) (1,062,391) (1,703,878) (1,014,468) (1,014,468) (2,148,681) Fee and commission income - other related parties 151,797 151,797 791,458 120,835 120,835 754,934 Fee and commission expense - other related parties (63,150) (63,150) (135,929) (56,617) (56,617) (120,833) Operating expenses - key management personnel of the Bank - other related parties (60,217) (1,447,800) (65,737) (1,304,927) Key management personnel compensation: - short-term employee benefits - social taxes (20,408) (39,809) (20,923) (44,814) (20,408) (1,051,400) (18,987) (1,421) (20,923) (946,872) (19,874) (1,049) 26. FAIR VALUE OF FINANCIAL INSTRUMENTS Estimated fair value disclosures of financial instruments are made in accordance with the requirements of IFRS 7 “Financial Instruments: Disclosures” and IAS 39 “Financial Instruments: Recognition and Measurement”. Fair value is defined as the amount at which the instrument could be exchanged in a current transaction between knowledgeable willing parties in an arm‟s length transaction, other than in forced or liquidation sale. The estimates presented herein are not necessarily indicative of the amounts the Bank could realize in a market exchange from the sale of its full holdings of a particular instrument. The estimated fair values of financial instruments have been determined by the Bank using available market information, where it exists, and appropriate valuation methodologies. However, judgement is necessarily required to interpret market data to determine the estimated fair value. Ukraine continues to display some characteristics of an emerging market and economic conditions continue to limit the volume of activity in the financial markets. Market quotations may be outdated or reflect distress sale transactions and therefore not represent fair values of financial instruments. Management has used all available market information in estimating the fair value of financial instruments. 45 F-47 Financial instruments carried at fair value – Investment securities available for sale and derivatives are carried on the statement of financial position at their fair value that was estimated using available market information or appropriate valuation technique. Cash and cash equivalents – Cash and cash equivalents are carried at amortized cost which approximates their current fair value. Loans and receivables carried at amortized cost – The estimated fair value of fixed interest rate instruments is based on estimated future cash flows expected to be received discounted at current interest rates of new instruments with similar credit risk and remaining maturity. Discount rates depend on currency, maturity of the instrument and credit risk of the counterparty. Liabilities carried at amortized cost – The estimated fair value of fixed interest rate instruments with stated maturity, for which quoted market price is not available, was estimated based on expected future cash flows discounted at current interest rates for new instruments with similar credit risk and remaining maturity. The fair value of liabilities repayable on demand or after a notice period is estimated as the amount payable on demand discounted from the first date that the amount could be required to be paid. Discounted rates used were consistent with the Bank‟s credit risk and also depend on currency and maturity of the instrument. The fair value of financial assets and liabilities compared with the corresponding carrying amount in the statement of financial position of the Bank is presented below: Financial assets: Cash and balances with the National Bank of Ukraine Due from banks Loans to customers Investments available for sale Other financial assets Derivative financial instruments Total financial assets Financial liabilities: Due to banks Customer accounts Debt securities issued Other financial liabilities Derivative financial instruments Subordinated debt Total financial liabilities 30 September 2010 Carrying Fair value value 31 December 2009 Carrying Fair value value 3,140,511 3,492,979 39,272,676 7,512,545 13,268 3,140,511 3,492,979 39,363,867 7,512,545 13,268 2,278,352 2,956,340 45,716,277 4,012,431 11,085 2,278,352 2,956,340 45,442,767 4,012,431 11,085 3,936 3,936 381 381 53,435,915 53,527,106 54,974,866 54,701,356 30 September 2010 Carrying Fair value value 31 December 2009 Carrying Fair value value 15,794,517 23,002,137 464,633 66,888 15,794,517 23,264,133 464,633 66,888 16,022,744 24,672,908 446,093 37,383 16,022,744 24,276,349 446,093 37,383 1,870 799,616 1,870 799,616 2,002 824,578 2,002 824,578 40,129,661 40,391,657 42,005,708 41,609,149 46 F-48 Financial instruments recognised at fair value are broken down for disclosure purposes into a three level fair value hierarchy based on the observability of inputs as follows: Quoted prices in an active market (Level 1) – Valuations based on quoted prices in active markets that the Bank has the ability to access for identical assets or liabilities. Valuation adjustments and block discounts are not applied to these financial instruments. Since valuations are based on quoted prices that are readily and regularly available in an active market, valuations of these products does not entail a significant amount of judgment. Valuation techniques based on observable market data (Level 2) – Valuations based on inputs for which all significant inputs are observable, either directly or indirectly and valuations based on one or more observable quoted prices for orderly transactions in markets that are not considered active. Valuation techniques incorporating information other than observable market data (Level 3) – Valuations based on inputs that are unobservable and significant to the overall fair value measurement. The Bank‟s valuation approach and fair value hierarchy categorisation for certain significant classes of financial instruments recognised at fair value is as follows: Quoted prices in an active market (Level 1) Valuation techniques based on observable market data (Level 2) Valuation techniques incorporating information other than observable market data (Level 3) 30 September 2010 Investments available for sale 1,246,256 5,703,702 562,587 31 December 2009 Investments available for sale 1,769,985 1,694,077 548,369 27. DERIVATIVE FINANCIAL INSTRUMENTS AND SPOT CONTRACTS Foreign exchange derivative financial instruments entered into by the Bank are generally traded in an over-the-counter market with professional market counterparties on standardized contractual terms and conditions. Derivatives have potentially favourable (assets) or unfavourable (liabilities) conditions as a result of fluctuations in market interest rates, foreign exchange rates or other variables relative to their terms. The aggregate fair values of derivative financial assets and liabilities can fluctuate significantly from time to time. The table below sets out fair values, at the reporting date, of currencies receivable or payable under currency swap and spot agreements entered into by the Bank. The table reflects gross positions before the netting of any counterparty positions (and payments) and covers the contracts with settlement dates after the respective reporting date. The contracts are short term in nature. 47 F-49 Not es Currency swap and spot agreements: fair values, at the reporting date, of: - USD receivable on settlement (+) - USD payable on settlement (-) - EUR receivable on settlement (+) - EUR payable on settlement (-) - UAH receivable on settlement (+) - UAH payable on settlement (-) - RUR receivable on settlement (+) - RUR payable on settlement (-) - CHF receivable on settlement (+) - CHF payable on settlement (-) Net fair value of currency swap and spot agreements 30 September 2010 Contracts Contracts with with positive fair negative value fair value 464,799 (177,049) 190,408 (43,538) 19,772 (13,015) (437,441) 26 3,936 361,589 (866,654) 21,974 (551,561) 1,183,064 (129,927) (20,355) (1,870) 31 December 2009 Contracts Contracts with with positive fair negative value fair value (43,918) (70,411) 141,112 (26,402) - (887,314) (17,173) 902,485 - 381 (2,002) As at 30 September 2010 and 31 December 2009 fair value of currency swap and spot agreements is included in other assets (Note 16) and other liabilities (Note 20). 28. CAPITAL MANAGEMENT The Bank manages its capital to ensure that the Bank will be able to continue as a going concern while maximizing the return to stakeholders through the optimization of the debt and equity balance. The capital structure of the Bank consists of debt, which includes subordinated debt disclosed in Note 21, and equity, comprising issued capital, reserves and retained earnings as disclosed in statement of changes in equity. The Management Board reviews the capital structure on a regular basis. As part of this review, the Board considers the cost of capital and the risks associated with each class of capital. Based on recommendations of the Management Board, the Bank balances its overall capital structure through new share issues as well as the issue of new debt or the redemption of existing debt. 29. REGULATORY MATTERS The adequacy of the Bank‟s capital is monitored using, among other measures, the ratios established by the Basel Capital Accord 1988 and the ratios established by the NBU in supervising the Bank. During the period ended 30 September 2010, the Bank had complied in full with all its externally imposed capital requirements. Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios of total and Tier 1 capital to risk-weighted assets. 48 F-50 The following table analyzes the Bank‟s regulatory capital resources for capital adequacy purposes in accordance with the principles employed above: 30 September 2010 31 December 2009 Share capital Retained earnings 13,892,000 370,217 13,892,000 322,315 Total Tier 1 qualified capital 14,262,217 14,214,315 Property revaluation reserve Investments available for sale fair value reserve Subordinated debt 1,147,005 15,349 791,350 1,147,251 (18,626) 798,500 Total Tier 2 qualified capital up to a limit 100% of total Tier 1 capital 1,953,704 1,927,125 16,215,921 16,141,440 Regulatory capital: Tier 1 capital Tier 2 capital Total regulatory capital Capital ratios: Total regulatory capital expressed as a percentage of total riskweighted assets 36.88% 32.26% Total Tier 1 capital expressed as a percentage of total riskweighted assets 32.43% 28.41% Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios of total (8%) and Tier 1 capital (4%) to risk-weighted assets. As at 30 September 2010 the Bank included in the computation of Total capital for Capital adequacy purposes the subordinated debt received, limited to 50% of Tier 1 capital. In the event of bankruptcy or liquidation of the Bank, repayment of this debt is subordinate to the repayments of the Bank‟s liabilities to all other creditors. 30. RISK MANAGEMENT POLICIES Management of risk is fundamental to the Bank‟s business and is an essential element of the Bank‟s operations. The main risks inherent to the Bank‟s operations are those related to credit exposures, liquidity and market movements in interest rates and foreign exchange rates. A description of the Bank‟s risk management policies in relation to those risks follows. Risk management framework – The risk management policies aim to identify, analyze and manage the risks faced by the Bank, to set appropriate risk limits and controls and to continuously monitor risk levels and adherence to limits. Risk management in the Bank is performed in accordance with the Risk Management Concept (the RMC), which was approved by both the Management Board and the Supervisory Board in 2004. The RMC is an overarching approach across the Bank, including all of its organizational departments, its headquarters, local and regional outlets and branches. It defines main risk categories that the Bank faces, and specifies the major organizational and functional levels of risk management. 49 F-51 The risk management functions are divided among the Supervisory Board, the Management Board, the Assets and Liabilities Management Committee (the “ALMC”), Treasury Department, Legal Department, the Credit Committee of the Bank, the Regional Branch Assets and Liabilities Management Committee and Regional Branch Credit Committees according to their functional responsibilities and approved limits. The Risk Management Department is independent of other business lines and acts under supervision of the Deputy of Chairman of the Management Board responsible for the department. The Bank manages the following risks: Market risk – Market risk is the risk that changes in the market prices, such as interest rates, equity prices, foreign exchange rates and credit spreads (not relating to changes in the obligor‟s/issuer‟s credit standing) will affect income or the value of financial instruments. The objective of market risk management is to manage and control market risk exposures within acceptable parameters, while optimizing the return on risk. The Bank separates its exposure to market risk between trading and non-trading portfolios. Trading portfolios are mainly held by the Treasury Department. Overall authority for market risk is vested in the ALMC. The Risk Management Department is responsible for the development of detailed risk management policies (subject to review and approval by the ALMC) and for monitoring of compliance with market risk limits and restrictions. Credit risk – Credit risk is the risk of a financial loss if a customer or counterparty fails to meet its contractual obligations, and arises principally from loans and advances and investment securities. For risk management reporting purposes, the Bank considers and consolidates all elements of credit risk exposure (such as individual customer and counterparty default risk, country and industry risk). Management uses the same procedures and methodologies, as defined in the policy for approving and procedures of consideration, approval and accompaniment of credit related commitments (unused loan commitments, letter of credit and guarantees) as it does for on statement of financial position credit obligations (loans). The maximum exposure to off balance sheet credit risk is reflected in Note 23. The Bank‟s exposure to any single counterparty (including other banks) is further restricted by sublimits covering on and off balance sheet exposures, which are set by the Credit Committee and Management Board. Management monitors concentration of credit risk by industry/sector and by geographic location. The Bank manages its credit risk by establishing limits in relation to single borrowers and groups of borrowers, which are recommended by the relevant Credit Department and Risk Management Department, and approved by the relevant Credit Committee or the Management Board. In case the amount of loan exceeds the authority of the Management Board, the loan is approved by the Supervisory Board. The Bank also mitigates its credit risk by obtaining collateral and using other security arrangements. The Bank decentralized the loan approval process and delegated credit risk responsibility from the Head Office Credit Committee to regional branches, by increasing the credit limit approval authorization of the Regional Credit Committees and providing regional offices with the authority to undertake certain transactions without the approval of other more senior credit committees. 50 F-52 In making its corporate lending decisions, the Bank evaluates potential borrowers on the basis of their financial condition as reflected in their financial statements, their credit history with the Bank and other financial institutions and the amount of risk involved in lending to a particular borrower, using a rating scale. In evaluating the risks associated with a particular borrower, the Bank takes into account the borrower‟s business and factors such as the quality of its management, its main business activities, its geographic location, suppliers, customers, other indebtedness, financial stability, turnover, likely return on the loan, the liquidity of the proposed collateral and whether it is sufficient in view of the credit risk. The Bank also considers risks associated with the industry in which the borrower operates. Consumer loans are subject to a standardized approval procedure. Loans are subject to maximum limits depending on the applicant‟s income, stability of future earnings, liquidity and quality of collateral. The Regional Credit Committee (or, if the branch limit is exceeded, the Head Office Credit Committee) reviews a credit application and makes the relevant decision as to whether to grant a loan. Financial assets are graded as follows: amounts due from banks are graded according to the current credit rating they have been issued by an internationally regarded agency. The highest possible rating is AAA. Investment grade financial assets have ratings from AAA to BBB. Financial assets which have ratings lower than BBB are classed as speculative grade. As at 30 September 2010 and 31 December 2009 the balances with the NBU amounted to UAH 1,931,169 thousand and UAH 1,083,131 thousand, respectively. The credit rating of Ukraine according to the international rating agencies as at 30 September 2010 corresponded to speculative level B. Investments available for sale, in particular, OVDP of special issue, bonds issued by State Mortgage Institution, which were not rated, were included by the Bank in the range from BBB to B- based on sovereign credit rating of Ukraine. The following table details the credit ratings of financial assets held by the Bank: AAA – A– Due from banks Loans to customers Investments available for sale 2,871,351 AAA – A– Due from banks Loans to customers Investments available for sale 2,117,927 - BBB – B– 148,855 3,946,007 7,228,057 BBB – B– 52,288 2,455,444 3,739,148 Below B– 65,280 19,083,923 4,378 Below B– 62,628 27,299,842 3,547 Not rated 407,493 16,242,746 280,110 Not rated 723,497 15,960,991 269,736 30 September 2010 Total 3,492,979 39,272,676 7,512,545 31 December 2009 Total 2,956,340 45,716,277 4,012,431 The banking industry is generally exposed to credit risk through its financial assets and contingent liabilities. Credit risk exposure of the Bank is concentrated within Ukraine. The exposure is monitored on a regular basis to ensure that the credit limits and credit worthiness guidelines established by the Bank‟s risk management policy are not breached. Concentration risk – Concentration risk is determined by the Bank as the risk of possible losses due to concentration of risk in specific instruments, operations and industries. 51 F-53 Joint Stock Company “State Savings Bank of Ukraine” is the largest state-owned bank of Ukraine and specific character of its activities is related to significant scale of operations with state-owned companies, including according to state programs, resulting in significant concentration of credit and investment risks in relation to certain counterparties and groups of related counterparties and industries. As at 30 September 2010 67% of the assets and 44% of the liabilities were concentrated in operations with state-owned companies, the NBU, state banks and state authorities. The Bank obtains loans from the NBU to finance lending to the state-owned companies, which comprise 38% of the liabilities. The Bank obtained 70% of its operating income from operations with stateowned companies, the NBU, state banks and state authorities for the nine months ended 30 September 2010. As at 31 December 2009 67% of the assets and 56% of the liabilities were concentrated in operations with state-owned companies, the NBU, state banks and state authorities. The Bank obtains loans from the NBU to finance lending to the state-owned companies, which comprise 38% of the liabilities. The Bank obtained 69% of its operating income from operations with stateowned companies, the NBU, state banks and state authorities for the nine months ended 30 September 2009. The Bank manages concentration risk in the loan and investment portfolios by setting limits for certain counterparties and group of counterparties. Detailed description of this process is stated above, in the section about the credit risk. The Bank also uses limits based on the NBU requirements to manage the risk. To manage the credit risk the NBU sets the following limits: – limit of maximum exposure to credit risk per individual counterparty (N7), which is determined as ratio of amount of all claims of the Bank to this counterparty and all off-balance sheet claims, issued by the Bank to this counterparty (or group of counterparties) to regulatory capital of the Bank, the ratio should not exceed 20%; and – limit of large credit risks (N8), which is determined as credit risk for the counterparty (or group of counterparties) that comprises 10% or more of the regulatory capital of the Bank. The Management Board of the NBU set individual limit of maximum exposure to credit risk (N7) for operations with PJSC “NJSC “Naftogaz of Ukraine” by individual regulation. Concentration for this counterparty is disclosed in Note 13. The Bank did not violate limits on management of credit risk set by the NBU as at 30 September 2010 and 31 December 2009. An analysis of concentration of the assets and the liabilities by currencies, maturity and geography is disclosed in respective sections of the risk management policy. Liquidity risk – Liquidity risk refers to the availability of sufficient funds to meet deposit withdrawals and other financial commitments associated with financial instruments as they actually fall due. In order to manage liquidity risk, the Bank performs constant monitoring of future expected cash flows on clients‟ and banking operations, which is a part of assets/liabilities management process. On a monthly basis the Assets and Liability Committee analyzes funding sources taking into account changes in interest rates for the previous month and makes respective decisions for assets and liability management. 52 F-54 The analysis of interest rate change and liquidity risk based on carrying value of financial assets and liabilities is presented in the following table: Up to 1 month 1 month to 3 months 3 months to 1 year 1 year to 5 years Over 5 years Maturity undefined 30 September 2010 Total FINANCIAL ASSETS Due from banks Loans to customers Investments available for sale 3,289,434 1,236,999 3,117,231 58,174 1,935,782 11,758 6,107,793 834,016 1,304 24,909,823 3,341,306 5,082,279 200,454 - 3,348,912 39,272,676 7,504,765 Total interest bearing assets 7,643,664 2,005,714 6,941,809 28,252,433 5,282,733 - 50,126,353 Cash and balances with the National Bank of Ukraine Due from banks Investments available for sale Other financial assets 2,715,511 144,067 15,659 233 275 354 683 425,000 7,780 - 3,140,511 144,067 7,780 17,204 TOTAL FINANCIAL ASSETS 10,518,901 2,005,947 6,942,084 28,252,787 5,283,416 432,780 53,435,915 FINANCIAL LIABILITIES Due to banks Customer accounts Debt securities issued Subordinated debt 133,462 13,015,851 14,939 60,000 3,565,269 9,545 - 1,030,000 2,544,889 300,200 - 14,411,633 3,278,979 154,888 784,677 88,495 - - 15,635,095 22,493,483 464,633 799,616 Total interest bearing liabilities 13,164,252 3,634,814 3,875,089 18,630,177 88,495 - 39,392,827 159,422 508,654 41,425 37 27,163 44 89 - 159,422 508,654 68,758 TOTAL FINANCIAL LIABILITIES 13,873,753 3,634,851 3,902,252 18,630,221 88,584 - 40,129,661 Liquidity gap (3,354,852) (1,628,904) 3,039,832 9,622,566 5,194,832 432,780 Interest sensitivity gap (5,520,588) (1,629,100) 3,066,720 9,622,256 5,194,238 (5,520,588) (7,149,688) (4,082,968) 5,539,288 10,733,526 (10%) (13%) (7%) 10% 19% Due to banks Customer accounts Other financial liabilities Cumulative interest sensitivity gap Cumulative interest sensitivity gap as a percentage of total assets 53 F-55 Up to 1 month 1 month to 3 months 3 months to 1 year 1 year to 5 years Over 5 years FINANCIAL ASSETS Due from banks Loans to customers Investments available for sale 2,934,717 407,681 170,184 15,821,794 28,715 18,948,834 817,386 6,082,080 2,787,912 3,945,059 200,454 510,829 - 2,934,717 45,716,277 4,004,651 Total interest bearing assets 3,512,582 15,850,509 19,766,220 8,869,992 4,145,513 510,829 52,655,645 Cash and balances with the National Bank of Ukraine Due from banks Investments available for sale Other financial assets 2,100,822 535 8,829 995 83 20,093 1,093 621 840 177,530 7,780 - 2,278,352 21,623 7,780 11,466 TOTAL FINANCIAL ASSETS 5,622,768 15,851,587 19,787,406 8,870,613 4,146,353 696,139 54,974,866 FINANCIAL LIABILITIES Due to banks Customer accounts Debt securities issued Subordinated debt 86,953 11,849,952 33,610 6,467,202 7,927,866 8,093 - 8,791,757 1,556,815 - 672,212 2,708,611 438,000 - 60,202 790,968 - 16,018,124 24,103,446 446,093 824,578 Total interest bearing liabilities 11,970,515 14,403,161 10,348,572 3,818,823 851,170 - 41,392,241 4,620 569,462 11,005 2,614 25,700 37 29 - 4,620 569,462 39,385 TOTAL FINANCIAL LIABILITIES 12,555,602 14,405,775 10,374,272 3,818,860 851,199 - 42,005,708 Liquidity gap (6,932,834) 1,445,812 9,413,134 5,051,753 3,295,154 696,139 Interest sensitivity gap (8,457,933) 1,447,348 9,417,648 5,051,169 3,294,343 (8,457,933) (7,010,585) 2,407,063 7,458,232 10,752,575 (15%) (12%) 4% 13% 19% Due to banks Customer accounts Other financial liabilities Cumulative interest sensitivity gap Cumulative interest sensitivity gap as a percentage of total assets 54 F-56 Maturity undefined 31 December 2009 Total The Bank‟s liquidity risk management includes estimation of core current accounts, i.e. funds associated with stable customer relationships, with statistical methods applied to historic information on fluctuations of customer accounts balances. As at 30 September 2010 and 31 December 2009 core current accounts amounted to UAH 6,177,269 thousand and UAH 8,389,464 thousand, respectively. Based on going concern assumption effective maturity of core current accounts is considered to be undefined. Information as to the expected periods of repayment of customer accounts and effective liquidity gaps as at 30 September 2010 and 2009 is as follows: Up to 1 month 1 month to 3 months 3 months to 1 year 1 year to 5 years Over 5 years Maturity 30 September undefined 2010 Total TOTAL FINANCIAL ASSETS 10,518,901 2,005,947 6,942,084 28,252,787 5,283,416 432,780 53,435,915 TOTAL FINANCIAL LIABILITIES 13,873,753 3,634,851 3,902,252 18,630,221 88,584 - 40,129,661 Liquidity gap (3,354,852) (1,628,904) 3,039,832 9,622,566 5,194,832 432,780 Corrected for: Current customer accounts analyzed based on expected withdrawal dates (6,177,269) - - - - 6,177,269 TOTAL FINANCIAL LIABILITIES based on expected withdrawal dates for current customer accounts 7,696,484 3,634,851 3,902,252 18,630,221 88,584 6,177,269 Liquidity gap based on expected withdrawal dates for current customer accounts 2,822,417 (1,628,904) 3,039,832 9,622,566 5,194,832 (5,744,489) 55 F-57 Up to 1 month 1 month to 3 months 3 months to 1 year 1 year to 5 years Over 5 years Maturity 31 December undefined 2009 Total TOTAL FINANCIAL ASSETS 5,622,768 15,851,587 19,787,406 8,870,613 4,146,353 696,139 54,974,866 TOTAL FINANCIAL LIABILITIES 12,555,602 14,405,775 10,374,272 3,818,860 851,199 - 42,005,708 Liquidity gap (6,932,834) 1,445,812 9,413,134 5,051,753 3,295,154 696,139 Corrected for: Current customer accounts analyzed based on expected withdrawal dates (8,389,464) - - - - 8,389,464 TOTAL FINANCIAL LIABILITIES based on expected withdrawal dates for current customer accounts 4,166,138 14,405,775 10,374,272 3,818,860 851,199 8,389,464 Liquidity gap based on expected withdrawal dates for current customer accounts 1,456,630 1,445,812 9,413,134 5,051,753 3,295,154 (7,693,325) A further analysis of the liquidity and interest rate risks is presented in the following tables in accordance with IFRS 7. The amounts disclosed in these tables do not correspond to the amounts recorded on the statement of financial position as the presentation below includes a maturity analysis for financial liabilities that indicates the total remaining undiscounted contractual payments (including future interest payments), which are not recognized in the statement of financial position under the effective interest rate method. 56 F-58 Up to 1 month 1 month to 3 months 3 months to 1 year 1 year to 5 years Over 5 years 30 September 2010 Total FINANCIAL LIABILITIES Due to banks Customer accounts Debt securities issued Subordinated debt 262,126 13,718,065 5,935 14,939 61,213 3,648,561 11,295 - 1,064,892 2,819,952 322,053 71,697 17,473,663 5,292,845 184,435 287,458 156,394 899,567 18,861,894 25,635,817 523,718 1,273,661 Total interest bearing financial liabilities 14,001,065 3,721,069 4,278,594 23,238,401 1,055,961 46,295,090 41,425 37 27,163 44 89 68,758 178,460 832 90,925 155 - 270,372 14,220,950 3,721,938 4,396,682 23,238,600 1,056,050 46,634,220 1,405,517 - - - - 1,405,517 15,626,467 3,721,938 4,396,682 23,238,600 1,056,050 48,039,737 Other financial liabilities Contingent liabilities and irrevocable loan commitments Non-derivative financial liabilities Gross settled currency swap and spot agreements TOTAL FINANCIAL LIABILITIES Up to 1 month 1 month to 3 months 3 months to 1 year 1 year to 5 years Over 5 years 31 December 2009 Total FINANCIAL LIABILITIES Due to banks Customer accounts Debt securities issued Subordinated debt 93,088 12,449,395 3,866 33,610 992,780 8,096,406 7,358 - 14,997,663 1,772,663 34,296 35,933 870,749 4,563,813 485,113 362,519 111,381 907,695 16,954,280 26,993,658 530,633 1,339,757 Total interest bearing financial liabilities 12,579,959 9,096,544 16,840,555 6,282,194 1,019,076 45,818,328 11,005 2,614 25,700 37 29 39,385 808 68,854 43,141 417 - 113,220 12,591,772 9,168,012 16,909,396 6,282,648 1,019,105 45,970,933 1,045,393 - - - - 1,045,393 13,637,165 9,168,012 16,909,396 6,282,648 1,019,105 47,016,326 Other financial liabilities Contingent liabilities and irrevocable loan commitments Non-derivative financial liabilities Gross settled currency swap and spot agreements TOTAL FINANCIAL LIABILITIES 57 F-59 Interest rate risk – The Bank manages fair value interest rate risk through periodic estimation of potential losses that could arise from adverse changes in market conditions. The Assets and Liabilities Management Committee manages interest rate and market risks by matching its interest rate position, which provides the Bank with a positive interest margin. The Assets and Liabilities Management Committee conducts monitoring of the Bank‟s current financial performance, estimates the Bank‟s sensitivity to changes in interest rates and its influence on the Bank‟s profitability. The following table presents an analysis of interest rate risk and thus the potential of the Bank for gain or loss. Effective interest rates are presented by categories of financial assets and liabilities to determine interest rate exposure and effectiveness of the interest rate policy used by the Bank. ASSETS Due from banks Loans to customers Investments available for sale: Ukrainian Government debt securities Other securities LIABILITIES Due to banks Customer accounts: Current accounts Deposits Debt securities issued Subordinated debt UAH % 30 September 2010 USD EUR % % Other % UAH % 31 December 2009 USD EUR % % Other % 3% 15% 0.1% 12% 0.1% 13% 1% - 13% 16% 1% 13% 0.2% 14% 2% - 15% 14% - - - 19% 16% - - - 10% 2% - 5% 13% 1% 1% 2% 2% 15% 15% - 1% 9% 9% 1% 5% - 0.2% 2% - 2% 16% 13% - 5% 10% 9% 6% 7% - - The majority of the Bank‟s loan contracts and other financial assets and liabilities contain clauses enabling the interest rate to be changed at the option of the lender. The Bank monitors its interest rate margin and consequently does not consider itself exposed to significant interest rate risk or consequential cash flow risk. The following table presents a sensitivity analysis of interest rate risk, which has been determined based on “reasonably possible changes in the risk variable”. The level of these changes is determined by management and is contained within the risk reports provided to key management personnel. Impact on profit before tax: Assets: Due from banks Loans to customers Investments available for sale Liabilities: Due to banks Customer accounts Debt securities issued Subordinated debt Net impact on profit before tax As at 30 September 2010 Interest rate Interest rate +1% -1% As at 31 December 2009 Interest rate Interest rate +1% -1% 33,489 392,727 75,048 (33,489) (392,727) (75,048) 29,347 457,163 40,047 (29,347) (457,163) (40,047) (156,351) (224,935) (4,646) (7,996) 156,351 224,935 4,646 7,996 (160,181) (241,034) (4,461) (8,246) 160,181 241,034 4,461 8,246 107,336 (107,336) 112,635 (112,635) 58 F-60 Price risk – Price risk is the risk that the value of a financial instrument will fluctuate as a result of unfavourable fluctuation in securities prices in the trading portfolio of the Bank, in the prices of derivative or other instruments and commodities, other than those caused by the changes in foreign exchange rates or interest rates. The Treasury Department of the Bank performs operations with securities in compliance with internal limits, restrictions and regulations, by-laws and procedures on price risk, decisions of responsible committees and the Management Board of the Bank based on its authorities. Currency risk – Currency risk is defined as the risk that the value of a financial instrument will fluctuate due to changes in foreign exchange rates. The Bank is exposed to the effects of fluctuations in the prevailing foreign currency exchange rates on its financial position and cash flows. The Department of Foreign Exchange Transactions and Operations with Precious Metals, the Treasury Department and the Risk Management Department monitor Bank‟s open currency position on a daily basis with the aim to match requirements set by the NBU. Based on the information prepared by the Department of Foreign Exchange Transactions and Operations with Precious Metals, the Treasury Department and the Risk Management Department, the Assets and Liabilities Management Committee control currency risk by management of the open currency position on the estimated basis of UAH devaluation and other macroeconomic indicators, which gives the Bank an opportunity to optimize risks of significant currency rates fluctuations towards its national currency. Foreign currency exchange rate risk – The Bank‟s exposure to foreign currency exchange rate risk is presented in the table below: UAH FINANCIAL ASSETS Cash and balances with the National Bank of Ukraine Due from banks Loans to customers Investments available for sale Other financial assets USD USD 1 = UAH 7.91350 EUR EUR 1 = UAH 10.77107 Other currencies 30 September 2010 Total 2,804,537 582,351 37,898,786 73,963 1,902,797 1,287,249 216,537 942,182 86,641 45,474 65,649 - 3,140,511 3,492,979 39,272,676 7,512,545 12,543 3,818 802 41 7,512,545 17,204 TOTAL FINANCIAL ASSETS 48,810,762 3,267,827 1,246,162 111,164 53,435,915 FINANCIAL LIABILITIES Due to banks Customer accounts Debt securities issued Other financial liabilities Subordinated debt 15,747,777 19,978,432 464,633 67,681 - 10,375 2,262,894 832 799,616 2,265 720,733 63 - 34,100 40,078 182 - 15,794,517 23,002,137 464,633 68,758 799,616 TOTAL FINANCIAL LIABILITIES 36,258,523 3,073,717 723,061 74,360 40,129,661 OPEN BALANCE SHEET POSITION 12,552,239 194,110 523,101 36,804 59 F-61 Derivative financial instruments and spot contracts – The Bank performs transactions with derivative financial instruments, which include cross currency swap and spots. Derivatives are contracts or agreements whose value is derived from one or more underlying indices or asset values inherent in the contract or agreement, which require no or little initial net investment and are settled at a future date. Fair value of derivative financial instruments and spot contracts are included in the currency analysis presented above and the following table presents further analysis of currency risk by types of derivative financial instruments and spot contracts: UAH Accounts receivable on spot and derivative contracts Accounts payable on spot and derivative contracts OPEN POSITION EUR EUR 1 = UAH 10.77107 Other currencies 30 September 2010 Total 1,202,836 826,388 212,382 - 2,241,606 (129,927) (1,043,703) (595,099) (470,811) (2,239,540) 13,625,148 (23,205) 140,384 (434,007) UAH FINANCIAL ASSETS Cash and balances with the National Bank of Ukraine Due from banks Loans to customers Investments available for sale Other financial assets USD USD 1 = UAH 7.91350 USD USD 1 = UAH 7.98500 EUR EUR 1 = UAH 11.44889 Other currencies 31 December 2009 Total 1,982,178 745,816 37,773,755 190,501 1,708,840 6,718,717 83,795 424,412 1,223,805 21,878 77,272 - 2,278,352 2,956,340 45,716,277 4,012,431 10,279 544 635 8 4,012,431 11,466 TOTAL FINANCIAL ASSETS 44,524,459 8,618,602 1,732,647 99,158 54,974,866 FINANCIAL LIABILITIES Due to banks Customer accounts Debt securities issued Other financial liabilities Subordinated debt 15,994,309 16,315,178 446,093 38,655 - 23,340 6,670,999 271 824,578 2,809 1,647,334 364 - 2,286 39,397 95 - 16,022,744 24,672,908 446,093 39,385 824,578 TOTAL FINANCIAL LIABILITIES 32,794,235 7,519,188 1,650,507 41,778 42,005,708 OPEN BALANCE SHEET POSITION 11,730,224 1,099,414 82,140 57,380 60 F-62 UAH Accounts receivable on spot and derivative contracts Accounts payable on spot and derivative contracts OPEN POSITION USD USD 1 = UAH 7.985 1,043,597 EUR EUR 1 = UAH 11.44889 - 12,773,821 Other currencies - 31 December 2009 Total - (931,232) (87,584) (26,402) 168,182 (5,444) 30,978 1,043,597 (1,045,218) Currency risk sensitivity – The following table details the Bank‟s sensitivity to an increase and decrease in the USD and EURO against the UAH, in result of possible changes in currency rates. Sensitivity rate used when reporting foreign currency risk internally to key management personnel and represents management‟s assessment of the possible change in foreign currency exchange rates. The sensitivity analysis includes only outstanding foreign currency denominated monetary items and adjusts their translation at the end of the period for the appropriate change in foreign currency rates. The sensitivity analysis includes external loans within the Bank where the denomination of the loan is in a currency other than the currency of the lender or the borrower. As at 30 September 2010 UAH/USD UAH/USD +10% -10% Impact on profit before tax (2,321) 2,321 As at 30 September 2010 UAH/EUR UAH/EUR +10% -10% Impact on profit before tax 14,038 (14,038) As at 31 December 2009 UAH/USD UAH/USD +10% -10% 16,818 (16,818) As at 31 December 2009 UAH/EUR UAH/EUR +10% -10% (544) 544 Limitations of sensitivity analysis – The above tables demonstrate the effect of a change in a key assumption while other assumptions remain unchanged. In reality there is a correlation between the assumptions and other factors. It should also be noted that these sensitivities are non-linear, and larger or smaller impacts should not be interpolated or extrapolated from these results. The sensitivity analyses do not take into consideration that the Bank‟s assets and liabilities are actively managed. Additionally, the financial position of the Bank may vary at the time that any actual market movement occurs. For example, the Bank‟s financial risk management strategy aims to optimize the exposure to market fluctuations on the Bank activities. As investment markets move past various trigger levels, management actions could include selling investments, changing investment portfolio allocation and taking other protective action. Consequently, the actual impact of a change in the assumptions may not have any impact on the liabilities, whereas assets are held at market value on the statement of financial position. In these circumstances, the different measurement bases for liabilities and assets may lead to volatility in shareholder equity. Other limitations in the above sensitivity analyses include the use of hypothetical market movements to demonstrate potential risk that only represent the Bank‟s view of possible near-term market changes that cannot be predicted with any certainty; and the assumption that all interest rates move in an identical fashion. 61 F-63 Geographical concentration – The geographical concentration of assets and liabilities is set out below: Ukraine Other non-OECD countries OECD countries 30 September 2010 Total FINANCIAL ASSETS Cash and balances with the National Bank of Ukraine Due from banks Loans to customers Investments available for sale Other financial assets 3,140,511 582,561 39,272,676 7,512,545 17,135 43,508 1 2,866,910 68 3,140,511 3,492,979 39,272,676 7,512,545 17,204 TOTAL FINANCIAL ASSETS 50,525,428 43,509 2,866,978 53,435,915 FINANCIAL LIABILITIES Due to banks Customer accounts Debt securities issued Other financial liabilities Subordinated debt 15,638,731 22,969,761 464,633 68,725 - 155,786 30,429 28 - 1,947 5 799,616 15,794,517 23,002,137 464,633 68,758 799,616 TOTAL FINANCIAL LIABILITIES 39,141,850 186,243 801,568 40,129,661 NET POSITION 11,383,578 (142,734) 2,065,410 Ukraine Other non-OECD countries OECD countries 31 December 2009 Total FINANCIAL ASSETS Cash and balances with the National Bank of Ukraine Due from banks Loans to customers Investments available for sale Other financial assets 2,278,352 783,906 45,716,277 4,012,431 11,466 54,507 - 2,117,927 - 2,278,352 2,956,340 45,716,277 4,012,431 11,466 TOTAL FINANCIAL ASSETS 52,802,432 54,507 2,117,927 54,974,866 FINANCIAL LIABILITIES Due to banks Customer accounts Debt securities issued Other financial liabilities Subordinated debt 16,012,958 24,672,908 446,093 39,380 - 9,786 1 - 4 824,578 16,022,744 24,672,908 446,093 39,385 824,578 TOTAL FINANCIAL LIABILITIES 41,171,339 9,787 824,582 42,005,708 NET POSITION 11,631,093 44,720 1,293,345 62 F-64 JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” Financial Statements For the Years Ended 31 December 2009 and 2008 F-65 JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” TABLE OF CONTENTS Page STATEMENT OF MANAGEMENT‟S RESPONSIBILITIES FOR THE PREPARATION AND APPROVAL OF THE FINANCIAL STATEMENTS FOR THE YEARS ENDED 31 DECEMBER 2009 AND 2008 INDEPENDENT AUDITOR‟S REPORT 1 2-3 FINANCIAL STATEMENTS FOR THE YEARS ENDED 31 DECEMBER 2009 AND 2008: Statements of comprehensive income 4-5 Statements of financial position 6 Statements of changes in equity 7 Statements of cash flows 8-9 Notes to the financial statements 10-62 F-66 JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” STATEMENT OF MANAGEMENT’S RESPONSIBILITIES FOR THE PREPARATION AND APPROVAL OF THE FINANCIAL STATEMENTS FOR THE YEARS ENDED 31 DECEMBER 2009 AND 2008 Management is responsible for the preparation of the financial statements that present fairly the financial position of the Joint Stock Company “State Savings Bank of Ukraine” (the “Bank”) as at 31 December 2009 and 2008, the results of its operations, cash flows and changes in equity for the year then ended, in accordance with International Financial Reporting Standards (“IFRS”). In preparing the financial statements, management is responsible for: Properly selecting and applying accounting policies; Presenting information, including accounting policies, in a manner that provides relevant, reliable, comparable and understandable information; Providing additional disclosures when compliance with the specific requirements of IFRS is insufficient to enable users to understand the impact of particular transactions, other events and conditions on the Bank‟s financial position and financial performance; and Making an assessment of the Bank‟s ability to continue as a going concern for the foreseeable future. Management is also responsible for: Designing, implementing and maintaining an effective and sound system of internal controls, throughout the Bank; Maintaining adequate accounting records that are sufficient to show and explain the Bank‟s transactions and disclose with reasonable accuracy at any time the financial position of the Bank, and which enable them to ensure that the financial statements of the Bank comply with IFRS; Maintaining statutory accounting records in compliance with legislation and accounting standards of Ukraine; Taking such steps as are reasonably available to them to safeguard the assets of the Bank; and Detecting and preventing fraud and other irregularities. The financial statements for the years ended 31 December 2009 and 2008 were authorized for issue on 12 January 2011 by the Management Board. 12 January 2011 12 January 2011 1 F-67 PJSC “Deloitte & Touche USC” 48-50A, Zhylyanska St. Kyiv 01033 Ukraine Tel.: +38 (044) 490 9000 Fax: +38 (044) 490 9001 www.deloitte.com.ua INDEPENDENT AUDITOR’S REPORT To the Shareholders and the Management Board of Joint Stock Company “State Savings Bank of Ukraine”: We have audited the accompanying financial statements of Joint Stock Company “State Savings Bank of Ukraine” (the “Bank”) as at 31 December 2009 and 2008, which comprise the statements of financial position as at 31 December 2009 and 2008, and the statements of comprehensive income, statements of changes in equity and statements of cash flows for the years then ended, and a summary of significant accounting policies and other explanatory information. Management’s responsibility for the financial statements Management is responsible for the preparation and fair presentation of these financial statements in accordance with International Financial Reporting Standards and for such internal control as management determines is necessary to enable the preparation of financial statements that are free from material misstatement, whether due to fraud or error. Auditor’s responsibility Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with International Standards on Auditing. Those standards require that we comply with ethical requirements and plan and perform the audit to obtain reasonable assurance whether the financial statements are free from material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the auditor‟s judgment, including the assessment of the risks of material misstatement of the financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity‟s preparation and fair presentation of the financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity‟s internal control. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of accounting estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our qualified audit opinion. Deloitte refers to one or more of Deloitte Touche Tohmatsu, a Swiss Verein, and its network of member firms, each of which is a legally separate and independent entity. Please see www.deloitte.com/about for a detailed description of the legal structure of Deloitte Touche Tohmatsu and its Member Firms. © 2011 PJSC "Deloitte & Touche USC". All rights reserved. F-68 Basis for qualified opinion We were unable to obtain sufficient audit evidence to satisfy ourselves as to the correctness of the disclosures of liquidity risk calculated using discounted and undiscounted cash flows as at 31 December 2009 and 2008, which are disclosed in Note 31 to the financial statements, in accordance with IFRS 7 “Financial Instruments: Disclosures”. As discussed in Note 2, the Bank has adopted the revaluation model for the subsequent measurement of its buildings which requires it to conduct revaluations with sufficient regularity such that the carrying amounts as at the date of statement of financial position do not differ materially from those using fair values. Buildings in the statement of financial position were revalued as at 1 November 2008 and the Bank has not carried out a valuation since that date. In view of the deterioration of property values in Ukraine as a result of the global economic crisis and in the absence of valuations to support the carrying value of buildings as at 31 December 2009 and 2008, we are unable to determine whether the carrying amount of buildings is fairly stated. As discussed in Note 2, the Bank did not apply the requirement of IAS 29 “Financial Reporting in Hyperinflationary Economies”, which requires restatement of non-monetary assets and equity to account for the effects of inflation up to 31 December 2000. We were unable to determine the effect of this departure from IAS 29 “Financial Reporting in Hyperinflationary Economies” on share capital, property revaluation reserve and retained earnings as at 31 December 2009 and 2008. As discussed in Note 2, the Bank has not disclosed segment information as required by IFRS 8 “Operating Segments”. Qualified opinion In our opinion, except for the effects of such adjustments, if any, as might have been determined to be necessary had we been able to satisfy ourselves as to the matters described in the first and second paragraphs of the Basis for qualified opinion above and except for the effect on the financial statements of the matters referred to in the preceding two paragraphs, the financial statements present fairly, in all material respects, the financial position of the Bank as at 31 December 2009 and 2008, and its financial performance and its cash flows for the years then ended in accordance with International Financial Reporting Standards. Emphasis of matter Without further qualifying our opinion we draw attention to Notes 26 and 31 to these financial statements, which disclose a significant concentration of operations with related parties and concentration risk management policy of the Bank. 12 January 2011 3 F-69 JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” STATEMENTS OF COMPREHENSIVE INCOME FOR THE YEARS ENDED 31 DECEMBER 2009 AND 2008 (in Ukrainian Hryvnias and in thousands, except for earnings per share which are in Ukrainian Hryvnias) Notes Year ended 31 December 2009 Year ended 31 December 2008 7,777,099 (3,641,294) 2,524,529 (1,051,131) 4,135,805 1,473,398 (3,164,272) (645,212) 971,533 828,186 1,021,387 (169,519) 143,665 (3,568) (963) 21,532 855,801 (141,231) 188,305 (3,202) (8,034) 73,008 NET NON-INTEREST INCOME 1,012,534 964,647 OPERATING INCOME 1,984,067 1,792,833 (1,796,806) (1,706,699) 187,261 86,134 (78,220) (46,841) 109,041 39,293 Interest income Interest expense 4, 26 4, 26 NET INTEREST INCOME BEFORE PROVISION FOR IMPAIRMENT LOSSES ON INTEREST BEARING ASSETS Provision for impairment losses on interest bearing assets 5 NET INTEREST INCOME Fee and commission income Fee and commission expense Net gain on foreign exchange operations Net realised loss on investments available for sale Provision for impairment losses on other operations Net other income 6, 26 6, 26 7 5 8 OPERATING EXPENSES 9, 26 PROFIT BEFORE INCOME TAX Income tax expense 10 NET PROFIT 4 F-70 JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” STATEMENTS OF COMPREHENSIVE INCOME (CONTINUED) FOR THE YEARS ENDED 31 DECEMBER 2009 AND 2008 (in Ukrainian Hryvnias and in thousands, except for earnings per share which are in Ukrainian Hryvnias) Notes OTHER COMPREHENSIVE INCOME Year ended 31 December 2009 Year ended 31 December 2008 - 409,417 Revaluation of property, net of deferred income tax effect Net change in fair value of investments available for sale, net of deferred income tax effect (18,626) Reclassification adjustments for gains/(losses) included in profit or loss from comprehensive income on disposal of investments available for sale, net of deferred income tax effect 131,796 OTHER COMPREHENSIVE INCOME AFTER INCOME TAX 113,170 270,105 TOTAL COMPREHENSIVE INCOME 222,211 309,398 7,849 35,114 (131,796) (7,516) EARNINGS PER SHARE Basic and diluted (UAH) 11 12 January 2011 12 January 2011 The notes on pages 10-62 form an integral part of these financial statements. 5 F-71 JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” STATEMENTS OF FINANCIAL POSITION AS AT 31 DECEMBER 2009 AND 2008 (in Ukrainian Hryvnias and in thousands) ASSETS: Cash and balances with the National Bank of Ukraine Due from banks Loans to customers Investments available for sale Property, equipment and intangible assets Other assets Notes 31 December 2009 31 December 2008 12 13, 26 14, 26 15, 26 16 17 2,278,352 2,956,340 45,716,277 4,012,431 1,988,852 438,259 2,569,226 2,185,211 33,891,518 15,712,489 1,940,295 66,261 57,390,511 56,365,000 16,022,744 24,672,908 446,093 15,803 65,445 824,578 22,239,283 17,492,921 501,541 134,207 83,043 793,276 42,047,571 41,244,271 13,892,000 1,147,251 (18,626) 322,315 13,892,000 1,147,679 (131,796) 212,846 15,342,940 15,120,729 57,390,511 56,365,000 TOTAL ASSETS LIABILITIES AND EQUITY LIABILITIES: Due to banks Customer accounts Debt securities issued Deferred income tax liability Other liabilities Subordinated debt 18, 26 19, 26 20 10 21 22 Total liabilities EQUITY: Share capital Property revaluation reserve Investments available for sale fair value reserve Retained earnings 23 Total equity TOTAL LIABILITIES AND EQUITY 12 January 2011 12 January 2011 The notes on pages 10-62 form an integral part of these financial statements. 6 F-72 JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” STATEMENTS OF CHANGES IN EQUITY FOR THE YEARS ENDED 31 DECEMBER 2009 AND 2008 (in Ukrainian Hryvnias and in thousands) Notes 31 December 2007 Share capital increase Total comprehensive income for the year 31 December 2008 Total comprehensive income for the year 31 December 2009 23 Share capital Property revaluation reserve Investments available for sale fair value reserve 922,000 738,262 7,516 173,553 1,841,331 12,970,000 - - - 12,970,000 - 409,417 (139,312) 39,293 309,398 13,892,000 1,147,679 (131,796) 212,846 15,120,729 - (428) 113,170 109,469 222,211 13,892,000 1,147,251 (18,626) 322,315 15,342,940 12 January 2011 12 January 2011 The notes on pages 10-62 form an integral part of these financial statements. 7 F-73 Retained earnings Total equity JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED 31 DECEMBER 2009 AND 2008 (in Ukrainian Hryvnias and in thousands) Notes CASH FLOWS FROM OPERATING ACTIVITIES: Year ended 31 December 2009 Interest received Interest paid Fees and commissions received Fees and commissions paid Operations with foreign currency Other operating income received Staff costs paid Operating expenses paid 6,716,786 (3,515,494) 1,021,387 (169,519) 108,068 20,713 (1,284,181) (403,076) Cash flows from operating activities before changes in operating assets and liabilities 2,494,684 Changes in operating assets and liabilities (Increase)/decrease in operating assets: Minimum reserve deposit with the National Bank of Ukraine Due from banks Loans to customers Other assets Increase/(decrease) in operating liabilities: Due to banks Customer accounts Other liabilities Net cash (outflow)/inflow from operating activities before taxation Income tax paid 2,459,572 (914,539) 855,801 (141,231) (34,889) 61,467 (1,183,378) (361,355) 741,448 (96,051) 943,890 (13,751,550) (23,192) 72,847 194,908 (24,980,516) (3,792) (6,256,066) 6,684,238 (8,991) 21,736,636 2,697,125 (31,861) (10,013,038) (484,637) (10,497,675) Net cash (outflow)/inflow from operating activities Year ended 31 December 2008 426,795 (139,481) 287,314 CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of investments available for sale Proceeds on sale of investments available for sale Purchase of property, equipment and intangible assets Proceeds on sale of property and equipment (17,349,917) 29,249,392 (150,610) 1,258 Net cash inflow/(outflow) from investing activities 11,750,123 (13,106,576) 12,664,964 (197,044) 873 (637,783) CASH FLOWS FROM FINANCING ACTIVITIES: Issue of share capital Proceeds from debt securities issued Repayment of debt securities issued (62,006) 200,000 494,594 - Net cash (outflow)/inflow from financing activities (62,006) 694,594 8 F-74 JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” STATEMENT OF CASH FLOWS (CONTINUED) FOR THE YEARS ENDED 31 DECEMBER 2009 AND 2008 (in Ukrainian Hryvnias and in thousands) Notes Year ended 31 December 2009 Year ended 31 December 2008 17,478 87,170 1,207,920 431,295 Effect of change in foreign exchange rate fluctuations on cash and cash equivalents NET INCREASE IN CASH AND CASH EQUIVALENTS CASH AND CASH EQUIVALENTS at the beginning of the period 12 2,976,344 2,545,049 CASH AND CASH EQUIVALENTS at the end of the period 12 4,184,264 2,976,344 The increase of share capital totalling UAH 12,770,000 thousand was made as non-cash transaction by means of Ukrainian Government debt securities (“OVDP”) contribution (Note 23). 12 January 2011 12 January 2011 The notes on pages 10-62 form an integral part of these financial statements. 9 F-75 JOINT STOCK COMPANY “STATE SAVINGS BANK OF UKRAINE” NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED 31 DECEMBER 2009 AND 2008 1. ORGANISATION The Bank was established in accordance with the Decree of the President of Ukraine No. 106 dated 20 May 1999 and the Resolution of the Government of Ukraine No. 876 dated 21 May1999, by converting the State Specialized Commercial Savings Bank of Ukraine into the Joint Stock Company “State Savings Bank of Ukraine” in the form of an open joint stock company. The Joint Stock Company “State Savings Bank of Ukraine” was registered by the National Bank of Ukraine (the “NBU”) on 26 May 1999, registration number 4 and change of its name into Joint Stock Company “State Savings Bank of Ukraine” was registered by the NBU on 28 December 1999. The Bank has operated under a full banking license, issued by the National Bank of Ukraine, starting from 16 January 2002. The Bank is licensed by the State Commission for securities and stock market for trading with securities. The Bank‟s primary business consists of processing banking accounts and attracting deposits from legal entities and individuals, originating loans, transferring payments, trading with securities and foreign currencies. As at 31 December 2009 and 2008 the Bank was a 100% state-owned bank. The registered office of the Bank is located at St. Hospitalna 12G, Kyiv, Ukraine. As at 31 December 2009 and 2008 the Bank had 23 regional branches, Main branch in Kyiv and Kyiv region, Crimea republican branch; 329 and 364 sub-branches, 5,730 and 5,768 operational outlets within Ukraine, respectively. The number of employees of the Bank as at 31 December 2009 and 2008 was 40,315 and 39,568, respectively. These financial statements were authorized for issue by the Management Board of the Bank on 12 January 2011. 2. BASIS OF PRESENTATION Accounting basis – These financial statements of the Bank have been prepared in accordance with International Financial Reporting Standards (“IFRS”) issued by the International Accounting Standards Board (“IASB”) and Interpretations issued by the International Financial Reporting Interpretations Committee (“IFRIC”), except as discussed below. In accordance with International Accounting Standard (“IAS”) 29 “Financial Reporting in Hyperinflationary Economies” the economy of Ukraine was considered to be hyperinflationary during year 2000 and prior years. The Bank did not apply provisions of IAS 29 to restate its share capital and non-monetary assets. The effect of this departure from International Financial Reporting Standards on share capital, property revaluation reserve and retained earnings as at and for the years ended 31 December 2009 and 2008 has not been determined. 10 F-76 In accordance with International Financial Reporting Standard (“IFRS”) 8 “Operating Segments” information about the Bank‟s operating segments, products and services, the geographical areas in which it operates, and its major customers is required to be disclosed if an entity files, or is in the process of filing, its financial statements with a securities commission or other regulatory organisation for the purpose of issuing any class of instruments in a public market. In the past the Bank did not apply the provisions of IFRS 8 as management considered it was not relevant for the Bank. The Bank will apply IFRS 8 for its annual financial statements as at 31 December 2010. These financial statements have been prepared on the assumption that the Bank is a going concern and will continue in operation for the foreseeable future. The management and the shareholder have the intention to further develop the business of the Bank in Ukraine. The management believes that the going concern assumption is appropriate for the Bank due to its sufficient capital adequacy ratio, the commitment of the shareholder to support the Bank, and, based on historical experience, that short-term obligations will be refinanced in the normal course of business. These financial statements are presented in thousands of Ukrainian Hryvnias, unless otherwise indicated. The financial statements have been prepared under the historical cost convention, except for the revaluation of property in accordance with IAS 16 “Property, Plant and Equipment”, which is recorded at revalued amounts and measurement of certain financial instruments in accordance with IAS 39 “Financial Instruments: Recognition and Measurement”, which are recorded at fair value. The Bank maintains its accounting records in accordance with Ukrainian law. These financial statements have been prepared from Ukrainian statutory accounting records and have been adjusted to conform with IFRS. Entered adjustments include certain reclassifications to reflect the economic substance of underlying transactions including reclassifications of certain assets and liabilities, income and expenses to appropriate financial statement captions. Functional currency – Items included in the financial statements of the Bank are measured using the currency that best reflects the economic substance of the underlying events and circumstances relevant to the Bank (the “functional currency”). The functional currency of these financial statements is the Ukrainian Hryvnia (“UAH”). 3. SIGNIFICANT ACCOUNTING POLICIES Recognition and measurement of financial instruments – The Bank recognizes financial assets and liabilities on its statement of financial position when it becomes a party to the contractual obligation of the instrument. Regular way purchase and sale of the financial assets and liabilities are recognized using settlement date accounting. Regular way purchases of financial instruments that will be subsequently measured at fair value between trade date and settlement date are accounted for in the same way as for acquired instruments. Financial assets and liabilities are initially recognized at fair value plus, in the case of a financial asset or financial liability not at fair value through profit or loss, transaction costs that are directly attributable to acquisition or issue of the financial asset or financial liability. The accounting policies for subsequent re-measurement of these items are disclosed in the respective accounting policies set out below. 11 F-77 Derecognition of financial assets and liabilities Financial assets – A financial asset (or, where applicable a part of a financial asset or part of a group of similar financial assets) is derecognized where: The rights to receive cash flows from the asset have expired; The Bank has transferred its rights to receive cash flows from the asset, or retained the right to receive cash flows from the asset, but has assumed an obligation to pay them in full without material delay to a third party under a „pass-through‟ arrangement; and The Bank either (a) has transferred substantially all the risks and rewards of the asset, or (b) has neither transferred nor retained substantially all the risks and rewards of the asset, but has transferred control of the asset. A financial asset is derecognized when it has been transferred and the transfer qualifies for derecognition. A transfer requires that the Bank either: (a) transfers the contractual rights to receive the asset‟s cash flows; or (b) retains the right to the asset‟s cash flows but assumes a contractual obligation to pay those cash flows to a third party. After a transfer, the Bank reassesses the extent to which it has retained the risks and rewards of ownership of the transferred asset. If substantially all the risks and rewards have been retained, the asset remains on the statement of financial position. If substantially all of the risks and rewards have been transferred, the asset is derecognized. If substantially all the risks and rewards have been neither retained nor transferred, the Bank assesses whether or not is has retained control of the asset. If it has not retained control, the asset is derecognized. Where the Bank has retained control of the asset, it continues to recognize the asset to the extent of its continuing involvement. Financial liabilities – A financial liability is derecognized when the obligation is discharged, cancelled, or expires. Where an existing financial liability is replaced by another from the same lender on substantially different terms, or the terms of an existing liability are substantially modified, such an exchange or modification is treated as a de-recognition of the original liability and the recognition of a new liability, and the difference in the respective carrying amounts is recognized in the statement of comprehensive income. Cash and cash equivalents – Cash and cash equivalents include cash on hand, unrestricted balances on correspondent accounts with the National Bank of Ukraine, advances to banks in countries included in the Organization for Economic Co-operation and Development (“OECD”), except for margin deposits for operations with plastic cards, which may be converted to cash within a short period of time. For purposes of determining cash flows, the minimum reserve deposit required by the National Bank of Ukraine is not included as a cash equivalent due to restrictions on its availability. Precious metals – Assets and liabilities denominated in precious metals are translated at the current rate computed based on the first fixing of the London Metal Exchange rates using the UAH/USD exchange rate effective on the date. Changes in the bid prices are recorded in net gain/(loss) on foreign exchange operations. Due from banks – In the normal course of business the Bank maintains advances and deposits for various periods of time with other banks. Due from banks with a fixed maturity term are subsequently measured at amortized cost using the effective interest method. Those that do not have fixed maturities are carried at amortized cost based on maturities estimated by the management. Amounts due from banks are carried net of any allowance for impairment losses. 12 F-78 Repurchase and reverse repurchase agreements – In the normal course of business the Bank enters into sale and purchase back agreements (“repos”) and purchase and sale back agreements of financial assets (“reverse repos”). Repos and reverse repos are utilized by the Bank as an element of its treasury management and trading business. A repo is an agreement to transfer a financial asset to another party in exchange for cash or other consideration and a concurrent obligation to reacquire the financial assets at a future date for an amount equal to the cash or other consideration exchanged plus interest. These agreements are accounted for as financing transactions. Financial assets sold under repo are retained in the financial statements and consideration received under these agreements is recorded as collateralized deposit received within balances due to banks. Assets purchased under reverse repos are recorded in the financial statements as cash placed on deposit which is collateralized by securities and other assets and are classified within balances due from banks/loans to customers. In the event that assets purchased under reverse repo are sold to third parties, the results are recorded in net gains/(losses) on respective assets. Any related income or expense arising from the pricing difference between purchase and sale of the underlying assets is recognized as interest income or expense in the statement of comprehensive income. Derivative financial instruments – In the normal course of business, the Bank enters into various derivative financial instruments including foreign exchange contracts concluded by the Bank with other banks to purchase/sale and exchange of foreign currency and currency rate swaps to manage currency and liquidity risks. Derivative financial instruments are initially recognized at fair value at the date a derivative contract is entered into, and are subsequently re-measured to their fair value at each reporting date. The fair values are estimated based on quoted market prices or pricing models that take into account the current market and contractual prices of the underlying instruments and other factors. Derivatives are carried as assets when their fair value is positive and as liabilities when it is negative. Derivatives are included in financial assets and liabilities at fair value through profit or loss in the statement of financial position, or if their amounts are immaterial they are included in other assets or liabilities. Gains and losses resulting from these instruments are included in net gain/(loss) from financial assets and liabilities at fair value through profit or loss in the statement of comprehensive income, or if their amounts are immaterial they are included in net gain/(loss) on foreign exchange operations. Derivative financial instruments entered into by the Bank are not designated as hedges and do not qualify for hedge accounting. Loans to customers – Loans to customers are non-derivative assets with fixed or determinable payments that are not quoted in an active market, other than those classified in other categories of financial assets. Loans to customers granted by the Bank are initially recognized at fair value plus related transaction costs that directly relate to the acquisition or the creation of such financial assets. Where the fair value of consideration given does not equal the fair value of the loan, for example where the loan is issued at lower than market rates, the difference between the fair value of consideration given and the fair value of the loan is recognized as a loss on initial recognition of the loan and included in the statement of comprehensive income according to nature of the losses. Subsequently, loans are carried at amortized cost using the effective interest method. Loans to customers are carried net of any allowance for impairment losses. The effective interest rate is the rate that exactly discounts estimated future cash payments or receipts through the expected life of the financial instrument or, when appropriate, a shorter period to the net carrying amount of the financial asset or financial liability. 13 F-79 Write off of loans – Loans are written off against allowance for impairment losses based on the decision of the Management Board. Such decisions are taken when all available possibilities to collect the amounts due have been exercised and available collateral has been sold. Subsequent recoveries of amounts previously written off are reflected as an offset to the charge for impairment of financial assets in the statement of comprehensive income in the period of recovery. Allowance for impairment losses – The Bank accounts for impairment of financial assets that are not carried at fair value when there is objective evidence that a financial asset or group of financial assets is impaired. The impairment losses are measured as the difference between carrying value and the present value of expected future cash flows, including amounts recoverable from guarantees and collateral, discounted at the financial asset‟s original effective interest rate, for financial assets which are carried at amortized cost. If in a subsequent period the amount of the impairment loss decreases and the decrease can be related objectively to an event occurring after the impairment was recognized, the previously recognized impairment loss is reversed with an adjustment of the provision account. For financial assets carried at cost the impairment losses are measured as the difference between the carrying amount of the financial asset and the present value of estimated future cash flows discounted at the current market rate of return for a similar financial asset. Such impairment losses are not reversed. The change in the impairment is included into profits using the provision account. Assets recorded in the statement of financial position are reduced by the amount of the impairment. Factors that the Bank considers in determining whether it has objective evidence that an impairment loss has been incurred include information about the debtors‟ or issuers‟ liquidity, solvency and business and financial risk exposures, levels of and trends in delinquencies for similar financial assets, national and local economic trends and conditions, and the fair value of collateral and guarantees. These and other factors may, either individually or taken together, provide sufficient objective evidence that an impairment loss has been incurred in a financial asset or group of financial assets. Impairment losses are recognized in profit or loss when incurred as a result of one or more events (“loss events”) that occurred after the initial recognition of the financial asset and which have an impact on the amount or timing of the estimated future cash flows of the financial asset or group of financial assets that can be reliably estimated. If the Bank determines that no objective evidence exists that impairment was incurred for an individually assessed financial asset, whether significant or not, it includes the asset in a group of financial assets with similar credit risk characteristics and collectively assesses them for impairment. The primary factors that the Bank considers whether a financial asset is impaired is its overdue status and realisability of related collateral, if any. The following other principal criteria are also used to determine that there is objective evidence that an impairment loss has occurred: Any instalment is overdue and the late payment cannot be attributed to a delay caused by the settlement systems; The borrower experiences a significant financial difficulty as evidenced by borrower‟s financial information that the Bank obtains; The borrower considers bankruptcy or a financial reorganisation; There is an adverse change in the payment status of the borrower as a result of changes in the national or local economic conditions that impact the borrower; The value of collateral significantly decreases as a result of deteriorating market conditions. 14 F-80 For the purposes of a collective evaluation of impairment, financial assets are grouped on the basis of similar credit risk characteristics. These characteristics are relevant to the estimation of future cash flows for groups of such assets by being indicative on the debtors‟ ability to pay all amounts due, according to the contractual terms of the assets being evaluated. Future cash flows in a group of financial assets that are collectively evaluated for impairment are estimated on the basis of contractual cash flows of assets, and experience of management in respect of the extent to which amounts will become overdue, as a result of past loss events and the success of recovery of overdue amounts. Past experience is adjusted on the basis of current observable data to reflect the effects of current conditions that do not affect past periods and to remove the effects of past conditions that do not exist currently. It should be understood that evaluation of losses involves an exercise of judgment. While it is possible that in particular periods the Bank may sustain losses which are substantial relative for impairment losses, it is the judgment of management that the impairment losses are adequate to absorb losses incurred on risk assets, at the reporting date. Investments available for sale – Investments available for sale represent debt and equity investments that are intended to be held for an indefinite period of time. Such securities are initially recorded at fair value. Subsequently the securities are measured at fair value, with such re-measurement recognized directly in equity, except for impairment losses, foreign exchange gains or losses and interest income accrued using the effective interest method, which are recognized directly in the statement of comprehensive income. When sold, gain/(loss) previously recorded in equity is recycled through the statement of comprehensive income. The Bank uses quoted market prices to determine the fair value for the investments available for sale. If the market for investments is not active, the Bank establishes fair value by using valuation techniques. Valuation techniques include using recent arm‟s length market transactions between knowledgeable, willing parties, reference to the current fair value of another instrument that is substantially the same, discounted cash flow analysis and other methods. If there is a valuation technique commonly used by market participants to price the instrument and that technique has been demonstrated to provide reliable estimates of prices obtained in actual market transactions, the Bank uses that technique. Interest income earned on investments available for sale is reflected in the statement of comprehensive income as interest income on investment available for sale. Non-marketable debt and equity securities are stated at amortized cost and cost, respectively, less impairment losses, if any, unless fair value can be reliably measured. When there is objective evidence that investments available for sale have been impaired, the cumulative loss previously recognized in equity is removed from equity and recognized in the statement of comprehensive income for the period. Reversals of such impairment losses on debt instruments, which are objectively related to events occurring after the impairment, are recognized in the statement of comprehensive income for the period. Reversals of such impairment losses on equity instruments are not recognized in the statement of comprehensive income. Property, equipment and intangible assets – Property, equipment and intangible assets other than buildings are carried at historical cost less accumulated depreciation and amortization and any recognized impairment loss, if any. Depreciation on assets under construction and those not placed in service commences from the date the assets are ready for their intended use. 15 F-81 Depreciation of property and equipment and amortization of intangible assets is charged on the historical (revalued) cost of property, equipment and intangible assets and is designed to write off assets over their useful economic lives. It is calculated on a straight line basis at the following annual rates: Buildings Furniture, office equipment and motor vehicles Intangible assets 2% - 3% 10% - 33% 25% The Bank has adopted a revaluation model for the subsequent measurement of its buildings. Buildings are stated in the statement of financial position at their revalued amounts, being the fair value at the date of revaluation, less any subsequent accumulated depreciation and subsequent accumulated impairment losses. Revaluations are performed with sufficient regularity such that the carrying amounts do not differ materially from those that would be determined using fair values at the date of statement of financial position. Any revaluation increase arising on the revaluation of such buildings is credited to the property revaluation reserve, except to the extent that it reverses a revaluation decrease for the same asset previously recognized as an expense, in which case the increase is credited to the statement of comprehensive income to the extent of the decrease previously charged. A decrease in carrying amount arising on the revaluation of such buildings is charged as an expense to the extent that it exceeds the balance, if any, held in the property revaluation reserve relating to a previous revaluation of that asset. The decrease is debited directly in equity to the property revaluation reserve to the extent of any credit balance existing in the property revaluation reserve in respect of that asset. Depreciation on revalued buildings is charged to the statement of comprehensive income. On the subsequent sale or retirement of a revalued property, the attributable revaluation surplus remaining in the property revaluation reserve is transferred directly to retained earnings. Leasehold improvements are amortized over the life of the related leased asset. Expenses related to repairs and renewals are charged when incurred and included in operating expenses unless they qualify for capitalization. Impairment is recognized in the respective period and is included in net other income. After the recognition of an impairment loss the depreciation charge for property and equipment and intangible assets is adjusted in future periods to allocate the assets‟ revised value, less its residual value (if any), on a systematic basis over its remaining useful life. Operating leases – Leases of assets under which the risks and rewards of ownership are effectively retained with the lessor are classified as operating leases. Lease payments under operating lease are recognized as expenses on a straight-line basis over the lease term and included into operating expenses. Taxation – Income tax expense represents the sum of the current and deferred tax expense. The current tax expense is based on taxable profit for the year. Taxable profit differs from profit before income tax as reported in the statement of comprehensive income because it excludes items of income or expense that are taxable or deductible in other years and it further excludes items that are never taxable or deductible. The Bank‟s current tax expense is calculated using tax rates that have been enacted during the reporting period. 16 F-82 Deferred tax is the tax expected to be payable or recoverable on differences between the carrying amounts of assets and liabilities in the financial statements and the corresponding tax bases used in the computation of taxable profit, and is accounted for using the balance sheet liability method. Deferred tax liabilities are generally recognized for all taxable temporary differences and deferred tax assets are recognized to the extent that it is probable that taxable profits will be available against which deductible temporary differences can be utilized. Such assets and liabilities are not recognized if the temporary difference arises from goodwill or from the initial recognition (other than in a business combination) of other assets and liabilities in a transaction that affects neither the tax profit nor the accounting profit. The carrying amount of deferred tax assets is reviewed at each reporting date and reduced to the extent that it is no longer probable that sufficient taxable profits will be available to allow all or part of the asset to be recovered. Deferred tax is calculated at the tax rates that are expected to apply in the period when the liability is settled or the asset is realized. Deferred tax is charged or credited in the statement of comprehensive income, except when it relates to items charged or credited directly to equity, in which case the deferred tax is also dealt with in equity. Deferred income tax assets and deferred income tax liabilities are offset and reported net on the statement of financial position if: The Bank has a legally enforceable right to set off current income tax assets against current income tax liabilities; and Deferred income tax assets and the deferred income tax liabilities relate to income taxes levied by the same taxation authority on the same taxable entity. Ukraine also has various other taxes, which are assessed on the Bank‟s activities. These taxes are included as a component of operating expenses in the statement of comprehensive income. Due to banks, customer accounts, debt securities issued and subordinated debt – Due to banks, customer accounts, debt securities issued and subordinated debt are initially recognized at fair value. Subsequently amounts due are stated at amortized cost and any difference between net proceeds and the redemption value is recognized in the statement of comprehensive income over the period of the borrowings using the effective interest method. Those that do not have fixed maturities are carried at amortized cost based on expected maturities. Provisions – Provisions are recognized when the Bank has a present legal or constructive obligation as a result of past events, and it is probable that an outflow of resources embodying economic benefits will be required to settle the obligation and a reliable estimate of the obligation can be made. Contingencies – Contingent liabilities are not recognized in the statement of financial position but are disclosed unless the possibility of any outflow in settlement is remote. A contingent asset is not recognized in the statement of financial position but disclosed when an inflow of economic benefits is probable. Financial guarantee contracts issued and letters of credit – Financial guarantee contracts and letters of credit issued by the Bank are credit insurance that provides for specified payments to be made to reimburse the holder for a loss it incurs because a specified debtor fails to make payment when due under the original or modified terms of a debt instrument. Such financial guarantee contracts and letters of credit issued are initially recognized at fair value. 17 F-83 Subsequently they are measured at the higher of (a) the amount recognized as a provision in accordance with IAS 37 “Provisions, Contingent Liabilities and Contingent Assets”; and (b) the amount initially recognized less, where appropriate, cumulative amortization of initial premium revenue received over the financial guarantee contracts or letter of credit issued. Share capital – Contributions to share capital are recognized at cost. Costs directly attributable to the issue of new shares are deducted from equity net of any related income taxes. Dividends on ordinary shares are recognized in equity as a reduction in the period in which they are declared. Dividends that are declared after the reporting date are treated as a subsequent event under IAS 10 “Events after the Reporting Date” (“IAS 10”) and disclosed accordingly. Retirement and other benefit obligations – In accordance with the requirements of the Ukrainian legislation, the Bank withholds amounts of pension contributions from employee salaries and pays them to the Pension Fund of Ukraine. In addition, such pension system provides for calculation of current payments by the employer as a percentage of current total disbursements to staff. Such expense is charged in the period the related salaries are earned. Upon retirement an employee receives retirement benefit payments made by the Pension Fund of Ukraine. The Bank does not have any pension arrangements separate from the state pension system of Ukraine, which requires current contributions by an employer calculated as a percentage of current gross salary payments. In addition, the Bank has no post-retirement benefits or other significant compensated benefits requiring accrual. Recognition of income and expense Recognition of interest income and expense – Interest income and expense are recognized on an accrual basis using the effective interest rate method. The effective interest rate method is a method of calculating the amortized cost of a financial asset or a financial liability (or group of financial assets or financial liabilities) and allocating the interest income or interest expense over the relevant period. Once a financial asset or a group of similar financial assets has been written down (partly written down) as a result of an impairment loss, interest income is thereafter recognized using the interest rate used to discount the future cash flows for the purpose of measuring the impairment loss. Interest income also includes income earned on investments in securities. Other income is credited to the statement of comprehensive income when the related transactions are completed. Recognition of fee and commission income and expense – Loan origination fees are deferred, together with the related direct costs, and recognized as an adjustment to the effective interest rate of the loan. Where it is probable that a loan commitment will lead to a specific lending arrangement, the loan commitment fees are deferred, together with the related direct costs, and recognized as an adjustment to the effective interest rate of the resulting loan. Where it is unlikely that a loan commitment will lead to a specific lending arrangement, the loan commitment fees are recognized in the statement of comprehensive income over the remaining period of the loan commitment. Where a loan commitment expires without resulting in a loan, the loan commitment fee is recognized in the statement of comprehensive income on expiry. Loan servicing fees are recognized as revenue as the services are provided. Loan syndication fees are recognized in the statement of comprehensive income when the syndication has been completed. All other commissions are recognized when services are provided. 18 F-84 Foreign currency translation – Monetary assets and liabilities denominated in foreign currencies are translated into Ukrainian Hryvnia (“UAH”) at the appropriate spot rates of exchange ruling at the reporting date. Foreign currency transactions are accounted for at the exchange rates prevailing at the date of the transaction. Profits and losses arising from these translations are included in net gain/(loss) on foreign exchange operations. Rates of exchange – The official exchange rates at year-end used by the Bank in the preparation of the financial information are as follows: UAH/1 US Dollar UAH/1 Euro 31 December 2009 31 December 2008 7.98500 11.44889 7.70000 10.85546 Offset of financial assets and liabilities – Financial assets and liabilities are offset and reported net on the statement of financial position when the Bank has a legally enforceable right to set off the recognized amounts and the Bank intends either to settle on a net basis or to realize the asset and settle the liability simultaneously. In accounting for a transfer of a financial asset that does not qualify for derecognition, the Bank does not offset the transferred asset and the associated liability. Areas of significant management judgment and sources of estimation uncertainty – The preparation of financial statements in accordance with IFRS requires management to make estimates and assumptions that affect the reported amounts. Management evaluates its estimates and judgments on an ongoing basis. Such estimates and assumptions are based on the information available to the Bank‟s management as at the date of these financial statements. Therefore, actual results could differ from those estimates and assumptions. Estimates that are particularly susceptible to change relate to the provisions for impairment losses and the fair value of financial instruments. Key assumptions concerning the future and other key sources of uncertainty estimation at the reporting date, that have a significant risk of causing a material adjustment to the carrying amounts of assets and liabilities within the next financial period include: Loans to customers Property, equipment and intangible assets Investments available for sale 31 December 2009 31 December 2008 45,716,277 1,988,852 4,012,431 33,891,518 1,940,295 15,712,489 Loans to customers – Loans to customers are measured at amortized cost less allowance for impairment losses. The estimation of allowances for impairments involves the exercise of significant judgment. The Bank regularly reviews its loans to assess for impairment. The Bank estimates allowances for impairment with the objective of maintaining balance sheet provisions at a level believed by management to be sufficient to absorb losses incurred in the Bank‟s loan portfolio. The calculation of provisions on impaired loans is based on the likelihood of the asset being written off and the estimated loss on such a write-off. These assessments are made using statistical techniques based on historic experience. These determinations are supplemented by the application of management judgment. 19 F-85 The Bank considers accounting estimates related to provisions for loans key sources of estimation uncertainty because: (i) they are highly susceptible to change from period to period as the assumptions about future default rates and valuation of losses relating to impaired loans and advances are based on recent performance experience, and (ii) any significant difference between the Bank‟s estimated losses (as reflected in the provisions) and actual losses will require the Bank to make provisions which, if significantly different, could have a material impact on its future statement of comprehensive income and its statement of financial position. The Bank uses management‟s judgment to estimate the amount of any impairment loss in cases where a borrower has financial difficulties and there are few available sources of historical data relating to similar borrowers. Similarly, the Bank estimates changes in future cash flows based on past performance, past customer behaviour, observable data indicating an adverse change in the payment status of borrowers in a group, and national or local economic conditions that correlate with defaults on assets in the group. Management uses estimates based on historical loss experience for assets with credit risk characteristics and objective evidence of impairment similar to those in the group of loans. The Bank uses management‟s judgment to adjust observable data for a group of loans to reflect current circumstances not reflected in historical data. The allowances for impairment of financial assets in the financial statements have been determined on the basis of existing economic and political conditions. The Bank is not in a position to predict what changes in conditions will take place in Ukraine and what effect such changes might have on the adequacy of the allowances for impairment of financial assets in future periods. Valuation of financial instruments – Financial instruments that are as available for sale and all derivatives are stated at fair value. The fair value of such financial instruments is the estimated amount at which the instrument could be exchanged between willing parties, other than in a forced or liquidation sale. If a quoted market price is available for an instrument, the fair value is calculated based on the market price. When valuation parameters are not observable in the market or cannot be derived from observable market prices, the fair value is derived through analysis of other observable market data appropriate for each product and pricing models which use a mathematical methodology based on accepted financial theories. Pricing models take into account the contract terms of the securities as well as market-based valuation parameters, such as interest rates, volatility, exchange rates and the credit rating of the counterparty. Where marketbased valuation parameters are missed, management will make a judgment as to its best estimate of that parameter in order to determine a reasonable reflection of how the market would be expected to price the instrument. In exercising this judgment, a variety of tools are used including proxy observable data, historical data, and extrapolation techniques. The best evidence of fair value of a financial instrument at initial recognition is the transaction price unless the instrument is evidenced by comparison with data from observable markets. Any difference between the transaction price and the value based on a valuation technique is not recognized in the statement of comprehensive income on initial recognition. Subsequent gains or losses are only recognized to the extent that it arises from a change in a factor that market participants would consider in setting a price. The Bank considers that the accounting estimate related to valuation of financial instruments where quoted markets prices are not available is a key source of estimation uncertainty because: (i) it is highly susceptible to change from period to period because it requires management to make assumptions about interest rates, volatility, exchange rates, the credit rating of the counterparty, valuation adjustments and specific feature of the transactions and (ii) the impact that recognizing a change in the valuations would have on the assets reported on its statement of financial position as well as its profit/(loss) could be material. 20 F-86 Had management used different assumptions regarding the interest rates, volatility, exchange rates, the credit rating of the counterparty and valuation adjustments, a larger or smaller change in the valuation of financial instruments where quoted market prices are not available would have resulted that could have had a material impact on the Bank‟s reported net income. Property, equipment and intangible assets – Certain property (buildings) is measured at fair value. The date of the latest appraisal was 1 November 2008. The sales comparison method was used for estimation of fair value of buildings and office premises. No revaluation was made as at 31 December 2009 and 2008. Previous appraisal was performed as at 1 November 2006. The following methods were used: sales comparison, income capitalization, and construction costs for new buildings. Until 1 November 2006 revalued cost of buildings includes effects of indexation and revaluation as described below. The indexation of buildings until 31 December 1997 was deemed necessary by the Ukrainian Government to reflect the effects of inflation and currency devaluation that occurred in both the Soviet Union and Ukraine. Buildings were adjusted by inflation as stipulated by the Ukrainian Government regulations several times until 31 December 1997. In 1998 the Bank performed a revaluation of buildings according to the instructions of the NBU, without involvement of independent and professionally qualified appraisers. The revaluation was intended to bring the carrying value of buildings in line with the estimated market value as at 1 January 1998. The results of revaluation were recorded in the property revaluation reserve. No appraisal was performed from 1998 until 1 November 2006. Deferred income tax assets – Deferred income tax assets are recognized for all deductible temporary differences to the extent that is that it is probable that taxable profit will be available against which the deductable temporary differences can be utilized. Estimation of probability is based on management forecast of future taxable profit and is supplemented with subjective judgments by the management of the Bank. Provision for other off-balance sheet commitments – The accounting estimates and judgments related to the provision for off-balance sheet commitments is an area of significant management judgment because the underlying assumptions used for both the individually and collectively assessed impairment can change from period to period and may significantly affect the Bank‟s results of operations. Related parties identification – Identification of related parties requires exercise of significant management judgment in determining related party relationships. Adoption of new and revised standards – In the current year, the Bank has adopted all of the new and revised Standards and Interpretations issued by the IASB and IFRIC of the IASB that are relevant to its operations and effective for annual reporting periods ending on 31 December 2009. The adoption of these new and revised Standards and Interpretations has not resulted in significant changes to the Bank‟s accounting policies that have affected the amounts reported for the current or prior years. Amendment to IAS 1 “Presentation of Financial Statements” – On 6 September 2007, the IASB issued an amendment to IAS 1 which changes the way in which non-owner changes in equity are required to be presented. It also changes the titles of primary financial statements as they will be referred to in IFRS but does not require that these be renamed in an entity‟s financial statements. The amendment to IAS 1 is effective for periods beginning on or after 1 January 2009. 21 F-87 Standards and interpretations issued and not yet adopted – At the date of authorization of these financial statements, other than the Standards and Interpretations (related to the Bank‟s activities) adopted by the Bank in advance of their effective dates, the following Interpretations were in issue but not yet effective. IFRIC 9 – “Reassessment of Embedded Derivatives” which requires that there should be no reassessment of whether an embedded derivative should be separated from the host contract after initial recognition, unless there have been changes to the contract. The adoption of IFRIC 9 had no impact on the Bank‟s profit or loss or financial position. IAS 17 “Lease” – Amendments to IAS 17 “Lease” were issued in 2009. The amendments delete specific guidance regarding classification of leases of land, so as to eliminate inconsistency with the general guidance on lease classification. They are effective for accounting periods beginning on or after 1 January 2010. Financial instruments Classification and Measurement (Exposure draft) – In July 2009 IASB issued an exposure draft (ED) that is a part of IASB‟s project to replace IAS 39 “Financial Instruments: Recognition and Measurement”. The ED proposes a new classification and measurement model for financial assets and financial liabilities. All recognized financial assets and financial liabilities that are currently in the scope of IAS 39 will be measured either at amortized cost or fair value. A financial instrument that has only basic loan features and is managed on a contractual yield basis is measured at amortized cost, unless designated as at fair value through profit or loss (FVTPL). Those financial instruments measured at fair value will either be classified as FVTPL or in the case of investment in equity instruments that are not held for trading, designated irrevocably as at fair value through other comprehensive income (FVTOCI). All investments in equity instruments and derivatives linked to equity instruments in the scope of IAS 39 must be measured at fair value, i.e. an unquoted equity investment cannot be measured at cost less impairment when fair value cannot be reliably measured as currently required by IAS 39. The ED does not permit reclassifications out of or into amortized cost, FVTPL or FVTOCI after initial recognition. The effective date of these changes is not yet determined but the IASB expects to finalize the new classification and management model in time to allow entities to voluntary adopt the new model for 2009 year-end financial statements. 22 F-88 4. NET INTEREST INCOME Net interest income comprises: Year ended 31 December 2009 Year ended 31 December 2008 6,549,773 327,995 899,331 2,042,254 187,931 294,344 Total interest income 7,777,099 2,524,529 Interest income comprises: Interest income on financial assets recorded at amortized cost: Interest on loans to customers Interest on due from banks Other interest income 6,675,055 202,713 - 2,036,511 193,663 11 6,877,768 2,230,185 899,331 294,344 Total interest income 7,777,099 2,524,529 Interest expense comprises: Interest expenses on financial liabilities recorded at amortized cost: Interest on due to banks Interest on customer accounts Interest on subordinated debt Interest on debt securities issued (2,280,264) (1,227,340) (73,699) (59,991) (198,404) (770,181) (50,089) (32,457) Total interest expense (3,641,294) (1,051,131) 4,135,805 1,473,398 Interest income comprises: Interest income on financial assets recorded at amortized cost: - interest income on impaired financial assets, including assets assessed on portfolio basis - interest income on unimpaired financial assets Interest income on financial assets at fair value Interest income on financial assets at fair value: Interest on investments available for sale Net interest income before provision for impairment losses on interest bearing assets 5. ALLOWANCE FOR IMPAIRMENT LOSSES AND OTHER PROVISIONS The movements in allowance for impairment losses on interest earning assets were as follows: Due from banks Loans to customers Investments available for sale 31 December 2007 27,840 502,698 Provision Write-off of assets 53,663 (23,851) 581,378 (12,817) 31 December 2008 57,652 1,071,259 Provision Write-off of assets 11,101 (2,102) 3,061,725 (14,857) 91,446 (6,529) 3,164,272 (23,488) 31 December 2009 66,651 4,118,127 90,107 4,274,885 23 F-89 - Total 10,171 (4,981) 5,190 530,538 645,212 (41,649) 1,134,101 The movements in allowances for impairment losses on other operations were as follows: Other assets Total 31 December 2007 8,879 - 8,879 Provision 1,412 6,622 8,034 10,291 6,622 16,913 31 December 2008 Provision/(recovery of provision) Write-off of assets 3,462 (758) 31 December 2009 6. Guarantees and other commitments 12,995 (2,499) - 963 (758) 4,123 17,118 Year ended 31 December 2009 Year ended 31 December 2008 948,872 61,932 2,530 1,908 6,145 828,609 15,636 5,360 114 6,082 1,021,387 855,801 FEE AND COMMISSION INCOME AND EXPENSE Fee and commission income and expense comprise: Fee and commission income: Settlements and cash operations Foreign exchange operations Off-balance sheet operations Securities operations Other Total fee and commission income 7. Fee and commission expense: Settlements and cash operations Foreign exchange operations Securities operations Other (134,649) (19,584) (2,439) (12,847) (124,111) (6,361) (532) (10,227) Total fee and commission expense (169,519) (141,231) NET GAIN ON FOREIGN EXCHANGE OPERATIONS Net gain on foreign exchange operations comprises: Year ended 31 December 2009 Year ended 31 December 2008 Translation differences, net Dealing, net 35,597 108,068 223,194 (34,889) Total net gain on foreign exchange operations 143,665 188,305 24 F-90 8. NET OTHER INCOME For the years ended 31 December 2009 and 2008 net other income amounted to UAH 21,532 thousand and UAH 73,008 thousand, respectively. For the year ended 31 December 2008 net other income includes compensation from Ukrainian Government in the amount of UAH 60,000 thousand for distribution of State Budget funds to compensate customer deposits of former USSR State Saving Bank, which was performed by the Bank in 2008. 9. OPERATING EXPENSES Operating expenses comprise: Year ended 31 December 2009 Year ended 31 December 2008 Staff costs Depreciation and amortization Property and equipment maintenance Operating leases Utilities Office maintenance Taxes, other than income tax Communications Security expenses Professional services Insurance expense Business trip expenses Advertising costs Other expenses 1,292,528 101,096 87,874 86,664 55,841 41,126 38,171 29,514 17,459 8,170 7,220 7,058 2,558 21,527 1,242,616 102,548 75,605 69,267 40,312 40,364 22,938 28,448 13,429 5,850 7,418 6,105 3,973 47,826 Total operating expenses 1,796,806 1,706,699 10. INCOME TAXES The Bank provides for taxes based on the tax accounts maintained and prepared in accordance with the tax regulations of Ukraine and which may differ from International Financial Reporting Standards. The Bank is subject to certain permanent tax differences due to non-tax deductibility of certain expenses and a tax free regime for certain income. Deferred taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for tax purposes. Temporary differences as at 31 December 2009 and 2008 relate mostly to different methods of income and expense recognition as well as to recorded values of certain assets. 25 F-91 Temporary differences as at 31 December 2009 and 2008 comprise: Deductible temporary differences: Loans to customers Customer accounts Other liabilities Debt securities issued Other assets Due from banks Investments available for sale Total deductible temporary differences Deferred tax assets at the statutory tax rate (25%) Deferred tax asset not recognised 31 December 2009 31 December 2008 1,348,146 101,615 48,860 14,146 11,481 2,587 - 465,226 90,821 25,356 7,594 15,224 1,123 218,126 1,526,835 823,470 381,709 205,868 (23,941) Deferred tax assets 357,768 205,868 Taxable temporary differences: Property, equipment and intangible assets Investments available for sale Subordinated debt (1,370,061) (123,972) (252) (1,354,882) (5,419) Total taxable temporary differences (1,494,285) (1,360,301) (373,571) (340,075) (15,803) (134,207) Deferred tax liability at the statutory tax rate (25%) Net deferred tax liabilities Relationships between tax expenses and accounting profit for the year ended 31 December 2009 and 2008 are explained as follows: Year ended 31 December 2009 Year ended 31 December 2008 187,261 86,134 Statutory tax rate Tax at the statutory tax rate Effect of non-deductible expenses and non-taxable income Change of deferred tax asset not recognised 25% 46,815 7,464 23,941 25% 21,534 25,307 - Income tax expense 78,220 46,841 234,347 (156,127) 142,599 (95,758) 78,220 46,841 Profit before income tax Current income tax expense Recovery of deferred income tax expenses Income tax expense 26 F-92 Movement in deferred tax liability for the years ended 31 December 2009 and 2008 was as follows: Year ended 31 December 2009 Year ended 31 December 2008 At the beginning of the period (134,207) (137,424) Recovery of deferred tax expenses Tax effect of property revaluation reserve increase Tax effect of investments available for sale fair value reserve change 156,127 - 95,758 (136,473) (37,723) 43,932 At the end of the period (15,803) (134,207) 11. EARNINGS PER SHARE Profit: Net profit for the period attributable to ordinary share holders Weighted average number of ordinary shares for purposes of basic and diluted earnings per share (in units) Earnings per share – basic and diluted (UAH) 12. Year ended 31 December 2009 Year ended 31 December 2008 109,041 39,293 13,892 1,119 7,849 35,114 CASH AND BALANCES WITH THE NATIONAL BANK OF UKRAINE 31 December 2009 31 December 2008 Cash Balances with the National Bank of Ukraine (Note 26) 1,195,221 1,083,131 1,212,171 1,357,055 Total cash and balances with the National Bank of Ukraine 2,278,352 2,569,226 The balances with the National Bank of Ukraine as at 31 December 2009 and 2008 include UAH 177,530 thousand and UAH 81,479 thousand, respectively, which represent the obligatory minimum reserve deposits with the NBU. The Bank is required to maintain the reserve balance at the NBU at all times. Cash and cash equivalents for the purposes of the statement of cash flows comprise the following: Cash and balances with the National Bank of Ukraine Due from banks in OECD countries Less guarantee deposits in OECD countries (Note 13) Less minimum reserve deposits with the National Bank of Ukraine Total cash and cash equivalents 27 F-93 31 December 2009 31 December 2008 2,278,352 2,097,835 2,569,226 498,630 4,376,187 3,067,856 (14,393) (177,530) (10,033) (81,479) 4,184,264 2,976,344 13. DUE FROM BANKS Due from banks comprise: Correspondent accounts with other banks Time deposits with other banks Loans under reverse repurchase agreements Less allowance for impairment losses 31 December 2009 31 December 2008 2,721,171 272,549 29,271 1,642,082 600,781 - 3,022,991 2,242,863 (66,651) Total due from banks (57,652) 2,956,340 2,185,211 Movements in allowance for impairment losses on balances due from banks for the year ended 31 December 2009 and 2008 are disclosed in Note 5. As at 31 December 2009 and 2008, due from banks included accrued interest income in the amount of UAH 119 thousand and UAH 97 thousand, respectively. As at 31 December 2009 due from other banks at total amount of UAH 29,271 thousand was effectively collateralized by securities – Ukrainian Government debt securities purchased under reverse repurchase agreements, with fair value in the amount of UAH 30,120 thousand. As at 31 December 2009 loans under reverse repurchase agreements have contractual maturities in January 2010. As at 31 December 2009 and 2008 the maximum credit risk exposure on due from banks amounted to UAH 2,956,340 thousand and UAH 2,185,211 thousand, respectively. As at 31 December 2009 and 2008 due from banks included guarantee deposits placed by the Bank for its operations with plastic cards and letters of credit in the amount of UAH 14,393 thousand and UAH 10,033 thousand, respectively. As at 31 December 2009 and 2008 the Bank had placements with ten banks, totalling UAH 2,854,179 thousand (94%) and UAH 2,114,301 thousand (94%), respectively, which represents a significant concentration. 14. LOANS TO CUSTOMERS Loans to customers comprise: 31 December 2009 31 December 2008 44,547,329 5,287,075 34,962,777 - 49,834,404 34,962,777 Less allowance for impairment losses (4,118,127) (1,071,259) Total loans to customers 45,716,277 33,891,518 Loans to customers Loans under reverse repurchase agreements 28 F-94 Movements in allowances for impairment losses for the year ended 31 December 2009 and 2008 are disclosed in Note 5. As at 31 December 2009 and 2008 loans to customers included accrued interest income in the amount of UAH 1,063,799 thousand and UAH 133,396 thousand, respectively. The table below summarizes the amount of loans secured by respective collateral, rather than the fair value of the collateral itself: 31 December 2009 31 December 2008 40,518,184 8,986,073 320,154 9,993 27,450,017 7,180,348 323,748 8,664 49,834,404 34,962,777 Less allowance for impairment losses (4,118,127) (1,071,259) Total loans to customers 45,716,277 33,891,518 Loans collateralized by equipment, other movables and rights thereon Loans collateralized by pledge of real estate and rights thereon Unsecured loans Loans collateralized by cash deposits The table below represents the borrowers‟ sector structure as at 31 December 2009 and 2008: 31 December 2009 31 December 2008 29,146,558 5,905,879 4,546,440 3,237,962 2,396,753 1,548,330 1,531,503 579,382 336,450 271,935 132,569 86,458 60,191 13,971 10,475 8,277 21,271 18,779,508 7,111,852 3,761,595 1,679,918 1,153,102 1,159,591 509,746 288,492 184,559 135,360 90,555 34,182 38,458 8,535 27,324 49,834,404 34,962,777 Less allowance for impairment losses (4,118,127) (1,071,259) Total loans to customers 45,716,277 33,891,518 Analysis by sector: Oil, gas and chemical production Individuals Energy Construction and real estate Construction and road maintenance Trade Agriculture and food processing Machinery construction Transport Mining and metallurgy Manufacturing Services Financial services Media and communications Hotel and restaurant business Press and publishing Other During the years ended 31 December 2009 and 2008 the Bank received real estate property and other assets by taking possession of collateral it held as security. As at 31 December 2009 and 2008 such assets in amount of UAH 111,005 thousand and UAH 5,149 thousand, respectively, are included in other assets (Note 17). 29 F-95 Loans to individuals comprise the following products: Consumer loans, collateralized by real estate and guarantees Car loans Mortgage loans Consumer loans Other 31 December 2009 31 December 2008 2,411,974 1,238,158 1,110,723 936,557 208,467 2,527,892 1,654,486 1,140,688 1,064,531 724,255 5,905,879 7,111,852 Less allowance for impairment losses (1,009,372) Total loans to individuals 4,896,507 (355,473) 6,756,379 As at 31 December 2009 and 2008 a maximum credit risk exposure on loans to customers amounted to UAH 45,716,277 thousand and UAH 33,891,518 thousand, respectively. As at 31 December 2009 and 2008 a maximum credit risk exposure on contingent liabilities and loan commitments extended by the Bank to its customers amounted to UAH 113,220 thousand and UAH 523,630 thousand, respectively (Note 24). As at 31 December 2009 and 2008 loans to customers of UAH 37,225,435 thousand (75%) and UAH 23,089,180 thousand (66%), respectively, were granted to ten borrowers or group of borrowers, which represents a significant concentration. As at 31 December 2009 and 2008 the above stated amounts include loans issued to the related state-owned companies PJSC “NJSC “Naftogaz of Ukraine” and OJSC “Ukrtransnafta” in the total gross amount of UAH 29,089,711 thousand (58%) and UAH 18,766,610 thousand (54%), which represents a significant concentration (Note 31). As at 31 December 2009 and 2008 the following loans were provided to the related state-owned companies PJSC “NJSC “Naftogaz of Ukraine” and OJSC “Ukrtransnafta”: Name PJSC “NJSC “Naftogaz of Ukraine” PJSC “NJSC “Naftogaz of Ukraine” PJSC “NJSC “Naftogaz of Ukraine” PJSC “NJSC “Naftogaz of Ukraine” PJSC “NJSC “Naftogaz of Ukraine” PJSC “NJSC “Naftogaz of Ukraine” PJSC “NJSC “Naftogaz of Ukraine” PJSC “NJSC “Naftogaz of Ukraine” PJSC “NJSC “Naftogaz of Ukraine” OJSC “Ukrtransnafta” OJSC “Ukrtransnafta” OJSC “Ukrtransnafta” Interest rate, % 14.5 14.0 13.5 10.1 9.5 7.92 16.5 16.5 6.4 19.0 19.0 19.0 Maturity 29 December 2010 30 June 2010 4 June 2010 26 February 2010 2 March 2010 26 February 2010 30 March 2010 21 June 2010 30 March 2010 25 March 2011 25 March 2011 25 March 2011 31 December 2009 Interest rate, % 31 December 2008 12,009,704 6,345,063 3,774,267 3,354,878 1,600,329 939,373 345,981 307,388 271,678 49,000 49,000 43,050 16.5 14.0 19.0 17.0 18.0 18.0 18.0 11,725,560 6,200,000 400,000 300,000 49,000 49,000 43,050 29,089,711 Less allowance for impairment losses (1,790,761) Total 27,298,950 18,766,610 (129,804) 18,636,806 As at 31 December 2009 loans to PJSC “NJSC “Naftogaz of Ukraine” include loans under reverse repurchase agreements in the amount of UAH 5,226,885 thousand. Reverse repurchase agreements were concluded on Ukrainian Government debt securities of special issue. After 31 December 2009 mutual obligations between the Bank and the NBU regarding sale of bonds and repayment of loans under reverse repurchase agreements were settled (Note 25). 30 F-96 Carrying value of loans under reverse repurchase agreements and fair value of assets pledged as at 31 December 2009 and 2008 comprise: 31 December 2009 Carrying Fair value of value of loans collateral Ukrainian Government debt securities Bonds issued by State Mortgage Institution 5,226,885 60,190 5,035,805 60,353 Total 5,287,075 5,096,158 As at 31 December 2009 and 2008 loans to PJSC “NJSC “Naftogaz of Ukraine” with carrying value of UAH 20,365,112 thousand and UAH 6,478,650 thousand, respectively, were pledged as security for loans received from the National Bank of Ukraine (Note 18). As at 31 December 2009 loans to other borrowers with carrying value of UAH 2,450,341 thousand were pledged as security for loans received from the National Bank of Ukraine (Note 18). The table below summarizes an analysis of loans to customers by impairment: Loans to customers individually determined to be impaired Loans to customers collectively determined to be impaired Unimpaired loans to customers (REPO) Total Carrying value before allowance 31 December 2009 Allowance Carrying for value impairment losses Carrying value before allowance 31 December 2008 Allowance Carrying for value impairment losses 26,317,299 2,524,687 23,792,612 1,984,609 218,217 1,766,392 18,230,030 1,593,440 16,636,590 32,978,168 853,042 32,125,126 5,287,075 - 5,287,075 - - - 49,834,404 4,118,127 45,716,277 34,962,777 1,071,259 33,891,518 31 F-97 15. INVESTMENTS AVAILABLE FOR SALE Investments available for sale comprise: Ukrainian Government debt securities: Medium-term Ukrainian Government debt securities Long-term Ukrainian Government debt securities, including securities with early redemption feature Ukrainian Government debt securities for settlement of budget indebtedness on value added tax Other: Bonds issued by State Mortgage Institution Bonds issued by corporate entities Bonds issued by banks Bonds issued by local Ukrainian authorities Deposit certificates of the National Bank of Ukraine Less allowance for impairment losses 31 December 2009 31 December 2008 1,750,080 1,827,133 598,280 11,779,755 - 12,308 2,348,360 13,619,196 737,604 519,239 448,877 25,395 - 181,372 479,683 398,415 15,378 1,000,000 1,731,115 2,074,848 (74,824) Total debt securities available for sale (5,190) 4,004,651 15,688,854 23,063 23,635 Equity securities: Corporate shares Less allowance for impairment losses (15,283) Total equity securities available for sale Total investments available for sale - 7,780 23,635 4,012,431 15,712,489 Movements in allowances for impairment losses for the year ended 31 December 2009 and 2008 are disclosed in Note 5. As at 31 December 2009 and 2008, debt securities available for sale included accrued interest income in the amount of UAH 92,196 thousand and UAH 39,084 thousand, respectively. On 26 October 2008 and 30 December 2008, as discussed in Note 23, Ukrainian Government debt securities at total nominal value of UAH 1,000,000 thousand and UAH 11,700,000 thousand, respectively, were received as a contribution to the Bank‟s share capital. Prior to the year-end 2008 the Bank requested repayment of OVDP with total nominal value of UAH 1,000,000 thousand, and bonds were bought out by the NBU as at 31 December 2008. As at 31 December 2009 OVDP with total nominal amount UAH 11,770,000 thousand were also bought out by the NBU. As at 31 December 2008 interest rate for OVDP with total nominal amount UAH 11,770,000 thousand comprised 9.5%. On 30 December 2008, when share capital increase had taken place, the Bank concluded with the NBU a repurchase agreement for the above stated bonds, which was presented in these financial statements as a loan from the NBU (Note 18). The amount of the repurchase agreement is UAH 11,770,000 thousand, with nominal interest rate of 12.002% and final maturity in June 2009. Mutual obligations between the Bank and the NBU regarding purchase of bonds and repayment of the loan under repurchase agreement were settled simultaneously as at 31 December 2009. As at 31 December 2009 and 2008 debt securities with carrying value of UAH 463,211 thousand and UAH 11,945,897 thousand, respectively, were pledged as security for loans received from the National Bank of Ukraine (Note 18). 32 F-98 16. PROPERTY, EQUIPMENT AND INTANGIBLE ASSETS Property, equipment and intangible assets comprise: Buildings Leasehold improvements At historical/revalued cost 31 December 2008 Construction in progress Intangible assets 558,419 62,104 20,156 (2,064) 98,951 (12,280) 24,400 (26,413) (179) 1,793,221 61,077 645,090 59,912 24,194 2,583,494 8,933 30,179 450,654 - 18,076 507,842 20,774 - 15,924 (2,062) 61,761 (12,157) - 29,707 44,041 500,258 - 20,636 594,642 31 December 2009 1,763,514 17,036 144,832 59,912 3,558 1,988,852 31 December 2008 1,755,151 12,806 107,765 62,104 2,469 1,940,295 31 December 2009 3,375 26,413 (651) 20,545 Total 42,985 Additions Transfers Disposals 1,764,084 Furniture, office equipment and motor vehicles 3,728 (79) 2,448,137 150,610 (15,253) Accumulated depreciation 31 December 2008 Charge for the year Eliminated on disposals 31 December 2009 2,637 (77) 101,096 (14,296) Net book value 33 F-99 Buildings Leasehold improvements At historical/revalued cost 31 December 2007 Additions Transfers Disposals Revaluation Impairment Eliminated with accumulated depreciation on revaluation 1,228,464 Furniture, office equipment and motor vehicles Construction in progress 46,257 420,969 63,192 1,397 (4,669) - 147,318 (9,868) - 42,517 (43,498) (107) - 123 43,498 (251) 549,264 (2,337) Total 15,337 5,689 (481) - 1,774,219 197,044 (15,376) 549,264 (2,337) - - - - 1,764,084 42,985 558,419 62,104 20,545 2,448,137 33,439 28,184 398,191 - 15,133 474,947 30,343 (172) (54,677) 6,591 (4,596) - 8,933 30,179 450,654 - 18,076 507,842 31 December 2008 1,755,151 12,806 107,765 62,104 2,469 1,940,295 31 December 2007 1,195,025 18,073 22,778 63,192 204 1,299,272 31 December 2008 (54,677) Intangible assets (54,677) Accumulated depreciation 31 December 2007 Charge for the year Eliminated on disposals Eliminated with cost on revaluation 31 December 2008 62,191 (9,728) - - 3,423 (480) - 102,548 (14,976) (54,677) Net book value 34 F-100 As at 1 November 2008 the buildings and office premises owned by the Bank were revalued to market prices by independent appraisers. Sales comparison method was used for estimation of fair value of buildings and office premises. No update of revaluations was performed for the period from November 2008 to 31 December 2009. If buildings would have been accounted at historical cost less accumulated depreciation and impairment losses, their carrying value would be UAH 283,421 thousand and UAH 263,641 thousand as at 31 December 2009 and 2008, respectively. Certain buildings not yet put into operations are shown within the construction in progress category. The carrying amount of buildings held within construction in progress as at 31 December 2009 and 2008 comprises UAH 5,494 thousand and UAH 8,970 thousand, respectively. 17. OTHER ASSETS Other assets comprise: Other financial assets: Accrued income Other accounts receivable Fair value of currency swap and spot agreements Accounts receivable from other banks on operations with securities Less allowance for impairment losses Other non-financial assets: Current income tax assets Collateral received by the Bank Precious metals Inventory Prepaid expenses Receivables on taxes and obligatory payments Prepayments for purchase of assets Other Total other assets 31 December 2009 31 December 2008 12,618 11,133 381 329 15,329 12,128 2,276 - 24,461 29,733 (12,995) (10,291) 11,466 19,442 241,304 111,005 41,577 13,683 11,416 2,900 824 4,084 249 5,149 19,614 6,196 9,665 596 3,519 1,831 426,793 46,819 438,259 66,261 Movements in allowances for impairment losses for the years ended 31 December 2009 and 2008 are disclosed in Note 5. Precious metals represent gold and silver in vault. 35 F-101 18. DUE TO BANKS Due to banks comprise: 31 December 2009 31 December 2008 Loans from the National Bank of Ukraine Correspondent accounts of other banks Loans from other banks Loan under repurchase agreement from the National Bank of Ukraine 15,931,171 91,573 - 10,200,000 3,868 257,675 - 11,777,740 Total due to banks 16,022,744 22,239,283 As at 31 December 2009 and 2008 due to banks included accrued interest expenses in the amount of UAH 1,276 thousand and UAH 7,743 thousand, respectively. As at 31 December 2009 and 2008 due to banks included loans from the NBU in the amount of UAH 15,931,171 thousand (99%) and UAH 21,977,740 thousand (99%), respectively, which represents a significant concentration. Loan under repurchase agreement from the NBU in the amount of UAH 11,770,000 thousand was received on 30 December 2008. This repurchase agreement was concluded in respect of the Ukrainian Government debt securities of special issue (Note 15). Annual interest rate on this loan is 12.002% and final maturity in June 2009. As at 31 December 2009 mutual obligations between the Bank and the NBU regarding purchase of bonds and repayment of the loan under repurchase agreement were effectively settled. As at 31 December 2009 loans received from the National Bank of Ukraine in the amount of UAH 15,931,171 thousand bear interest 13.1% per annum, with maturity in 2010 and 2012 (Note 25). As at 31 December 2008 loans received from the National Bank of Ukraine in the amount of UAH 10,200,000 thousand bear interest 15.0% and 12.5% per annum, with maturity in 2009, which was subsequently prolonged as stated above. As at 31 December 2009 loans from the NBU in the amount of UAH 15,931,171 thousand were secured by debt securities available for sale with carrying value of UAH 463,211 thousand, loans to PJSC “NJSC “Naftogaz of Ukraine” with carrying value UAH 20,365,112 thousand and loans to other borrowers with carrying value UAH 2,450,341 thousand (Notes 14 and 15). As at 31 December 2008 two loans from the NBU in the total amount of UAH 17,977,740 thousand were secured by debt securities available for sale with carrying value of UAH 11,945,897 thousand and loans to PJSC “NJSC “Naftogaz of Ukraine” with carrying value UAH 6,478,650 thousand (Notes 14 and 15). 36 F-102 19. CUSTOMER ACCOUNTS Customer accounts comprise: 31 December 2009 31 December 2008 Term deposits Repayable on demand 13,889,183 10,783,725 7,070,791 10,422,130 Total customer accounts 24,672,908 17,492,921 As at 31 December 2009 and 2008 customer accounts included accrued interest expenses in the amount of UAH 521,861 thousand and UAH 398,192 thousand, respectively. As at 31 December 2009 and 2008 the aggregate balances of top ten customers amounted to UAH 7,500,691 thousand and UAH 2,142,935 thousand, which comprise 30% and 12%, respectively. The table below represents customer accounts‟ sector structure as at 31 December 2009 and 2008: 31 December 2009 31 December 2008 Individuals State authorities Energy Media and communications Services Trade Agriculture and food processing Construction and real estate Transport Oil, gas and chemical production Mining and metallurgy Machinery construction Manufacturing Press and publishing Hotel and restaurant business Other 15,043,792 5,726,375 926,924 860,196 492,058 299,421 280,585 226,075 203,004 51,483 31,709 25,048 18,377 8,899 8,242 470,720 13,697,105 573,964 1,119,490 302,454 327,258 366,377 194,412 27,360 499,501 67,827 13,383 22,293 7,628 8,929 264,940 Total customer accounts 24,672,908 17,492,921 Analysis by sector: 20. DEBT SECURITIES ISSUED In 2008 the Bank issued the following debt securities, outstanding as at reporting date: A series B series Maturity of principal Annual coupon rate % 10 February 2011 7 February 2013 16.00% 10.50% Total debt securities issued Carrying value, 31 December 2009 243,216 202,877 446,093 37 F-103 Annual coupon rate % 10.25% 10.50% Carrying value, 31 December 2008 304,127 197,414 501,541 As at 31 December 2009 and 2008 domestic debt securities issued included accrued interest expense in the amount of UAH 8,100 thousand and UAH 6,947 thousand, respectively. The bond-holders had the right to demand repayment of the A series bonds by the Bank at their nominal value after the end of the sixth coupon period – 13 August 2009. The bond-holders have the right to demand repayment of the B series bonds by the Bank at their nominal value after the end of the tenth coupon period – 12 August 2010. Annual coupon rate for A series from first till sixth coupon period was set in the Prospectus. Annual coupon rate for A series from seventh till twelfth coupon period was set by the Management Board of the Bank according to present market conditions. Annual coupon rate for B series from first till tenth coupon period was set in the Prospectus. Annual coupon rate for B series from eleventh till twelfth coupon period will be set by the Management Board of the Bank according to market conditions. 21. OTHER LIABILITIES Other liabilities comprise: Other financial liabilities: Accrued bonuses and salary Other payables Fair value of currency swap and spot agreements Expenses accrued Other Other non-financial liabilities: Unused vacation reserve Provision for guarantees and other commitments Taxes payable, other than income tax Current income tax liabilities Total other liabilities 31 December 2009 31 December 2008 25,377 5,630 2,002 1,472 4,904 29,224 2,312 6,290 1,084 3,806 39,385 42,716 16,660 4,123 5,277 - 18,753 6,622 5,717 9,235 26,060 40,327 65,445 83,043 Movements in provision for guarantees and other commitments for the years ended 31 December 2009 and 2008 are disclosed in Note 5. 22. SUBORDINATED DEBT Subordinated debt comprises: ABN AMRO Bank N.V. Currency Maturity of principal Interest rate,% USD 19 January 2017 9% Total subordinated debt 31 December 2009 31 December 2008 824,578 793,276 824,578 793,276 As at 31 December 2009 and 2008 subordinated debt included accrued interest expense in the amount of UAH 33,610 thousand and UAH 31,570 thousand, respectively. 38 F-104 In the event of bankruptcy or liquidation of the Bank, repayment of this debt is subordinate to the repayments of the Bank‟s liabilities to all other creditors. In accordance with terms of loan agreement, the Bank should comply, among others, with the following covenants: The Bank is required to submit its audited annual financial statements prepared in accordance with IFRS within 180 days from the reporting date; The Bank is required to submit its unaudited interim financial statements for the six months ending 30 June prepared in accordance with IFRS within 90 days from the reporting date. ABN AMRO Bank N.V. has the right to enforce obligations of the Bank regarding compliance with the covenants. No specific action is prescribed by the agreement in case of the Bank‟s noncompliance with the covenants. 23. SHARE CAPITAL Share capital comprises: Total shares authorized, issued and fully paid Total shares issued and fully paid, but not authorized Total share capital 31 December 2009 Number Amount, of shares, in UAH in units thousand 31 December 2008 Number Amount, of shares, in UAH in units thousand 13,892 13,892,000 2,122 2,122,000 - - 11,770 11,770,000 13,892 13,892,000 13,892 13,892,000 All ordinary shares have a nominal value of UAH 1,000 thousand per share, rank equally and carry one vote. On 9 July 2008 the Government of Ukraine decided to increase the share capital of the Bank by issue of 200 new shares with the nominal value of UAH 1,000 thousand that was financed by a contribution from the state budget of Ukraine in the amount of UAH 200,000 thousand. As at 31 December 2008 the contribution was received and the increase was registered by the State Commission for securities and stock market. On 26 October 2008 the Government of Ukraine decided to increase the share capital of the Bank by issue of 1,000 new shares with the nominal value of UAH 1,000 thousand. The financing was performed by contribution of a special issue of Ukrainian Government debt securities (OVDP) in the amount of UAH 1,000,000 thousand. On 30 December 2008 the Government of Ukraine decided to increase the share capital of the Bank by issue of 11,770 new shares with the nominal value of UAH 1,000 thousand. The financing was performed by contribution of a special issue of Ukrainian Government debt securities (OVDP) in the amount of 11,770,000 thousand. On 17 March 2009 the State Commission for securities and stock market issued the certificate on the registration of issue of 13,892 shares of the Bank. 39 F-105 24. COMMITMENTS AND CONTINGENCIES In the normal course of business, the Bank is a party to financial instruments with off-balance sheet risk in order to meet the needs of its customers. These instruments, involving varying degrees of credit risk, are not reflected in the statement of financial position. The Bank‟s maximum exposure to credit loss under contingent liabilities and commitments to extend credit, in the event of non-performance by the other party where all counterclaims, collateral or security prove valueless, is represented by the contractual amounts of those instruments. The Bank uses the same credit control and management policies in undertaking off-balance sheet commitments as it does for on-balance operations. As at 31 December 2009 and 2008 provision for impairment losses on guaranties and other commitments amounted to UAH 4,123 thousand and UAH 6,622 thousand, respectively (Notes 5, 21). As at 31 December 2009 and 2008 the nominal or contract amounts were: Contingent liabilities and credit commitments Letters of credit and other transaction related contingent obligations Guarantees issued and similar commitments Irrevocable commitments on loans and unused credit lines Total contingent liabilities and credit commitments 31 December 2009 Nominal amount 31 December 2008 Nominal amount 197 113,023 169,400 32 354,198 113,220 523,630 Extension of loans to customers within loans and credit line limits is approved by the Bank on a case-by-case basis and depends on borrowers‟ financial performance, debt service and other conditions. As at 31 December 2009 and 2008 total amount of such revocable commitments come to UAH 1,724,352 thousand and UAH 1,207,684 thousand, respectively. Capital commitments – As at 31 December 2009and 2008 the Bank had no capital commitments. Operating lease commitments – Where the Bank is the lessee, the future minimum lease payments under non cancellable operating leases are as follows: Less 1 year Later than 1 year and not later than 5 years Later than 5 years Total operating lease commitments 31 December 2009 31 December 2008 63,907 76,335 70,653 56,491 72,191 77,727 210,895 206,409 Legal proceedings – From time to time and in the normal course of business, claims against the Bank are received from customers and counterparties. Management is of the opinion that no material unaccrued losses will be incurred and accordingly no provision has been made in these financial statements. The NBU issued an instruction requiring the Bank to disclose effective interest rates on loans granted to individuals. In the judgment of the management there is no strict format of such disclosure required by the NBU. So, management is of the opinion that the Bank follows the NBU instructions. 40 F-106 Taxation – Due to presence in the Ukrainian commercial legislation, and tax legislation in particular, of provisions allowing more than one interpretation, and also due to the practice developed in a generally unstable environment by the tax authorities of making arbitrary judgment of business activities, if a particular treatment based on management‟s judgment of the Bank‟s business activities was to be challenged by the tax authorities, the Bank may be assessed additional taxes, penalties and interest. Such uncertainty may relate to the valuation of financial instruments, loss and impairment provisions and the market level for the pricing of deals. The Bank believes that it has already made all tax payments, and therefore no allowance has been made in the financial statements. Tax records remain open to review by the tax authorities for three years. During the tax review conducted in 2006, additional tax liabilities and financial sanctions totalling UAH 11,070 thousand were assessed. The tax authorities challenged the tax deductibility of the provision for doubtful receivables. The Bank did not agree with the tax authorities and on 9 June 2006 filed a court case. On 20 September 2006 the court requested an external expert to assess the appropriateness of deductibility of the provision. On 12 March 2007 the Kyiv Research Institute of Legal Expertise agreed with the Bank‟s approach. On 31 October 2007 the court found in favour of the Bank. The tax authorities appealed the decision under appeal procedure. This decision was confirmed by the Kyiv Administrative Court of Appeal, thus it has come into effect. Tax authorities appealed court decisions to the Higher Administrative Court of Ukraine; however as at the date of issue of these financial statements the date of court session was not yet appointed. No provisions for this additional tax assessment are made in these financial statements. Pensions and retirement plans – Employees receive pension benefits in accordance with the laws and regulations of Ukraine, which requires current contributions by the employer calculated as a percentage of current gross salary payments; such expense is charged in the period the related salaries are earned. Employees have the right to receive pension in the amount of such accumulated payments from state pension fund. As at 31 December 2009 and 2008 the Bank was not liable for any supplementary pensions, post-retirement health care, insurance benefits, or retirement indemnities to its current or former employees. Ongoing global liquidity crisis – The financial markets, both globally and in Ukraine, have faced significant volatility and liquidity constraints since the onset of the global financial crisis, which began to unfold in the autumn of 2007 and worsened since August 2008. A side effect of those events was an increased concern about the stability of the financial markets generally and the strength of counterparties, and many lenders and institutional investors have reduced funding to borrowers, which has significantly reduced the liquidity in the global financial system. The global financial turmoil has significantly affected Ukrainian economy. It has resulted in a decrease of Ukrainian GDP, significant declines in debt and equity prices and a substantial outflow of capital. While many countries, including Ukraine, have recently reported improvement of the situation in the financial markets, a further downturn can still occur, and further state support measures might be required. Adverse changes arising from systemic risks in global financial systems, including any tightening of the credit environment could slow or disrupt Ukrainian economy, adversely affect the Bank‟s access to capital and cost of capital for the Bank and, more generally, its business, results of operations, financial condition and prospects. While Ukrainian government has introduced a range of stabilization measures aimed at providing liquidity to Ukrainian banks and companies, there continues to be uncertainty regarding the access to capital and cost of capital for the Bank and its counterparties, which could affect the Bank‟s financial position, results of operations and business prospects. 41 F-107 Factors including increased unemployment in Ukraine, reduced corporate liquidity and profitability, and increased corporate and personal insolvencies, have affected the Bank‟s borrowers‟ ability to repay the amounts due to the Bank. In addition, changes in economic conditions have resulted in deterioration in the value of collateral held against loans and other obligations. To the extent that information is available, the Bank has reflected revised estimates of expected future cash flows in its impairment assessment. Management is unable to reliably estimate the effects on the Bank‟s financial position of any further deterioration in the liquidity of the financial markets and the increased volatility in the currency and equity markets. Management believes it is taking all the necessary measures to support the sustainability and growth of the Bank‟s business in the current circumstances. Operating environment – The principal business activities of the Bank are within Ukraine. Although in recent years there has been a general improvement in economic conditions in Ukraine, Ukraine continues to display certain characteristics of an emerging market. These include, but are not limited to, currency controls and convertibility restrictions, relatively high level of inflation and continuing efforts by the government to implement structural reforms. As a result, laws and regulations affecting businesses in Ukraine continue to change rapidly. Tax, currency and customs legislation within Ukraine is subject to varying interpretations, and other legal and fiscal impediments contribute to the challenges faced by entities currently operating in Ukraine. The future economic direction of Ukraine is largely dependent upon the effectiveness of economic, fiscal and monetary measures undertaken by the government, together with legal, regulatory, and political developments. 25. SUBSEQUENT EVENTS Subsequently to 31 December 2009 the Bank has applied to PJSC “NJSC “Naftogaz of Ukraine” with the request to purchase Ukrainian Government debt securities (Note 14). Mutual obligations between the Bank and PJSC “NJSC “Naftogaz of Ukraine” regarding sale of bonds and repayment of the loan under reverse repurchase agreement (Note 14) were effectively settled until 31 March 2010. Subsequently to 31 December 2009 the Bank repaid deposits to the State Treasury in the amount of UAH 5,726,375 thousand, according to terms of deposit agreements. Subsequently to 31 December 2009 state-owned company PJSC “NJSC “Naftogaz of Ukraine” repaid loans in the amount of UAH 2,107,085 thousand. Subsequently to 31 December 2009 state-owned company PJSC “NJSC “Naftogaz of Ukraine” restructured part of obtained loans: No. of loan agreement 244/31/2 274/31/2 280/31/2 218/31/2 220/31/2 Maturity Interest rate, % Maturity after restructuring Interest rate after restructuring, % 30 March 2010 4 June 2010 21 June 2010 30 June 2010 29 December 2010 16.50 13.50 16.50 14.00 14.50 30 March 2011 31 March 2015 21 June 2011 31 March 2015 31 March 2015 16.50 13.50 16.50 13.00 13.75 Carrying value, 31 December 2009 345,981 3,774,267 307,388 6,345,063 12,009,704 22,782,403 42 F-108 Subsequently to 31 December 2009 the Bank has purchased Ukrainian Government debt securities in the amount of UAH 4,530,375 thousand and deposit certificates of the National Bank of Ukraine in the amount of UAH 300,016 thousand. Subsequently to 31 December 2009 the Bank prolonged outstanding loans received from the National Bank of Ukraine in the total amount of UAH 14,368,959 thousand (Note 18) until year 2015. Also, the Bank received new loans from the NBU in the total amount of UAH 2,124,722 thousand and maturity in year 2012. Subsequently to 31 December 2009 the Bank paid share of profit based on the financial results of year 2009, to the general fund of State budget of Ukraine as in the accordance with the requirements of art. 59 Law of Ukraine “On State Budget of Ukraine of 2010” in the amount UAH 207,809 thousand. 26. TRANSACTIONS WITH RELATED PARTIES Related parties or transactions with related parties, as defined by IAS 24 “Related Party Disclosures”, represent: (a) Parties that directly, or indirectly through one or more intermediaries: control, or are controlled by, or are under common control with, the Bank (this includes parents, subsidiaries and fellow subsidiaries); have an interest in the Bank that gives then significant influence over the Bank; and that have joint control over the Bank; (b) Associates – enterprises on which the Bank has significant influence and which is neither a subsidiary nor a joint venture of the investor; (c) Joint ventures in which the Bank is a venturer; (d) Members of key management personnel of the Bank or its parent; (e) Close members of the family of any individuals referred to in (a) or (d); (f) Parties that are entities controlled, jointly controlled or significantly influenced by, or for which significant voting power in such entity resides with, directly or indirectly, any individual referred to in (d) or (e); or (g) Post-employment benefit plans for the benefit of employees of the Bank, or of any entity that is a related party of the Bank. Other related parties are represented by state-owned entities, where ownership of the State is more than 50%, state-owned banks and state authorities. In considering each possible related party relationship, attention is directed to the substance of the relationship, and not merely the legal form. The Bank had the following transactions outstanding as at 31 December 2009 and 2008 with related parties: 31 December 2009 Related party Total category balances as per financial statements caption Balances with the NBU Due from banks, net: - other related parties Loans to customers, gross: - key management personnel of the Bank - other related parties 31 December 2008 Related party Total category balances as per financial statements caption 1,083,131 1,083,131 1,357,055 1,357,055 145,368 145,368 2,956,340 1,358,280 1,358,280 2,185,211 36,001,156 49,834,404 22,677,870 34,962,777 3,689 35,997,467 43 F-109 3,360 22,674,510 Allowance for impairment of loans to customers: - key management personnel of the Bank - other related parties Investments available for sale, net: - other related parties Due to banks: - other related parties Customer accounts: - key management personnel of the Bank - other related parties Contingent liabilities and credit commitments: - key management personnel of the Bank - other related parties 31 December 2009 Related party Total category balances as per financial statements caption (2,066,245) (4,118,127) (2,066,245) 31 December 2008 Related party Total category balances as per financial statements caption (367,964) (1,071,259) (863) (367,101) 3,423,243 3,423,243 4,012,431 15,219,097 15,219,097 15,712,489 15,992,437 15,992,437 16,022,744 21,977,745 21,977,745 22,239,283 7,627,342 24,672,908 2,219,284 17,492,921 15,008 7,612,334 602,076 5,317 2,213,967 1,837,572 202 601,874 356,191 1,731,314 5,317 350,874 Included in the statement of comprehensive income for the years ended 31 December 2009 and 2008 are the following amounts which arose due to transactions with related parties: Year ended 31 December 2009 Related party Total category transactions as per financial statements caption Interest income - key management personnel of the Bank - other related parties 5,393,635 Interest expense - key management personnel of the Bank - other related parties (2,499,270) 437 5,393,198 178,253 178,253 Fee and commission expense - other related parties (126,469) (126,469) (50,308) (25,288) (25,020) 44 F-110 611,783 2,524,529 360 611,423 (3,641,294) (1,337) (2,497,933) Fee and commission income - other related parties Operating expenses - key management personnel of the Bank - other related parties 7,777,099 Year ended 31 December 2008 Related party Total category transactions as per financial statements caption (308,713) (1,051,131) (230) (308,483) 1,021,387 119,388 119,388 855,801 (169,519) (36,565) (36,565) (141,231) (1,796,806) (37,901) (1,706,699) (14,395) (23,506) 31 December 2009 Related party Total category transactions as per financial information caption Key management personnel compensation: - short-term employee benefits - social taxes (25,288) (23,852) (1,436) (1,292,528) 31 December 2008 Related party Total category transactions as per financial statements caption (14,395) (12,942) (1,453) (1,242,616) 27. FAIR VALUE OF FINANCIAL INSTRUMENTS Estimated fair value disclosures of financial instruments are made in accordance with the requirements of IFRS 7 “Financial Instruments: Disclosures” and IAS 39 “Financial Instruments: Recognition and Measurement”. Fair value is defined as the amount at which the instrument could be exchanged in a current transaction between knowledgeable willing parties in an arm‟s length transaction, other than in forced or liquidation sale. The estimates presented herein are not necessarily indicative of the amounts the Bank could realize in a market exchange from the sale of its full holdings of a particular instrument. The estimated fair values of financial instruments have been determined by the Bank using available market information, where it exists, and appropriate valuation methodologies. However, judgement is necessarily required to interpret market data to determine the estimated fair value. Ukraine continues to display some characteristics of an emerging market and economic conditions continue to limit the volume of activity in the financial markets. Market quotations may be outdated or reflect distress sale transactions and therefore not represent fair values of financial instruments. Management has used all available market information in estimating the fair value of financial instruments. Financial instruments carried at fair value – Investment securities available for sale and derivatives are carried on the statement of financial position at their fair value that was estimated using available market information or appropriate valuation technique. Cash and cash equivalents – Cash and cash equivalents are carried at amortized cost which approximates their current fair value. Loans and receivables carried at amortized cost – The estimated fair value of fixed interest rate instruments is based on estimated future cash flows expected to be received discounted at current interest rates of new instruments with similar credit risk and remaining maturity. Discount rates depend on currency, maturity of the instrument and credit risk of the counterparty. Liabilities carried at amortized cost – The estimated fair value of fixed interest rate instruments with stated maturity, for which quoted market price is not available, was estimated based on expected future cash flows discounted at current interest rates for new instruments with similar credit risk and remaining maturity. The fair value of liabilities repayable on demand or after a notice period is estimated as the amount payable on demand discounted from the first date that the amount could be required to be paid. Discounted rates used were consistent with the Bank‟s credit risk and also depend on currency and maturity of the instrument. 45 F-111 The fair value of financial assets and liabilities compared with the corresponding carrying amount in the statement of financial position of the Bank is presented below: Financial assets: Cash and balances with the National Bank of Ukraine Due from banks Loans to customers Investments available for sale Other financial assets Derivative financial instruments Total financial assets Financial liabilities: Due to banks Customer accounts Debt securities issued Other financial liabilities Derivative financial instruments Subordinated debt Total financial liabilities 31 December 2009 Carrying Fair value value 31 December 2008 Carrying Fair value Value 2,278,352 2,956,340 45,716,277 4,012,431 11,085 2,278,352 2,956,340 45,442,767 4,012,431 11,085 2,569,226 2,185,211 33,891,518 15,712,489 17,166 2,569,226 2,185,211 33,745,092 15,712,489 17,166 381 381 2,276 2,276 54,974,866 54,701,356 54,377,886 54,231,460 16,022,744 24,672,908 446,093 37,383 16,022,744 24,276,349 446,093 37,383 22,239,283 17,492,921 501,541 36,426 22,239,283 17,444,912 316,415 36,426 2,002 824,578 2,002 824,578 6,290 793,276 6,290 793,276 42,005,708 41,609,149 41,069,737 40,836,602 Financial instruments recognised at fair value are broken down for disclosure purposes into a three level fair value hierarchy based on the observability of inputs as follows: Quoted prices in an active market (Level 1) – Valuations based on quoted prices in active markets that the Bank has the ability to access for identical assets or liabilities. Valuation adjustments and block discounts are not applied to these financial instruments. Since valuations are based on quoted prices that are readily and regularly available in an active market, valuations of these products does not entail a significant amount of judgment. Valuation techniques based on observable market data (Level 2) – Valuations based on inputs for which all significant inputs are observable, either directly or indirectly and valuations based on one or more observable quoted prices for orderly transactions in markets that are not considered active. Valuation techniques incorporating information other than observable market data (Level 3) – Valuations based on inputs that are unobservable and significant to the overall fair value measurement. 46 F-112 The Bank‟s valuation approach and fair value hierarchy categorisation for certain significant classes of financial instruments recognised at fair value is as follows: Quoted prices in an active market (Level 1) Valuation techniques based on observable market data (Level 2) Valuation techniques incorporating information other than observable market data (Level 3) 31 December 2009 Investments available for sale 1,769,985 1,694,077 548,369 31 December 2008 Investments available for sale 716,068 1,912,394 13,084,027 28. DERIVATIVE FINANCIAL INSTRUMENTS Foreign exchange derivative financial instruments entered into by the Bank are generally traded in an over-the-counter market with professional market counterparties on standardized contractual terms and conditions. Derivatives have potentially favourable (assets) or unfavourable (liabilities) conditions as a result of fluctuations in market interest rates, foreign exchange rates or other variables relative to their terms. The aggregate fair values of derivative financial assets and liabilities can fluctuate significantly from time to time. The table below sets out fair values, at the reporting date, of currencies receivable or payable under currency swap and spot agreements entered into by the Bank. The table reflects gross positions before the netting of any counterparty positions (and payments) and covers the contracts with settlement dates after the respective reporting date. The contracts are short term in nature. Notes Currency swap and spot agreements: fair values, at the reporting date, of: - USD receivable on settlement (+) - USD payable on settlement (-) - EUR receivable on settlement (+) - EUR payable on settlement (-) - UAH receivable on settlement (+) - UAH payable on settlement (-) - RUR receivable on settlement (+) - RUR payable on settlement (-) - CHF receivable on settlement (+) - CHF payable on settlement (-) Net fair value of currency swap and spot agreements 31 December 2009 Contracts Contracts with with positive negative fair value fair value 31 December 2008 Contracts Contracts with with positive negative fair value fair value (43,918) (70,411) 141,112 (26,402) - (887,314) (17,173) 902,485 - 88,176 (423,896) (22,797) 676,518 (300,000) (15,725) 87,058 (87,058) 14,284 (146,300) (105,389) 231,115 - 381 (2,002) 2,276 (6,290) 27 As at 31 December 2009 and 2008 fair value of currency swap and spot agreements is included in other assets (Note 17) and other liabilities (Note 21). 47 F-113 29. CAPITAL MANAGEMENT The Bank manages its capital to ensure that the Bank will be able to continue as a going concern while maximizing the return to stakeholders through the optimization of the debt and equity balance. The capital structure of the Bank consists of debt, which includes subordinated debt disclosed in Note 22, and equity, comprising issued capital, reserves and retained earnings as disclosed in statement of changes in equity. The Management Board reviews the capital structure on a regular basis. As part of this review, the Board considers the cost of capital and the risks associated with each class of capital. Based on recommendations of the Management Board, the Bank balances its overall capital structure through new share issues as well as the issue of new debt or the redemption of existing debt. 30. REGULATORY MATTERS The adequacy of the Bank‟s capital is monitored using, among other measures, the ratios established by the Basel Capital Accord 1988 and the ratios established by the NBU in supervising the Bank. During the year ended 31 December 2009, the Bank had complied in full with all its externally imposed capital requirements. Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios of total and Tier 1 capital to risk-weighted assets. The following table analyzes the Bank‟s regulatory capital resources for capital adequacy purposes in accordance with the principles employed by the Basle Committee: 31 December 2009 31 December 2008 Share capital Retained earnings 13,892,000 322,315 13,892,000 212,846 Total Tier 1 qualified capital 14,214,315 14,104,846 Property revaluation reserve Investments available for sale fair value reserve Subordinated debt 1,147,251 (18,626) 798,500 1,147,679 (131,796) 770,000 Total Tier 2 qualified capital up to a limit 100% of total Tier 1 capital 1,927,125 1,785,883 16,141,440 15,890,729 Total regulatory capital expressed as a percentage of total riskweighted assets 32.26% 41.47% Total Tier 1 capital expressed as a percentage of total riskweighted assets 28.41% 36.81% Regulatory capital: Tier 1 capital Tier 2 capital Total regulatory capital Capital ratios: Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios of total (8%) and Tier 1 capital (4%) to risk-weighted assets. 48 F-114 As at 31 December 2009 the Bank included in the computation of Total capital for Capital adequacy purposes the subordinated debt received, limited to 50% of Tier 1 capital. In the event of bankruptcy or liquidation of the Bank, repayment of this debt is subordinate to the repayments of the Bank‟s liabilities to all other creditors. 31. RISK MANAGEMENT POLICIES Management of risk is fundamental to the Bank‟s business and is an essential element of the Bank‟s operations. The main risks inherent to the Bank‟s operations are those related to credit exposures, liquidity and market movements in interest rates and foreign exchange rates. A description of the Bank‟s risk management policies in relation to those risks follows. Risk management framework – The risk management policies aim to identify, analyze and manage the risks faced by the Bank, to set appropriate risk limits and controls and to continuously monitor risk levels and adherence to limits. Risk management in the Bank is performed in accordance with the Risk Management Concept (the RMC), which was approved by both the Management Board and the Supervisory Board in 2004. The RMC is an overarching approach across the Bank, including all of its organizational departments, its headquarters, local and regional outlets and branches. It defines main risk categories that the Bank faces, and specifies the major organizational and functional levels of risk management. The risk management functions are divided among the Supervisory Board, the Management Board, the Assets and Liabilities Management Committee (the “ALMC”), the Credit Committee of the Bank, the Regional Branch Assets and Liabilities Management Committee and Regional Branch Credit Committees according to their functional responsibilities and approved limits. The Risk Management Department is independent of other business lines and acts under supervision of the Chairman of the Management Board. The Bank manages the following risks: Market risk – Market risk is the risk that changes in the market prices, such as interest rates, equity prices, foreign exchange rates and credit spreads (not relating to changes in the obligor‟s/issuer‟s credit standing) will affect income or the value of financial instruments. The objective of market risk management is to manage and control market risk exposures within acceptable parameters, while optimizing the return on risk. The Bank separates its exposure to market risk between trading and non-trading portfolios. Trading portfolios are mainly held by the Treasury Department. Overall authority for market risk is vested in the ALMC. The Risk Management Department is responsible for the development of detailed risk management policies (subject to review and approval by the ALMC) and for monitoring of compliance with market risk limits and restrictions. Credit risk – Credit risk is the risk of a financial loss if a customer or counterparty fails to meet its contractual obligations, and arises principally from loans and advances and investment securities. For risk management reporting purposes, the Bank considers and consolidates all elements of credit risk exposure (such as individual customer and counterparty default risk, country and industry risk). 49 F-115 Management uses the same procedures and methodologies, as defined in the policy for approving and procedures of consideration, approval and accompaniment of credit related commitments (unused loan commitments, letter of credit and guarantees) as it does for on statement of financial position credit obligations (loans). The maximum exposure to off balance sheet credit risk is reflected in Note 24. The Bank‟s exposure to any single counterparty (including other banks) is further restricted by sub-limits covering on and off balance sheet exposures, which are set by the Credit Committee and the Management Board. Management monitors concentration of credit risk by industry/sector and by geographic location. The Bank manages its credit risk by establishing limits in relation to single borrowers and groups of borrowers, which are recommended by the relevant Credit Department and Risk Management Department, and approved by the relevant Credit Committee or the Management Board. In case the amount of loan exceeds the authority of the Management Board, the loan is approved by the Supervisory Board. The Bank also mitigates its credit risk by obtaining collateral and using other security arrangements. The Bank decentralized the loan approval process and delegated credit risk responsibility from the Head Office Credit Committee to regional branches, by increasing the credit limit approval authorization of the Regional Credit Committees and providing regional offices with the authority to undertake certain transactions without the approval of other more senior credit committees. In making its corporate lending decisions, the Bank evaluates potential borrowers on the basis of their financial condition as reflected in their financial statements, their credit history with the Bank and other financial institutions and the amount of risk involved in lending to a particular borrower, using a rating scale. In evaluating the risks associated with a particular borrower, the Bank takes into account the borrower‟s business and factors such as the quality of its management, its main business activities, its geographic location, suppliers, customers, other indebtedness, financial stability, turnover, likely return on the loan, the liquidity of the proposed collateral and whether it is sufficient in view of the credit risk. The Bank also considers risks associated with the industry in which the borrower operates. Consumer loans are subject to a standardized approval procedure. Loans are subject to maximum limits depending on the applicant‟s income, stability of future earnings, liquidity and quality of collateral. The Regional Credit Committee (or, if the branch limit is exceeded, the Head Office Credit Committee) reviews a credit application and makes the relevant decision as to whether to grant a loan. Financial assets are graded as follows: amounts due from banks are graded according to the current credit rating they have been issued by an internationally regarded agency. The highest possible rating is AAA. Investment grade financial assets have ratings from AAA to BBB. Financial assets which have ratings lower than BBB are classed as speculative grade. As at 31 December 2009 and 2008 the balances with the NBU amounted to UAH 1,083,131 thousand and UAH 1,357,055 thousand, respectively. The credit rating of Ukraine according to the international rating agencies in 2009 corresponded to speculative level B-. Investments available for sale, in particular, OVDP of special issue, bonds issued by State Mortgage Institution and the NBU deposit certificates, which were not rated, were included by the Bank in the range from BBB to B- based on sovereign credit rating of Ukraine. 50 F-116 The following table details the credit ratings of financial assets held by the Bank: AAA - A- Due from banks Loans to customers Investments available for sale 2,117,927 AAA - A- Due from banks Loans to customers Investments available for sale 492,431 - BBB - B- Below B- Not rated 62,628 27,299,842 3,547 723,497 15,960,991 269,736 BBB - B- Below B- Not rated 1,021,430 15,072,755 54,164 18,636,806 - 617,186 15,254,712 639,734 52,288 2,455,444 3,739,148 31 December 2009 Total 2,956,340 45,716,277 4,012,431 31 December 2008 Total 2,185,211 33,891,518 15,712,489 The banking industry is generally exposed to credit risk through its financial assets and contingent liabilities. Credit risk exposure of the Bank is concentrated within Ukraine. The exposure is monitored on a regular basis to ensure that the credit limits and credit worthiness guidelines established by the Bank‟s risk management policy are not breached. Concentration risk – Concentration risk is determined by the Bank as the risk of losses due to concentration of risk in specific instruments, operations and industries. Joint Stock Company “State Savings Bank of Ukraine” is the largest state-owned bank of Ukraine and specific character of its activities is related to significant scale of operations with state-owned companies, including according to state programs, resulting in significant concentration of credit and investment risks in relation to certain counterparties and groups of related counterparties and industries. As at 31 December 2009 67% of the assets and 56% of the liabilities were concentrated in operations with state-owned companies, the NBU, state banks and state authorities. The Bank obtains loans from the NBU to finance lending to the state-owned companies, which comprise 38% of the liabilities. The Bank manages concentration risk in the loan and investment portfolios by setting limits for certain counterparties and group of counterparties. Detailed description of this process is stated above, in the section about the credit risk. The Bank also uses limits based on the NBU requirements to manage the risk. To manage the credit risk the NBU sets the following limits: – limit of maximum exposure to credit risk per individual counterparty (N7), which is determined as ratio of amount of all claims of the Bank to this counterparty and all off-balance sheet claims, issued by the Bank to this counterparty (or group of counterparties) to regulatory capital of the Bank, the ratio should not exceed 20%; and – limit of large credit risks (N8), which is determined as credit risk for the counterparty (or group of counterparties) that comprises 10% or more of the regulatory capital of the Bank. The Management Board of the NBU set individual limit of maximum exposure to credit risk (N7) for operations with PJSC “NJSC “Naftogaz of Ukraine” by individual regulation. Concentration for this counterparty is disclosed in Note 14. The Bank did not violate breach limits on management of credit risk set by the NBU as at 31 December 2009 and 2008. An analysis of concentration of the assets and the liabilities by currencies, maturity and geography is disclosed in respective sections of the risk management policy. 51 F-117 Liquidity risk – Liquidity risk refers to the availability of sufficient funds to meet deposit withdrawals and other financial commitments associated with financial instruments as they actually fall due. In order to manage liquidity risk, the Bank performs constant monitoring of future expected cash flows on clients‟ and banking operations, which is a part of assets/liabilities management process. On a monthly basis the Assets and Liability Committee analyzes funding sources taking into account changes in interest rates for the previous month and makes respective decisions for assets and liability management. The analysis of interest rate change and liquidity risk based on carrying value of financial assets and liabilities is presented in the following table: Up to 1 month 1 month to 3 months 3 months to 1 year 1 year to 5 years Over 5 years FINANCIAL ASSETS Due from banks Loans to customers Investments available for sale 2,934,717 407,681 170,184 15,821,794 28,715 18,948,834 817,386 6,082,080 2,787,912 3,945,059 200,454 510,829 - 2,934,717 45,716,277 4,004,651 Total interest bearing assets 3,512,582 15,850,509 19,766,220 8,869,992 4,145,513 510,829 52,655,645 Cash and balances with the National Bank of Ukraine Due from banks Investments available for sale Other financial assets 2,100,822 535 8,829 995 83 20,093 1,093 621 840 177,530 7,780 - 2,278,352 21,623 7,780 11,466 TOTAL FINANCIAL ASSETS 5,622,768 15,851,587 19,787,406 8,870,613 4,146,353 696,139 54,974,866 FINANCIAL LIABILITIES Due to banks Customer accounts Debt securities issued Subordinated debt 86,953 11,849,952 33,610 6,467,202 7,927,866 8,093 - 8,791,757 1,556,815 - 672,212 2,708,611 438,000 - 60,202 790,968 - 16,018,124 24,103,446 446,093 824,578 Total interest bearing liabilities 11,970,515 14,403,161 10,348,572 3,818,823 851,170 - 41,392,241 4,620 569,462 11,005 2,614 25,700 37 29 - 4,620 569,462 39,385 TOTAL FINANCIAL LIABILITIES 12,555,602 14,405,775 10,374,272 3,818,860 851,199 - 42,005,708 Liquidity gap (6,932,834) 1,445,812 9,413,134 5,051,753 3,295,154 696,139 Interest sensitivity gap (8,457,933) 1,447,348 9,417,648 5,051,169 3,294,343 (8,457,933) (7,010,585) 2,407,063 7,458,232 10,752,575 (15%) (12%) 4% 13% 19% Due to banks Customer accounts Other financial liabilities Cumulative interest sensitivity gap Cumulative interest sensitivity gap as a percentage of total assets 52 F-118 Maturity undefined 31 December 2009 Total Up to 1 month 1 month to 3 months 3 months to 1 year 1 year to 5 years Over 5 years Maturity undefined 31 December 2008 Total FINANCIAL ASSETS Due from banks Loans to customers Investments available for sale 1,970,376 731,162 1,001,785 79,920 2,564,656 179,791 100,000 13,747,378 13,439,615 12,000,646 1,067,663 4,586,515 - 261,161 - 2,150,296 33,891,518 15,688,854 Total interest bearing assets 3,703,323 2,824,367 27,286,993 13,068,309 4,586,515 261,161 51,730,668 Cash and balances with the National Bank of Ukraine Due from banks Investments available for sale Other financial assets 2,487,747 34,915 13,224 465 23,635 4,725 886 142 81,479 - 2,569,226 34,915 23,635 19,442 TOTAL FINANCIAL ASSETS 6,239,209 2,824,832 27,315,353 13,069,195 4,586,657 342,640 54,377,886 FINANCIAL LIABILITIES Due to banks Customer accounts Debt securities issued Subordinated debt 259,838 10,807,614 31,570 336,710 6,946 - 21,977,740 1,819,312 300,000 - 4,068,222 194,595 - 62,871 761,706 - 22,237,578 17,094,729 501,541 793,276 Total interest bearing liabilities 11,099,022 343,656 24,097,052 4,262,817 824,577 - 40,627,124 Due to banks Customer accounts Other financial liabilities 1,705 398,192 13,176 1,258 28,249 4 29 - 1,705 398,192 42,716 TOTAL FINANCIAL LIABILITIES 11,512,095 - 344,914 24,125,301 4,262,821 824,606 - 41,069,737 Liquidity gap (5,272,886) 2,479,918 3,190,052 8,806,374 3,762,051 342,640 Interest sensitivity gap (7,395,699) 2,480,711 3,189,941 8,805,492 3,761,938 (7,395,699) (4,914,988) (1,725,047) 7,080,445 10,842,383 (13%) (9%) (3%) 13% 19% Cumulative interest sensitivity gap Cumulative interest sensitivity gap as a percentage of total assets 53 F-119 The Bank‟s liquidity risk management includes estimation of core current accounts, i.e. funds associated with stable customer relationships, with statistical methods applied to historic information on fluctuations of customer accounts balances. As at 31 December 2009 and 2008 core current accounts amounted to UAH 8,389,464 thousand and UAH 8,165,480 thousand, respectively. Based on going concern assumption effective maturity of core current accounts is considered to be undefined. Information as to the expected periods of repayment of customer accounts and effective liquidity gaps as at 31 December 2009 and 2008 is as follows: Up to 1 month 1 month to 3 months 3 months to 1 year 1 year to 5 years Over 5 years Maturity undefined 31 December 2009 Total TOTAL FINANCIAL ASSETS 5,622,768 15,851,587 19,787,406 8,870,613 4,146,353 696,139 54,974,866 TOTAL FINANCIAL LIABILITIES 12,555,602 14,405,775 10,374,272 3,818,860 851,199 - 42,005,708 Liquidity gap (6,932,834) 1,445,812 9,413,134 5,051,753 3,295,154 696,139 Corrected for: Current customer accounts analyzed based on expected withdrawal dates (8,389,464) - - - - 8,389,464 TOTAL FINANCIAL LIABILITIES based on expected withdrawal dates for current customer accounts 4,166,138 14,405,775 10,374,272 3,818,860 851,199 8,389,464 Liquidity gap based on expected withdrawal dates for current customer accounts 1,456,630 1,445,812 9,413,134 5,051,753 3,295,154 54 F-120 (7,693,325) Up to 1 month 1 month to 3 months 3 months to 1 year 1 year to 5 years Over 5 years Maturity undefined 31 December 2008 Total TOTAL FINANCIAL ASSETS 6,239,209 2,824,832 27,315,353 13,069,195 4,586,657 342,640 54,377,886 TOTAL FINANCIAL LIABILITIES 11,512,095 344,914 24,125,301 4,262,821 824,606 - 41,069,737 Liquidity gap (5,272,886) 2,479,918 3,190,052 8,806,374 3,762,051 342,640 Corrected for: Current customer accounts analyzed based on expected withdrawal dates (8,165,480) - - - - 8,165,480 TOTAL FINANCIAL LIABILITIES based on expected withdrawal dates for current customer 3,346,615 344,914 24,125,301 4,262,821 824,606 8,165,480 Liquidity gap based on expected withdrawal dates for current customer accounts 2,892,594 2,479,918 3,190,052 8,806,374 3,762,051 (7,822,840) A further analysis of the liquidity and interest rate risks is presented in the following tables in accordance with IFRS 7. The amounts disclosed in these tables do not correspond to the amounts recorded on the statement of financial position as the presentation below includes a maturity analysis for financial liabilities that indicates the total remaining undiscounted contractual payments (including future interest payments), which are not recognized in the statement of financial position under the effective interest rate method. 55 F-121 Up to 1 month 1 month to 3 months 3 months to 1 year 1 year to 5 years Over 5 years 31 December 2009 Total FINANCIAL LIABILITIES Due to banks Customer accounts Debt securities issued Subordinated debt 93,088 12,449,395 3,866 33,610 992,780 8,096,406 7,358 - 14,997,663 1,772,663 34,296 35,933 870,749 4,563,813 485,113 362,519 111,381 907,695 16,954,280 26,993,658 530,633 1,339,757 Total interest bearing financial liabilities 12,579,959 9,096,544 16,840,555 6,282,194 1,019,076 45,818,328 11,005 2,614 25,700 37 29 39,385 808 68,854 43,141 417 - 113,220 12,591,772 9,168,012 16,909,396 6,282,648 1,019,105 45,970,933 1,045,393 - - - - 1,045,393 13,637,165 9,168,012 16,909,396 6,282,648 1,019,105 47,016,326 3 months to 1 year 1 year to 5 years Over 5 years Other financial liabilities Contingent liabilities and irrevocable loan commitments Non-derivative financial liabilities Gross settled currency swap and spot agreements TOTAL