FINANCIAL HIGHLIGHTS OF Financial Highlights of Mercator Group Development Indicators for the Period

Transcription

1 ANNUAL REPORT 2008

2 CONTENTS INTRODUCTION 4 REPORT BY THE MANAGEMENT BOARD PRESIDENT 5 MERCATOR GROUP PROFILE 9 Company Profile 10 Mercator Group Activity 10 Composition of the Mercator Group 11 FINANCIAL HIGHLIGHTS OF Financial Highlights of Mercator Group Development Indicators for the Period KEY EVENTS 15 Major Events in Major Events Following the End of CORPORATE GOVERNANCE 18 Shareholders Assembly 18 Supervisory Board 19 Management Board 21 Audit Committee 24 Management of Subsidiaries 24 Audit 25 Communication with Shareholders and Reporting 26 Declaration of Compliance with the Corporate Governance Code for Publicly Traded Companies 28 BUSINESS REPORT 29 BUSINESS STRATEGY OF THE MERCATOR GROUP 30 Vision 30 Mission 30 Corporate Culture Values 30 Strategic Policies of the Mercator Group 31 Strategic Goals 32 ECONOMIC CONDITIONS IN DEVELOPMENT AND INVESTMENT 35 MARKETING 39 Market Share 39 Marketing Strategy 39 Customer Relations Management 40 Development of Private Label Lines 43 Sales Promotion Projects 46 STORE FORMATS 48 SALES 51 2

3 CATEGORY MANAGEMENT AND SUPPLIER RELATIONS 53 LOGISTICS 54 ORGANIZATION AND QUALITY OF OPERATIONS 55 INFORMATION TECHNOLOGY 58 FINANCIAL MANAGEMENT 59 MERCATOR SHARE AND OWNERSHIP STRUCTURE 61 Mercator Share 61 Company Ownership Structure 63 RISK MANAGEMENT 65 BUSINESS PERFORMANCE ANALYSIS 69 Operations in Performance Analysis 70 Key Financial Indicators 77 Performance of Mercator Group Companies 78 SOCIALLY ACCOUNTABLE ACTION 79 Sponsorships, Donations, and Charity Campaigns 79 Care for the Environment 81 Employee Development 83 Customer Communication 89 EXPECTED ECONOMIC CONDITIONS AND PLANS FOR Expected Economic Conditions in Plans for FINANCIAL REPORT 95 FINANCIAL REPORT OF THE MERCATOR GROUP 97 Consolidated Balance Sheet 98 Consolidated Income Statement 99 Consolidated Statement of Changes in Equity 100 Consolidated Statement of Cash Flows 102 Notes to Consolidated Financial Statements 104 Management Responsibility Statement 157 Independent Auditor's Report 159 AUDITED FINANCIAL STATEMENTS OF THE COMPANY POSLOVNI SISTEM MERCATOR, D.D. 161 Balance Sheet 162 Income Statement 163 Statement of Changes in Equity 164 Proposal for the Allocation of distributable Profit 166 Statement of Cash Flows 167 Independent Auditor's Report 169 CONTACTS 171 3

4 INTRODUCTION 4

5 REPORT BY THE MANAGEMENT BOARD PRESIDENT Despite harsh economic conditions, Mercator Group wrapped up the year 2008 successfully, remaining the largest fast-moving consumer goods trade company in the region. This clearly points out that we have remained firmly devoted to the pursuit of our vision which is to be the leading trade chain with fast-moving consumer goods in the Southeastern Europe, and that we have successfully implemented our strategic policies. Unfavorable economic conditions in this year impaired our operations in all markets to a certain extent; however, we approached this as a challenge and with effort and persistence, we have attained all planned business goals. Net revenues from sales of the Mercator Group amounted to EUR 2.7 billion in 2008, exceeding the 2007 figure by over 10 percent and topping the 2008 plans by 3 percent. The share of net revenues from sales generated in markets outside Slovenia has been rising continuously and has broken the two-third threshold in total revenue composition in In 2009, our plans remain ambitious, as we are planning an increase of net revenues from sales to EUR 2.8 billion despite the challenging economic conditions and adjusted scope of investment. According to our plans, net revenues in markets outside Slovenia will approach a billion euros in Mercator's market shares developed as planned in all markets in Marketing activities were primarily aimed at meeting customer requirements and establishing a long-term relationship with them through provision of high-quality services, wide and favorable offer, and contemporary shopping experience. Stringent social and economic conditions called for adjustment of marketing and procurement / purchasing activities which were focused on price competitiveness, adjustment of assortment offered, and rationalization of marketing investments. In a market environment with considerable inflation, we have set up an active trade margin policy aimed at mitigating the effect of price growth for the consumers while simultaneously improving the competitiveness of our offer. In this regard, we intensively developed the offer within our private labels. The 2,300 products offered under Mercator private labels, comprised both products for the price-sensitive consumers as well as upmarket products. We regularly carried out short-term and long-term sales promotion activities focused on products, brands, and categories; as a result, over 3,000 products were included in various special offers in our stores daily. Along these lines, the activities for improving customer loyalty were also successful, resulting in an increase of the number of Mercator Pika card holders by 18 percent in Total number of our customer loyalty bonus card holders thus exceeded 1.2 million in the entire region. In 2008, we also set up the Mercator Call Center which provides for our customers and Mercator Pika card holders a simple, friendly, fast, and efficient way of acquiring all information and answers to all sorts of questions at one place. 5

6 Procurement / purchasing sources are increasingly globalized. Hence, competitiveness of our offer, in addition to high quality, is the key starting point for a partnership relation with any supplier. In severe conditions of rising raw material and fuel prices, we worked together with our suppliers through partnership relations to find the best solutions for our common consumers in all markets. We actively warned of the severity of inflation and harsh economic and social conditions, interpreting them as a complex problem that effectively distributes the responsibility for product pricing decisions to the entire supply chain, or value added chain, and which calls for carefully devised and deliberate action. Mercator reduced the trade margins on numerous products whose prices were rising due to price hikes on the part of suppliers, thus damming the price increase and mitigating the adverse effects on consumers. In establishing partnership relations with suppliers we continued to employ the policy of preferential consideration of suppliers from the local environment. Sustained high growth rates in 2008 were notably fueled by intensive development and investment activities. In this respect, several records were set this year as the Group invested over EUR 300 million, mostly into development of retail network. This was reflected in a huge increase in sales areas as total gross sales area of stores under the Mercator trademarks and labels surpassed one million square meters. We opened several new facilities in all countries of our operations and refurbished, extended, or upgraded several existing ones, hence setting new standards of retail and shopping in this region. Considering the unfavorable conditions in financial markets, resulting from the global financial crisis, one of Mercator's key goals was to maintain a stable and solid asset and financial position. In 2008, we were successful in this regard. We expanded our capacity to generate cash flow through operating activities as our gross cash flow before rents (EBITDAR, or earnings before interest, taxes, depreciation, amortization, and rents) totaled at EUR 198 million, outdoing the 2007 figure by 15 percent. Furthermore, the growth rate of generated cash flow exceeds the growth rate of revenues by over four percentage points, indicating an improvement in business efficiency of the group and its high development capacity and financial strength. Partnership relations with many banking groups operating in the region enabled normal operation despite the global financial crisis; moreover, the scope of investment carried out in 2008 was the highest in the entire history of Mercator. In addition, we retained the solid debt-to-equity ratio and managed to gradually establish short-term liquidity reserves during the year. At the end of 2008, the Group thus had over EUR 110 million of available unallocated liquidity sources at its disposal. In 2008, we carried on with our activities for optimizing the Mercator Group operations, which have been in progress for several years. These activities led to increase in productivity and improvement of cost efficiency. Simultaneously, growth of the scope of our operations paved the way for reaping a greater benefit of economies of scale in new markets. The share of operating costs in total revenues at the Group level fell by 0.8 percentage point in 2008 compared to the year before. Hence, we managed to mitigate to a considerable extent the effects of lower average trade margins, predominantly owing to the changes in the composition of consumption and investments aimed at improved price competitiveness. Despite almost 10 percent growth 6

7 of operating profit, net profit for 2008, totaling at EUR 40.7 million, is somewhat lower than that in 2007, as it was slashed by increased financing costs; nevertheless, it does exceed the planned figure. In 2007, the Supervisory Board adopted the dividend policy for the period until In compliance with this policy, the shareholders were paid a dividend of EUR 4.25 per share, which is 6 percent more than in The results accomplished by the Group would not have been possible without a dedicated effort by all employees. Hence, I am particularly proud of nearly 22 thousand workers who devote themselves day in and day out to the satisfaction of our customers and progress of our company. Following our mission, our operations were devoted to creating benefits for the employees, such as providing a safe and pleasant working environment conducive to both personal and professional development. In 2008, our numerous activities were focused on the safety and health of our employees, motivation and solid compensation, as well as inter-cultural organizational development. In 2008, we also carried on with our socially responsilble practices at all levels, from offering support to numerous social activities and aid to charity organizations and individuals, to energy efficiency, sustainable development and environmental awareness which we have sought to promote by influencing the shopping habits of our customers. An example of such action was our central social accountability campaign in 2008 which sought to promote the use of recyclable and reusable shopping bags. This campaign was carried out in cooperation with our business partners in November In 2008, our support to activities of wider social importance included offering financial aid to over 1,800 projects and organizations in all markets of our operations. Business environment in 2009 will undoubtedly be very challenging. It is impossible to make any reliable forecast about the development of economic conditions in the region, especially in view of the effects of the global financial crisis, economic slowdown, and shattered macroeconomic stability in the region. Yet, we are fully aware that successful performance in the market is solely our own responsibility. Hence, we have already devised in 2008 two sets of measures to respond to the anticipated changes in our operating environment. The first set of measures relates to adjusting our offer to consumers and includes respective measures for improving price competitiveness, adjustment of assortment, and upgrade of the customer loyalty system. The purpose of this batch of measures is to adapt to more pronounced rationality of our consumers, resulting from the anticipated decline in their real purchasing power. In this regard, Mercator Group is planning for 2009 investments of EUR 11 million into cutting the prices for consumers. The second set of measures deals with improving the efficiency of Group operations while accounting for the anticipated economic conditions. These measures comprise cost rationalization at all levels of operation, restricting the volume of investment to a level that can be financed by Group's own sources, and expansion of risk management activities with particular focus on financial risks. Regardless of the harsh economic conditions, Mercator's development activities will not be neglected or halted in 2009; they will merely be adjusted to the business environment. Bearing this in mind, the 2009 Business Plan is consistent with the development strategy laid out by the Mercator Group. 7

8 In 2009, we are also celebrating the 60 th anniversary of the company's operations. The path we have treaded from the trade company Živila Ljubljana, founded on March 4 th 1949 and renamed to Mercator on October 16 th 1953, to the largest trade chain with fast-moving consumer goods with nearly 1,500 sales outlets in five emerging markets of the Southeastern European region firmly corroborates our belief in our past success and our long-term vision of the company's development. Through these six decades, Mercator has become an international retailer that ranks among the 250 largest trade companies in the world. The story of growth and success is a result of hard and focused work of all workers at Mercator, and excellence in cooperation with our business partners. Upon this anniversary, I would like convey my personal gratitude to all who laid out the pat of our company's development at its beginnings, all who took part in it through the decades of growth and development, and to all who are still engaged in shaping its current and future image. I wish to thank our partners in Slovenia, Serbia, Croatia, Bosnia and Herzegovina, and Montenegro for their cooperation. I am particularly grateful to the shareholders and Supervisory Board members for their trust and support in the recent years. Without the support of all shareholders, Mercator would not have become what it is today. The year 2009 brings many business challenges and we are acutely aware that in times of hardship, the keen and the persistent will rise to prominence. Timely perception of opportunities opening up in our environment, detailed knowledge and of the changing requirements of our consumers and the ability to meet them, socially accountable conduct, and investments into development and highly skilled staff will enable us to promote the loyalty of our customers, to maintain our competitive edge, and to accomplish our corporate goals. I firmly believe that the performance of Mercator Group in 2009 will be yet another piece in the mosaic of the success story we have been writing together for 60 years. Žiga Debeljak Management Board President Ljubljana, February 19 th

9 MERCATOR GROUP PROFILE Mercator Group is one of the largest retail chains in the Southeastern European region. It is the leading retail chain in Slovenia and increasingly more notable retail chain in the markets of Serbia, Croatia, Bosnia and Herzegovina, and Montenegro. Our vision remains unchanged we wish to be the leading fast-moving consumer goods retailer in the Southeastern European region. Existing markets of our operations: Slovenia, Serbia, Croatia, Bosnia and Herzegovina, Montenegro. New target markets: Bulgaria (entry in 2009), Macedonia, Kosovo, Albania. 9

10 Company Profile The company Poslovni sistem Mercator, d.d., is the controlling company of a group of associated companies (the Mercator Group) which is one of the largest business groups in Slovenia and in the entire Southeastern European Region. Full name Poslovni sistem Mercator, d.d. Abbreviated name Mercator, d.d. Activity G Retail in non-specialized food retail outlets Identification number VAT Tax Code Court registry date January 1 st 1990 Company share capital as at December 31 st 2008 EUR 157,128, EUR Number of shares issued and paidup as at September 30 th 2008 Share listing President of the Management Board & CEO Management Board Members President of the Supervisory Board Deputy chairman of the Supervisory Board 3,765,361 Ljubljana Stock Exchange (Ljubljanska borza, d.d.) official market, prime market, trading code MELR Žiga Debeljak Vera Aljančič Falež, Mateja Jesenek, Peter Zavrl Robert Šega Kristjan Sušinski Mercator Group Operations The prime and most extensive business activity of the Mercator Group is retail and wholesale of fast-moving consumer goods (market program).! Widely spread retail network with various store formats: market program: hypermarkets, supermarkets, neighborhood stores, comfort stores, Hura! discount stores, and web store specialized programs: hardware and electronics stores, apparel and beauty stores, and sportswear and sports equipment stores! Numerous mutually complementing services aimed at satisfying the needs, wishes, and expectations of all our customers. 10

11 Composition of the Mercator Group Poslovni sistem Mercator, d.d. Slovenia TRADE Mercator - H, d.o.o. 99,9 % Mercator - S, d.o.o. 100,0 % M - Rodić, d.o.o. 88,0 % Croatia Serbia Serbia Mercator - Mex, d.o.o. 51,0 % Mercator - BH, d.o.o. 100,0 % Mercator Makedonija, d.o.o. 100,0 % Montenegro Bosnia in Herzegovina Macedonia M - BL, d.o.o. 100,0 % Investment 100,0 % Mercator - B, e.o.o.d, 100,0 % International, d.o.o. Bosna in Hercegovina Macedonia Bulgaria M.COM, d.o.o. 100,0 % Slovenia The company has not been performing any activities yet. The company has not been performing any activities yet. NON-TRADE The company has not been performing any activities yet. Pekarna Grosuplje, d.d. 100,0 % Eta, d.d. 100,0 % Mercator - Emba, d.d. 100,0 % Slovenia Slovenia Slovenia The company is currently being merged to the parent company Belpana, d.o.o. 100,0 % Mercator - Optima, d.o.o. 100,0 % Interier, d.o.o. 97,6 % Croatia Slovenia Slovenia The company is currently being merged to the company Mercator - H, d.o.o. M - nepremičnine, d.o.o. 100,0 % Evolution, d.d. 100,0 % Mercator IP, d.o.o. 100,0 % Slovenia Slovenia Slovenia Branch Offices As at December 31 st 2008, Mercator Group companies did not have any branch offices. With the consent of the Ministry of Labor, Family, and Social Affairs, the company Poslovni sistem Mercator, d.d., founded on December 13 th 2007 the Mercator Humanitarian Foundation. This institution was founded to provide humanitarian aid for Mercator employees. 11

12 FINANCIAL HIGHLIGHTS OF 2008 Financial Highlights of Index 2008 / 2007 FINANCIAL DATA Net sales revenues (in EUR 000) 1,749,206 2,064,583 2,445,258 2,708, Operating profit (in EUR 000) 30,401 50,776 91, , Profit before income tax (in EUR 000) 20,588 36,724 54,475 49, Profit for the financial period (in EUR 000) 13,626 30,149 43,814 40, Gross cash flow from operating acitivites (in EUR 000) 111, , , , Gross cash flow from operating acitivites before rental expences (in EUR 000) 117, , , , Equity (in EUR 000) 551, , , , Total assets (in EUR 000) 1,533,457 1,861,175 2,070,473 2,540, INVESTMENT ACTIVITIES Capital expenditure (in EUR 000) 238, , , , Long-term financial investments (in EUR 000) 39, ,467 49,221 15, EMPLOYEES Number of employees as at the end of the period 16,372 19,539 20,893 21, Number of employees based on hours worked 15,086 17,101 19,099 20, FINANCIAL INDICATORS Productivity (in EUR 000) Value added per emplyee per hours worked (in EUR 000) Return on sales 0.8% 1.5% 1.8% 1.5% 84.0 Return on equity 2.7% 5.2% 6.8% 5.6% 82.3 Gross cash flow from operating acitivites / net sales revenues 6.4% 6.6% 6.6% 6.5% 98.5 Gross cash flow from operating acitivites before rental expences / net sales revenues 6.7% 6.9% 7.0% 7.3% SHAREHOLDERS INFORMATION Market value per share as at the end of the period (in EUR) Dividend per share (in EUR) Earnings per share (in EUR) NUMBER OF COMPANIES IN THE GROUP Number of companies in the group as at the end of the period

13 Mercator Group development indicators for the period Net revenues and productivity of the M ercator Group Net sales revenues (in EUR mn) 3,500 2,800 2,100 1, Net sales revenues (in EUR mn) 1,749 2,065 2,445 2,709 Net sales revenues per employee (in EUR 000) Net sales revenues per employee (in EUR 000) Operating profit and the share of operating profit in net revenues of M ercator Group Operating profit (in EUR mn) Share in net sales revenues (in %) Operating profit (in EUR mn) Share in net sales revenues (in %) Gross cash flow from operating activities before rental expenses and the share of gross cash flow from operating activities before rental expenses in net revenues of M ercator Group Gross cash flow from operating activities before rental expenses (in Eur mn) ,5 7,0 6,5 6,0 5,5 5,0 Share in net sales revenues (in %) Gross cash flow from operating acitivites before rental expenses (in EUR mn) Share in net sales revenues (in %) 6,7 6,9 7,0 7,3 13

14 Net profit and the share of net profit in net revenues of Mercator Group Net profit (in EUR mn) Net profit (in EUR mn) Share in net sales revenues (in %) ,8 1,5 1,8 1,5 2,0 1,5 1,0 0,5 0,0 Share in net sales revenues (in %) Capital expenditure and long-term financial investment of the M ercator Group (in EUR mn) Long-term financial investments Capital expenditures Total ,000 Employees 20,000 Number of employees 15,000 10,000 5, Foreign markets 3,591 5,892 7,674 8,497 Slovenia 12,781 13,647 13,219 13,139 Total

15 KEY EVENTS Major Events in 2008 DEVELOPMENT OF RETAIL NETWORK In SLOVENIA, we opened Mercator center Koper II, Mercator center Ptuj, Mercator center Postojna, refurbished hypermarket in the basement floor of the Maximarket department store, hypermarket Šmartinska in Ljubljana, trade center Šentjernej, supermarket Poljanska, hypermarket and Intersport in the shopping center Supernova in Rudnik, supermarket in Šmartno, two superettes in Škocjanu and Benedikt, respectively, and Hardware and Electronics Center in Sevnica and Maribor. The following facilities were opened ABROAD: In Serbia: Mercator Center Niš, Roda center Kragujevac, Roda center Sremska Mitrovica, Roda Cash&Carry in Belgrade, supermarkets in Kula, Smederevo, Kanjiža, superette in Palić, and other refurbished retail outlets. In Croatia: Trade Center Križevci, Trade Center Labin, Trade Center Koprivnica, supermarkets in Poreč, Umag, Pula, Buzet Stari Grad, and other refurbished retail outlets. In Bosnia and Herzegovina: Mercator Center Brčko, Trade Center Bosanska Gradiška, and supermarkets in Čapljina, Senjak, Kalesija, and Banja Luka. In 2008, we activated a total of 150,851 square meters of gross sales area and acquired 306,199 square meters of landed properties for new projects. SUBSIDIARY FOUNDED IN BULGARIA Consistently with our strategy of entering the Bulgarian market, we established on February 13 th 2008 the company Mercator B, e.o.o.d., Sofia, which will be in charge of Mercator's expansion to the Bulgarian market. SUBSIDIARY FOUNDED IN BOSNIA AND HERZEGOVINA On September 4 th 2008, the company Poslovni sistem Mercator, d.d., founded the company M-BL, d.o.o., Banja Luka which will be in charge of trade operations in the region of Republika Srpska in Bosnia and Herzegovina. STRATEGIC ALLIANCES In September 2008, trade company Billa joined the purchasing / procurement alliance Mercator-Plodine in Croatia; the said companies jointly founded the company Mercator-Plodine-Billa, d.o.o., whose purpose is to conduct joint purchasing operations in Croatian upstream market. 15

16 CHANGES IN THE COMPOSITION OF THE MERCATOR GROUP On January 1 st 2008, the company Presoflex, d.o.o., Croatia, was merged with the company Mercator - H, d.o.o. On January 1 st 2008, the company Poslovni sistem Mercator, d.d., took over the operations of the company Pekarna Grosuplje, d.d., including all of its employees; the merger is planned for fall On April 3 rd 2008, the company Poslovni sistem Mercator, d.d., acquired a 100 percent ownership share in the company Evolution, proizvodnja in trgovina (manufacturing and trade), d.d., Izola, thus acquiring landed property for development of a trade center in Izola. Merging and integration into the Group is planned for On May 13 th 2008, the company Poslovni sistem Mercator, d.d., purchased a 100- percent ownership share of the company Naše Vezi, d.o.o., Štanjel, which was renamed on June 17 th 2008 into Mercator IP, invalidsko podjetje (social enterprise), d.o.o., Ljubljana. The company complies with a contemporary concept of employing persons with disabilities and devotes particular care for its employees who belong to a special protected category of workers. By searching for new options and diversifying its activities, adjustment of workplaces, and training and education of persons with disabilities, the company will offer new opportunities for their integration into company operations. In compliance with the Agreement on Strategic Alliance in the field of trade operations between Holding Rodić M&B, and Mercator, d.d., dated October 19 th 2006, the company Poslovni sistem Mercator, d.d., purchased on June 4 th 2008 an additional 12-percent ownership share in the company M-Rodić, d.o.o., Novi Sad. Before this transaction, the company Mercator, d.d., Ljubljana, held a 76 percent interest in the company M-Rodić, d.o.o.; after the transaction, ownership share of the company Mercator, d.d., Ljubljana, in the company M-Rodić, d.o.o., amounts to 88 percent. On October 1 st 2008, the division of the company Mercator-Emba, d.d., was entered into the Court Register; the company M-nepremičnine, d.o.o. (M-Real Estate), was founded to which the company Mercator-Emba, d.d., transferred its real estate property according to the division plan adopted on June 20 th MARKETING AND CORPORATE ACTIVITIES In March, Mercator's Call Center commenced its operation. Our customers can dial a toll-free number for information on Mercator Pika card transactions, retail units and working hours, products and campaigns, events taking place in retail units, as well as complaints and praises. At the end of April, we launched a major corporate campaign announcing the 60 th anniversary of Mercator; this campaign shall continue in fall this year as well as in 16

17 2009. We took this occasion to thank everyone who has supported us through this period, as well as all who work with us and confide in us. After eight years of issuing the Mesec ("Month, or Moon") magazine, we issued in June 2008 the first issue with redesigned appearance, with updated contents and additional pages. As a response to the anticipated increase in the prices set by alimentary product manufacturers, Mercator decided to additionally cut the trade margins and thus dropp the retail prices of some major household consumer products, or FMCG. Simultaneously, the private label project is focused on continuous search for new products that would offer the best price to quality ratio. Generic line, particularly, includes fast-moving consumer goods at the most favorable prices. As of November, we have launched our this year's central corporate campaign called "Mercator, the environment-friendly neighbor" which is devoted to environmental responsibility and promoting ecological awareness of the broad public. The campaign seeks to warn our customers of the adverse effects of plastics on the environment and motivate the decrease in the use of plastic bags. To this end, we presented each Slovenian household a durable, reusable shopping bag made of recycled plastics (over 500,000 shopping bags were handed out). The customers were able to claim their bag in our stores by presenting a coupon they received in their mail. The network of M Holidays offices was also extended in In addition to the offices in Maximarket department store and Mercator Center Šiška in Ljubljana, two offices in Novo Mesto and Celje, respectively, were opened. In November 2008, we carried out one of the major strategic projects aimed at maintaining and improving the competitiveness of the Mercator Group, as we have completed the renewal of the Mercator Pika card customer loyalty system. In addition to the previously existing benefits, the new system provides even simpler transactions, lower costs, higher level of services, and new options of customer loyalty upgrades. In December 2008, we received the Netko 2008 award for Mercator's web appearance. Netko is a prominent award for the best business and corporate web page, with a long tradition. It was presented for the third consecutive year by the Chamber of Commerce and Industry of Slovenia - Association for IT and Telecommunication, in cooperation with the Ministry of Higher Education, Science and Technology. Major Events Following the End of 2008 As of January 1 st 2009, the company Mercator-S, d.o.o., took over the activities of the company M-Rodić, d.o.o.; the merger and integration into the Group is planned for the year

18 CORPORATE GOVERNANCE Governance of the company Poslovni sistem Mercator, d.d., and the group of associated companies is based on legislation, Corporate Governance Code for publicly traded companies in Slovenia, internal rules and regulations laid out in compliance with the ISO standards, and the sound business practice. In 2008, we have adopted the Rules and Regulations on Corporate Governance of the company Poslovni sistem Mercator, d.d., whose key purpose is to address or define the key governance bodies of the company, associated companies, and all stakeholders who significantly affect the governance, management, performance, and development of the company through an interweave of their mutual relations. The company is managed by a four-member Management Board, while a Supervisory Board supervises its activities. The company has the following bodies of governance: Supervisory Board, and Management Board. Shareholder s Assembly, Shareholders Assembly Shareholder rights related to company affairs are asserted in the Shareholders Assembly. Normally, company management convenes the Shareholders Assembly of the Poslovni sistem Mercator, d.d., once per year. The convocation of the Assembly is announced in the Delo daily paper, and in the electronic information dissemination system of the Ljubljana Stock Exchange, d.d., called SEOnet, at least one month prior to the Assembly date. In addition to the location and time of the Assembly, the convocation, or announcement defines the conditions for taking part in the assembly and asserting the voting right, as well as the agenda and proposed resolutions. A shareholder or a proxy may assert the voting right at the Assembly based on a written authorization. Convocation of the Assembly, agenda, proposed resolutions with the relevant explanations, and the Assembly resolutions, are also announced on the official company website at For the 14 th Shareholders Assembly, the company took part in the collection of proxy authorizations from minority shareholders, which was carried out by the PanSlovenian Shareholders Association. In 2008, the 14 th Regular Shareholders Assembly took place; percent of all shares conferring the voting right were represented at the Assembly. The Securities Market Agency issued a decision that prohibits the companies Pivovarna Laško, d.d., Pivovarna Union, d.d., Radenska, d.d., Infond Holding, d.d., and Istrabenz, d.d., the assertion of their voting rights, as it found that the companies are acting in concert 18

19 and that their combined ownership share exceeds the takeover threshold. The shareholders voted in favor of the proposal on the allocation of distributable profit and dividend payment, and granted discharge to the Supervisory Board and the Management Board. Furthermore, they were informed of the Report on Acquisition and Disposal of Treasury Shares, and they supported the introduction of employee participation in company profit. The shareholders appointed the auditing company KPMG Slovenija, podjetje za revidiranje, d.o.o., as the company auditor for The Assembly did not adopt the resolution on the appointment of the new Supervisory Board member. In addition, none of the counter-proposals on the appointment of a Supervisory Board member was supported. Supervisory Board Fundamental function of the Supervisory Board is supervising the management of company affairs. One half of the members, who represent the interest of the shareholders, are appointed by the Shareholders Assembly, while the members who represent the interests of the employees, are appointed pursuant to the Worker Participation in Management Act, by the Council of Group Employees. Members of the Supervisory Board are elected for a four-year term and may be reelected. Pursuant to the relevant legislation and the provisions of the Rules of Procedure of the Supervisory Board, the Supervisory Board must hold a meeting at least once per quarter year; the semi-annual meeting is also compulsory. In the company Poslovni sistem Mercator, d.d., the Supervisory Board holds at least five regular meetings per year. The methods and organization of work, convocation / summoning of the meetings, and other affairs relevant to the activities of the Supervisory Board of the company Poslovni sistem Mercator, d.d., are defined in the company Articles of Association and the Bylaws, and in the Rules of Procedure of the Supervisory Board. In 2008, members of the company Supervisory Board received attendance fees of EUR 200 net per meeting, while the Supervisory Board chairman received attendance fee of EUR 350 net per meeting. At its regular meeting on June 27 th 2007, The Shareholders Assembly adopted the resolution on monthly payments as of January 1 st 2007; according to this resolution, Supervisory Board chairman shall receive EUR 2,500 per month, while the other members will receive EUR 1,500 per month. At its 18 th meeting held on November 11 th 2008, the Supervisory Board appointed the Audit Committee for the period until October 30 th

20 Presentation of the Supervisory Board members As at December 31 st 2008, the company Supervisory Board consisted of ten members. Supervisory Board Chairman Robert Šega Education: MS Electrical engineering s & Electronics, BS Electrical Engineering Employment: Business advisor to the company Epakta, d.o.o., Škofja Loka Members of the Supervisory Board representatives of capital Kristjan Sušinski, deputy chairman Education: BA Economics Employment: Executive Director of Finance at Istrabenz, d.d. Membership in Supervisory or Management Boards of other companies: Intrade Energija, Sarajevo Matjaž Božič Education: BS engineering, MBA Employment: Deputy director of the company CDE nove tehnologije, d.o.o., Ljubljana Dušan Mohorko Education: LL.B. Employment: Attorney at Law in Maribor Membership in Supervisory or Management Boards of other companies: Radgonske Gorice, d.d., Večer, d.d. Mateja Vidnar Education: MA Economics, MBA, BA Economics Employment: Management Board member of the company Zvon ena holding, d.d., Maribor Membership in Supervisory or Management Boards of other companies: Cinkarna Celje, d.d., TKK Tovarna kemičnih izdelkov Srpenica, d.d., Terme Olimia, d.d. 20

21 Supervisory board members employee representatives Ksenija Bračič Education: LL.B. Employment: Director of Legal Affairs Office in Poslovni sistem Mercator, d.d. Membership in Supervisory or Management Boards of other companies: Mercator Emba, d.d. Jože Cvetek Education: BA Economics Employment: Director of financial-accounting sector of the company Eta, d.d., Kamnik Dragica Derganc Education: LL.B. Employment: Advisor to the director of the Legal Affairs Office in Mercator, d.d. Jelka Žekar Education: BA Economics Employment: Assistant to the Management Board for marketing and purchasing / procurement in the company Poslovni sistem Mercator, d.d. Ivica Župetić Education: BA Economics Employment: Head of the investment sector at Mercator H, d.o.o. Management Board The company Poslovni sistem Mercator, d.d., is managed by the Management Board consisting of a president and three members. The president submits to the Supervisory Board a proposal for the appointment of the remaining Management Board members, and Supervisory Board appoints the entire Management Board for a five year term, with unlimited entitlement for re-election. The number of Management Board members and their respective fields of work and responsibilities are defined as proposed by the president of the Management Board and confirmed by the Supervisory Board in the Management Board Act. The Management Board manages company affairs independently, responsibly, and to the benefit of the company. 21

22 By the resolution of the Supervisory Board dated December 13 th 2005, members of the Management Board of the company Poslovni sistem Mercator, d.d., were appointed for a five-year term, starting on January 1 st All Management Board members of the company Poslovni sistem Mercator, d.d., signed their respective fixed-term employment agreements with the company Poslovni sistem Mercator, d.d., for the period of five years, which is consistent with the duration of their mandate. Presentation of the Management Board members As of January 1 st 2006, the Management Board of the company Poslovni sistem Mercator, d.d., consists of the president and three members, appointed for a five-year term. Following is their brief presentation. Management Board president - Žiga Debeljak Education: MScBA, BS Computer Engineering Fields of responsibility: Coordination of management and the Group Development and investment IT Finance, controlling, accounting, internal audit, and investor relations Other responsibilities Member of the Administrative Committee of the Manager Association (as of 2007) Member of the Council of the Faculty of Economics in Ljubljana (as of 2007) Member of the Economic College of the University of Ljubljana (as of 2006) Membership in other administrative or supervisory bodies of non-associated companies: Supervisory Board Chairman at the company Pokojninska družba A, d.d. (Retirement Fund A) Member of the Supervisory Board of the Ljubljana Stock Exchange, d.d. (as of January 2009) Management Board member in charge of human resources, organization, legal and general affairs Vera Aljančič Falež Education: LL.M., LL.B. Fields of responsibility: Human resource management Organization and quality Legal affairs 22

23 General affairs Procurement of non-trade goods Real estate management Other responsibilities Since 2006, member of the Administrative Board of the Slovenian Chamber of Commerce, Member of the Council of the Institute of Innovation and Development of the University of Ljubljana Member of the Pension Plan Committee of Pokojninska družba A, d.d. (Retirement Fund A) Member of the Economic and Social Council Management Board member in charge of marketing and procurement - Mateja Jesenek Education: MBA, BA Economics Fields of responsibility: Market research, development of products and services, market communication, customer loyalty systems Public relations Purchasing and marketing of products and services in the segments of market program, hardware and electronics, apparel, Intersport, and tourism Marketing support Store format development Supplementary trade services Other responsibilities Member of the Administrative Board of the International Committee of Food Retail Chains CIES Supervisory Board member at the Slovenian Marketing Society Honorary President of the society for promoting women in culture The City of Women ("Mesto žensk") President of the Program Council of the 14 th Slovenian Marketing Conference member of the UNICEF Economic Council Management Board member in charge of retail, wholesale, and logistics - Peter Zavrl Education: BA Economics Fields of responsibility: Retail Wholesale 23

24 Logistics Internal manufacturing Operating activities support Other responsibilities President of the Handball Club Krim Mercator President of the Supervisory Committee of the Radioklub Kranj Audit Committee The activities of the Audit Committee are aimed at further improvement of performance of the supervisory function in the company. The tasks of the Audit Committee include monitoring the process of financial reporting, monitoring the efficiency of internal control in the company, internal audit and risk management systems, monitoring the compulsory audit of annual and consolidated financial statements, reviewing and monitoring the independency of the auditor appointed to audit the company Annual Report, particularly in terms of providing additional non-audit services, proposing to the Supervisory Board the candidate to be appointed as the company Annual Report auditor, supervising the validity of financial information submitted by the company, estimating the compilation of the Annual Report, including submitting a proposal to the Supervisory Board, taking part in the defining the key auditing areas, taking part in the preparation of an agreement / contract between the auditor and the company, performing other tasks defined either by Articles of Association and Bylaws or a Supervisory Board resolution, and working with the auditor during the company Annual Report audit. The Audit Committee in the company Poslovni sistem Mercator, d.d., for the period until October 30 th 2009 shall consist of the president (Mrs. Mateja Vidnar, Supervisory Board member) and two members (Mr. Jože Cvetek, Supervisory Board member, and Mr. Peter Ribarič, independent expert on accounting and auditing). The Audit Committee is performing its duties pursuant to the provisions of the Companies Act. The Members of the Committee receive an attendance fee of EUR 200 net per meeting, and the attendance fee for the president of the Audit Committee amounts to EUR 350 net. For performing her duties, the president of the Audit Committee shall in addition receive a monthly compensation in the gross amount of EUR 1,250, while gross monthly compensation for the two members amounts to EUR 750. Management of Subsidiaries Mercator Group consists of the parent / controlling company Poslovni sistem Mercator, d.d., and its subsidiaries in which the parent company holds directly or indirectly the majority interest or the majority of voting rights. Parent company controls its subsidiaries within a single Management Board. Subsidiaries are incorporated, organized, and managed based on compulsory instructions of unified management as defined by the governance bodies of the parent company in accordance with the relevant legislation. 24

25 The company Poslovni sistem Mercator, d.d., as the parent company of the Mercator Group, operates by the principles of improving business performance in each subsidiary and the Group as a whole, common harmonized development of the Group, optimal supply of general consumer goods and services in all markets of Group's operations, improving competitiveness, efficient allocation and coordination of material flows, harmonized and coordinated procurement and sales at home and abroad, financing current operations and development with common funds, and security, risk and liquidity management, and maximum profitability of financial management. In Slovenian subsidiaries incorporated as limited companies (d.o.o.), the parent company Management Board performs the function of company Assembly. In new markets, the parent company Management Board, either entirely or partially (with involvement of only some of its members), takes part in the work of the Supervisory Boards of these companies, as well as in the Management Board and its Shareholders Assembly. All subsidiaries incorporated as joint-stock companies are supervised by a Supervisory Board. Audit In today's constantly and continuously changing environment, efficient and successful business operation requires the right information at the right time. Whilst the management of the company is responsible for providing relevant accounting information, the paramount task of internal and external audit is to minimize the risks appearing in their preparation as much as possible. In Mercator Group, this is achieved by: clear and concise accounting practices and their strict implementation; completely synchronized accounting policy throughout the entire Group; comprehensive and extensive disclosures and explanations; timely preparation, detailed treatment, and suitable data selection in statements relevant for financial reporting; preparation of financial statements in line with the International Financial Reporting Standards (IFRS); regular monitoring of the accounting and controlling process, as well as other business processes within the internal and external auditing procedures. Internal auditing The independent support function of internal audit has been introduced in the Mercator Group in the year 2000, functioning both within the parent company and at the Group level. Basic function of internal audit is perpetual development and monitoring of the internal control systems from the aspect of managing all sorts of risks of operations and other risks to which the Mercator Group is exposed. The aim of internal audit is to provide assistance to the top management and other levels of management in the improvement of asset management of the Mercator Group, 25

26 enhancement of quality, economization and effective business operations within the scope of adopted strategies, business policies, and business and financial plans. Internal audit performs regular and extraordinary auditing of particular areas of operations of the Mercator Group companies, and provides collaboration with external auditors. During the year 2008, internal audit carried out the auditing of the implemented measures and financial effects of the projects related to Optimization of Operations of the Mercator Group and category management. Internal audit department also carried out the internal audit of the process of nontrade goods and services procurement, internal audit of the wholesale process in our Serbian subsidiary, another internal audit of insurance of property, property interest, and persons, and internal audit of bookkeeping entries and records of certain accruals and deferrals in financial statements in all subsidiaries abroad. In 2009, we will carry on the activities of auditing implemented measures and financial effects of the Mercator Group Business Operation Optimization projects, take part in the implementation of the new authorization system in SAP, and focus on auditing the operating cost rationalization measures in the Mercator Group, key risk management measures, external and internal regulations related to protection of competition, and certain other business processes. External auditing External auditing is carried out by the certified auditing company, which in addition to regular annual audit of the financial statements of the company also provides continuous expert consulting and proposals for the improvement of the internal control systems for the management of all types of risks. Consistently with the resolution adopted at the 14 th regular Shareholders Assembly of the company Poslovni sistem Mercator, d.d., auditing company KPMG Slovenia, podjetje za revidiranje, d.o.o., was selected as the external auditor for the year 2008 as well. Communication with Shareholders and Reporting The strategy of communication with the shareholders, financial analysts and institutions, media, and the general public, is based on the pursuit of transparency and clarity of our operations; this is achieved in Mercator by regular and timely announcement of information on the company status, as well as on major changes in company operations. Implementation and development of the system of communication with shareholders and the financial community is the responsibility of the Department of Relations with the Financial Community, in close cooperation with relevant sectors that provide information, and company management. In the process, various communication tools are employed, including press releases and public announcements, press conferences, presentation publications, and various materials and announcements published on the company website. A significant part of communication with the financial community 26

27 takes place through announcements on the Ljubljana Stock Exchange website, within the SEOnet, the electronic information dissemination system, where we have been publishing all announcements simultaneously in Slovenian and English since 2005, and where we have published all financial statements and reports for the company and the group in compliance with the International Financial Reporting Standards. In 2008, we met at regular meetings with various members of the financial community. We also took part in the Days of Slovenian Capital organized by the Ljubljana Stock Exchange and the Central Securities Clearing Corporation in Ljubljana. At the event, Mercator was presented to various domestic and international portfolio issuing authorities. In March 2008, we met with our financial partners for the seventh consecutive year. We presented them the Mercator Group development policies for 2008, business performance in 2007, and the Group financial policy for For several years in a row, we have been selected among the few Slovenian companies nominated for the Portal award award for best relations with investors and other interest groups. The strategy of communication with the shareholders and financial community is successfully complemented by our Annual Report, as we invest our efforts into improving its form and contents, in compliance with the relevant legislation and with consideration for the response and requirements of the broader public. An outline of the financial calendar, i.e. the schedule of major announcements and events for the current year, is also published at the beginning of each year in SEOnet, the electronic information dissemination system of the Ljubljana Stock Exchange, d.d. 27

28 Declaration of Compliance with the Corporate Governance Code for Publicly Traded Companies The Management Board and the Supervisory Board of the company Poslovni sistem Mercator, d.d., with headquarters at Dunajska cesta 107 in Ljubljana, herewith submit the Declaration of Compliance with the Corporate Governance Code (hereinafter called The Code, dated February 5 th 2007) which forms part of the Annual Report for the year 2008 and is available on the company web site at The statement relates to the period from January 1 st 2008 to December 31 st The management of the company Poslovni sistem Mercator, d.d., is based on legal requirements, sound business practice, and the principles of the Corporate Governance Code for Publicly Traded Companies. The Corporate Governance Code (dated February 5 th 2007) is available at the web site of the Ljubljana Stock Exchange at in Slovenian and English language. Management Board and Supervisory Board of the company Poslovni sistem Mercator, d.d., have revised the compliance of corporate management in the company Poslovni sistem Mercator, d.d., and the Mercator Group with the Code, and prepared a new statement which reflects the actual situation of corporate management in the company Poslovni sistem Mercator, d.d., and the Mercator Group. It was found that corporate governance in the company Poslovni sistem Mercator, d.d., and the Mercator Group is compliant with the provisions of the Corporate Governance Code for Publicly Traded Companies. Since the end of the accounting period until the announcement of this statement, no changes have occurred with regard to corporate management. 28

29 BUSINESS REPORT 29

30 BUSINESS STRATEGY OF THE MERCATOR GROUP Strategic policies and strategic goals of the Mercator Group for the medium term period were adopted in December A summary thereof was published on December 18 th 2007 in the SEOnet, the electronic information dissemination system of the Ljubljana Stock Exchange, d.d. VISION To be the leading retail chain with FMCG program (market program) in Southeastern Europe. MISSION Our business is aimed at creating: benefit for the customers by providing excellent retail services, high-quality goods and competitive prices, benefit for employees by providing a safe and pleasant working environment and a possibility of personal and professional development, benefit for suppliers by taking part in the development of high-quality and innovative products and by providing the possibilities for growth in Slovenia and in emerging markets, benefit for shareholders by attaining a profitable growth of business operations, improving business efficiency, and increasing the company market value, benefit for wider environment by a responsible attitude towards our natural and social environment and by respecting the business ethics and social values in all fields of operation. CORPORATE CULTURE VALUE We are bound by trust and mutual respect. Our values are: o sound teamwork, o sincere relationships, o encouraging creativity, o motivating the fellow workers. Nobody knows the customer preferences better than we do. Our values are: o unwavering education at home and abroad, o constant transfer of knowledge, 30

31 o ensuring personal growth and development, o excellent staff competitiveness. Our operations are always diligent and transparent at all levels. Our values are: o competitiveness as the foundation of any partnership, o accessibility of key information, o consistency and honesty. We are expanding with a sound corporate culture. Our values are: o training key human resources for assuming international tasks, o understanding the differences and adapting to local environment. STRATEGIC POLICIES OF MERCATOR GROUP 1. TO REMAIN THE LARGEST RETAILER IN SLOVENIA: To retain the leading market share of market program in Slovenia, primarily by the following activities: improving the competitiveness of our offer, developing the retail network. 2. TO BECOME THE LEADING RETAILER ON NEIGHBORING MARKETS OF SE EUROPE: To become the largest or second largest retailer with market program in the markets of Croatia, Serbia, and Bosnia and Herzegovina, by: strategic combinations and alliances, development of our own retail network. 3. TO ENTER OTHER SE EUROPEAN MARKETS: To enter or enable the entrance to other markets in Southeastern Europe, where we could become one of the five leading retailers with market program; this will be attained by: purchasing and leasing attractive locations, development of our own retail network, strategic combinations and alliances. 4. TO DEVELOP NON-MARKET PROGRAMS: To develop non-market programs and supplementary programs that will: enable reaping the potential of positive synergies with market program and/or provide a concept for development of second fundamental commercial program with a long-term potential of growth and profitability in the target markets, foster the development of long-term competitive advantages. 5. TO ASSURE PROFITABLE OPERATION: Ensure profitable operation by: measures for retaining the level of trade margins, measures for cost rationalization and increasing the productivity, measures for increasing the productivity of invested capital. 31

32 STRATEGIC GOALS The strategic goals are defined based on the Medium Term Business Plan of the Mercator Group for the period GROWTH OF NET SALES REVENUES FROM TRADE a. average annual nominal growth in EUR: approximately 9 % 2. TARGET MARKET SHARES a. Slovenia 36% 36% 35% b. Croatia 7% 12% 15% c. Serbia 8% 10% 15% d. Bosnia and Herzegovina 5% 7% 10% e. Montenegro 4% 5% 10% f. Macedonia - - 5% g. Bulgaria - 1% 3% 3. INVESTMENT AND SOURCES OF FINANCING a. annual investment in the average amount of EUR million, financed by own sources and additional debt capital; b. issuing new capital for forming any major strategic combinations. 4. SUCCESSFUL BUSINESS PERFORMANCE AND EFFICIENCY a. on average, growth of gross cash flows from operating activities should be 1 percentage point higher than the growth of net sales revenues b. at least 1 % average annual growth of economic labor productivity in the period ; c. at least 1 % annual growth of productivity of invested capital in the period

33 ECONOMIC CONDITIONS IN 2008 The effects of the global financial crises directly affect the retail and wholesale industry and therefore Mercator's operations in all markets. These effects are manifested as gradual changes in the composition and volume of consumption, inflationary pressures on all types of operating costs, and restricted access to new sources of financing as the financing costs tend to rise. Accordingly, the risk of refinancing the current short-term financial liabilities and due installments of longterm financial liabilities, and the risk of decline in real purchasing power of the consumers are the key risks in 2009; the Group is taking active measures to deal with both. The beginning of 2008 saw a considerable volatility of interbank offered interest rates Euribor, resulting from inflationary pressures and conditions in financial markets; in addition, pressures on interest rate margins also built up. Harsh conditions in all markets of Mercator's operations persisted. The period of rising food and fuel prices was followed by the beginning of cooling and eventual slowdown of global economies, which further worsened the financial crisis whose severity and depth became even more evident in the third quarter of Mercator responded to the adverse conditions by dedicating even more effort to development of private label products, particularly in the most affordably priced generic line. We also reduced trade margins for numerous products, thus mitigating the effect of the price increases on our customers. Despite all negative pressures on Mercator's operations, our performance was consistent with the plan. Through internal optimization processes we acquired some headroom for improvement of our competitive position in the market by offering lower prices and adjusting the assortment, while the operation optimization measures, simultaneously with reaping the economies of scale, allowed for successful compensation of the negative cost pressures. Slovenia According to initial estimates, economic growth in Slovenia in 2008 amounted to 4.1 percent which is lower than the year before (6.8 percent). The decline in economic growth is primarily the result of a slowdown in economic activity in the second half of the year, resulting particularly from a major decrease in exports of goods and industrial manufacturing volume in processing industries. In Slovenia, the average annual inflation in 2008 amounted to 5.7 percent. The average inflation level was considerably pulled upwards by rather high inflation rate in the first half of the year; in the second half, the inflation rate steadied and decreased. In December, annual (year-to-year) inflation amounted to 2.1 percent. 33

34 Croatia According to the first estimates, Croatia's economic growth in 2008 amounted to 2.1 percent which is less than in 2007 (5.6 percent). In 2008, current account deficit rose predominantly due to lower exports and dependence of Croatian economy on tourism. In December 2008, inflation amounted to 3.6 percent. The first three quarters of 2008 saw the appreciation of the Croatian currency, the kuna, in relation to euro; however, in December 2008, this was followed by a depreciation that pulled kuna down to the level from the beginning of Average annual euro exchange rate of Croatian kuna amounted to 7.2 in 2008 (7.3 in 2007). As at December 31 st 2008, the final exchange rate amounted to 7.4, which is 0.3 percentage point higher than the final exchange rate in Serbia According to the early estimates, Serbian economic growth in 2008 amounted to 5.5 percent. The main fuel of economic growth in this country is transport, financial services, agriculture, and trade. In December 2008, inflation rate amounted to 6.8 percent. In the first three quarters of 2008, the Serbian dinar, too, appreciated compared to euro; however, this was followed by a steep depreciation in the last quarter of the year. Average annual exchange rate of the Serbian dinar in 2008 amounted to 81.1 dinar per EUR (79.7 in 2007). As at December 31 st 2008, the final exchange rate was 89.4, which is 7.8 percent more than the final exchange rate in Bosnia and Herzegovina Despite numerous political, economic, and social problems, economic growth in 2008 reached 5.8 percent according to the most recent estimates. In December 2008, inflation amounted to 3.2 percent. The financial crisis is expected to result in a decline in foreign direct investment and consequentially lower exports which will in turn adversely affect economic growth rate. The exchange rate of the convertible mark is pegged to the euro. Montenegro In 2008, Montenegro took further steps towards the accession to European integrations. Montenegrin economy saw a high level of growth, reaching as much as 8 percent. The growth was fuelled predominantly by increase in household consumption and gross investment. According to the first estimates, average annual inflation in 2008 amounted to 8 percent. The currency used in the country is euro. 34

35 DEVELOPMENT AND INVESTMENT In 2008, Mercator Group's investment into property, plant, and equipment amounted to EUR 298,305 thousand, of which 41 percent was invested abroad. The majority of funds were allocated for construction of shopping centers and acquisition of landed property for shopping centers and hardware and electronics stores. Additional funds are also being allocated for refurbishment of existing shopping centers. New long-term financial investments in the period 2008 amounted to EUR 15,104 thousand, which is related to the acquisition of additional 12-percent ownership share of the company M-Rodić, d.o.o., which has made the company Mercator, d.d., an owner of 88 percent of the equity of the company M-Rodić, d.o.o., and the acquisition of shares of the companies Evolution, d.d., and Pekarna Grosuplje, d.d. Investment breakdown Country Capital expenditure (in EUR 000) Long-term financial investments (in EUR 000) Total (in EUR 000) Structure in % Slovenia 176,261 4, , % Serbia 29,776 10,765 40, % Croatia 55, , % Bosnia in Herzegovina 35, , % Montenegro 1, , % Macedonia % Bulgaria % TOTAL 298,305 15, , % SLOVENIA On January 23 rd 2008, Mercator center Koper II was opened, with 5,150 square meters of total area and 203 parking spots. The center includes a hypermarket, hardware and electronics store with a gardening center, and a café. On March 19 th 2008, we opened a hypermarket and Intersport in the Shopping center Supernova in Rudnik, Ljubljana. The hypermarket extends over an area of 5,983 square meters, while the Intersport store has a total area of 1,704 square meters. To obtain the location for both stores, Mercator concluded a long-term lease contract; thus, Mercator's investment only amounted to final construction works in the interior and purchase of required equipment. On June 13 th 2008, we opened the refurbished Mercator Center Ptuj, a facility with a total area of 5,861 square meters and 254 parking spots. The hardware and electronics store was relocated to Trade Center Ptuj, and the resulting vacant 35

36 capacity was used to expand the hypermarket. Remaining available space was leased out to three supplementary offer providers. On September 4 th, we opened the refurbished hypermarket in the basement floor of the Maximarket department store. Thus, we launched a retail unit offering market program goods, services, and shopping comfort of the highest quality. Simultaneously, the frontage of the Maximarket department store was also revamped. On October 1 st 2008, we opened the Trade Center Šentjernej which extends over a total area of 1,757 square meters and offers 103 parking spaces. It includes a hypermarket, Modiana, and two outlets leased to supplementary offer providers. Also on October 1 st, we opened a supermarket on Poljanska Street in Ljubljana. The supermarket has a total area of 1,812 square meters and includes 95 parking spots. On November 14 th 2008, we opened Mercator Center Postojna with a total area of 12,024 square meters and 372 parking spots, of which 291 are located in a parking garage next to the Center. In addition to the standard offer of the center (hypermarket, Intersport, Modiana, Beautique, hardware and electronics, 22 outlets leased to supplementary offer providers), the basement floor of the center hosts an independent Cash&Carry store. On December 8 th 2008, we opened the hypermarket Šmartinska in Ljubljana, which includes 10 supplementary offer outlets. Total area of this facility amounts to 8,720 square meters. Customers are also offered 464 parking spots, of which 298 are in the parking garage above the trade floor. Other openings Opening of the new supermarket in Šmartno and new superettes in Škocjan and Benedikt, respectively, opening of the Center of Hardware, Electronics, and Construction in Sevnica, and a Hardware and Electronics Center in Mercator Center Maribor Tabor, and relocation of the fruit and vegetable warehouse to the refurbished location Bohova in Maribor. 36

37 FOREIGN MARKETS SERBIA On March 20 th 2008, we opened Mercator Center Niš with a total area of 21,459 square meters and 502 parking spots; of these, 220 are roofed. The facility includes a hypermarket, Intersport, Fashion Avenue, Beautique, hardware and electronics store, restaurant, and 57 supplementary offer facilities leased to other service providers. The company Mercator S, d.o.o., signed a long-term lease agreement for the facility. On June 26 th 2008, we opened the first Roda Cash & Carry center in Belgrade, in a leased facility. The center comprises 15,081 square meters of total area and includes 9 supplementary offer facilities. There are 20 cashiers for individuals and 10 cashiers for businesses (legal entities). Special offer and packaging is intended for businesses which can now obtain all the supplies they need at one place at the most favorable prices. On August 30 th 2008, we opened a Roda Center in Kragujevac, with a total area of 18, 265 square meters and 394 parking spots of which 269 are located in the facility ground floor, under the trade area floor. The Center includes a hypermarket, Intersport, Modiana, Beautique, hardware and electronics store, and 61 outlets leased out to supplementary offer providers. Mercator obtained the facility through a long-term lease agreement. On December 12 th we opened the Roda center Sremska MItrovica with a total area of 5,481 square meters and 89 parking spots, of which 34 are located in a parking garage for which a part of the ground floor was allocated. The center includes a supermarket, hardware and electronics store, and seven outlets leased to other service providers. Other openings Opening of new supermarkets in Kula, Smederevo, Kanjiža, a superette in Palić, three outlets (Intersport, Modiana, Beautique) in the Sremska Mitrovica department store, Modiana Outlet in Novi Sad, opening of a refurbished Intersport, Avenija Mode (Fashion Avenue) and a Beautique in Mercator Center Belgrade, two superettes in Novi Sad, and a superette in Niš. CROATIA On October 29 th 2008, we opened the Trade center Križevci with a total area of 3,138 square meters and 130 outdoor parking spots. The center includes a supermarket, Intersport, and four outlets leased to supplementary offer providers. 37

38 On November 25 th 2008, we opened the Trade Center Labin with a total area of 3,329 square meters and 124 parking spots, all of which are in a parking garage. The center includes a supermarket, Intersport, café, and seven outlets leased to supplementary offer providers. On December 18 th 2008, we opened the Trade Center Koprivnica with a total area of 4,526 square meters and 220 parking spots, of which 168 are in a parking garage, the center includes a supermarket, Intersport, Modiana, café, and 13 outlets leased to supplementary offer providers. Other openings 2008 saw the opening of new supermarkets in Poreč, Umag, Pula, Buzet Stari Grad, hardware and electronics store in Zagreb-Dubrava, and refurbished supermarkets in Duga Resa, Senj, refurbished Intersport and Modiana in Mercator Center Zagreb I, and a refurbished hardware and electronics store in Mercator Center Osijek. BOSNIA AND HERZEGOVINA On July 22 nd 2008, we opened a newly built supermarket Čapljina with 4 supplementary offer outlets. Total area of the facility amounts to 1,998 square meters; it also includes 66 outdoor parking spots. On December 2 nd 2008, we opened the Mercator Center Brčko; the center, operating in a leased facility, includes a total area of 7,525 square meters and 199 parking spots, of which 66 are in a parking garage. The center includes a hypermarket, Intersport, Modiana, Beautique, and 20 outlets leased to supplementary service providers. Mercator acquired the center by a long-term lease contract. On December 5 th 2008, we opened the Trade Center Bosanska Gradiška with a total area of 3,318 square meters and 160 outdoor parking spots. It includes a supermarket, Intersport, Modiana, Beautique drugstore, and nine outlets leased to supplementary service providers. Other openings Supermarkets were opened in Senjak, Kalesija, and Banja Luka. In 2008, we activated a combined gross sales area of 150,851 square meters and acquired 306,199 square meters of landed property for new trade facilities. 38

39 MARKETING Market Share Mercator Group market shares in the markets of its operations have not seen any considerable change in 2008, compared to the market shares in Mercator Group Market shares by markets of operation in 2008 Slovenia Serbia Croatia Bosnia and Montenegro Herzegovina Market share 36.0% 8.0% 6.0% 2.0% 4.0 % Source: market share in Slovenia Mercator market share survey (a survey by Valicon); market shares abroad various market research and Mercator estimates. Marketing Strategy By offering added value for the customer and providing modern and pleasant shopping experience, we wish to elevate Mercator to the position of the most competitive retailer in the market.! Our customers will be offered services and products fitting today's modern way of life! Environmental responsibility and health! Innovativeness in the offer of products and services Changed social and economic conditions have led us to devise activities in the field of marketing and procurement / purchasing, and define priorities, which include the following:! Customer care and adjustment to the new market conditions: intensive adjustment of prices of the most commonly sold products! Upgrade of the customer loyalty system! Development of private label line products! Adjustment of the sales assortment and sales area! Rationalization of costs in marketing activities, but not at the expense of the customer benefits! High level of service! Social accountability 39

40 Customer Relationship Management Customers are our prime asset We are keenly aware that the customers are our prime asset. Therefore, we are strongly focused on their requirements and wishes. The customer loyalty system the Mercator Pika card enables us to study and analyze the card holders, their shopping habits, while the needs of other customers are established through market research. Mercator Pika card holders were followed by preparing special activities based on rational benefits (bonus system, special Pika discounts, double or triple points, the "Dot on the 'i'" campaign, etc.) and activities with added value or additional emotional component various events and the contents of clubs (Healthy Living, Maxi Club, M Mobil). In order to better meet our customers in 2008, we started developing the missing, yet vital elements required to establish a campaign-oriented system of customer analysis, which would enable us to pursue our strategy of customer relationship management. Hence, we have already defined the goals and the strategy of customer relations management and commenced the process of selecting the partner who will support us in data processing and acquisition of knowledge on our customers. Mercator Pika Card Customer Loyalty System At the end of 2008, there were 1,271,837 Mercator Pika card holders in all markets of our operations. In 2008, the number of card holders rose compared to the end of 2007 by 193,001. Mercator Pika card holders Slovenia Serbia Croatia Bosnia and Herzegovina Total as at December 31 st ,380 83, ,757 71,868 1,078,836 as at December 31 st , , ,418 92,551 1,271,837 New holders in ,471 45,186 43,661 20, ,001 In Slovenia, the share of total retail revenues generated by payments with the Mercator Pika card amounted to 50.8 percent in 2008 (49.7 percent in 2007). Given all markets of Mercator's operation together, this share amounted to 40.6 percent (43.8 percent in 2007). Lower share of revenues pertaining to Mercator Pika card payments, compared to 2007, is mostly the result of the inclusion of Mercator Pika card operations in the company M-Rodić where the related activities were only launched in October The share of revenues related to Mercator Pika card payments in this company currently amounts to 12.0 percent and it is rising steadily. In the last three months of 2007 when the card was introduced, the share amounted to 3.4 percent. 40

41 Share of Mercator Pika card payments in total retail revenues Slovenia Serbia Croatia BiH Montenegro as at December 31 st ,7 % 24,7 % 32,0 % 36,3 % - as at December 31 st ,8 % 15,44 % 29,6 % 32,6 % - In cooperation with partners in the Mercator Pika card system, we prepared each month the Special Pika Discounts campaign which included offering to Mercator Pika card holders a wide selection of products and services at truly favorable prices (up to 50 percent lower). In 2008, we carried out 14 corporate campaigns Double Pika Points. In December, we also picked two Sundays when triple Pika points were awarded. In November 2008, we carried out the transition to the new Mercator Pika card support system in all markets. Revision of the Mercator Pika card customer loyalty system included replacing the POS terminals at all points of sale at Mercator, in franchises, and with Partners who accept the Mercator Pika card as a method of payment and bonus collection. Support systems were also changed in the Call Center and Mercator Clubs in all markets. In addition to the previously existing benefits, the new system provides even simpler transactions and processes, cost rationalization, higher level of services, and new options for upgrading the customer loyalty systems. The revised support system introduces a new foundation for identification of the Mercator Pika card holder. Analysis of the shopping basket / sessions, in addition to other already known information on the card holder, will enable us to plan marketing activities with special offer adjusted to individual segments or consumers. Maxi Club The purpose of the Maxi Club is to provide links among people who like shopping in the tranquil environment of the Maxi department store and who value the high quality of offer and expert service. Maxi Club is aimed at attaining an even more adjusted and customized approach to loyal customers at the Maxi department store. In 2008, we upgraded the customer loyalty system to make it even more appealing to the club members, as well as revised the entire corporate image of the club. M Mobil By launching the M Mobil service in 2006, Mercator became the first retailer to enter the mobile telephony market in Slovenia 41

42 Healthy Lifestyle Club In June 2008, the Healthy Lifestyle Club ("Uživajmo zdravo") celebrated its second anniversary. The club is intended for people of all ages who are bound by the idea of a healthy lifestyle. In 2008, our members received four issues of the Healthy Lifestyle Magazine through direct mail, including special supplements, and 12 monthly electronic newsletters with current news. At the website, any questions submitted by the club members were answered for the third year by the club experts, and the members were also invited to take part in several prize competitions and view interesting videos that were introduced in At the end of December 2008, the club had a total of 42,340 members, 25,728 of which joined in Compared to the average Mercator Pika card holder, a member of the Healthy Lifestyle Club on average spends more each month, conducts more shopping sessions, and uses the green and golden Mercator Pika card more often. M Holidays The M Holidays service includes marketing tourist arrangements in cooperation with the tourist agency Kompas. Each month, attractive offers of travel arrangements are prepared and presented on a Mercator Hypermarket flyer and on the website. Each month, we also prepare affordable and interesting offers for Mercator Pika card holders. In 2008, two new M Holidays offices were opened in Novo Mesto and Celje, respectively, in addition to the existing ones in the Maximarket and Mercator Center Šiška in Ljubljana. In 2009, we are planning on offering independent tourist services and expand our tourist offices. Mercator Call Center Mercator Call Center was set up in March 2008 in order to offer our customers and Mercator Pika card holders a simple, friendly, fast, and efficient way to obtain any information or answers to questions they might have. The center is available 24/7 and its technology enables daily monitoring of the reasons of the call, electronic mail and fax messages received, and revision of previous contacts with each customer or Mercator Pika card holder. The requests, proposals, and opinions of the callers are considered individually. On average, the center processes 1,000 contacts daily. The goal of the call center is to centralize the interaction with the customers and users of Mercator services both in Slovenia and abroad. To this end, the project of setting up the call center in foreign markets is under way as well. In 2009, it will have been completed in Croatia, Serbia, and Bosnia and Herzegovina. Mercator Web Store In 2008, we comprehensively analyzed the status of our web store and prepared the strategy of its development. We have also launched the preparations for the introduction of hardware and electronics web store. In 2008, Mercator web store has seen a 42 percent turnover growth compared to the year before. 42

43 Mercator Web Portal The importance of Mercator Web Portal is perhaps most readily illustrated by the following figures: in 2008, the website had 1.2 million visits. In 2008, Mercator received the Netko 2008 award in the category "Comprehensive Corporate Web Appearance". Mercator's web appearance is constantly supplemented with new web presentations. In 2009, Mercator's employment portal will come to life; it will be intended both for those looking for employment and for the current employees. Development of Private Label Lines In 2008, Mercator Group continued to pursue the following goals: preparing the future development strategy for all private label lines, improving the reputation and distinctiveness of the private label lines and preparing various sales promotion activities in order to reach various target consumers; increasing the number of products offered under private label lines, clarity and focus of individual private label lines and building on respective lines with market potential, integration of our own bakery "Pekarna Grosuplje" into our retail network system, growth of the share of private label products in total sales revenues, promoting purchases by sales promotion activities and innovative communication, monitoring trends, sales, efficiency of communication, and setting up a comprehensive quality monitoring system for the safety, quality, and suitability of all products in particular private label lines (testing products within internal focus groups and external testing at the Faculty of Biotechnology and the Institute of Public Health Kranj). Private label products are being developed within the following lines: Mercator Line includes FMCG and offers the best quality to price ratio in the market o As at the end of December 2008, the line included 486 products, of which 324 featured redesigned packaging with the blue strip and appealing photos. o We carried on the redesign of product packaging. o The most popular products were included in "multi pack" sales promotion activities. 43

44 Total Body Care includes body care products intended for customers who shop rationally and are looking for high-quality cosmetic products at the most favorable prices o As at the end of December 2008, the line included 53 products. o In October 2008, we developed a new corporate image of the Total Body Care ("Popolna nega") line which will be included in the Mercator line as a sub-line of cosmetics products. Generic Line includes FMCG for the most pricesensitive customers o As at the end of December 2008, the line included 28 products. o This line of products continues to pursue a clearly defined goal: the lowest price in the market. Ambient Line includes mostly products for interior decoration and design o o As at the end of December, the line included 21 products (the M line included 84 products). It upgrades M-line, which includes home furnishing and accessories. Lumpi includes products for children aged up to 8 o o As at the end of December 2008, 238 products were included in the line. We are preparing a new logo and mascot, and the new products are supervised by the Institute of Public Health Kranj and the Ljubljana Pediatric Clinic. The Wishing Table includes products intended for everyone with a fast lifestyle, looking to spend his or her leisure time with family and friends, or for sports. o As at the end of December 2008, the line included 117 products. 44

45 Healthy Living includes products intended for everyone caring about a healthy way of life and wholesome nutrition. o As at the end of December 2008, the line included 83 products. o The goal of this line of products is to stress the benefit from particular products that match at least one of the criteria for healthy nutrition. Secondary message of this communication is aimed at promoting a healthy lifestyle, exercise, and raising the awareness of the hazards of a modern lifestyle. We have also developed the project "5 Per Day Let the Colors Into Your Life" which is aimed at motivating our customers to consume more fruit and vegetables. In 2008, we prepared permanent special offers and category discounts for a selected type of fruit or vegetable. We have carried on the activities to present and promote the sale of bread from our own bakery. As of June 20 th 2008, the core assortment of bread products of the Grosuplje bakery ("Pekarna Grosuplje") for the entire retail was added to the list of private label products (at the end of December, a total of 46 products from Grosuplje bakery were included in the Mercator private label). Number of products under the Mercator private label Number of products and the share of sales of the Mercator private label products in total retail revenues as at December 31 st 2008 and December 31 st Number of products Share of total sales Number of products Share of total sales Slovenia 2, % 1, % Croatia * % % Serbia * % % Bosnia and Herzegovina * % % * Not accounting for all fragrances, flavors, colors, or designs. 45

46 Sales Promotion Projects Long-term Sales Promotion Projects In 2008, we carried on the projects "Low Price Every Day" and "National Basket" in the entire region. We also carried on the "YES! Coupon" campaign. The customers who buy products with a total value of EUR 50 or more on any given Tuesday, are presented a "YES! Coupon" that grants them a 10 % discount when shopping on the following Tuesday. As a response to the inflationary pressures, we introduced in July 2008 a new sales promotion project called "Locked Price". The project includes over 600 products for which we guarantee that the price will not be increased for six months, thus relieving our customers of the burden of general price hikes. In October 2008, we launched a new customer loyalty program called "Collect and Choose!" ("Zberi in izberi!"). This time, customer loyalty is awarded by free products of the renowned Tognana brand. The purpose of this campaign was to show our customers how valuable their loyalty is to us. Short-term Sales Promotion Projects We have thoroughly revised our communication with regard to advertising our sales promotion activities. The key roles in our advertising materials are played by our sales personnel who interact with the customers to present daily situations from our stores in an amusing way. In the same spirit, we revised the printed advertisements, billboards, and special offer flyers. Short-term activities included regular, hypermarket, and cash & carry campaigns. In March 2008, we revised the Mercator Favorable Shopping Guide. The key changes relate to the definition of criteria for including the products in respective projects (least percentage of price discount relative to the regular price) and the method of labeling the products in the aisles. In April 2008, we launched the activity "Category discount" which includes offering products of an entire category at a 20-percent or higher discount from Thursday through Sunday. The campaign includes products of higher values, usually bought on stock; therefore, this activity introduces a strong incentive for our customers to visit our stores during the campaign. In addition to 46

47 increasing sales of products included in the special offer, the key goal of the campaign is to attract new customers to our stores and offer our loyal customers a convincing reason to return to our stores. In May and June 2008, a special sales campaign focused on the European Football Championship was carried out. We devoted considerable effort to the fruit and vegetable weekend campaigns. The Category Discount for fruit and vegetables, and the "5 per day" campaigns included weekly offers of fresh fruit and vegetables at favorable prices. June 2008, the campaign "Happy Hours" was launched. Happy hours take place on Mondays and Wednesdays between 9 and 11 AM, and 2 and 5 PM. During these hours, products of a particular category are at least 20 percent cheaper. The goal of the campaign is to boost visit at critical locations at a time when there are usually least customers at our stores. As of September, the campaign was extended to all hypermarkets on Mondays and Wednesdays. Other Activities Sales promotion projects were also carried out in non-market programs: Hardware and electronics: In 2008, we provided the required distinctiveness of our hardware and electronics program as perceived by the customers. We established its reputation by offering technologically modern and attractive products and excellent services at competitive prices, both in Slovenia and abroad. The most attention was focused on sales promotion through various sales promotion campaigns. Textile and beauty program: In order to promote the sales of certain seasonrelated products or collections, we carried out various regular seasonal activities. In four major stores, we offered the service of fashion consulting; the service was introduced to improve reputation and to provide additional high-quality service to aid sales in these units. In the Beautique drugstores, we carried out regular campaigns and make-up days in order to promote the sales. To improve customer loyalty, we also prepared a customer loyalty activity based on collection of stamps; upon collecting a certain number of stamps, the customers were given a present. Intersport: During the year, we carried out numerous campaigns aimed at promoting the sales of season-related categories. In order to provide a more comprehensive presentation of the INTERSPORT program, we issued five program guides and three program catalogues. Intersport sponsored mass sporting events and amateur sporting activities in the categories of football, running, cycling, and skiing. We also kept expanding our portal and kept it up to date. 47

48 Sales promotion activities that have proven successful in Slovenia are also carried out in foreign markets. In 2008, we focused in all markets primarily on improving price competitiveness and localization of all marketing projects. STORE FORMATS Existing Store Formats One characteristic feature of trade operations of the Mercator Group is the diversity of its retail network with various store formats both in the market program and in specialized stores of hardware and electronics, textile and beauty, and sports program (Intersport). 47 Mercator Centers and Shopping Centers units These are shopping centers with a wide offer of all Mercator programs, as well as offer of other attractive service providers operating in leased outlets, and the offer of complementary services. Hence, our customers are offered everything at one place. These facilities are located in major urban centers. Roda stores are only present in the Serbian market. They seek to maintain the perception of a low-price competitive retailer with a wide assortment of goods offered. The level of service is adjusted accordingly and is therefore lower than at Mercator centers. Furthermore, marketing mix of the Roda store format is focused on lower prices and it is expanded with several products of the lower price range which are otherwise not offered at Mercator stores. Sales promotion projects are mostly aimed at establishing the perception of Roda as the retailer offering the most affordably priced assortment in the market, and at provision of the lowest prices. Formats of FMCG Program Outlets 725 units Hypermarkets are located in larger shopping centers where people not only do their major weekly shopping, but also socialize and spend their leisure time. Supermarkets and neighborhood stores are located in larger residential and commercial areas, and are intended for daily shopping. 48

49 Comfort stores are located in central or, downtown areas of larger cities. Their program mix is adapted to the requirements of contemporary urban customers who are faced daily with the lack of time. The emphasis is on fresh program and a wide assortment of ready-made food. Web store enables saving time and comfortable shopping. In discount stores, customers are offered rational shopping for basic FMCG. The offer is based on the best ratio between price and quality, while providing the most competitive products in the market. Specialized Store Formats 397 units These store formats are developed for the purposes of activities that supplement our core activity or FMCG retail. Hardware and electronics includes construction centers, independent combined hardware and electronics stores, and interior design and equipment stores. Textile and beauty program comprises the following formats of textile stores, which differ by size, and the scope and level of offer: fashion Avenue ('Avenija mode'), Modiana, and Outlet stores. The offer of beauty program is presented under the Beautique label (drugstores and perfume shops). Intersport Mercator Group is the license holder for Intersport, the world's largest global chain or sports equipment stores; the license applies to the markets of Slovenia, Croatia, Bosnia and Herzegovina, and Serbia. 49

50 Intersport stores are available to customers both within Mercator Centers as well as independently, i.e. as CITY SHOP stores located in the centers of major cities. In tourist resorts, we are developing the so-called SKI&RESORT stores. Composition of retail units Breakdown of the composition of Mercator Group retail units by types of stores, particular programs, and particular markets as at December 31 st 2008 COUNTRY SLOVENIA SERBIA CROATIA BOSNIA AND HERZEGOVINA MONTENEGRO MERCATOR GROUP ACTIVITY Number of Number of Number of Number Gross sales Net sales Number of units Number of units units units units of units area area Hypermarkets Supermarkets Superettes Neighbour stores Cash & Carry Hard discount stores TOTAL FMCG programme Technical programme Technical programme Furniture programme Clothing programme and drugstores Clothing programme Drugstores and perfumeries Intersport Restaurants TOTAL specialised programmes TOTAL Franchise stores TOTAL with franchise stores In addition to the trade outlets in which the companies of the Mercator Group and its franchise partners conduct their trade activity, Mercator Group also leased a total of 202,835 square meters of gross sales area to other business partners as atn 31 st of December The leased facilities are mostly located in Mercator trade centers and they are intended for provision of supplementary trade activities. Development of new store formats In 2008, two new Mercator hypermarkets were opened in Ljubljana (in trade center Supernova in the Rudnik shopping center, and on Šmartinska cesta). This type, or format, of store involves the implementation of an entirely new hypermarket concept introduced for the first time upon the refurbishment of the hypermarket in Ljubljana Šiška. The new hypermarket concept includes modern technological equipment. It is intended for the most demanding customers and offers a neat, attractive shopping environment with a wide choice of high-quality goods at favorable prices. In addition, customers are offered a wide array of additional services that present a competitive advantage over other retailers. 50

51 In the beginning of September 2008, Mercator opened the first store of the new store format the comfort store. The comfort store concept in the Maxi shopping center excels with an attractive, pleasant, colorful, and diverse shopping environment with a dynamic layout and a free shopping route; each section is carefully designed and organized, with emphasis on visual elements The Maxi department store is intended for the most demanding customers which is reflected in the shopping environment, diversity of the offer, additional services, and new approaches to sales promotion. Development of new technologies and services In 2008, the following activities were conducted with regard to development of new technologies and services: We have continued to introduce new technologies into our stores. "Tik-Tak" selfcheck-out cashiers were installed in 13 Mercator hypermarkets and two supermarkets; 112 of such devices are already in operation in Slovenia and Croatia combined. They are increasingly popular among the customers; the average share of purchases completed at these cashiers has already reached 25 percent. We also carried on the introduction of info stands for the categories of wine, fresh meat, and fresh fruit and vegetables. The said info stands were introduced in hypermarkets in Slovenia; furthermore, the project is fully under way in Croatia as well. In Slovenia, intensive preparations are under way to introduce the stands in two new categories: hard liquor and cosmetics. We have also prepared the project of introducing info terminals to Mercator's biggest centers. These terminals will allow the customers access to information on the assortment offered at the Center and the hypermarket, as well as a book of suggestions and remarks, special campaigns flyers, etc. We also extended the offer of our photography services. Thus, photo corners were introduced in sixteen more stores. SALES In 2008, Mercator Group net revenues from sales amounted to EUR 2,709 million, which is 10.8 percent more than in Mercator Group net revenues from sales by geographical segments 2007 Serbia 14% Bosnia and Herzegovina 3% 2008 Serbia 17% Bosnia and Herzegovina 3% Črna Gora 1% Croatia 13% Slovenia 70% Slovenia 66% Croatia 13% 51

52 In Slovenia, net revenues from sales of the Mercator Group amounted to EUR 1,782 million in 2008, which is 4.0 percent more than in the year before. The increase is mostly the result of highly committed marketing activities and opening of new and refurbished retail units. In foreign markets, net revenues from sales amounted to EUR 927 million in 2008, which is 26.6 percent more than in year before. The increase is primarily the result of highly committed marketing activities, opening of new and refurbished retail units, and the inclusion of the company Presoflex, d.o.o., Croatia, into the Group. Mercator Group net revenues from sales by business segments Non trade 3% Non trade 2% Trade 97% Trade 98% Mercator Group made 98.3 percent of total net sales revenues in trade activity; nontrade activity accounts for 1.7 percent of total net revenues from sales Technical programme 6.8% Clothing programme 4.0% Intersport 2.2% 2008 Clothing programme 4.0% Technical programme 10.6% Intersport 2.7% FMCG programme 87.0% FMCG programme 82.7% In 2008, the majority of Mercator Group trade activity revenues resulted from sales of FMCG program products as they accounted for 82.7 percent of trade activity net revenues from sales; share of total net revenues from sales generated in other specialized trade programs amounted to 17.3 percent. 52

53 CATEGORY MANAGEMENT AND SUPPLIER RELATIONS Category management In 2008, we redefined the key areas of work within our category management activities in order to align them with the changed market conditions. These areas include price competitiveness and price perception, promotion policy, and management of sales areas and store formats. New goals of our pricing policy are our response to the negative economic processes occurring both globally and in the particular markets of our operations. By carrying out these activities, we are seeking to adapt as much as possible to the requirements of our customers and to mitigate the effects of the harsh economic conditions on them. The purpose of our activities is to allow our customers to retain the ability to afford quality products at reasonable prices, thus sustaining the quality of their lives. In addition to the prices, perception of our customers is also relevant. Therefore, we have committed to carry on our practice of open communication with our customers and to make sure the advantages of our offer compared to the competitors are effectively presented. To this end, we have devised a number of activities to enhance the distinctiveness of our products with pricing advantage at the point of sale, or in the aisles. These activities include the preparation of a new labeling system, a new proposal on the rules for sales promotion and private label product advertising, as well as long-term sales promotion projects aimed at providing the best price to quality ratio. Purchasing of trade goods and supplier relations In 2008, we were strongly dedicated to improving the offer in our retail units and to adjusting the assortment for specialized wholesale customers. Our most demanding customers can now identify our best product assortments in Mercator Center Ljubljana and Mercator Center Rudnik, as well as the refurbished store in Maximarket where the offer was adapted to suit our most demanding customers. We remained focused on the target categories. With regard to pricing policy we continued to use all means available to mitigate the effects of the changes in prices of FMCG announced by some of our suppliers (as a result of rising raw material and energy costs). Upward pressure on supplier prices and thus on inflation was extraordinarily strong. We constantly negotiated any price increase with our suppliers, postponing the confirmations of price lists and looking for the best solutions for our customers. We continued to introduce appealing and competitive products both in our regular offer and in various forms of sales promotion activities. We also carried on the development of the "Every Day Low Price" project and introduced new projects such as the "Locked Price". In cooperation with our suppliers, we carried out numerous activities to reduce packaging units, introduced semi (half-load) pallets, and worked to reduce inventories 53

54 throughout the retail network. We also reduced delivery failures and kept them at an acceptable level that enables operation without major negative effects. With regard to private labels, we continued to carry out international tenders, which means that we attained lower purchase prices on the one hand and replaced noncompetitive suppliers on the other. Expanding the private label products to all markets of our operations was among our top priorities. We worked with our suppliers to coordinate numerous activities in order to facilitate the operations of our retail networks abroad. In the company Poslovni sistem Mercator, d.d., we adopted in 2008 the internal codes (Trade Goods Supplier Relation Management Code, Operating Instructions on Business Communication and Operating Instructions on Price Change Implementation) which have been proven as sound business practice to provide compliance of the company operations with internal and external regulations related to protection of competition. LOGISTICS In 2008, we continued to provide quality logistics services for all entities of the system that require them. With regard to implementation of strategic program for improving competitiveness, we continued to carry out the logistics infrastructure optimization project. Following are the most notable activities performed in the period at hand: In Slovenia Warehouse integration and consolidation: redirecting the frozen program from Ptuj warehouse to the one in Naklo and the FMCG program from the Šempeter warehouse to Ljubljana; refurbishment of the Velenje warehouse for the requirements of hardware and electronics, and emptying of the hardware and electronics warehouse Šmartno ob Paki as it shall be sold; relocating the activities of the fruit-vegetables warehouse from location Tržaška 33, Maribor, to the refurbished warehouse Bohova, opening of the project of "Acquisition of the international status of an AEOauthorized legal entity" related to customs proceedings simplification, security, and safety. 54

55 Activities for construction of the Mercator Logistic Center: New technological solutions were presented. Based on the analysis of received technological solutions, requests for extending the offers in order to make them more comparable and to ensure physical flow of goods, were submitted to all three potential suppliers. Three technical-technological solutions were evaluated and calculations of economic viability of investment were conducted. In foreign markets Activities for unifying the logistics activities of the Mercator Group: The company Mercator - H, d.o.o., signed a contract on the lease of warehouse capacity for FMCG program within the "Poslovni park" ("Business Park") complex in Sveta Nedelja. A proposal on a temporary and long-term logistics solution for supply to the planned outlets was devised for the company Mercator - B, d.o.o. The processes of unifying and optimizing the logistics operation in existing warehouses were carried out in companies Mercator - S, d.o.o., Mercator - BH, d.o.o., and Mercator - Mex, d.o.o. ORGANIZATION AND QUALITY OF OPERATIONS During 2008 our main focus was organizational management, implementing new and maintaining the current international quality standards and preventing the incompatibility of goods and business processes. We shall continue performing activities within the framework of the strategic project of a general optimization of operations within the Mercator Group. Organizational management Organizational changes have been effected, being a result of the transfer of the activities of Pekarna Grosuplje, d.d. to Mercator, reorganization was also performed at M-Rodić d.o.o., Mercator S, d.o.o., and Mercator H, d.o.o. A change in the organizational structure at Mercator Mex, d.o.o. was put into effect also. New subsidiaries have also been included: Mercator IP, d.o.o., Mercator B, e.o.o.d. and M BL, d.o.o., Banja Luka. Preparations were completed for the transfer of retail and wholesale activities from M-Rodić, d.o.o., to Mercator S, d.o.o. In line with the new company collective agreement, the workplace catalogue was revised. The electronic collection of organizational regulation was kept up-to-date the Mercator Standards. 55

56 Quality standards All of the planned external assessments of the quality management system ISO 9001 were performed at Mercator, d.d., Mercator H, d.o.o., Mercator BH, d.o.o. and at Qweb within Mercator, d.d. All of the planned internal assessments were completed also. New internal auditors for assessment according to the ISO 9001, ISO and ISO standards were trained. At Mercator, d.d., electronic issuance and management of the registry of prevention and correction measures has been implemented. An application for paperless management of non-compliance, recommendations and commendations has been set up. The concept of setting up of an electronic registry for all the agreements has been prepared. We have also taken part in the project of optimization of sales promotion campaigns (SPC). At Mercator, d.d., we have been carrying out the project of environmental protection in accordance with the requirements of the ISO standard and the project of ensuring food safety in line with the ISO standard. At M-Rodić, d.o.o., we have been carrying out the project of attaining quality in accordance with the ISO 9001 standard. Internal controls at outlets We have been following the legislation changes in the field of goods and services flow processes in commerce, notified the users on requirements, advised them and introduced these changes into internal standards. In the area of regulatory requirements, especially in connection with misleading advertising, we have been actively cooperating with supervisory bodies on the adaptation of advertising in line with the new requirements. We have conducted regular and extraordinary internal controls at our offices, coordinated inspections, recalled goods and performed training. Within the framework of the Slovene Chamber of Commerce and the Ministry of the Economy we have taken part in the preparation of a new version of the Guidelines for good hygiene according to the principles of the HACCP system in commercial activities and in the preparation of Instructions for traceability of foodstuffs in the store and their withdrawal/recall. In 2008 we were active in the area of preparation of new standards and preparation of new versions of the existing ones as well as in the preparation of a procedure manual on the ISO standard, with the goal of getting certification in Training was also done in connection with the performance of internal controls in accordance with the HACCP system principles, regulatory requirements, the Mercator school for store managers and the transfer of know-how within the coaching network in markets abroad. We also continued with the coordination of internal control activities with the Mercator Group. As regards new markets extraordinary controls have been preformed at M Rodić, d.o.o., and Mercator BH, d.o.o. 56

57 The strategic project of general optimization of operations Within the framework of the strategic project for a general optimization of operations in the Mercator Group, we have been active in the area of increased efficiency and operating cost reduction in 2008: we have finished with the upgrading and internationalization of tools for the planning of flexible working hours in stores. We have developed a basic set of tools for inventory management in Slovene and Croatian stores and the tools for the optimization of delivery frequency in Slovene stores. we have concluded the collective user training for work with the tools for flexible working hour management in stores in Croatia and efficient inventory management in stores in Slovenia and Croatia. On the basis of these measures individual training has been concluded in Slovenia, with two visits to Croatian stores, where individual consulting sessions were completed. goals have been set of each store, which need to be achieved on the basis of better efficiency and cost reduction, while taking into consideration the synergies of all of the projects being performed. To this aim a manual on the performance and monitoring of store visits has been prepared and implemented. in compliance with the standards of the Mercator Group we have organized generic product and brand data at the M-Rodić, d.o.o., and Mercator-S, d.o.o., companies. After that automated goods ordering pilot projects were carried out at three stores. within the system of centralized non-commercial goods and services purchasing we have implemented the standard for the consumption of goods from a commissary in Slovenian and Croatian stores and achieved savings in a number of product groups, with field marketing services standing out. in connection with the Management of cost in environmental protection project activities were performed, which were connected with the setting up of a system designed to monitor the environmental effects of operations. 57

58 INFORMATION TECHNOLOGY Consistently with the strategic project of IT system renewal, the following activities were carried out in 2008: As a part of the support function IT system renewal project, we completed the upgrade of some modules of the SAP software solution and successfully implemented their regular application; we also completed the expansion of the use of basic SAP modules to the social enterprise Mercator IP, d.o.o., and expanded the basic SAP modules in the companies Mercator-H, d.o.o., and Mercator-BH, d.o.o. As a part of the material operation IT system renewal project, we carried on the preparations for the implementation of the G.O.L.D. software solution, implementation of the G.O.L.D. STOCK module and the integration of trade POS system with the G.O.L.D. software. The following activities were carried out in other fields: We have revised and upgraded the Mercator Pika card customer loyalty system, communication network, and the transaction processing system. With regard to IT support to general operations optimization projects in the Mercator Group we introduced the order generation system that employs distributors, automatic ordering system, system of reporting on the optimization of delivery frequency in Slovenia, system for reporting on inventory and automatic ordering in retail in Slovenia and Croatia, and extended the flexible work hours allocation system in Croatia; IT support to management and decision-making included development of additional reports to support category management projects, and launching the project of Integral Material Operation Data Warehouse (inclusion of data from Croatia and Serbia). IT support to retail, manufacturing, and catering included further qualitative upgrade of the POS trade systems, unification of IT support, and extension of TIK TAK self-check-out cashiers in Slovenia and Croatia. In the field of infrastructure and security, we prepared the infrastructural environment for the G.O.L.D. and carried on the revision of the communication network. 58

59 FINANCIAL MANAGEMENT Financial liabilities In 2008, financial liabilities in the Mercator Group rose by 23.8 percent compared to the end of 2007; this is mostly the result of higher investment dynamics in Debt-to-equity ratio As at the end of 2008, the capitalization ratio of the Mercator Group amounted to 1 : 1.22 (at the end of 2007, the ratio was 1 : 1.16); this is the ratio between equity comprising disclosed equity plus provisions for liabilities and charges and debt capital comprising non-current and current financial liabilities and non-current financial lease liabilities. Long term coverage of non-current assets As at December 31 st 2008, long-term coverage of non-current assets with non-current liabilities for the Mercator Group amounted to 81.3 percent. Compared to the end of 2007, this indicator is somewhat less favorable, which is the result of increase in shortterm financing sources in the total financing sources composition. Ratio between current and non-current financial liabilities Ratio between current and non-current financial liabilities 100% 80% 60% 24.0% 39.9% 40% 20% 76.0% 60.1% 0% Non-current financial liabilities Current financial liabilities Compared to the year 2007, the share of short-term financial liabilities has risen, mostly due to a decrease in the share of new long-term borrowings, as access to longterm financing was effectively restricted in 2008 due to the global financial crisis. 59

60 Obtaining sources of financing In 2008, Mercator took mostly short-term (current) bilateral loans and signed longterm lease contracts. In 2008, we also signed 10 agreements on financial lease for facilities in Slovenia. In the second half of 2008, Mercator perceived upward pressures on interest rate margins, mostly resulting from impaired liquidity of commercial banks and the lack of confidence in the interbank market. Higher costs of interbank loans were thus levied by the commercial banks on the real sector. Availability of long-term financing sources has also decreased, which is another effect of the financial crisis' impact on the banking market. Particularly abroad, the use of long-term operative lease of trade facilities constructed for Mercator by local real-estate partners was resorted to as an increasingly important form of financing our investments. Ratio between variable and fixed or hedged financial liabilities of the Mercator Group Ratio between variable and fixed or hedged financial liabilities of the Mercator Group 100% 80% 60% 49.0% 41.6% 40% 20% 51.0% 58.4% 0% variable financial liabilities fixed or hedged financial liabilities Available liquidity sources as at December 31 st 2008 As at December 31 st 2008, companies of the Mercator Group had the following liquidity sources at their disposal: in EUR Cash and cash equivalents 45,870 Deposits at banks 18,669 Standby revolving credit line 49,886 Total 114,425 60

61 MERCATOR SHARE AND OWNERSHIP STRUCTURE Mercator Share As at December 31 st 2008, share capital of the company Poslovni sistem Mercator, d.d., was divided into 3,765,361 shares. Nominal value of each share amounts to EUR The shares of the company Poslovni sistem Mercator, d.d., are listed on the prime market of the Ljubljana Stock Exchange, d.d., under the trading code MELR. In 2008, Mercator share was one of the top five shares by trading volume at the Ljubljana Stock Exchange, accounting for 5.6 percent of total annual stock market turnover. Pursuant to provisions of the Securities Market Act and the Rules and Regulations of the Ljubljana Stock Exchange, d.d., the company regularly informs the public of the results of its operation and other relevant events. Movement of average price per MELR share in 2008, compared to the movement of the SBI20 index MELR (in EUR) , , , , , , , , , SBI , MELR SBI20 61

62 Key Information for the Shareholders December 31 st 2008 December 31 st 2007 Index Number oh shares registred in Court Register 3,765,361 3,765, Market capitalization (in EUR) 595,228,267 1,261,395, Market value of share (in EUR) Book value per share (in EUR) Annual low (in EUR) Annual high (in EUR) Weighted average market price, exclucing block and cross trades (in EUR) Earnings per share (in EUR) Price/ earnings ratio (P/E) Capital gains yield (in %) Dividend yield (in %) Total yield (in %) Equity market capitalization is calculated as the product of the number of shares entered into Court Register as at December 31 st, and the market price per share as at December 31st. Basic net income per share is calculated as the ratio between net profit of the company Poslovni sistem Mercator, d.d., and the weighted average number of ordinary shares in the period at hand, excluding treasury shares. Share book value is calculated as the ratio between the value of equity of the company Poslovni sistem Mercator, d.d., as at December 31 st, and the weighted average number of ordinary shares in the period at hand, excluding treasury shares. Price/Earning ratio is calcualted as ratio between market price per share as at December 31 st and net profit per share. Capital gains yield is calculated as the ratio between market price per share as at December 31 st of the period at hand, and the market price per share as at December 31th of previous year. Dividend yield is calculated as the ratio between dividend paid per share and the market price per share as at December 31 st. Dividend policy At its regular meeting held on April 17 th 2007, the Supervisory Board of the company Poslovni sistem Mercator, d.d., adopted the company dividend policy for the period Based on the newly adopted dividend policy, the Supervisory Board and the company Management Board proposed to the Shareholder s Assembly in the years the payment of dividend in the following gross amounts: EUR 4.00 per share in 2007, EUR 4.25 per share in 2008, EUR 4.50 per share in 2009, EUR 4.75 per share in The actual sum of dividend per share for each business year respectively will be subject to Shareholder's Assembly decision. The adopted dividend policy considering the development, taxation, and other relevant issues represents an appropriate compromise between dividend yield of the shareholders and allocation of net profit for financing company investment plans; on one hand, this will enable long-term maximization of shareholder benefit, while on the other hand it will support long-term growth and development of the Mercator Group. At the 14 th regular Shareholder s Assembly held on August 26 th 2008, the resolution on payment of dividends in the amount of 4.25 EUR per share was adopted. 62

63 Company Ownership Structure As at December 31 st 2008, the Share Register of the company Poslovni sistem Mercator, d.d., indicated 17,304 shareholders or 191 less compared to the figure as at December 31 st As at December 31 st 2008, the ownership structure of the company Poslovni sistem Mercator, d.d., was as follows: Other legal entities 19.4% Infond Holding, d.d. 25.0% Individuals 15.2% Pivovarna Union, d.d. 12.3% Investment funds 7.0% Rodić M&B Trgovina, d.o.o. 4.6% Pivovarna Laško, d.d. 8.4% Unicredit Banka Slovenija, d.d. 8.0% Major Shareholders As at December 31 st 2008, the following ten largest shareholders combined owned % of the company: Major shareholders Country Number of shares Ownership share 1. Infond Holding, d.d. Slovenia 941, % 2. Pivovarna Union, d.d. Slovenia 464, % 3. Pivovarna Laško, d.d. Slovenia 317, % 4. Unicredit Banka Slovenija, d.d. Slovenia 301, % 5. Rodić M&B Trgovina, d.o.o. Serbia 174, % 6. NFD 1 Delniški investicijski sklad, d.d. Slovenia 107, % 7. Radenska, d.d. Slovenia 96, % 8. Hypo bank, d.d. Slovenia 77, % 9. Smallcap World Fund USA 69, % 10. KLM Naložbe, d.d. Slovenia 61, % Total 2,612, % 63

64 Foreign Shareholders As at December 31 st 2008, the share of foreign investors in the company Poslovni sistem Mercator, d.d., amounted to %, which is 1.08 percentage points less than at the end of Shares Owned by Management Board Members As at December 31 st 2008 Name and surname Number of shares Ownership share Žiga Debeljak 1, % Vera Aljančič Falež % Mateja Jesenek 1, % Peter Zavrl % Total 2, % Shares Owned by Supervisory Board Members As at December 31 st 2008 President of Supervisory Board Number of shares Ownership share 1. Robert Šega % Members of Supervisory Board (representatives of capital) 2. Matjaž Božič % 3. Dušan Mohorko % 4. Kristjan Sušinski % 5. Mateja Vidnar % Members of Supervisory Board (workers representatives) 6. Ksenija Bračič % 7. Jože Cvetek 2, % 8. Dragica Derganc % 9. Jelka Žekar % 10. Ivica Župetić % Total 2, % Treasury shares As at December 31 st 2008, the company Poslovni sistem Mercator, d.d., held 42,381 treasury shares in the total value of EUR 3,250 thousand. The company Poslovni sistem Mercator, d.d., did not acquire or dispose of treasury shares in Potential Major Changes in the Ownership Composition The group of shareholders, including Pivovarna Laško, d.d., Pivovarna Union, d.d., Radenska, d.d., and Infond Holding, d.d., announced in a public announcement on December 8 th 2008 that they would start the procedure of disposal of up to 1,820,141 shares of the company Mercator, d.d. ( percent). 64

65 RISK MANAGEMENT Role, principles and system organization For active operations in the area of risk management, Mercator has set up the Mercator Group Risk Management Council, which oversees systematic processes of risk management. Due to the need to monitor risk and deal with it in a number of different business lines, individual risk management committees have been formed in support the Risk Management Council, covering the main risks, namely: business risk, operational risk, financial risk. The risk management process At the Mercator Group we have decided to rebuild the risk management process in To this end we have: re-classified and re-identified risk, performed sensitivity analyses, showing how a certain type of risk affects the gross cash flow from operations, defined the limit for determining key risk and defined the measures for risk management. The objective behind the rebuilding of the processes is the quantification of the Mercator Group's exposure to individual identified risk types on the basis of sensitivity analysis, which shows the percentage of decrease in gross operating cash flow at Group level or at an individual company level, when a certain event occurs, which is analyzed within the risk framework. The estimates of Mercator's exposure to individual risk types are prepared on the basis of the levels of probability and damage estimates in case of the occurrence of different events. Risk has been classified according to the level of effect on the gross operating cash flow and acceptable risk limits have been defined. In line with the defined policies concrete proposals for the management of certain types of risk have been prepared, which have already been implemented into the day-to-day decision-making process and operations in certain fields. The measures taken form a basis for the planning of internal auditing processes within the framework of the performance of annual audits in connection with risk management measures taken by the Risk Management Council. 65

66 Definition of key risks The key risks were defined as those whose effect on the gross cash flow from operating activities exceeds 1 percent of total planned cash flow of the Mercator Group or a particular company within the Group, and for which appropriate measures have not yet been taken, or which have not yet been effectively hedged, while the probability of occurrence of events to which these risks are related is moderate to high. Probabilities were calculated based on the analysis of historical data and expected frequency of respective events in the year to come. The analysis included various effects and factors which were adapted to a particular type of risk. Risks, having been assessed as, key, are given most attention and approved risk management measures are performed which either minimize damage when events occur or decrease the level of probability for an occurrence of such an event thus making the risk acceptable. Special attention has been directed toward the changes in economic circumstances and their effect on individual risk types. We have concentrated mostly on the management of credit risk by continuously monitoring defaulting obligors, solvency risk by ensuring ample liquidity reserves, business risk by being competitive in the market and we have also conducted all of the activities designed to improve the efficiency of the business process. Business risk Business risk is connected with company operations and its core activities. The company is aware of this type of risk and assumes it knowingly while managing it better than its competition, which in turn enables it to achieve an economic profit. MEASURES TAKEN TO DECREASE THE LEVEL OF RISK IN KEY RISK TYPES Risk group Key types of risk Management RISK OF REDUCED PURCHASING POWER Risk of reduced purchasing power Investment in prices (reduced margins) in connection with some of the best-selling products, adapting the product range (larger offer in the private label, expansion in the generic line directed at the customers most sensitive to price), rationalization of operations and looking for additional internal reserves. RISK OF SUB-OPTIMAL MARKETING MIX AND THE EFFECTS OF THE COMPETITIVE ENVIRONMENT Risk of not achieving cash flow growth due to increased competition Regular monitoring of competitive prices and potential buyer's plans, consistent consideration of shopping habits, changes in lifestyles and feedback from customers, development of the private label Mercator lines, adapting operations to market particularities, further optimization of operations. INVESTMENT RISK AND RISK OF TECHNOLOGICAL DEVELOPMENT Risk related to deviations from planned net income from investments Verification of forecast turnover, improved product range, adequate pricing policies and adequate personnel. 66

67 Financial risk Financial risk is the risk, which may negatively affect the capacity to create financial income, manage financial expenses, preserve the value of financial assets and manage financial liabilities. MEASURES TAKEN TO DECREASE THE LEVEL OF RISK IN KEY RISK TYPES Risk group Key types of risk Management CREDIT RISK SOLVENCY RISK FOREIGN CURRENCY RISK Wholesale credit risk The Pika card credit risk Liquidity risk Refinancing risk Foreign currency risk Acquiring prime collateral from lower rated customers, continuous monitoring of bad debtors and stringent limits with regard to exposure to individual customers, decrease in the number of days before overdue, when further purchases are blocked, active procedures in claim recovery, performing bilateral and multilateral compensations with customers. More active execution of recovery activities and a continued monitoring of bad debtors as well as the preparation of a scoring model for the setting of more beneficial starting limits on the Mercator Pika card. Ensuring a sufficient liquidity reserve for the settlement of liabilities toward suppliers, compensation with buyers and suppliers, active execution of the recovery procedures, optimization of purchasing order volumes, finding financing alternatives. The Mercator Group will see an amount of EUR 413 million in financial liabilities mature in 2009, which is why we have already entered into talks with commercial banks at the end of 2008, discussing refinancing of current financial liabilities due in Monitoring macroeconomic fluctuations, adapting operations, hedging with financial derivatives. 67

68 Operating risk Operating risk relates to the performance and monitoring of business processes and activities within the Mercator Group as well as the consumption and costs, created in the course of the business process. MEASURES TAKEN TO DECREASE THE LEVEL OF RISK IN KEY RISK TYPES Risk group Key types of risk Management STRATEGIC RISK RISK OF DEVELOPMENT AND INVESTMENT RISK OF ACCIDENT AND RISING COSTS FOOD SAFETY RISK ENVIRONMENTAL RISK Reputation risk Project risk Operating cost efficiency risk Durability Electricity Employee health absenteeism Quality and up-to-date communications with all interested parties. Regular monitoring of project execution Continued implementation of the business optimization program. Constant and up-to-date verification of the best-by dates on products. Ensuring an adequate IT support, to provide for the monitoring of durability with an aim to manage traceability and significantly decrease labor costs. Targeted measurement and monitoring of electricity use, energy efficient planning of buildings and analyses of current energy conditions. Raising awareness among employees to lead a healthy lifestyle, education and training PERSONNEL RISK Lack of personnel Developing policies on the employment of aliens, aligning the salary system to the labor market conditions and the individual performance of employees as well as a total deregulation of the salesperson occupation LEGAL RISK Personnel information systems Business secret Employee claims Risk of compliance related to competition laws Testing the system prior to putting in to effect, preparing adequate instructions and rules, education and training of accountable employees. Consistent consideration of the stipulations in the internal Rules and Regulations on business secrets, such rulebooks will also be put to effect in Croatia, Serbia and Bosnia and Herzegovina. Constructive dialog with employees The preparation of internal acts, directed at managing the field of competition regulations; education on the basics of competition law and the established good practice in communications and relations with suppliers. PROJECT RISK Optimization of the logistics infrastructure Monitoring a project and preparing a back-up scenario for its individual phases. It is the Management Board's assessment, taking into account all of the current presumptions in connection with the development of the economic environment in 2009, that on December 31 st 2008 the total exposure of the Mercator Group to business, financial and operating risks is moderate. In addition to the above it must be stated, that there is much uncertainty in connection with: further developments and effects of the global financial crysis, further effects of reduced economic activity or recession and the future macroeconomic status of the countries from the Western Balkans. 68

69 Should a negative change in the abovementioned key external environment factors occur as compared to the current expectations, the exposure of the Mercator Group: to the risk of attaining planned sales income, due to purchasing power, to refinancing risk in connection with short-term financial liabilities, to currency risk, especially in Serbia and in Croatia, and/or certain other risk types, could increase in spite of the measure taken to manage or hedge the risk. Therefore the Management Board will update the assessment of the exposure to risk with regard to the development of the economic environment on a quarterly basis and report on it in interim reports. BUSINESS PERFORMANCE ANALYSIS Operations in 2008 Despite hostile business environment in 2008, Mercator Group attained all key planned goals. Business conditions in 2008 were severe. In the first half of the year, our operations were affected by high inflation rate, and in the second half, global financial crisis negatively affected both the composition and the scope of consumption, as well as operating and financing costs. Despite the harsh conditions in the baking sector, financial operation of the Mercator Group was smooth and fluent and cooperation with banking partners was normal. In 2008 we remained devoted to the pursuit of Mercator's strategy of growth and elevating to the position of the leading retailer with fast-moving consumer goods in the Southeastern European Region. Consistently with the strategy of entering the Bulgarian market, we founded the company Mercator-B, e.o.o.d., Sofia. In Bosnia and Herzegovina, we founded the company M-BL, d.o.o., Banja Luka. In Croatia, trade chain Billa joined the purchasing / procurement alliance Mercator-Plodine; the said companies jointly founded the company Mercator-Plodine-Billa, d.o.o., whose purpose is to conduct joint purchasing operations in Croatian upstream market. In 2008, the company Presoflex, d.o.o., was merged with the company Mercator-H, d.o.o. In Serbia, we acquired additional 12-percent ownership share in the company M-Rodić, d.o.o., Novi Sad, based on the agreement on strategic alliance in trade operations signed between Holding Rodić M&B and Mercator, d.d. The company Poslovni sistem Mercator, d.d., took over in 2008 the activities of the company Pekarna Grosuplje, d.d., as well as all employees. Furthermore, the company Poslovni sistem Mercator, d.d., acquired in 2008 the 100-percent ownership share in the company Naše vezi, d.o.o., Štanjel, and renamed it to Mercator IP, invalidsko podjetje (social enterprise), d.o.o., Ljubljana. 69

70 Performance Analysis The analysis includes the information on both Mercator Group and the company Poslovni sistem Mercator, d.d.; however, the comments and notes are focused on the Group. The company Poslovni sistem Mercator, d.d., has a double role in the Mercator Group: it is the parent company that owns all ownership shares in the Group's subsidiaries; simultaneously, it is the operative company, carrying out all trade and other activities in Slovenia. Thus, employing the financial statements of the company Poslovni sistem Mercator, d.d., for economic analysis of Mercator Group's operation is inappropriate. For such analysis, it would be more sensible to apply only the consolidated financial statements that represent the performance of the Mercator Group as a uniform business entity. Sales and productivity Net sales revenues of the Mercator Group in 2008 amounted to EUR 2,708,560 thousand, which is an increase by 10.8 % over the comparable period last year, and 3.1 percent more than planned for the year. Net sales revenues of the company Poslovni sistem Mercator, d.d., amounted to EUR 1,780,222 thousand in 2008, which is an increase by 4.6 % over 2007 and 0.4 percent more than planned for the year

71 Mercator Group Net sales revenues (in EUR mn) 3,000 2,500 2,000 1,500 1, ,445 2, Net sales revenues per employee (in EUR 000) Poslovni sistem Mercator, d.d. Net sales revenues (in EUR mn) 2,000 1,500 1, v 1,703 1, Net sales revenues per employee (in EUR 000) The contribution of revenues generated in foreign markets to the revenue growth for the entire Group is increasingly important. In 2008, Mercator Group generated 34.2 percent of all revenues in foreign markets, which is 4.3 percentage points more than in 2007 when the Group generated 29.9 percent of all revenues abroad. Growth of revenues in markets abroad was influenced considerably by the dedicated marketing activities, opening of new and refurbished retail units, and the inclusion of the company Presoflex, d.o.o., into the Mercator Group. Net revenues per employees based on hours worked in the Mercator Group in 2008 exceeded those from 2007 by 3.5 percent. In 2008, the company Poslovni sistem Mercator, d.d., generated 4.6 percent more net revenues per employee based on hours worked than in A detailed breakdown of sales by programs, markets, and formats, is indicated in the chapter "Sales". 71

72 Costs of goods sold Costs of goods sold in the Mercator Group, which include manufacturing costs, purchase price for goods and material sold, and other operation expenses, amount to EUR 2,026,629 thousand for 2008, which is 12.4 percent more than in 2007,and 4.7 percent more than planned for The growth of costs is mostly the result of increased scope of operations and general increase of purchase prices of products sold. Gross operating profit Gross operating profit of the Mercator Group in 2008 amounts to EUR 681,931 thousand, which is EUR 39,487 thousand or 6.1 percent more than in The share of gross operating profit in net revenues from sales of the Mercator Group in 2008 amounts to 25.2 percent, which is less than in 2007 when the share of gross operating profit in net revenues from sales amounted to 26.3 percent. Decrease in the share of gross operating profit in net revenues from sales is mostly the result of lower margins and changes in the composition of trade program sales, as well as geographic composition of sales. Selling and administrative expenses Selling and administrative expenses in the Mercator Group in 2008 amount to EUR 614,868 thousand, which is 7.1 percent more than in The share of Selling and administrative expenses in net revenues from sale of the Mercator Group in 2008 amount to 22.7 percent, which is less than in 2007, when it amounted to 23.5 percent. Growth of costs is lower than growth of revenues, which is the result of strong devotion to our strategic projects, most notable optimization of business processes, optimization of logistics infrastructure, and category management. Operating profit In 2008, the operating profit of the Mercator Group amounted to EUR 100,327 thousand, which is EUR 8,992 thousand or 9.8 percent more than in 2007, and exceeds the planned figure for the year by 10.8 percent. The increase compared to 2007 is based on higher net revenues, improved cost efficiency, and higher other operating revenues. 72

73 In 2008, the company Poslovni sistem Mercator, d.d., had EUR 76,860 thousand of operating profit, which is EUR 9,783 thousand or 14.6 percent more than in 2007, and 19.8 percent more than planned for the year Finance income and costs / expenses As a result of increased borrowings and rise of interest rates in the market, net finance expenses have also increased. Mercator Group Poslovni sistem Mercator, d.d. in EUR Finance income from interests 14,075 17,779 3,650 7,550 Finance expeces from interests -51,724-72,245-33,932-50,173 Other net financial income 788 4,132 8,049 6,490 Net finance expences -36,861-50,334-22,233-36,132 Finance income from interest of the Mercator Group in 2008 amount to EUR 17,779 thousand, which is 26.3 percent more than in Finance income is mostly related to revenues from regular and default financing interest rates. Finance expense from interest of the Mercator Group in 2008 amount to EUR 72,245 thousand and are related mostly to expenses from regular interest paid on borrowings from commercial banks, and financial lease. Compared to 2007, these expenses grew by 39.7 percent, which is mostly the result of higher interest rates and larger scope borrowings. Financial expenses were also affected to a larger extent than in recent years by currency translation differences in Serbia, as the exchange rate RSD/EUR at the end of 2008 depreciated by as much as 7.8 percent compared to the year before. Other net finance income of the Mercator Group in 2008 amounted to EUR 4,132 thousand, which is EUR 3,344 thousand more than in Profit for the financial period In 2008, Mercator Group's net profit for the financial period amounted to EUR 40,761 thousand, which is 7 percent less than in 2007, and 0.5 percent more than planned for In 2008, net profit of the company Poslovni sistem Mercator, d.d., amounted to EUR 32,139 thousand, which is 9.3 percent less than in 2007 and 5.7 percent more than planned for The drop in net profit is mostly the result of higher financing costs. 73

74 Earnings before interest, taxes, depreciation, amortization and rent of the Mercator Group Gross cash flow from operating activities before rents (EBITDAR, or earnings before interest, taxes, depreciation, amortization, and rents) of the Mercator Group in 2008 amounts to EUR 198,158 thousand, surpassing the 2007 figure by 15.4 percent and exceeding the plan for 2008 by 5.9 percent. Growth rate of generated cash flow exceeds the growth rate of revenues by 4.6 percentage points, indicating an improvement in the Group's financial strength and business efficiency. A detailed breakdown of the calculation of gross cash flow from operating activities is given in the financial report in the cash flow statement. Costs of lease for the Mercator Group in 2008 amounted to EUR 21,385 thousand (compared to EUR 9,735 thousand in 2007). Composition of assets Mercator Group's balance sheet total as at December 31 st 2008, amounts to EUR 2,540,122 thousand, which is 22.7 percent more than as at the end of ,000 2,500 2,000 1, ,0% Assets of the Mercator Group (in mn EUR) ,3% 1, ,0% 73,7% Non-current assets Current assets 74

75 2,500 2,000 1,500 Assets of the company Poslovni sistem Mercator, d.d. (in EUR mn) ,8% ,2% 1, ,2% 78,8% Non-current assets Current assets The change in the value of noncurrent assets of the Mercator Group as at December 31 st 2008 compared to the status as at December 31 st 2007 is mostly the result of investment, depreciation and amortization, disposal of commercially unviable assets (PPE), disposal of financial investments, and currency translation differences. The value of property, plant, and equipment, as at December 31 st 2008 amounts to EUR 1,859,722 thousand which is 24.1 percent more than as at the end of Due to revaluation of property, plant, and equipment to fair value, Mercator Group recognized an increase in their value in the amount of EUR 184,971 thousand in The change in the value of current assets of the Mercator Group as at December 31 st 2008 compared to the value as at December 31 st 2007, amounts to EUR 128,907 thousand and it is mostly the result of increased value of inventory and business and other receivables. The volume of cash and deposits with banks also saw a notable increase, which is the result of activities carried out in order to mitigate and hedge the liquidity and solvency risks. Equity and liabilities 3,000 2,500 2,000 1,500 1, ,4% 40,4% Liabilities of the Mercator Group (in EUR mn) ,2% 40,8% ,2% 32,0% Equity Financial liabilities Trade and other liabilities 75

76 2,500 2,000 1,500 1, ,8% 35,5% Liabilities of the company Poslovni sistem Mercator, d.d. (in EUR mn) ,4% 37,2% ,7% 38,4% Equity Financial liabilities Trade and other liabilities As at December 31 st 2008, the debt-to-equity ratio of the Mercator Group amounted to 1 : 1.22 (at the end of 2007, the ratio was 1 : 1.16); this is the ratio between equity comprising disclosed equity plus provisions for liabilities and charges and debt capital comprising non-current and current financial liabilities and non-current financial lease liabilities. Equity of the Mercator Group at the end of 2008 amounted to EUR 814,100 thousand, which is 18.3 percent more than as at the end of Net increase is predominantly related to increase of net profit in 2008, increase due to the rising value of landed property and buildings, increase due to currency translation differences which occur when financial statements are recalculated to a common representation currency, decrease due to the change in fair value of derivative financial instruments, decrease for dividend payment liabilities, and other decreases in equity. Business and other receivables of the Mercator Group compared to the beginning of 2008 rose by EUR 115,063 thousand, which is mostly the result of increased scope of operations and extensive investment volume. Financial liabilities of the Mercator Group rose by EUR 199,008 thousand, or 23.8 percent, compared to the beginning of In the composition of financial liabilities, long-term financial liabilities represent 60.1 percent, while short term financial liabilities account for the remaining 39.9 percent of total financial liabilities. In view of the company Management and Supervisory Board, operation of the Mercator Group in 2008 was successful and consistent with defined medium-term strategic policies. 76

77 Key Financial Indicators Mercator Group Poslovni sistem Mercator, d.d Indicators of profitability Return on equity 6.8% 5.6% 5.6% 4.5% Return on sales 1.8% 1.5% 2.1% 1.8% Gross profit margin 26.3% 25.2% 27.0% 26.6% Indicators of financial structure Financial liabilities / equity Equity and provisions to total equity and liabilities 34.9% 33.3% 42.5% 39.8% Financial liabilities to total equity and liabilities 40.4% 40.8% 35.5% 37.2% Trade and other payables to total equity and liabilities 23.5% 23.6% 20.8% 20.9% Indicators of operating efficiency and productivity Labour costs per hours worked (in 000 EUR) Net revenue / labour costs Revenue per employee per hours worked (in 000 EUR) Value added per employee per hours worked (in 000 EUR) Operating expenses / net sales revenue 23.0% 22.1% 23.3% 22.8% Gross cash flows from operating acitvities before rent / net revenue 7.0% 7.3% 6.5% 7.0% 77

78 Performance of Mercator Group Companies Data in EUR 000 as at December 31 st 2008 Poslovni sistem Mercator, d.d. Slovenia Equity (in EUR 000) 781,041 Net profit (in EUR 000) 32,139 Net sales revenues (in EUR 000) 1,780,222 Number of employees 12,737 TRADE COMPANIES Mercator - H, d.o.o. Mercator - S, d.o.o. M - Rodić, d.o.o. Croatia Serbia Serbia Equity (in EUR 000) 241,045 Equity (in EUR 000) 79,483 Equity (in EUR 000) 152,512 Net profit (in EUR 000) 3,580 Net profit (in EUR 000) -4,097 Net profit (in EUR 000) 10,246 Net sales revenues (in EUR 000) 360,728 Net sales revenues (in EUR 000) 115,981 Net sales revenues (in EUR 000) 345,343 Number of employees 3,347 Number of employees 1,009 Number of employees 2,664 Mercator - BH, d.o.o. Mercator - Mex, d.o.o. Mercator Makedonija, d.o.o. Bosnia in Herzegovina Montenegro Macedonia Equity (in EUR 000) 42,020 Equity (in EUR 000) 5,682 Equity (in EUR 000) -116 Net profit (in EUR 000) -2,520 Net profit (in EUR 000) -333 Net profit (in EUR 000) -119 Net sales revenues (in EUR 000) 91,573 Net sales revenues (in EUR 000) 21,175 Net sales revenues (in EUR 000) 0 Number of employees 1,183 Number of employees 292 Number of employees 0 M-BL, d.o.o. Mercator-B, e.o.o.d. Investment International, d.o.o. Bosnia in Herzegovina Bulgaria Macedonia Equity (in EUR 000) 30,186 Net profit (in EUR 000) -17 Net sales revenues (in EUR 000) 0 Number of employees 2 The company has not been performing any activities yet. The company has not been performing any activities yet. M.COM, d.o.o. Slovenia The company has not been performing any activities yet. NON TRADE COMPANIES Pekarna Grosuplje, d.d. Eta, d.d. Mercator - Emba, d.d. Slovenia Slovenia Slovenia Equity (in EUR 000) 13,000 Equity (in EUR 000) 7,876 Equity (in EUR 000) 6,441 Net profit (in EUR 000) 375 Net profit (in EUR 000) 669 Net profit (in EUR 000) 188 Net sales revenues (in EUR 000) 1,738 Net sales revenues (in EUR 000) 20,923 Net sales revenues (in EUR 000) 18,791 Number of employees 0 Number of employees 204 Number of employees 124 Belpana, d.o.o. Mercator - Optima, d.o.o. Interier, d.o.o. Croatia Slovenia Slovenia Equity (in EUR 000) 658 Equity (in EUR 000) 2,224 Equity (in EUR 000) 2,007 Net profit (in EUR 000) -132 Net profit (in EUR 000) 260 Net profit (in EUR 000) -77 Net sales revenues (in EUR 000) 0 Net sales revenues (in EUR 000) 2,931 Net sales revenues (in EUR 000) 868 Number of employees 0 Number of employees 22 Number of employees 17 M-Nepremičnine, d.o.o. Mercator-IP, d.o.o. Evolution, d.d. Slovenia Slovenia Slovenia Equity (in EUR 000) 3,972 Equity (in EUR 000) -154 Equity (in EUR 000) 3,791 Net profit (in EUR 000) 57 Net profit (in EUR 000) -143 Net profit (in EUR 000) -111 Net sales revenues (in EUR 000) 478 Net sales revenues (in EUR 000) 193 Net sales revenues (in EUR 000) 125 Number of employees 0 Number of employees 34 Number of employees 1 78

79 SOCIALLY ACCOUNTABLE ACTION Socially accountable action at Mercator has grown a system of communication management of corporate values and the values of its stakeholders, to be elevated into real value of the company which is managed and developed throughout the entire specter of corporate management. Sponsorships, Donations, and Charity Campaigns With regard to socially accountable action, Mercator Group follows its strategy of comprehensive socially accountable action; sponsorships, donations, and taking part in charity campaigns are an important part of this. Central Humanitarian Campaign Each year, Mercator's central humanitarian campaign is aimed at attaining significant improvement in a particular area in Slovenia. In 2008, our campaign was called The Environment-Friendly Neighbor and was dedicated to raising the awareness of the environment protection issues and environment preservation. Slovenian households were presented durable reusable shopping bags as we stressed that each individual can make a considerable contribution to a better treatment of our environment and nature by making small changes in her or his habits. The campaign was welcomed by both our customers and the broader community and the use of the reusable shopping bag has been established as a gesture of smaller consumption of plastic bags and contribution to the preservation of the environment. Donations and Sponsorships In Slovenia, Mercator's donations were traditionally allocated to healthcare or social security purposes, and sponsorships were awarded to athletes and to artists, or events they organized. Among others, recipients of Mercator's charitable donations include Kranj Healthcare Center, Adolf Drolc Healthcare Center in Maribor, the Internal Clinic of the Ljubljana University Medical Center, and the "Varna Pot" institute. We also purchased defibrillators for all our trade centers and donated funds to families in a very poor social status. In the field of education, we supported the Slovenian Festival of Science and the Festival of the Elderly, as well as provided awards for the "Golden high school graduates". Our aid is also received by many sports clubs and associations; we contributed funds for our Beijing Olympics team; we joined Europa Donna on the run for cancer identification equipment; we supported the Slovenian UNICEF project against violence in schools and the Pika festival for the children; as the general sponsor, we also enabled the largest sporting event during the fall in Ljubljana, the Ljubljana Marathon. 79

80 Mercator traditionally donates funds for cultural events: the Golden Concert Series at the Cankarjev Dom, the Week of Slovenian Drama in Kranj, notable exhibitions at the Municipal museum, International Graphic and Visual Arts Center, and the exhibition of Slovenian impressionists at the National Gallery. Mercator also supported the "Borštnikovo srečanje" event and the Lent festival. Furthermore, Mercator purchased the superior creation called "The Russian Butterfly" by custom designer Alan Hranitelj and sponsored an exhibition at the National Museum. We were the main sponsor of the festival City of Women which is traditionally held in Ljubljana, and we have received the Trubar Award by the National University Library for notable contributions to the preservation of national written cultural heritage. In Croatia, Mercator's central donation was presented for the purchase of the ultrasonography at the Specialist Hospital for Chronic Child Diseases in Gornja Bistra; we also took part in the humanitarian campaign "Petrova trudionica" ("Peter's Maternity Hospital") aimed at improving the working conditions at the Zagreb maternity hospital. We also raised funds for the refurbishment of the Shelter Home for Homeless Children, sponsored sports clubs and young athletes, took part in an anti-smoking campaign in the Latinica TV show, and donated funds for the socially threatened families. We also donated funds for the construction of rehabilitation center in Velika Gorica. Our funds allowed two female athletes to attend the Beijing Olympics. This year, too, we sponsored the Ulysses Theater on Brijuni. In Serbia, our funds were donated to the Shelter Home for Children and Youth in Niš, University Library of the University of Niš, the Student Cultural Center in Niš, Niš Puppet Theatre, Gallery of the Serbian Emigrant Association, and "Dragon Children's Games". We also provided donations to the Alexander II education Fund for highly talented students and donated funds for endangered Roma families and other families living in poor social conditions. Our funds were also donated to numerous sports clubs and the organizers of the European Junior Basketball Tournament. Upon the opening of our store in Kragujevac, we donated funds to the First Gymnasium in Kragujevac and CTG (computer tomography) equipment to the Kragujevac hospital. Upon the opening of Roda Center in Sremska Mitrovica, we furnished the gym of the local primary school, and we also sponsored the Serbian Olympic Committee, thus helping Serbian athletes to attend the Olympics. In Bosnia and Herzegovina, Mercator donated funds to the Social and Educational Community (Socijalna pedagoška životna zajednica) in Bihać, kindergarten in Čapljina, Association of Mothers of Handicapped Children from Tuzla, Shelter home for children and youth in Kiseljak, Sarajevo Association of Patients Suffering from Dystrophy, Women's Health Empowerment program in Sarajevo, Home for the Elderly in Goražde, Association of Paraplegics and Patients Suffering From Poliomyelitis, and Tušanj primary school in Tuzla. We also provided grants for four young female athletes from Sarajevo and Tuzla and sponsored the SPARS basketball club from Mostar. Upon opening of our new facilities, we donated funds to local communities; other donations were also presented to elderly citizens and families living in harsh social conditions in Mostar, Čapljina, and Tuzla. 80

81 In Montenegro, sponsorships and donations were granted to projects for the children. We also sponsored the "Wear a Helmet" campaign and donated funds to aid socially disadvantaged and patients, consumer awareness projects, and sports activities. We also sponsored the Budućnost Handball Club and the basketball tournament in Herceg Novi. In 2008, our socially accountable action included offering support to over 1,800 projects and organizations. Care for the environment In compliance with the legislative and market requirements as well as the requirements of our customers, we, at Mercator Group, implement the principles of sustainable commerce. We strive to make our activities sustainable, all the while stimulating our suppliers to be sustainable producers and our buyers to consume sustainably. The activities in connection with reducing the use of raw materials and energy included the following in 2008: A preliminary assessment of current conditions has been prepared in connection with the requirements for the setting up of an environment management system in compliance with the ISO standard at Mercator, d.d., its purpose being the analysis of the current condition of systemic elements in the area of environmental management and the collection of information on the effects on the environment. In cooperation with the Slopak waste packaging management company we have separately collected 12,115 tons of waste packaging and saw to it being duly processed and disposed of. In cooperation with the company Zeos for waste electronic and electric equipment management we have separately collected 194 tons of electrical and electronic waste and saw to it being duly processed and disposed of. In cooperation with the company Biotera we have separately collected over 3,900 tons of biological waste, which has subsequently been used for the production of electrical energy at a bio gasworks. We have also introduced separate office paper waste and used cartridge and toner collection at our larger retail outlet, thus decreasing the volume of municipal waste and additional waste dump loading. On May 31 st 2008 the European SARA project (demonstration project within the Eco-buildings the energy demonstration initiative by the European Commission) was concluded, having gone on for four years. All of the bases for the construction of an energy efficient building within the SARA project framework were implemented in the reconstruction and expansion of the Ljubljana Mercator Center. 81

82 With a goal to optimize lighting and decrease lighting costs in the buildings, an instruction for the lighting arrangements at the controlling company was prepared. We have also started preparing guidelines for optimal lighting of commercial buildings, with which we will also satisfy the regulation on maximum light pollution thresholds. The preparation of a manual for the reduction of heating and cooling costs has also been started with the objective to decrease the heating and cooling costs. We have prepared studies on the usage of alternative systems and other energy saving technologies for selected new buildings, while at the same time we have been monitoring and assessing the energy efficiency of measures already implemented. In November of 2008 we have presented durable reusable shopping bags to all Slovenian households. As a gesture of support to initiatives working on decreasing light pollution, we turned off the larger lights at 15 of Mercator's largest centers across Slovenia on September 17 th We have been cooperating with the Holding Slovenske Elektrarne (Slovenian Power Plant Holding), d.o.o., on the country-wide development project dubbed Energija si. The philosophy of the Energija.si brand is the integration and cooperation between different partners in order to promote efficient use of energy. 82

83 Employee Development Number of employees As at December 31 st 2008, Mercator Group employed 21,636 workers, of which 39.3 percent were employed abroad. The controlling company Poslovni sistem Mercator, d.d., employs 12,737 workers which is 58.9 percent of the Group's total. In 2008, the number of employees at the Mercator Group rose by 3.6 percent, mostly due to the inclusion of the employees of the company Presoflex, d.o.o., into the company Mercator H, d.o.o., in Croatia, as well as due to taking over the retail activities in Bosnia and Herzegovina and opening new stores in all markets of our operations. Number of employees Number of employees based on hours worked Number of employees as at the end of the period Number of employees based on hours worked Number of employees as at the end of the period Poslovni sistem Mercator, d.d Trade in Slovenia Mercator - H, d.o.o Presoflex, d.o.o Mercator - S, d.o.o M - Rodić, d.o.o M - BL, d.o.o Mercator - BH, d.o.o Mercator Makedonija, d.o.o Mercator - Mex, d.o.o Mercator - B, e.o.o.d Trade abroad Trade Pekarna Grosuplje, d.d Belpana, d.o.o Eta, d.d Mercator Emba, d.d M - Nepremičnine, d.o.o Mercator Optima, d.o.o M Hotel, d.o.o Interier, d.o.o Mercator IP, d.o.o Evolution, d.d Non-trade MERCATOR GROUP

84 Breakdown by level of education 62,2 0,0 0,6 3,8 2,9 2,8 0,1 27,6 Level 1 Level 2 Level 3 Level 4 Level 5 Level 6 Level 7 Level 8 and 9 Absenteeism sick leaves The entire level of sick leaves at the Mercator Group amounted to 5.3 percent in 2008, of which 2.9 % was charged to the Group companies, and 2.4 % to national health insurance companies. Employees on sick leave were absent from work a total 2,295,537 working hours. The entire level of sick leaves at the company Poslovni sistem Mercator, d.d., amounted to 6.2 percent in 2008, of which 3.5 % was charged to the Group companies, and 2.7 % to national health insurance companies. Employees on sick leave were absent from work a total 1,603,442 working hours. Employment of the disabled Mercator Group employs 897 disabled persons, of which 840 are employed in the parent company, 52 in non-trading sector, and 5 persons in foreign markets. Percentage of disabled persons in the parent company is 6.6. The mandatory quota provided by the quota system for employment of the disabled in trade industry is considerably lower and amounts to 2.0 %. In 2008, Mercator social enterprise commenced its first operating activities. The company owns the Dvorec Trebnik brand which includes manufacturing and sales of natural cosmetics and other bio products. Following the approval by the relevant Ministry, the company started its activity of servicing fire extinguishers in September In the future, the company is expecting expansion of operations and development of new activities. 84

85 Employee relations Key executive and promising associates career planning As a part of the key associate career planning system, we started to evaluate in Slovenia the key human resource competencies by applying the 360 degrees method. The evaluation project included 1,800 employees who subsequently discussed their scores with their direct superiors during annual talks. The system is gradually being transferred to all markets. We have also carried out various forms of executive training and education. In November 2008, we launched the business training workshops for executive workers in the fields of management and leadership, communication, public appearances, and intercultural sensitivity. The workshops are divided into four modules and they are expected to be completed in November employees are taking part in them. In April and November, we organized key executive workers round tables that were attended by a total of nearly 3,500 key employees. The round tables were organized in five groups in Slovenia. 30 participants are currently taking part at the 2 nd International Mercator Business Academy which started in October 2008 and is expected to be completed in May 2009; 24 participants are from Slovenia, and 2 are from Croatia, Bosnia and Herzegovina, and Serbia, respectively. Education and training Our tutoring / coaching network includes our best sales personnel and butchers whose mission is to transfer their professional knowledge to the new employees. In Mercator Group, a total of 272 coaches have been promoted within competence centers. 781 store managers from all programs attended the Mercator Store Manager School; they completed the courses in 27 groups; combined, they attended 30,747 hours of training. The strategic project Customer Loyalty System Revision included training of 4,400 cashier operators from all markets. The Group is paying the tuition for 531 employees studying at undergraduate and postgraduate programs. In 2008, Mercator Group accepted 846 high school students for apprenticeship. 85

86 Staffing and recruitment As of January 1 st 2008, 231 workers joined the controlling company as the company Pekarna Grosuplje, d.d., was merged. The company Mercator-H, d.o.o., merged the company Presoflex, d.o.o., thus taking over the remaining 476 employees. The company Mercator-BH, d.o.o., took over 188 employees from the acquired company Omega, d.o.o., We are employing various ways of recruitment in order to decrease the lack of operative labor force (predominantly sales personnel, butchers, bakers, and chefs) in major cities and some coastal regions in all markets of the Mercator Group operations. In Slovenia, we have partly tried to solve the problem by employing immigrants and by cooperation with staffing agencies. When looking for candidates for a particular position, we are using both employment ads and modern recruitment approaches: announcements on special employment posters at stores, radio employment ads, articles in the Mesec magazine and the Finance daily paper, promotional letters to Zois grant holders and selected graduates, lectures for the unemployed at the Employment Agency, etc. The project "Employees employ" resulted in employment of 89 new workers. We have also announced a prize competition for graduate and master theses by students of humanities. We have standardized the process of accepting new workers at the controlling company and prepared instructions for staffing and commencement of duty at the parent company. The company Mercator-BH, d.o.o., was ranked among the 25 most desirable employers in Bosnia and Herzegovina. Motivation and compensation As of March 1 st 2008, the Management Board of Mercator, d.d., raised the salaries for employees by introducing an inflation allowance as an addition to the base salary in the amount of 3 to 7 percent. As of May 1 st 2008, base salaries were increased by 1 percent and the inflation allowance was adapted in compliance with the Collective Labor Agreement for the Trade Industry. As of August 1 st 2008, the inflation allowance was abolished and entirely transferred to base salaries. The salaries were additionally increased for those work posts where the base salaries failed to reach the new agreed minimum for each tariff group in compliance with the said Collective Labor Agreement. In the 2008, 3,596 employees were promoted at various levels of the Mercator Group, of which 505 were key executive associates in Slovenia. In the period at hand, 12 groups of employees attended the motivational training on Vogel; of these, 5 groups consisted of store managers abroad, 6 groups consisted of store managers from Slovenia, and 1 group comprised internal control employees. 86

87 9 celebrations were organized for the employees who have reached a major milestone in their career, clocking up 10, 20, or 30 years of total work experience. We have paid 11,663 voluntary collective pension insurance premiums for employees of Slovenian companies of the Mercator Group, amounting to a total of EUR 5,165, During Christmas time, employees received additional allowances which on average amounted to 85 percent of net monthly wage per employee. All employees received New Year's presents and 3,905 children of our employees from Slovenia, Serbia and Montenegro additionally received New Year's presents. We have completed the second competition for the Best Boss 2008 and selected 16 best bosses (superiors) in the controlling company and the company Mercator-BH, d.o.o. Employee communication In Mercator Group, we conducted annual talks with our employees in all markets, at all levels; for the first time, these talks were also held this year in the company Mercator Mex, d.o.o. Of 21,178 planned annual talks, 16,930 (79.9 percent) have been conducted. 7 issues of the internal bulletin / magazine were published in Slovenia in 2008; Croatia, Bosnia and Herzegovina, and Serbia have seen four issues, and Montenegro has seen two. The appearance of the Slovenian issue has been redesigned. In November 2008, we issued the Manual for the Newly Employed which is presented to all new employees in the controlling company upon assuming their duties. The open door days at the controlling company Management Board president were attended by 16 employees. In other companies of the Mercator Group, 36 employees took part in similar meetings with the company management. We have used the electronic bulletin to inform our employees in the controlling company and to convey all important information, including the information disclosed to the media / press. In the parent company, the management held regular meetings with representative trade unions and the Workers' Council. 87

88 Intercultural organizational development On June 14 th 2008, the Mercator's central festivity called 30 th Mercator Day took place at the Postojna Airport. Over 26,000 employees attended the event in the company of their families. In the beginning of April, the Section of Female Managers at the Manager Association presented us a bronze horse, which symbolizes a female manager friendly company. In October 2008, we measured the corporate climate and employee satisfaction in the trade companies of the Mercator Group, using the revised and simpler questionnaire as in previous years. The Group-wide response rate was 37.1 percent which is 1.7 percentage point more than in On average, the results are better than last year, by 0.3 percentage point. Average rating of general satisfaction group-wide amounts to 3.6 (in a scale from 1 to 5). In December, we organized for the third consecutive year the voluntary help of administrative employees in retail, logistics, and Cash&Carry units. It was attended by 1,168 workers. The Mercator Hiking Society has 319 members. In 2008, they organized 13 trips which were attended by a total of 720 hikers. On September 26 th 2008, a section of the Mercator hiking Society was established in Čačak. Occupational health and safety 158 applicants received financial aid in a total amount of EUR 95, from the Mercator Humanitarian Foundation. The Management Board allocated additional EUR 53, from the planned sponsorship funds, to the Mercator Humanitarian Foundation for natural disaster relief, thus helping 148 employees. In order to reduce absenteeism and sick leaves, the controlling company has prepared a proposal on the project of "Promoting Health at Mercator, d.d." 88

89 In the period at hand, 734 work accidents occurred in the Mercator Group (0.9 percentage point more than in 2007), resulting in 104,225 lost working days. The most common injuries are cuts and falls. We have prepared two posters: "correct lifting of heavy loads" and "general tips on stress management". These were hung on all bulletins in organizational units of Mercator, d.d. We also published a brochure with exercises for a healthy and strong back which was presented to all employees and retired workers of the company Poslovni sistem Mercator, d.d. We organized the first meeting with Mercator's certified doctors and appointed their coordinator. In 2008, we presented the "Lumpi package" to 316 newborn babies of the employees at the controlling company. Customers Communication After eight years of issuing the Mesec ("Month, or Moon") magazine, we issued in June the first issue with redesigned appearance, with updated concept of contents, and additional pages. We were aiming at bringing the contents even closer to our customers; therefore, stories have been built on everyday situations, which will allow our customers more possibilities to participate. Furthermore, the method of distributing the magazine has been changed. Now, the magazine is distributed with the Delo and Slovenske Novice daily papers; the customers can also order direct delivery to their household via our website. In February 2008, we presented for the second consecutive year the prize Best Salesman / Saleswoman by the vote of our customers. We received over 15,000 votes from customers from Slovenia, Croatia, and Bosnia and Herzegovina; based on these votes, 14 saleswomen or salesmen were presented the awards. As of March 2008, our communication with the Mercator Pika card holders has been taken to a higher level as the Call Center was introduced. Response to calls is immediate, and the communication is friendly and effective. We are establishing a warm and friendly relationship with the Mercator Pika card holders as we are looking to pay them as much attention as possible. A series of TV cooking shows is aired on one of the commercial networks, called "Desetka" ("Ten"); the show is sponsored by Mercator. The concept of the show is to prepare lunch for a family of four using ingredients with a total value of 10 euros. 89