THE OF DIVERSIFICATION ANNUAL REPORT

Transcription

1 THE OF DIVERSIFICATION ANNUAL REPORT 2013

2 ABOUT THE COMPANY Cherkizovo Group is the largest meat and fodder producer in Russia. The vertically integrated structure of the Company incorporates agricultural land, feed mills, poultry farming enterprises, modern pig complexes, meat processing plants, trade houses and distribution centres. POULTRY Cherkizovo is the second-largest poultry producer in Russia. In 2013, its flagship Petelinka poultry brand was declared Product of the Year by the National Trade Association. As part of its growth strategy, the Group is set to enter the turkey meat market in PORK With an investment of over $500 million, Cherkizovo Group has built modern industrial pig farming operations in a number of regions in Central Russia. It currently breeds more than 1.5 million pigs a year at these sites. MEAT PROCESSING The Cherkizovo sausage brand has been known and loved by Russian consumers for 40 years. The Company produces a large range of sausages, wieners, ham, and delicatessen products made from high-quality meat sourced from the Group s farming enterprises. GRAIN The Group is self-sufficient in the production of its own fodder and enhances the degree of vertical integration by planting grain crops. In 2013, the Company increased its grain harvest by more than 50%, demonstrating high yields.

3 CONTENTS KEY PERFORMANCE INDICATORS RUSSIAN MEAT MARKET GROWTH OPPORTUNITIES VERTICAL INTEGRATION AND DIVERSIFICATION ARE THE CORNERSTONE OF OUR BUSINESS SUSTAINABILITY WE PROVIDE ACCESS TO OUR PRODUCTS FOR 80% OF THE RUSSIAN POPULATION Chairman s Statement Chief Executive Officer s Statement Business Review Poultry Pork...24 Meat Processing Grain IT and Distribution...30 New Projects Financial Review Governance...46 Board of Directors...46 Executive Management Board Corporate Governance Directors Report Health, Safety and Environment Employment Policies...62 Statement of Management s Responsibilities for the Preparation and Approval of the Consolidated Financial Statements for the year ending 31 December Independent Auditors Report Financial statement Consolidated Balance Sheet...66 Consolidated Income Statement Consolidated Statement of Comprehensive Income Consolidated Cash Flow Statement Consolidated Statement of Changes in Equity Notes to the Consolidated Financial Statements Shareholder Information

4 Poultry In 2013, Cherkizovo Group completed large-scale projects to expand the production facilities of its Bryansk and Penza poultry clusters. Through its increased focus on marketing and distribution, the Company has significantly increased its share of branded poultry sales and extended its output of semi-cooked products. page 22 Key Financials (USD mln) Sales Gross Profit EBITDA* Segment Profit* * Adjusted for corporate expenses Sales volume (000 tonnes)

5 Operational KPIs Change Meat yield, % 74.10% 73.90% -0.2 pts Adjusted fodder conversion rate (1 kg liveweight) % Average growing period, days % Average daily gain, g % Liveability, % 94.70% 94.10% -0.6 pts Price and direct cost (RUR/kg) Q1 Q2 Q3 Q Sales price, excl. VAT Direct cost* *excluding depreciation and subsidies

6 Pork During the year, Cherkizovo Group s pork segment achieved a more than 50% increase in production and sales volume to become the second-largest pork producer in Russia. The segment s performance was impacted by an unfavourable market situation in the first six months of 2013, but by the end of the year, had managed to restore its profitability. page 24 Key Financials (USD mln) Sales Gross Profit EBITDA* Segment Profit* * Adjusted for corporate expenses Sales volume (000 tonnes)

7 Operational KPIs Change Pigs per productive sows % Born alive per sow per year, heads % Prewean mortality, % 11.83% 11.63% -0.2 pts Farrowing capacity, % 85.58% 99.85% 14.3 pts Pigs weaned per year, 000 heads 1,407 1, % Price and direct cost (RUR/kg) Q1 Q2 Q3 Q Sales price, excl. VAT Direct cost* *excluding depreciation and subsidies

8 Meat Processing Сегмент In 2013, the мясопереработки Company s meat в processing 2013 году сфокусировался achieved на a продаже record level высокомаржинальных of profitability thanks продуктов, to segment что improvements обеспечило in заметный its sales structure, рост прибыли. as well as Инвестиции the lowering в современное of fresh производственное meat prices in the first оборудование six months также of the year. способствовали The diversified достижению structure of отличных Cherkizovo финансовых Group enabled показателей the Company сегмента to continue to operate successfully even under the most challenging market conditions. page стр.6 26 Key Financials (USD mln) Sales Gross Profit EBITDA* Segment Profit* * Adjusted for corporate expenses

9 Price and direct cost (RUR/kg) Q1 Q2 Q3 Q Sales price, excl. VAT Direct cost* *excluding depreciation and subsidies Sales volume (000 tonnes)

10 Grain Cherkizovo Group s new Grain segment reported excellent results in 2013, with the gross grain harvest increasing by more than 50%. Grain yields also significantly exceeded the average indices across the country. page 28 Key Financials (USD mln) 7.2 Sales Gross Profit EBITDA* Segment Profit* (5.1) (3.9) (9.2) * Adjusted for corporate expenses

11 Yields in the Cherkizovo Group and in Russia on average in 2013, cwt/ha: Cherkizovo, gross Cherkizovo, net Average in Russia, gross wheat corn barley sunflower Harvest breakdown % 2% Wheat 8% Corn 13% 45% Barley Sunflower Peas 25% Other

12 Key Performance Indicators Revenue $1,654.9 mln. EBITDA $180.6 mln. EBITDA margin 11 % MEAT PROCESSING Revenue $571.6 mln EBITDA $61.4 mln % in Revenue of the Group * Net of intersegment sales % in EBITDA of the Group 10, ,4 34 * Excluding Group s expenses % in Revenue of the Group % in EBITDA of the Group POULTRY Revenue $844.4 mln EBITDA $81.1 mln 10,4 10, * Net of intersegment sales * Excluding Group s expenses % in Revenue of the Group % in EBITDA of the Group PORK Revenue $338.8 mln EBITDA $59.0 mln 10, ,4 33 * Net of intersegment sales * Excluding Group s expenses % in Revenue of the Group % in EBITDA of the Group GRAIN Revenue $26.8 mln EBITDA $5.1 mln 10,4 2 10,4 3 * Net of intersegment sales * Excluding Group s expenses

13 Net Profit $64.5 mln. 1 in Russia IN MEAT AND COMPOUND FEED PRODUCTION Segment Profit $41.1 mln 2 in Russia Market share 4% Sausages Hams Semi-cooked products 6 complexes Sales volume* 135,000 tonnes Segment Profit $36.8 mln 2 in Russia Market share 11% Chilled poultry Semi-cooked products Frozen poultry 7 complexes Sales volume* 343,000 tonnes Segment Profit $12.6 mln 2 in Russia Market share 6% Live pigs Meat raw materials 14 farms Sales volume* 158,000 tonnes Segment Profit $2.0 mln Wheat Barley Sunflower Corn 140,000 Landbank 175,000 ha Harvested more than tonnes of grain crops Highlights * Rounded figure

14 Russian meat market growth opportunities Forecasts by the Russian Ministry of Agriculture indicate that by 2020, annual meat consumption in Russia will exceed 80kg per capita. Increased consumption and import substitution will be the main drivers of market growth in the period between Import Substitution Share of imports in the consumption of meat in Russia (%) 27 Beef Pork Poultry Due to a combination of measures to protect the Russian market and support the country s producers, the market share of imported meat products is constantly being lowered. The poultry market, for example, is now supplied almost entirely by local Russian producers (source: National Pork Producers Union, Russian Poultry Union. ) 2013 Changes in Consumption Trends Changes in the structure of the Russian meat market (volume, %) 34 Beef Pork (source: MeatInfo, 2013) Poultry Other Meat consumption in Russia is changing. The beef share of the market is decreasing, while consumption of poultry, as the most affordable source of protein, is continuing to grow. In sausage products, beef is also often substituted with poultry. Growth of Consumption Annual consumption of meat per capita in 2013 (kg) E 78 Russia (source: MeatInfo, 2013) Biological norm (75 kg) USSR (1988) EU Canada Australia USA Russia is a northern country with a traditionally high consumption of meat, but after the breakup of the Soviet Union, meat consumption decreased due to falling consumer living standards. Today, consumption per capita in Russia is lower than in the rest of Europe, and even lower than it was 25 years ago. Production volumes growth Meat production in Russia (mln tonnes) The volume of product on the Russian meat market was estimated to be 12.2 million tonnes in real terms in Average annual market growth in volume terms over the past 5 years was 4.7% (source: MeatInfo, 2013, live weight)

15 For the protection of local producers, meat import quotas have been introduced. The annual quota amounts to 360,000 tonnes of poultry and 430,000 tonnes of pork. Imports in excess of the quota are subject to high import duties. Market review Preferential Taxation Under the Russian Tax Code, agricultural producers activity qualifies as tax-free profit. For the Cherkizovo Group, this applies to the poultry, pork and grain segments. State support for the agricultural enterprises Interest Rate Subsidy Import Quotas Agricultural producers may be reimbursed for their interest payments on investment loans for production development, as well as on working capital. Because of this law, Cherkizovo Group maintains a very low cost of debt. Meat import quotas have been introduced in Russia for the protection of local producers. The annual quota amounts to 360,000 tonnes of poultry and 430,000 tonnes of pork. Imports in excess of the quota are subject to high import duties. Pursuant to signed treaties, this standard has continued since Russia s accession to the World Trade Organization (WTO) in 2012, with no fixed term for poultry and a quota expiration date of 2020 for pork imports. Regional Development Programmes In a number of Russian regions, local programmes apply to support investors in large agro-industrial projects. Under these programmes, investors may be provided with direct subsidies and preferential loans. Local administrations may also assume an obligation to provide new agricultural enterprises with the required infrastructure.

16 Vertical integration and diversification are the cornerstone of our business sustainability Land bank Grain Feed 6compound feed plants 140,000 ha of land 6 major land clusters 175,000 tonnes of grain crops were harvested in 2013

17 Pork Meat Processing Distribution 6meat processing complexes 22 warehouse complexes in 14 key cities 14 pork complexes Poultry 1,000 refrigerated trucks 7 poultry farming clusters

18 We provide access to our products for 80% of the Russian population Processed Meat Products Poultry Products Cherkizovsky is a leading sausage and meat brand, with almost 40 years of heritage and many awards for quality. Petelinka is the leading brand in the chilled poultry segment on Moscow market. Petelinka is a price leader in the super-plus segment and is represented nearly in all federal and local trade networks. The products are manufactured in the environmentally protected Moscow region and require minimal time to be delivered from farm to fork. Imperiya Vkusa dainty ham and smoked products made of whole slices of selected meat are produced under this trademark. Vasilievka is the leading brand of chilled poultry in the mid-price segment in Penza and the Penza region. It is an ecologically- and dietary-friendly product at a reasonable price. Myasnaya Gubernia is a trademark offering sausage products with an optimal value for money factor. Domashnya Kurochka is an eco-product in a premium segment of the Moscow chilled poultry market. The chicken is bred and fed in the Moscow region in close to domestic conditions. Penzensky is the leading regional brand firmly associated on the consumer market with high-quality meat products. The Penzensky trademark includes premium quality sausages produced from fresh chilled meat, with recipes developed by the Company s scientists. Chicken Kingdom is a high quality chilled and frozen poultry. The products manufactured in the Bryansk and Lipetsk regions, available in many Russian regions and widely recognised. Ulyanovsky is a leading trademark of the meat products of Volga Region, focusing on Ulyanovsk and the Ulyanovsk region. Mosselprom is one of the leading brands on Moscow and Moscow region markets, which joined Cherkizovo Group in Highquality chilled and frozen poultry and semi-cooked products are produced under this trademark.

19 Kaliningrad Saint Petersburg Vologda Region Moscow Region Bryansk Region Orel Region Tula Region Kursk Region Lipetsk Region Tambov Region Penza Region Ulyanovsk Region Kazan Voronezh Region Samara Rostov-on-Don Chelyabinsk Distribution centres Meat processing plant Pork complex Poultry complex Compound feed plant Plowing land

20 Chairman s Statement 2013 demonstrated that even in the most challenging market conditions, Cherkizovo Group is able to continue implementing its growth and efficiency strategy. Over the past year, we have managed our business professionally and competently, and coped with all the difficulties presented by such a formidable economic environment. Vertical integration and diversification are two of the key factors that ensure the sustainability of our business. We have already overcome our greatest difficulties. Now, looking forward, we are strongly positioned to achieve continued sales growth and a higher level of profitability. The Russian agricultural industry is certainly able to manage difficult market conditions, but 2013 really was an exceptionally challenging year, with a series of adverse events all happening simultaneously. The market was disrupted by a poor harvest, grain shortage, overproduction and a lack of timely state support meaning that only the strongest companies, such as Cherkizovo Group, were able to survive. Despite the significant decrease in our profitability, I am proud of the results we achieved in such a volatile market. The meat market crisis failed to prevent us from increasing our production output and revenue and I am confident that our strategy to build a dynamic, market leading company has once again proven to be resilient and efficient. In 2013, the state played an important role in supporting Russian farming companies. The Government allocated additional funds to support the country s agricultural producers. As a result, agricultural losses were partially compensated. However, state support programmes need to be streamlined in order to be sustainable. The strategy of supporting new agrarian projects has achieved its objectives, with an increase in the national production of meat and a reduction in the volume of imported meat. Nonetheless, state resources are exhaustible, and we have to recognise that the state will not be able to provide ongoing universal support. Therefore, state support measures not only need to be readily available, they must also be earmarked for those manufacturers who have already demonstrated their reliability and efficiency, and who provide economic benefits for regions of the country. The Group s activites In 2013, Cherkizovo Group achieved growth of its production output and sales in all segments of its operations. Obviously, the unfavourable pricing environment that existed during the first half of the year did not enable us to realise the proposed financial return from this growth, but in the second half of the year the Company received direct compensation subsidies, grain prices went down, and the pork market recovered, which ensured we closed the year in profit. One of the most positive results of 2013 was the substantial expansion of our pork production, following the completion of the Group s investment programme. We became Russia s second-largest pork producer, with output and sales both increasing by 50%. This sector was affected by falling prices, but their subsequent recovery means the Group s pork segment continues to be one of our most profitable lines of business.

21 In the Poultry segment, we have completed largescale projects to expand our facilities in the Penza and Bryansk regions. We are also continuing to implement the projects we have announced previously: developing a turkey farm in Tambov in cooperation with our Spanish partners and building an agro-industrial complex in the Lipetsk region. In addition to the expansion of our facilities, we are improving our sales structure and investing more funds into marketing to retain our profitability in the face of increasing market saturation. The Meat Processing segment plays an important stabilising role in our business. It possesses considerable growth potential that can be realised both through further automation of production and the introduction of innovative new products. The launch of the new Cherkizovo Express product range, which coincides with the 40th anniversary of the Cherkizovsky Meat Processing Plant, is one of the ways we will realise this potential. Today, Cherkizovo is self-sufficient in meeting its needs for high-quality feeds and maintains complete control over their production. The Grain segment that we established in 2012 has enabled us to achieve greater efficiency in feed production. Further investments in the development of the land bank and a modern agricultural equipment fleet will allow us to utilise the advantages offered by the Group s vertical integration to the maximum extent possible. Management Cherkizovo Group makes investments not only in its production facilities, but also to support the development of its team. We engage highly knowledgeable specialists from Russia and around the world to introduce cutting edge technologies in both production and management. Our team of experienced sales and marketing professionals is supporting our goal of becoming a true product leader in a highly competitive market. I wish to thank each and every Cherkizovo employee for their hard work, their responsiveness to challenge, and most of all for their unique ability to consistently identify and implement the best solutions. The Company results are due to their capability and commitment. value to our shareholders in particular through the introduction of a dividend payment system or stock buyback. At the same time, within the framework of the dividend policy, the Board of Directors has to take into account the current industry situation, the level of the Company s debt and other factors in order to successfully meet the long-term interests of our shareholders. Prospects 2013 demonstrated that even in the most challenging market conditions, Cherkizovo Group is able to continue implementing its growth and efficiency strategy. Vertical integration and diversification are two of the key factors that ensure the sustainability of our business. We have overcome the biggest difficulties. In 2013, we coped with all the difficulties and now, looking forward, we are strongly positioned to achieve continued sales growth and a higher level of profitability. Dividend Policy The Board of Directors has been considering various market methods to deliver additional Igor Babaev Chairman

22 Chief Executive Officer s Statement 2013 was a milestone year for Cherkizovo Group, with revenues exceeding 50 billion roubles for the first time in the Company s history, reconfirming our status as the country s largest meat producer (more than 600,000 tonnes) and fodder producer (more than one million tonnes). Cherkizovo is not just a large company, however it also plays an important social role by making a substantial contribution to the country s food safety was one of the most difficult and challenging years on record, not only for Cherkizovo Group, but also for the entire Russian meat industry. Grain prices started the year at a historic high, with domestic prices surpassing all European record. The more than twofold increase in grain prices understandably had a significant impact on the profitability of domestic poultry and pork producers. The downturn in live pig prices that began in 2012 exacerbated the situation still further. Prices fell on an almost weekly basis in the first quarter of the year, reaching a minimum level in April that was actually below the production cost. As a result, even the most efficient Russian pork producers suffered sustained losses. However, owing to our diversified and vertically integrated structure, Cherkizovo Group managed to minimise losses in its Pork division and was able to partially compensate further for the market conditions through growth in its meat processing division. As a result, despite a particularly demanding trading environment, the Company was able to deliver growth and remained profitable. Results of the Group s Activity 2013 was a milestone year for Cherkizovo Group, with revenues exceeding 50 billion roubles for the first time in the Company s history, reconfirming our status as the country s largest meat producer (more than 600,000 tonnes) and fodder producer (more than one million tonnes). Cherkizovo is more than just a large company, however - it also plays an important social role by making a substantial contribution to the country s food safety. During the year, we completed several largescale projects, including doubling the production capacity of the Poultry division in the Bryansk and Penza regions. With the poultry market nearing saturation, the Company plans to increase its focus on both production and marketing. In 2013, for example, we significantly increased our share of branded product sales, and our flagship Petelinka brand was recognised as Product of the Year by Russia s National Trade Association. The Group also completed a major investment programme in its Pork division, which increased installed capacity to 180,000 tonnes of live weight per year. We made a great leap forward in 2013, from 100,000 to more than 150,000 tonnes of annual sales to become Russia s second-largest pork producer. Our goal over the next few years is to become Russia s most efficient pork producer in terms of production cost and operating indicators.

23 Profitability in our Meat Processing segment reached an all-time high in the first half of the year, as the Poultry and Pork divisions were suffering from low meat prices and the high cost of fodder. This demonstrates the fact that we have created a unique and diversified structure that allows us to maintain stability under any market conditions. The Grain division achieved outstanding results. We harvested one and-a-half times more from the same cultivated area than in 2012 and increased our wheat harvest twofold and corn harvest threefold, while our yields were oneand-a-half to two times above the national average. Increasing and strengthening our vertical integration will give Cherkizovo Group an even greater competitive advantage. Government Regulation In recognition of the difficult conditions facing the agricultural industry, the Russian Government decided to allocate one-time direct subsidies to compensate for the increased fodder costs. The Company subsequently received direct subsidies of 770 million roubles, which softened the adverse impact of the market situation. Russia s sanitary and veterinary authorities took a series of actions authorised by the World Trade Organization (WTO) to tighten restrictions on meat imports. Pork imports from the US, Canada and Brazil were banned due to the use of the steroid ractopamine on farms in those countries, which is prohibited in the European Union (EU). Imports of live hogs from the EU were banned, and restrictions were imposed on meat imports as a result of animal infections in some European countries. Prospects The meat and grain markets showed a substantial improvement by the end of 2013, so we expect 2014 to be a successful year. Prices for the new grain harvest fell by just half, to a more sustainable level for producers. Live pig prices increased by more than 40% between May and September, reaching levels that allowed efficient producers to make an acceptable profit to support further development. The price shock of 2013 forced major producers in Russia to freeze investment projects for pork production, which means that as market demand for pork increases in the next few years, slow supply growth will create a more favourable pricing environment. In the future, Cherkizovo Group s priority focus will be on sales and marketing, with investments mainly allocated to infrastructure projects that make production even more efficient. This will include hatcheries, feed mills and grain storage facilities, along with improvements in the Company s IT systems and logistics infrastructure. We are also carefully analysing the market for M&A opportunities and examining the prospects for strategic acquisitions that offer the potential to make our business larger and even more efficient. Sergei Mikhailov CEO

24 Poultry Business review Poultry Thanks to government policy aimed at protecting Russian producers after the country s accession to the World Trade Organization (WTO), about 90% of market demand was satisfied by Russian producers, including Cherkizovo Group as one of the three leading companies in the poultry market and the leading producer of branded poultry products. Key Financials (USD mln) Share of poultry market, 2013 (slaughter weight, %) Sales 14% Prioskolye Cherkizovo Gross Profit EBITDA* Segment Profit* 57% 5% 6% 11% 7% Belgrankorm Resurs Severnaya Other (source: Russian Poultry Union. ) Sales volume (000 tonnes) * adjusted for corporate expenses

25 Cherkizovo Group 2013 Annual Report In 2013, the Russian poultry market grew at a slow pace, due to a high level of market saturation. The Russian Poultry Union estimates that poultry consumption across the country amounted to 4.4 million tonnes. Thanks to Government policy aimed at protecting Russian producers after the country s accession to the World Trade Organization (WTO), about 90% of market demand was satisfied by Russian producers, including Cherkizovo Group as one of the three leading companies in the poultry market and the leading producer of branded poultry products. Market saturation forced prices to stagnate in Following price increases in the fourth quarter of 2012, in the first quarter of 2013 prices for poultry returned to a stable level of around 75 roubles/kg without VAT and remained relatively unchanged throughout the year. However, the growth of fodder prices in the first six months, due to the abnormally high price of grain, had an extremely negative impact on the financial results of Russian poultry farming enterprises, including Cherkizovo Group. The poultry gross margin was reduced to 18%. In 2013, EBITDA amounted to $81.1 million with an EBITDA margin of 10%. In the Bryansk region, production capacity grew from 35,000 to 85,000 tonnes of live weight poultry per year. As part of the project to expand facilities, 52 bird houses were constructed with 1.8 million bird places at Roscha broiler farm, along with 56 bird houses at Pervomaiskaya broiler farm, with a further 1.9 million bird places. In addition, a modern hatchery was built with a capacity of 66 million eggs per year, and a feed mill is under construction. Investments in the project have so far exceeded 3 billion roubles. Sales in the poultry segment in 2013 grew by 7%, to 343,000 tonnes of sellable weight. One of the most positive trends is the continued growth in the Group s share of branded products, which in 2013 grew by 7 points to reach almost 60% of sales, as compared to 53% in Ready-to-cook products were another area of strong sales growth. This reinforces the Group s strategy to focus on growth of production volumes, having increased the segment s profitability through improvements to its product portfolio. In 2013, following earlier investment, Cherkizovo Group announced the completion of large-scale projects to enhance its poultry production complexes in the Penza and Bryansk regions. In the Penza region, the Vasilievskaya poultry farm saw its live weight capacity increase from 60,000 to 125,000 tonnes per year following improvements to its existing production site and the construction of new facilities. The 4.5 billion-rouble project also included the building of one of Europe s largest incubator hatcheries, with a capacity of over 105 million hatching eggs per year, and the Vertunovka parent flock site, with a capacity of 60 million hatching eggs per year. Poultry sites in the Kuznetsovsky and Bessonovsky districts were purchased and modernised. Over the course of the year, approximately 120 million hatching eggs were produced and over 55 million chicken broiler livestock were also raised at the Vasilievskaya poultry farm. 23

26 Pork Business review Pork For the first time in the Company s history, more than 1.5 million pigs were sold. This resulted in Cherkizovo Group climbing one place to become the second-largest producer of pork in Russia. Key Financials (USD mln) Share of pork market in 2013 (live weight, %) Sales Gross Profit EBITDA* Segment Profit* 66% 14% (source: National Pork Producers Union) 6% 6% 3% 3% 2% Miratorg Cherkizovo Agro-Belogorie Rusagro Agrarnaya Gruppa CoPitaniya Other 92.4 Sales volume (000 tonnes) * adjusted for corporate expenses

27 Cherkizovo Group 2013 Annual Report 2013 got off to a difficult start for the Russian pork market, following a slump in livestock prices in the fourth quarter of This was caused by the growth of above-the-quota meat imports in the first six months of 2012, as well as by the simultaneous introduction of essential pork production facilities in Russia. As a result, by autumn 2012, the excess supply in the market coming at the same time as the traditional butchering period - provoked a fall in prices. Prices continued to fall in the first quarter of 2013, with the majority of producers reducing their selling prices to below cost value. Costs, meanwhile, continued to escalate, due to the growth of fodder prices. The pork market began to stabilise by the beginning of the traditional consumption growth period around the May Day holidays and after the Russian Government introduced a number of sanitary restrictions during the first quarter on meat imports from abroad, in particular on pork imported from the US, due to its use of the steroid ractopamine in pig-rearing, which is prohibited in the EU. Cost reduction was another key area of focus, with staff optimisation resulting in a comparable 10% reduction in staff costs. The Company also achieved a twofold reduction in the number of fodder trailers after switching deliveries to a 24-hour operation. After the losses incurred in the first six months of 2013, the financial situation in the segment was substantially improved by the third quarter, due to the recovery of prices and the reduction in feed costs. For the year as a whole, the segment s EBITDA amounted to $59 million, with a margin of 17%. Continued improvements in the fourth quarter of the year, combined with new operating efficiencies and the benefits derived from the Group s investments during 2013, provide for an optimistic outlook for the pork segment in In spite of this challenging and volatile market situation, the pork segment of Cherkizovo Group achieved growth not only in volume, but also in monetary terms. By putting into operation new, best-in-class swine complexes in the Lipetsk, Tambov and Voronezh regions, Cherkizovo Group increased production and sales of live weight pork by 50%, to 158,000 tonnes. For the first time in the Company s history, more than 1.5 million pigs were sold. This resulted in Cherkizovo Group climbing one place to become the secondlargest producer of pork in Russia. Considerable progress in the segment followed the management s decision to focus on improving operating indices and the development of the segment s sales system. Subsequently, the number of piglets increased by more than 500,000 from the same number of breeding sows as in By the end of the year, the stable index of a pig s market weight exceeding 110kg had been achieved. 25

28 Meat Processing Business review Meat Processing The substantial output of its own Meat Processing segment helped Cherkizovo Group to stabilise its financial indices despite an overall price slump in the pork market and the lowering of livestock breeding profitability. Key Financials (USD mln) Sales Gross Profit Price and direct cost (RUR/kg) EBITDA* Segment Profit* Q1 Q2 Q3 Q Sales price, excl. VAT Direct cost* *excluding depreciation and subsidies Sales volume (000 tonnes) * adjusted for corporate expenses

29 Cherkizovo Group 2013 Annual Report Russians consume a considerable amount of meat in the form of sausages, hams and wieners. In the former USSR, there was a shortage of sausage products, but now this market is well supplied and comes almost entirely from Russian producers. Today, most supermarkets offer dozens, sometimes even hundreds, of sausage and wiener products. To be successful in this highly competitive market requires not only efficient and cost-effective production, but also many other critical factors that producers need to manage professionally. These include operating a fast and reliable supply chain, building a strong brand, establishing long-term partnerships with retailers, and having a dynamic marketing strategy. The abundance of products and the saturation of the market inevitably leads to price and volume stagnation, and these were certainly factors seen in According to industry experts, sales of sausage products in Russia fell by 5% and price competition intensified during the year. Against this market trend, Cherkizovo Group managed not only to maintain its sales, but to actually increase them from 127,000 tonnes in 2012 to 135,000 tonnes in It was also able to protect its average sales price. In support of this, the Company continued to focus strongly on sales portfolio optimisation, reducing the sales share of the cheapest group of products such as boiled sausages and increasing the share of uncooked smoked sausages and meat delicatessen products. Strengthening its partnerships with key customers was another high priority area of the Group s focus and, as a result, Cherkizovo notably improved its presence in the modern federal trade networks of Pyaterochka, Perekrestok, Metro and Auchan. its long-term development strategy, in 2013 slaughtering facilities were modernised at the Penza meat processing plant, resulting in a threefold increase in storage capacity of meat and raw meat by-products, and a twofold improvement in facilities for simultaneous livestock management. Reduced losses and the implementation of new technologies enabled the slaughtering workshop facility to increase its efficiency by 30%. With respect to other projects, the Dankovsky meat processing plant in the Lipetsk region, which provides slaughtering facilities, was acquired by the Company and will undergo modernisation. During 2013, one of the workshops at the ChMPZ (Cherkizovo Meat Processing Plant) was upgraded. This is Cherkizovo s largest enterprise in Moscow. As part of the $20 million reconstruction project, new Austrian Schaller equipment for the output of ready-to-cook meat products was installed. The line allows for 100 tonnes of meat products to be produced per day. The launch of the new Cherkizovo Express product range will allow the Group to offer consumers such sought-after products as single pieces of cooled meat in vacuum packing, shashlyk, steaks and bone-in chops. A focus on sales efficiency, as well as low prices for raw meat in the first six months, enabled the segment to achieve record EBITDA margin indices of 11%. The high output of its own Meat Processing segment helped Cherkizovo Group to stabilise its financial indices despite an overall price slump in the pork market and the lowering of livestock breeding profitability due to high grain prices. In addition to the production of sausage products, the Meat Processing segment includes the Group s slaughtering facilities. Under 27

30 Grain segment Business review Grain segment To promote the efficiency of the Grain segment, Cherkizovo has invested in modern, high-tech agricultural equipment. In 2013, the company imported tractors and harvesters, transfer bins, tow cars and special equipment as part of a 200 millionrouble investment. Key Financials (USD mln) Wheat price dynamics (4th grade mill.wheat) Sales Gross Profit EBITDA* Segment Profit* June 2012 January 2013 June 2013 January USD per tonne (Source: ProZerno) Harvest breakdown % 2% Wheat (5.1) (3.9) (9.2) * adjusted for corporate expenses 8% 13% 25% 45% Corn Barley Sunflower Peas Other 28

31 Cherkizovo Group 2013 Annual Report Two trends emerged in the Russian grain market during Early in the year, grain prices climbed to their highest-ever levels, with wheat prices, for example, reaching 12,000-13,000 roubles per tonne in the first quarter of the year. This increase was due to the extremely poor harvest in 2012 caused by adverse weather conditions. However, in complete contrast, the harvest collected in Russia in 2013 was one of the richest in recent years, generating over 90 million tonnes of grain, vs 75 million tonnes in This resulted in a reduction in grain prices early in the summer and their return to the previously long-term price trend of around 6,000-7,000 roubles per one tonne of wheat. To manage the high volatility of the crop market, Cherkizovo Group has adopted a strategy of balancing its requirements through a combination of purchases from external contractors and in-house crop production. Due to vertical integration and the availability of large-scale facilities for grain storage capable of accommodating over 500,000 tonnes of grain at a time, the Company is able to work efficiently in a tough market environment and operate a flexible procurement strategy. in terms of the net weight grew by 50%, from 33 cwt/ha to 49 cwt/ha. This result considerably exceeds the average ratio in Russia of 23 cwt/ ha (the gross crop yield according to data from the Ministry of Agriculture of the Russian Federation). Total sales in the segment amounted to $26.8 million, with EBITDA of $5.1 million and a margin of 19%. Cherkizovo Group not only raises highquality crops, it also stores them efficiently. The Company s grain stores, located in the pivotal regions of the Black Earth and Volga districts, can accommodate over 500,000 tonnes of crops at a time, enabling Cherkizovo to purchase grain at the most favourable market price and manage stock efficiently. To improve the capabilities of the Grain segment, Cherkizovo has invested in modern high-tech agricultural equipment. In 2013, the company imported tractors and harvesters, transfer bins, tow cars and special equipment as part of a 200 million-rouble investment. A new grain-drying facility was constructed in the Voronezh region and the Company also plans to extend its agricultural equipment fleet in In 2012, the Group established a grain segment to manage the land bank in the Voronezh and Orel regions. Following the results of the agricultural campaign in 2013, the volume of crops collected from the 40,000-hectare cultivation area produced 175,000 tonnes of grain (bunker weight), 51% more than the 116,000 tonnes generated in The net weight of the crop amounted to 163,000 tonnes, 48% more than the 110,000 tonnes produced in As a result of successful crop rotation, the Group was able to increase the harvest of wheat twofold and achieve a threefold improvement in corn production. In addition to the growth in crop collection, Cherkizovo Group achieved a considerable gain in productivity. For example, the gross crop yield of winter wheat increased by 48%, from 34 cwt/ ha in 2012 to 50 cwt/ha in The crop yield 29

32 IT and distribution Business review Thanks to the Group s understanding of its partners needs, the continuity of supply and the high quality of its products, Cherkizovo is recognised as a reliable supplier to major supermarket chains. The availability of products for consumers and the presence of those products on store shelves are key success factors for food producers. Cherkizovo s own distribution system and specialist fleet of delivery vehicles forms the logical ending of the Company s vertical integration and provides the Group with a significant competitive advantage over other meat producers. The Group s large-scale distribution network covers the whole of the European part of Russia. an automated system of route formation and logistics management based on GPS navigation to optimise the cost and efficiency of the delivery process and vehicle fleet. All of the refrigerated vehicles are branded to increase public awareness of the Group s trademarks. One of the most important trends in the market is consolidation of trading networks and the fast growth of modern retailing. Cherkizovo Group products are sold via the largest retail networks On one hand, this area is the most densely populated region of the country and is also served by modern stores. On the other hand, thanks to the strategic location of our farming enterprises, Cherkizovo is conveniently able to deliver fresh cooled products to retailers in the larger cities. Overall, the Group sells its products to over 110 million people or 80% of the Russian population. Cherkizovo operates specialised refrigerated vehicles for product deliveries, which use 30

33 Cherkizovo Group 2013 Annual Report in Russia through its cooperation with the X-5 Retail Group, Metro, Auchan, Billa, Real and other providers. The share of products sold through modern trading networks continues to increase. Five years ago, less than 40% of Cherkizovo s poultry was sold using this channel, but in 2013, that figure increased to around 50%. Thanks to the Group s understanding of its partners needs, the continuity of supply and the high quality of its products, Cherkizovo is recognised as a reliable supplier to major supermarket chains. The Company also cooperates with independent distributors supplying products to non-networked retail stores, including those in hard-to-reach regions of the country. the management resolutions adopted on the basis thereof, and improve management of the Group s resources. In 2013, a system for budgeting, planning and consolidation of statements using the Oracle Hyperion platform was implemented by the Group. This provides the Company with the opportunity to conduct more profound analysis and planning across all of its business units. All budgeting for 2014 was carried out using this new system. In 2013, the company launched a project to implement a unified ERP system using the SAP platform. The switchover to the new system will begin in the Poultry segment before it is deployed across all segments of the Group. Implementation of the SAP system will allow for the optimisation of business processes in the Company and improvements in the quality of management resolutions. Another important efficiency component of our business is the continued development of information systems. The implementation of new technology provides an opportunity to increase business transparency, ensure the quality of our statements and 31

34 New projects Business review Construction is being carried out in accordance with European efficiency standards, and further innovative solutions and energy-saving technologies will be applied to reduce production costs and environmental impact. Cherkizovo Group is Russia s largest producer of meat and combined feed, but its ambition does not stop there. After completing the main stage of its investment programme in pig and poultry breeding, which enabled it to become the market leader, Cherkizovo Group continues to invest in the building of a number of infrastructure projects that will make the business even more efficient by introducing important economies of scale. The company consistently monitors and analyses the state of the meat market in order to be able to identify and develop growing and promising niches. One such niche opportunity is the expanding market for turkey meat. Turkey consumption in Russia is still very low, with the current market size estimated at slightly more than 100,000 tonnes. However, the high nutritional value of turkey meat and its suitability to be used in sausage production indicates that consumption will increase. region. This unique combination of European experience in breeding and growing turkey, coupled with Cherkizovo Group s expertise in developing new projects in its home market, strongly positions it to realise the potential of the fast-growing turkey market in Russia. Since signing the partnership contract, Cherkizovo Group and Grupo Fuertes have invested more than 1 billion roubles in the project, including approximately 400 million roubles in This is supported by the regional administration s commitment to provide the complex with the necessary engineering, transport and energy infrastructure. 1.4 billion roubles have been allocated from the budget for this purpose. TAMBOV TURKEY In 2012, Cherkizovo Group announced the construction of a complex for producing and processing turkey meat in the Tambov region, in partnership with Grupo Fuertes, the largest producer of turkey in Spain, and also with the support of the administration of the Tambov 32

35 Cherkizovo Group 2013 Annual Report Fattening and growing sites, a combine feed factory and a complex for slaughtering and processing have been under construction for a year, and the necessary technological equipment has been purchased for these facilities. Construction is being carried out in accordance with European efficiency standards and further innovative solutions and energy-saving technologies will be applied to reduce the complex s production costs and environmental impact. The main phase of construction is scheduled to be completed in 2014, in order to begin production deliveries in The Tambov turkey complex will have a capacity of 40,000-50,000 tonnes per year, with the possibility to increase this further. ELETSPROM The Eletsprom project is being implemented by Cherkizovo Group in the Lipetsk region, and is based on the capacity of the Chicken Kingdom company. The main objective of the project is to maintain the Company s leadership position in the poultry market, with a strong emphasis on operational efficiency and synergy. The most central aspect of the Eletsprom project will be the development of new facilities, notably a hatchery and grain store. Total investment in the project is estimated at more than 20 billion roubles, and a favourable loan agreement has been made with Gazprombank at an agreed interest rate subsidised by the state budget. In 2013, due to the difficult economic conditions in the agricultural market, the company decided to postpone the implementation of the project to a later date, in order to reduce costs. Total investment in Eletsprom in 2013 amounted to 1.4 billion roubles. The main area of investment was the hatchery, which will have the capacity to produce 240 million eggs per year, supported by equipment purchased from the Dutch company Pas Reform. The coordination of construction documents is now being completed. Putting the hatchery into operation will significantly reduce the costs of incubation, as well as reduce costs and improve the quality of the Group s chickens. Moreover, in accordance with the planned schedule, the new grain store has been completed, along with the construction of a poultry site for 56 bird houses. Birds placement is scheduled for

36 Financial review Business review Sales (USD mln) Gross profit (USD mln) EBITDA (USD mln) 1, , , Net profit (USD mln) Gross margin, % EBITDA margin, %

37 Cherkizovo Group 2013 Annual Report A very unfavourable pricing environment in both the meat and grain markets in the first half of 2013 made a significant negative impact on Cherkizovo Group s financial performance. Gross profit, adjusted EBITDA and net profit declined sharply, as did our margins. At the same time, thanks to sales volume growth, the company s revenue increased by 8% in roubles (+5% in USD), to RUR 52.8 billion. In the second quarter of 2013, the Group accrued RUR 770 million of direct subsidies. These subsidies were granted in line with a Government s decision to compensate agricultural producers who suffered from the feed price increase. Cherkizovo Group s net debt decreased by 1.3 billion RUR y-o-y, but during the year, the debt/ebitda ratio increased significantly, due to declining profitability. However, the company fulfilled its obligations completely and on time. In the fourth quarter, when market conditions improved, the debt/ebitda ratio decreased, and we anticipate it will settle into a long-term trend of in Business Review Cherkizovo is the leading integrated and diversified meat producer in the Russian Federation. Statistics from Russia s Meat Union show that we are the country s secondlargest manufacturer of processed meat according to the Russian Poultry Union and our own estimates; we have the largest sales of poultry in the lucrative markets of Moscow and the Moscow region, and we are the second-largest producer nationally. We are also the second-largest producer in the highly fragmented Russian pork industry. In 2013, we sold 134,530 tonnes of meat products, 342,637 sellable weight tonnes of poultry products and 157,565 liveweight tonnes of pork. Combined, Cherkizovo Group s meat sales exceeded 630,000 tonnes, and grain sales were approximately 140,000 tonnes. The Group also produced more than a million tonnes of fodder. Our principal operations consist of the production and sale of processed meat products, primarily Ludmila Mikhailova Chief Financial Officer in the European part of Russia; the breeding of broilers, and the processing and sale of chilled and frozen poultry products produced at facilities in the Moscow, Lipetsk, Bryansk, Penza, Tula and Kursk regions, as well as the breeding of pigs at facilities in the Moscow, Lipetsk, Tambov, Vologda, Penza, Voronezh and Orel regions, the sale of live pigs, and production of grain on the company s land bank. We also carry out trading and distribution operations and produce the feed consumed in our Poultry and Pork operations. Our operations are structured into four operating divisions: Meat Processing, Poultry, Pork and Grain. We operate six meat processing plants, where we process raw meat into fresh and ready-to-cook products, and process it further into processed meat, sausages, hams and other products. The division also carries out associated sales and trading operations. Our Poultry division consists of seven production clusters and the associated sales and trading operations. Our Pork operations comprise 14 integrated pork complexes. Our Grain segment operates a 51,400-hectare land bank. All operating divisions are also involved in other non-core activities, including dairy 35

38 Financial review Business review and accompanying services. Expenses for our corporate headquarters are recorded under Corporate Expenditure. State support for agricultural production in Russian Federation Favourable profit tax Enterprises engaged in agricultural production in Russia, including our grain, poultry and pork production facilities, benefit from a favourable profit tax rate. In 2012, the zero profit tax rate, which was scheduled to increase to 18% for , and to 20% thereafter, was approved to remain at zero level in perpetuity. Our non-agricultural operations, such as the processing of chilled and frozen poultry, meat processing, trading operations and feed production, do not benefit from this rate. Largely as a result of these reduced tax rates, our overall effective tax rate in 2013 was 3.2% (2012: (6.6%)), compared to the general corporate profit tax rate in Russia of 20%. Reimbursement of interest payments Agricultural enterprises are also eligible for the reimbursement of up to two-thirds of the official Central Bank of Russia (CBR) refinancing rate from the Russian federal authorities for interest payable on loans, as well as up to one-third of the official CBR refinancing rate from regional authorities. The CBR s refinancing rate during 2013 remained flat at 8.25%. We account for interest on these loans on a net basis, after taking the subsidies into account. As of 31 December 2013, approximately 91% (down from 94% at the end of 2012) of the aggregate principal amount of our loans was eligible for, and received, the subsidies, which reduced interest for the year by $70.1 million (2012: $66.5 million). As of 31 December 2013, our effective interest rate applicable to the loans to which the interest subsidies applied ranged from 2.22% to 2.29%, compared with the weighted average interest rate on outstanding amounts under the loans, which ranged from 8% to 15%. As of 31 December 2013, our effective interest rate was at 3% (2012: 2%). Such subsidies were netted against interest expense. The favourable interest rate subsidies are not available to non-production agriculturerelated operations, such as our trading, mergers and acquisitions and meat processing operations. Subsidies The Group received direct subsidies in the amount of RUR 770 million ($24.8 million) as a one-time compensation subsidy granted by the Government. In 2012, the Group received direct subsidies to the amount of RUR 237 million ($7.6 million) in accordance with regional agricultural development programmes. The Group received interest reimbursement of RUR 2,163 million or $70.1 million (2012: RUR 2,069 million or $66.5 million). Seasonality The volume of sales and average selling prices in each of our divisions are generally highest in the second quarter, at the start of the summer season, and in the fourth quarter, at the beginning of the New Year holiday season. Post-holiday economising, combined with the period of Lent before Russian Orthodox Easter, makes the year s first quarter generally the quietest selling period. Seasonality also affects average selling prices, as retail consumers generally buy more (and more expensive) high-quality products in the fourth quarter. In addition, because feed costs are lower when crops are harvested, the second half of the year is notably more profitable for pork and poultry production. Interest rates and currency exchange Our reporting currency is the US dollar; the Group s functional currency is the Russian rouble (RUR). The rouble is not fully convertible outside the Russian Federation. Within the Russian Federation, official exchange rates are determined daily by the CBR. Market rates and official rates may differ, although this is generally within narrow parameters monitored by the CBR. Our products are typically priced in roubles, and our direct costs, including raw materials (other than imported meat products and some fodder components), labour and transportation, are also largely incurred in roubles. Other costs, such as interest, are incurred in roubles, US dollars and euros. According to the CBR, in 2013 the rouble depreciated in real terms against the US dollar by 2.3% (2012: appreciation 7.4%). In nominal terms, the rouble depreciated by 7.8% (2012: appreciation 4.7%). 99% of our long-term debt outstanding (excluding finance leases) at 31 December 2013 consisted of rouble- 36

39 Cherkizovo Group 2013 Annual Report denominated loans, with 1% US dollar- or euro-denominated. At 31 December 2012, 99% of our long-term debt outstanding also consisted of rouble denominated loans. Virtually all of our short term debt balance (excluding the current portion of long-term loans) at 31 December 2013 and 2012 was rouble-denominated. We have not entered into any transactions to hedge against the interest rate risk. Results of operations Group Results On a reported currency basis, sales increased by 5%, to $1,654.9 (2012: $1,570.3 million), due mostly to strong organic growth in the Pork segment. Gross profit decreased by 21%, to $358.4 million (2012: $452.8 million), due mostly to a very weak price environment in the Pork segment and high grain prices in the first half of Operating expenses as a percentage of gross sales increased from 14% to 16%. Net income decreased by 71% to $64.5 million in 2013, from $225.2 million in Adjusted EBITDA* decreased by 43 % to $180.6 million (2012: $314.6 million). The adjusted EBITDA* margin was at 11% in 2013, and at 14% in the fourth quarter of 2013, reflecting an improved profitability in the Pork segment. CONSOLIDATED INCOME STATEMENT DATA Year ending 31 December 2013 Year ending 31 December 2012 (as adjusted)# Sales 1,654,919 1,570,319 incl. sales volume discount (81,402) (70,338) incl. sales returns (14,863) (14,211) Cost of sales (1,296,472) (1,117,470) Gross profit 358, ,849 Gross margin 21.7% 28.8% Operating expenses (269,783) (220,710) Operating income 88, ,139 Operating margin 5.4% 14.8% Income before income tax and minority interest 66, ,695 Net income attributable to Group Cherkizovo 64, ,215 Net profit margin 3.9% 14.3% Weighted average number of shares outstanding 43,843,090 43,367,512 Earnings per share Net income attributable to Cherkizovo Group per share basic and diluted Consolidated Adjusted EBITDA reconciliation* Income before income tax and minority interest 66, ,695 Add: Interest expense 25,095 18,947 Interest income (5,719) (2,020) Foreign exchange (loss)/gain, net 3,000 (136) Depreciation expense 91,867 81,109 Impairment of current assets, subsidies write-offs - - Consolidated Adjusted EBITDA* 180, ,595 Adjusted EBITDA* Margin 10.9% 20.0% 37

40 Financial review Business review Poultry division Sales volume in the Poultry division in 2013 increased by 7% y-o-y, to 342,637 tonnes of sellable weight, compared to 319,210 tonnes in Prices in rouble terms decreased by 2% y-o-y from RUR/kg in 2012 to RUR/kg in (all prices in this review are given net of VAT). Prices in dollar terms decreased by 4% y-o-y, from $2.53/kg in 2012 to $2.42/kg in Total sales in the Poultry division were almost flat, reported at $844.4 million in 2013 (2012: $842.1 million). Gross profit decreased by 35%, to $152.0 million (2012: $232.9 million), while divisional gross margin decreased to 18% (2012: 28%) due to the high cost of sales in the first half of In 2013, the segment accounted for approximately 390 million roubles or $12.3 million of direct subsidies, received as a one-time direct compensation subsidy granted by the Government, which offset the cost of sales. Operating expenses as a percentage of gross sales increased to 14% from 12% in 2012, mostly due to higher payroll expenses, transportation costs and marketing expenses. Operating income decreased by 72% to $37.2 million (2012: $133.5 million), and our operating margin was 4%. Segment profit in the Poultry division decreased by 72% to $36.8 million (2012: $129.9 million). Adjusted EBITDA* decreased by 54%, to $81.1 million (2012: $176.1 million), and the adjusted EBITDA* margin was at 10% in 2013 compared to 21% in POULTRY DIVISION INCOME STATEMENT DATA (in thousands of US dollars) Year ending 31 December 2013 Year ending 31 December 2012 (as adjusted)# Total Sales 844, ,075 Interdivision sales (16,229) (33,125) Sales to external customers 828, ,950 Cost of sales (692,308) (609,186) Gross profit 152, ,889 Gross margin 18.0% 27.7% Operating expenses (114,844) (99,431) Operating income 37, ,458 Operating margin 4.4% 15.8% Other income and expenses, net 8,371 2,931 Interest expenses (8,812) (6,530) Division profit 36, ,859 Division profit margin 4.4% 15.4% Poultry division Adjusted EBITDA reconciliation* Division profit 36, ,859 Add: Interest expense 8,812 6,530 Interest income (6,189) (5,287) Foreign exchange (loss)/gain, net (2,116) 2,547 Depreciation expense 43,846 42,441 Poultry division Adjusted EBITDA* 81, ,090 Adjusted EBITDA* Margin 9.6% 20.9% 38

41 Cherkizovo Group 2013 Annual Report Pork division Sales volume in the Pork division in 2013 increased by 52% y-o-y, to 157,565 tonnes of live weight, compared to 103,877 tonnes in Prices in rouble terms decreased by 14% y-o-y, from RUR/kg in 2012 to RUR/kg in Prices in dollar terms decreased by 16% y-o-y, from $2.46/kg in 2012 to $2.06/kg in 2013 (live weight). Total sales in the Pork division increased by 35%, to $338.8 million (2012: $251.8 million), due mostly to sales volume growth, while the price environment was weak during the first half. A record low level of domestic prices and high cost of sales during the first half of the year negatively affected profits in the segment. Gross profit decreased by 38%, to $57.2 million (2012: $92.4 million) and divisional gross margin decreased to 17% in 2013 from 37% in 2012, due to a sharp increase in the cost of sales. In 2013, the segment accounted for approximately 372 million roubles or $11.7 million of direct subsidies, received as a one-time direct compensation subsidy granted by the Government, which offset the cost of sales. Operating expenses as a percentage of gross sales increased to 10% in 2013, vs. 9% in Operating income decreased by 67% to $23.3 million (2012: $70.7 million), and operating margin was at 7% in 2013, compared to 28% in Profit in the Pork division decreased by 80% to $12.6 million, from $63.7 million in Adjusted EBITDA* of the division decreased by 37% to $59 million (2012: $94 million), and the adjusted EBITDA* margin was at 17% in 2013, compared to 37% in PORK DIVISION INCOME STATEMENT DATA (in thousands of US dollars) Year ending 31 December 2013 Year ending 31 December 2012 (as adjusted)# Total Sales 338, ,848 Interdivision sales (97,203) (75,988) Sales to external customers 241, ,860 Cost of sales (281,577) (159,457) Gross profit 57,193 92,391 Gross margin 16.9% 36.7% Operating expenses (33,936) (21,734) Operating income 23,257 70,657 Operating margin 6.9% 28.1% Other income and expenses, net (221) 1,134 Interest expenses (10,481) (8,057) Division profit 12,555 63,734 Division profit margin 3.7% 25.3% Pork division Adjusted EBITDA reconciliation* Division profit 12,555 63,734 Add: Interest expense 10,481 8,057 Interest income (310) (380) Foreign exchange (loss)/gain, net 534 (136) Depreciation expense 35,725 22,708 Pork division Adjusted EBITDA* 58,985 93,983 Adjusted EBITDA* Margin 17.4% 37.3% 39

42 Financial review Business review Meat Processing division Sales volume in the Meat Processing division increased by 6% y-o-y to 134,530 tonnes in 2013 from 127,403 tonnes in Prices in rouble terms were almost flat at RUR/kg in 2013 vs RUR/kg in Prices in dollar terms decreased by 2% y-o-y, to $4.67/kg in 2013, compared to $4.77/ kg in Total sales in the Meat Processing division were almost flat, reported at $571.6 million (2012: $568.5 million). Divisional gross profit increased by 20% to $140.3 million (2012: $117.3 million), and divisional gross margin was a robust 25% in 2013, vs. 21% in expenses. The division generated operating income of $52.1 million (2012: $44.6 million), and its operating margin increased to 9% (2012: 8%). Profit in the Meat Processing division increased by 13% to $41.1 million (2012: $36.4 million). Adjusted EBITDA* for the division increased by 9.1% to $61.4 million (2012: $56.2 million), and adjusted EBITDA* margin in the Meat Processing division was at 11% in Operating expenses as a percentage of gross sales increased to 15% in 2013 from 13% in 2012, due to higher payroll and transportation MEAT PROCESSING DIVISION INCOME STATEMENT DATA (in thousands of US dollars) Year ending 31 December 2013 Year ending 31 December 2012 (as adjusted)# Total Sales 571, ,505 Interdivision sales (229) (574) Sales to external customers 571, ,931 Cost of sales (431,332) (451,251) Gross profit 140, ,254 Gross margin 24.5% 20.6% Operating expenses (88,135) (72,674) Operating income 52,126 44,580 Operating margin 9.1% 7.8% Other income and expenses, net (858) 1,412 Interest expense, net (10,139) (9,590) Division profit 41,129 36,402 Division profit margin 7.2% 6.4% Meat processing division Adjusted EBITDA reconciliation* Division profit 41,129 36,402 Add: Interest expense net of subsidies 10,139 9,590 Interest income (304) (395) Foreign exchange (loss)/gain, net 1,201 (656) Depreciation and amortisation, net 9,211 11,297 Meat processing division Adjusted EBITDA* 61,376 56,238 Adjusted EBITDA* Margin 10.7% 9.9% 40

43 Cherkizovo Group 2013 Annual Report Grain division In 2013, Cherkizovo harvested more than tonnes of grain (bunker weight), which is 51% higher than in 2012, reported at about 116,000 tonnes. Harvest in net weight was at about 163,000 tonnes in 2013, which is 48% higher than 2012 s 110,000 tonnes. In the 2013 agricultural season, the Company sowed approximately 40,000 hectares in the Orel and Voronezh regions. Sales volume in the Grain division increased by 24% y-o-y, to 139,565 tonnes in 2013 from 112,414 tonnes in Wheat, barley and corn accounted for 80% of sales (in tonnes) in Total sales in the Grain division amounted to $26.8 million in 2013, compared to $35.8 million in Divisional gross profit decreased by 42% to $8.2 million from $14 million, while the divisional gross margin decreased to 31% in 2013, from 39% in the previous year. Operating expenses as a percentage of gross sales increased to 20% in 2013 from 13% in 2012, due mostly to high payroll expenses. The division generated operating income of $2.9 million, and its operating margin was at 11% in 2013, vs. 27% in Profit in the Grain division was $2 million vs. $7.2 million in Adjusted EBITDA* for the division decreased by more than 63%, to $5.1 million compared to $13.8 million in Adjusted EBITDA* margin in the Grain division was 19% in 2013 vs. 38% in GRAIN DIVISION INCOME STATEMENT DATA (in thousands of US dollars) Year ending 31 December 2013 Year ending 31 December 2012 (as adjusted)# Total Sales 26,765 35,773 Interdivision sales (13,428) (18,357) Sales to external customers 13,337 17,416 Cost of sales (18,566) (21,739) Gross profit 8,199 14,034 Gross margin 30.6% 39.2% Operating expenses (5,283) (4,483) Operating income 2,916 9,551 Operating margin 10.9% 26.7% Other income and expenses, net Interest expenses (881) (2,507) Division profit 2,046 7,219 Division profit margin 7.6% 20.2% Grain division Adjusted EBITDA reconciliation* Division profit/(loss) 2,046 7,219 Add: Interest expense 881 2,507 Interest income (11) 9 Foreign exchange (loss)/gain, net (1) - Depreciation expense 2,185 4,018 Grain division Adjusted EBITDA* 5,100 13,753 Adjusted EBITDA* Margin 19.1% 38.4% 41

44 Financial review Business review Liquidity and Capital Resources Capital requirements In addition to our working capital requirements, we need capital to finance the following: > > Capital expenditure, particularly in connection with further development of our production segments; > > Potential acquisitions; > > Repayment of debt. We anticipate that capital expenditure, potential acquisitions and the repayment of long-term debt will represent the most significant use of funds over the next few years. We generally rely on operating cash flows and bank loans to finance capital expenditure. In 2013, the major sources of our funds were our operating cash flows and long-term loans. We financed our capital expenditure primarily with long-term loans. Debt Net debt** at the end of 2013 was RUR 24,746.5 million ($756.1 million). Total debt was RUR 27,526.4 million ($841 million). Of total debt, long-term debt was approximately $523.8 million, or 62 % of the debt portfolio. Short-term debt was $317.2 million, or 38% of the portfolio. Cost of debt for 2013 was 2.9% (2012: 2.1%). The portion of subsidised debt in the portfolio was 91%, compared to 94% as of 31 December Cash and cash equivalents totalled $64.4 million at 31 December Capital expenditure The Group s capital expenditure on property, plant and equipment amounted to $161.1 million in Of that, $75.8 million was invested into the Poultry division, mainly Capital Expenditures ( 000 USD) , , Poultry ,798 Pork ,678 Meat processing ,590 Grain Gross debt (USD mln) Gross debt (USD mln) 59% % % 9% 62% 38% % 91% long-term short-term subsidised loans unsubsidised loans 42

45 Cherkizovo Group 2013 Annual Report into breeding and hatching sites and feed mills, as well as slaughter and processing sites, as part of the capacity increase projects at the Bryansk and Penza clusters; $36.3 million was invested into the Pork division, mainly in the construction of feed mills and grain storages; $29 million was invested into the Meat Processing division (production equipment), and $18 million was invested into the Grain division (agricultural machinery). Cash flow Exchange rate fluctuations during 2013 impacted the figures in our cash flow statement, particularly on the figures in operating and financing activities. The average exchange rate of rouble/dollar in 2013 was , compared to in Cash from (used in) operating activities Net cash from operating activities was stated at $178.3 million in In 2013, the company decreased its working capital by $10.3 million, compared to an increase of $58.5 million in Working capital was decreased due to decreasing inventories of $7.3 million, compared to an increase of $75.4 million in 2012, and a decline in trade receivables by $2.3 million, compared to an increase of $20.2 million in A significant inventory increase in 2012 resulted from the company s decision to increase its stock of raw materials (wheat, corn, pea) on the back of a poor harvest, and from a livestock increase on the back of reaching full capacity at pork facilities. In 2013, the company experienced a slight inventory decrease of $7.3 million. A slight decrease in trade receivables was due to the improvement of contract terms with our retail partners. Despite the improvement in working capital in 2013, a significant decline of net income y-o-y negatively impacted cash flow from operating activities. As a result, net cash flow from operating activities decreased by $54.5 million, to $178.3 million in 2013 vs. $232.8 million in Cash from (used in) investing activities Net cash used in investing activities decreased slightly to $155.1 million in 2013, compared to $199.8 million in This decrease was mostly due to lower investments in the Pork segment, as all the key projects were completed in However, in 2013 the company doubled its investments in the Meat Processing division ($30 million, compared to $15 million in 2012). The Group also invested about $18 million into its new Grain segment in Cash from (used in) financing activities Net cash from financing activities was stated at $6.1 million in 2013, compared to a decrease of $22.4 million in The decrease in cash from financing activities in 2012 was due to the acquisition of entities under common control. Liquidity As of 31 December 2013, we had total cash and cash equivalents of $64.4 million (2012: $41.2 million). We also had working capital of $35.3 million, representing a significant improvement vs working capital of $0.1 million in Since this date, we have continued to meet our obligations to trade creditors from operating cash flow and debt financing Cash flows from (used in) operating activities: 178, ,810 Cash flow from (used in) investing activities: (155,064) (199,831) Cash flow from (used in) financing activities: 6,109 (22,373) Net increase in cash and cash equivalents 23,205 12,465 43

46 Financial review Business review Poultry, sales by channel, % 1% Modern retail 32% 38% % 51% Traditional retail Wholesale 14% 16% оther Meat Processing, sales by channel, % 7% 6% Modern retail 24% 19% Traditional retail 32% % Wholesale Distribution 22% 16% 24% 16% оther Our trade working capital, which we define as current assets less current liabilities, excluding short-term loans and the current portion of long-term loans, was $352.5 million as of 31 December 2013 (2012: $367.1 million). In 2013, trade receivables decreased to $82.6 million (2012: $90.9 million). Trade receivables from related parties at 31 December 2013 were at $1.7 million (2012: $1.4 million). Trade receivables turnover averaged 18 days as of 31 December 2013 (2012: 21 days). The allowance for doubtful accounts, which we create on a case-by-case basis, was $5.4 million (2012: $7.9 million). Our trade accounts payable increased, and amounted to $121.1 million at 31 December 2013 (2012: $108.9 million). Trade payables to related parties were at $1.0 million as of 31 December 2013 (2012: $1.2 million). As of 31 December 2013, trade payables turnover averaged 45 days (2012: 36 days). As of 31 December 2013, advances paid amounted to $39.8 million, net of allowances for doubtful accounts (2012: $35.1 million). Of our total net advances, $0.6 million (2012: $2.6 million) was to related parties. The allowance for doubtful accounts at 31 December 2013 was $2.6 million (2012: $1.7 million). Our inventory consists primarily of raw materials and goods for resale, work in progress, livestock and finished goods. As of 31 December 2013, our inventories were $281.6 million (2012: $308.7 million). The value of our livestock at 31 December 2013 was $129.6 million (2012: $144.9 million). Other receivables mainly comprise subsidies due from the government, which increased to $36.8 million in 2013 (2012: $22.7 million) Outlook Grain prices by the end of 2013 were at lower levels, which coincide with longstanding price trends. A shortage was seen on the pork market because deliveries from abroad have been halted. This enables a price increase 44

47 Cherkizovo Group 2013 Annual Report on live pigs, as well as an increase in pig production. On the other hand, it will place pressure on manufacturers of sausage products. The markets for chicken meat and sausage products appear to be saturated, and this prevents a price increase. In the face of stiff competition, Cherkizovo Group is planning to focus on marketing, brand development, and the strengthening of sales and logistics in order to maintain high profitability and to increase its share of shelves in stores. Management considers the weakening of the rouble that started at the end of 2013 as a beneficial factor for the Company, as it will make meat imports less competitive in terms of price. As almost all the Company s debt and the major part of raw materials are denominated in roubles, no negative effect is expected. Generally, the management of Cherkizovo Group is expecting 2014 to be a year of confident growth and positive results. Ludmila Mikhailova Chief Financial Officer *Non-GAAP financial measures. This review includes financial information prepared in accordance with accounting principles generally accepted in the United States of America, or US GAAP, as well as other financial measures referred to as non-gaap. The non-gaap financial measures should be considered in addition to, but not as a substitute for, the information prepared in accordance with US GAAP. Adjusted Earnings before Interest, Income Tax, Depreciation and Amortisation ( Adjusted EBITDA ). Adjusted EBITDA represents income before income tax and non-controlling interests adjusted for interest, depreciation and amortisation and certain other items as shown in the reconciliation in Appendix 1. Adjusted EBITDA margin is defined as Adjusted EBITDA as a percentage of our net revenues. Our adjusted EBITDA may not be similar to adjusted EBITDA measures of other companies; is not a measurement under accounting principles generally accepted in the United States and should be considered in addition to, but not as a substitute for, the information contained in our consolidated statement of operations. We believe that adjusted EBITDA provides useful information to investors because it is an indicator of the strength and performance of our ongoing business operations, including our ability to fund discretionary spending such as capital expenditures, acquisitions and other investments and our ability to incur and service debt. While depreciation and amortisation are considered operating costs under generally accepted accounting principles, these expenses primarily represent the non-cash current period allocation of costs associated with long-lived assets acquired or constructed in prior periods. Our adjusted EBITDA calculation is commonly used as one of the bases for investors, analysts and credit rating agencies to evaluate and compare the periodic and future operating performance and value of companies within our industry. Adjusted EBITDA is reconciled to our consolidated statements of operations in Appendix 1. ** Net debt is calculated as total debt minus cash and cash equivalents, short-term bank deposits and long-term bank deposits. For price calculation in dollar terms the Company used the average exchange rate for the 2013 of 31,848 roubles per 1 US dollar, For 2012, the average rate was roubles per 1 US dollar. # As required by US GAAP, comparative information for the year ending 31 December 2012 has been retrospectively adjusted for a change in accounting principle. 45

48 Board of Directors Governance Executive Directors Igor Babaev Chairman of the Board Igor Babaev has served as Chief Executive Officer of most Group s companies since He joined Cherkizovsky MPP in 1988 as chief engineer, becoming president and a member of the Board of Directors in Before joining Cherkizovsky MPP, he held a number of senior management positions within several meat processing companies across Russia. He graduated from Krasnodar Polytechnic Institute in 1971 and received a PhD from the Moscow Technological Institute of Meat and Dairy Processing Industry in He holds the distinction of Honoured Worker of the Food Industry of the Russian Federation and has been an acting member of the Russian Engineering Academy since In 2009, Mr Babaev was awarded the Order of Honour. Sergei Mikhailov Chief Executive Officer Member of the Board Sergei Mikhailov has been CEO of Cherkizovo Group since Before this, he was Deputy President and Chief Operating Officer of Cherkizovsky MPP from 2000 before joining AIC Cherkizovsky as Deputy President of Marketing and Sales in In the same year, he was appointed General Director of the Cherkizovsky Trade House. He founded the atelo, Inc Telecommunications Company in 1998 in the United States, serving as a director until He was an intern at Goldman Sachs in 1997, moving to become a financial analyst at Morgan Stanley in He graduated with a BSc in Finance from Georgetown University (Washington DC) in Evgeny Mikhailov Head of Investments Project Department, Member of the Board Evgeny Mikhailov has led Cherkizovo s Investments Project Department since 2006 and has served on the Board of AIC Mikhaylovskiy since joining as the first Deputy General Director in He was a financial analyst at Morgan Stanley in 2002, following a period in 2001 as assistant to the vicepresident at Washington DC s atelo, Inc. He received a BSc in Economics from the University of California, Los Angeles in

49 Cherkizovo Group 2013 Annual Report Non-Executive Directors Samuel Lipman Non-Executive Director Samuel Lipman joined the Board of Directors in April He also currently serves as founder and President of The Lipman Company, which has been providing management consulting services to the broiler industry since He has served as Chief Executive Officer of Broiler of the Future LLC since 2007 and as President of Stromyn Breeders LLC, an investment holding company, since Mr Lipman founded and was President and Chief Executive Officer of Golden Rooster in Lipetsk, Russia from 1996 to He graduated from Colby College, USA in Musheg Mamikonian Non-Executive Director and Chairman of the Investment and Strategic Planning Committee Musheg Mamikonian joined the Board of Directors in Since 1997, Mr. Mamikonian has held senior positions in such meat processing companies as OJSC Lianozovsky Sausage Plant, OJSC Dmitrovsky Meat Plant, and OJSC CMPP. Since 2013 he has been the President of the Meat Board of the Common Economic Space (CES ). Mr. Mamikonian graduated from Yerevan Polytechnic Institute in 1981 and received a PhD from Moscow Technological Institute of Meat and Dairy Processing Industry in He holds over 100 patents for technical and technological inventions, and in 1999 received a Russian Federation State award for achievements in Science and Technology. Vitaliy Podolskiy Non-Executive Director and Chairman of the Personnel and Remuneration Committee Vitaliy Podolskiy joined the Board of Directors of Cherkizovo Group in June He has 17 years of experience in the financial and retail/fmcg sectors in the USA, UK, Germany and Russia. He has held the position of Chief Financial Officer (CFO) at Perekrestok and X5 Retail Group NV. Between 2008 and 2013, Mr. Podolskiy held senior management positions in companies working in the food retail markets in Russia and Central Asia and served on the board of directors at Caesar Satellite, Rosinter Restaurants Holding, Kukhni Marii, Uyuterra, and Kazakhstan Kagazy. He graduated from the Moscow State University named after M. V. Lomonosov in In 1995, he received an MBA in International Business and Finance from the University of Chicago. Marcus Rhodes Non-Executive Director, Chairman of Audit Committee Marcus Rhodes joined the Board of Directors of Cherkizovo Group in February He has 30 years experience in auditing and accounting and has spent the last 20 years in Russia. From 1996 to 2008, he was an audit partner in the practices of Arthur Andersen and Ernst & Young, and also a director of Spartacus Private Equity Group Ltd. He has served as an independent director on the boards of directors of Phosagro Group, Rosinter Restaurants Holding and Tethys Petroleum. Mr. Rhodes earned a BA degree (Hons) in Economics from Loughborough University in England in 1982 and has been a member of the Institute of Chartered Accountants in England and Wales since He is also a member of the non-executive group of the Institute in London. 47

50 Executive Management Board Governance Sergei Mikhailov Chief Executive Officer Sergei Mikhailov has been CEO of Cherkizovo Group since Before this, he was Deputy President and Chief Operating Officer of Cherkizovsky MPP from 2000 before joining AIC Cherkizovsky as Deputy President of Marketing and Sales in In the same year, he was appointed General Director of the Cherkizovsky Trade House. He founded the atelo, Inc Telecommunications Company in 1998 in the United States, serving as a director until He was an intern at Goldman Sachs in 1997, moving to become a financial analyst at Morgan Stanley in He graduated with a BSc in Finance from Georgetown University (Washington DC) in Ludmila Mikhailova Chief Financial Officer Ludmila Mikhailova has been CFO since 2006, having previously held the posts of Deputy General Director of the Company and first Deputy President of AIC Cherkizovsky. In 2005, she was Deputy General Director of Cherkizovo Group. Mrs. Mikhailova worked as a financial analyst at General Mills Corporation Canada (Toronto) in 2004, joining from ING Barings (London) and also served at McFarlane Gordon Inc. (Toronto). Before this, she served as financial analyst at Cherkizovsky MPP for two years until Mrs. Mikhailova graduated from the Financial Academy of the Government of the Russian Federation in 1998 and also completed a Canadian Securities Course at the Canadian Securities Institute. She holds an MBA degree from York University (Canada), Vladislav Belyaev Head of IT Vladislav Belyaev has been Head of IT since February Prior to joining Cherkizovo, from 2008 to 2012 he was Head of the Enterprise Management Systems department at OJSC VimpelCom. He previously held senior positions at JSC CafeMax and OJSC Moscow Industrial Bank. He graduated from the Moscow Institute of Radio Engineering, Electronics and Automation, and also the Moscow State University named after M. V. Lomonosov. Sergei Groshev Corporate Security Officer Sergei Groshev joined Cherkizovo Group as Corporate Security Officer in April 2012, before which he was a director of the Apteka KB 83 Federal Entity. Prior to this he was head of the Volgo-Kaspian branch of Russia s Fish Resources Authority, where he also headed the CITI OJSC security department. He served in the police for 33 years, retiring with the rank of Colonel and with several state awards. Mr Groshev graduated from Kazan State University and the Russian Police Academy. Yury Dyachuk Head of Legal Department Yury Dyachuk has been head of Cherkizovo Group s Legal Department since He has 18 years legal practice experience and, in 2005, he led the legal support team during the restructuring of Cherkizovo Group. He has also served as Head of the Legal Department of AIC Cherkizovsky and was head of the Legal Department at CMPP. Mr. Dyachuk has a degree in Civil Law from the Moscow State Law Academy (1995). 48

51 Cherkizovo Group 2013 Annual Report Alexandr Zhukovskiy Head of Pork Division Alexandr Zhukovskiy has held the position of Head of Pork division since April He has 32 years of management experience and has worked in key positions with leading international companies, notably Mars, Dancake, Eurofoods, InBev, Istok, and PepsiCo. He has experience in the management of construction projects, business integration and reorganisation, as well as training and development and safety and security. He graduated from the Air Forces Engineering Training School (Riga) and the Air Forces Academy (Moscow) with gold medals for academic excellence. Alexey Skorobogatov Head of Procurement Alexey Skorobogatov has been Cherkizovo Group s Head of Procurement since October 2011, having spent the previous three years as Procurement Director at the Danone Nutricia Baby Food Company, responsible for Eastern Europe. Before joining Danone in 2009, he was Head of Procurement at OJSC Wimm-Bill-Dann Foods. Prior to this, he founded and headed the procurement and logistics department at OJSC MTS. He is a graduate of the Pyatigorsk State Linguistic University. Andrei Khizhnyak Head of Commercial and Marketing Strategy Andrei Khizhnyak took the post of Head of Commercial and Marketing Strategy in He has 17 years of management experience in marketing and sales in various markets. Prior to joining Cherkizovo Group, he worked for such companies as OJSC United Confectioners, Razgulyay- Market LLC, and the OST Group of Enterprises. From 2001 to 2004, he led the marketing activities of Cherkizovsky MPP and AIC Cherkizovsky. In 2010, he was recognised as one of the five best commercial directors in Russia, having previously also been acknowledged as one of the best directors for food marketing in 2007 by the Managers Association of the Russian Federation. He graduated from the Moscow State Law Academy with a specialisation in Law. Andrey Cholokyan Head of Meat Processing Division Andrey Cholokyan has been Cherkizovo Group s Head of Meat Processing since 2010 and was formerly Deputy Director for Development and Marketing at the Lianozovo Sausage Plant. Before this, he held senior positions at the Ostankinsky, Biryulyovsky and Cherkizovsky meat processing plants. He is a graduate of the Moscow Technological Institute of the Meat and Dairy Processing Industry and holds a PhD in Economics. 49

52 Corporate Governance Governance Cherkizovo s shares are listed on the Moscow Interbank Currency exchange (MICEX) and the London Stock Exchange (LSE). On MICEX, our shares are included in the quotation list A1. We are required to comply with the corporate governance standards of the Russian Federation and Great Britain. These include: > > The obligation to have at least three nonexecutive directors. Cherkizovo s Board of Directors includes four independent directors, as defined in the Corporate Governance Code recommended by the Federal Service for Financial Monitoring. We believe that Mr Musheg Mamikonian, Mr Samuel Lipman, Mr Marcus Rhodes and Mr Vitaliy Podolskiy can be regarded as independent directors in accordance with the Corporate Governance Code approved by the Federal Service for Financial Monitoring and the Corporate Governance Combined Code of the United Kingdom; > > The formation of an Executive Board. Cherkizovo formed its Executive Board in June 2010 and it currently consists of 9 members; > > The formation of an Audit Committee whose exclusive functions are appraising nominated auditors for the Company, evaluating audit reports, as well as assessing the efficiency of internal control procedures and suggesting improvements. The Committee was formed in April 2006 and membership is reviewed annually by the independent directors of the Board; > > The formation of a Personnel and Remuneration Committee, consisting of members of the Board. The Personnel and Remuneration Committee was formed in July 2010 and in 2012, the Statement concerning the Personnel and Remuneration Committee was updated. Its members are re-elected annually; > > The formation of an Investment and Strategic Planning Committee, consisting of members of the Board. The Investment and Strategic Planning Committee was formed in June 2012, with the appropriate statement being approved and members being elected; > > The presence in the internal documents of the obligation of the members of the Board 50

53 Cherkizovo Group 2013 Annual Report of Directors and the Executive Board, the CEO, including the managing organisation and its officials, to disclose information on the possession of securities, and on the selling and/or purchasing securities; > > Approval of a document that defines regulations and requirements for information disclosure. The statement regarding information disclosure was accepted on April 25, 2011; > > Adoption of a bylaw on insider trading. The register of information regarding issuer insider trading was accepted on December 28, 2011; > > Presence of the Corporate Audit and Risk Management department. The Corporate Audit and Risk Management department is responsible for building an efficient system of corporate control in Cherkizovo Group, providing support to the corporate control system and testing of the system. The office operates under Russian law, corporate procedures and regulations, orders issued by the CEO of Cherkizovo Group, and the applicable regulation. The Role of the Board The Board is responsible for the general management of the Company and has exclusive power to: > > Determine the business priorities of the Company; > > Convene annual and extraordinary general shareholders meetings, excluding cases mentioned in paragraph 8 of Article 55 of the federal Law On Joint-Stock Companies; > > Approve the agenda of the general shareholders meeting; > > Determine the effective date when making a list of people who are entitled to participate in the general shareholders meeting, and other questions related to the preparation and holding of the Company s general shareholders meeting that according to provisions of Chapter VII of the federal Law On Joint-Stock Companies are the purview of the Board of Directors; > > Adopt the general shareholders meeting agenda; > > Increase the charter capital of the Company by distribution of additional shares bound by the number and categories/ types of authorised shares; > > Place bonds and other emission securities in cases stipulated by the federal Law On Joint-Stock Companies ; > > Determine the price (monetary value) of the property, the price of emission securities to be placed or repurchased in cases stipulated by the federal Law On Joint-Stock Companies ; > > Purchase shares, bonds and other securities placed by the Company in cases provided for by the federal Law On Joint-Stock Companies; > > Appoint executive bodies of the Company and establish conditions for early termination of their authorities; > > elect the Chairman of the Executive Board and appoint the members of the Executive Board; > > Establish the amount of bonuses and compensation paid to the executive bodies of the Company: the Chairman of the Executive Board and members of the Executive Board; > > Recommend the amount of bonuses and compensation paid to the members of the Revision Committee of the Company and determination of the compensation for the auditor of the Company; > > Recommend the amount of the dividend and its payment procedure; > > Use the reserve fund and other funds of the Company; > > Approve internal documents of the Company, excluding approval of which 51

54 Corporate Governance Governance 1 of Article 48 of the federal Law On Joint- Stock Companies; > > Approve the Company s strategic plans for a period exceeding three (3) years; > > Approve the Company s plans, annual budgets and investment programmes; > > Approve the Company s capital costs, the amount of which exceeds ten million dollars ($10,000,000), or the rouble equivalent of this amount, if such capital expenditures were not provided for by the appropriate approved annual Company s budget; > > Approve the terms of the share option programmes for Company employees; > > Approve mergers and acquisitions, the amount of which exceeds ten million dollars ($10,000,000), or the rouble equivalent of this amount, if such transactions were not provided for by the appropriate approved annual Company budget; > > Action any other issues as provided for by the federal Law On Joint-Stock Companies according to the federal Law On Joint-Stock Companies is the purview of a general shareholders meeting and other internal documents, approval of which is the purview of the CEO of the Company; > > Create branches and other representative offices; > > Approve major transactions in cases specified in Chapter X of the federal Law On Joint-Stock Companies; > > Approve transactions specified in Chapter XI of the federal Law On Joint-Stock Companies; > > Approve the Company s registrar and its contract conditions, as well as termination of this contract; > > Determine the Company s participation in other organisations, except in cases stipulated in subparagraph 18 of paragraph Federal law prohibits the Board of Directors from acting on issues that fall within the exclusive purview of a general shareholders meeting. The Company Charter requires a majority of the directors present at a Board meeting to vote for an action in order for it to be approved. The exceptions are major transactions, for which Russian legislation requires a unanimous vote. A Board meeting is considered to be duly assembled and legally competent to act when a majority of the Board members are present. Board of Directors meetings shall be held in accordance with the annual schedule and as necessary, but not less than five (5) times a year. The Board met 8 times during Corporate Secretary In order to provide for the Company s Board of Directors and organisational work flow, the Board of Directors shall elect the corporate secretary for the term of the Board of Directors office. The activities of the corporate secretary 52

55 Cherkizovo Group 2013 Annual Report are governed by the respective regulation approved in Chief Executive Officer The Company s Chief Executive Officer (CEO) is responsible for the day-to-day operations of the Company, with the exception of matters exclusively in the purview of the Company s general shareholders meeting, the Board of Directors, and the Executive Board. The CEO also acts as Chairman of the Executive Board. The CEO organises the implementation of decisions of the Company s general shareholders meeting, the Board of Directors, and the Executive Board. The CEO acts in the name of the Company without warrant and represents the interests of the Company. The CEO conducts transactions, approves personnel, issues orders and provides direction to all employees of the Company. The CEO is elected by the Board for a period of up to five years. His contract is signed by the Chairman of the Board of Directors and authorised by the Board. Contract conditions are approved by the Board of Directors. Only upon approval of the Board of Directors may the CEO combine his position with other executive roles in the management of other organisations. If the CEO is not able to carry out his responsibilities, the Board of Directors has the right to make a decision on the early discontinuance of his authority and assign a new CEO. Executive Board The quantitative and personal composition of the Executive Board is approved by the Company s Board of Directors after proposals of the Chairman of the Executive Board and must be optimal for constructive business discussions as well as timely and effective decision-making. The Executive Board is authorised to: > > Develop and approve prospective and actual plans and programmes, including budgets of the Company and its subsidiaries; > > Prepare reports on the implementation of prospective and actual plans and programmes, including budgets of the Company and its subsidiaries; > > Exert control over the execution of prospective and ongoing plans and programmes, including budgets of the Company and its subsidiaries; > > Prepare annual reports and other financial reporting, as well as provide information about the Company s activities in accordance with the requirements of current legislation; > > Review and approve internal documents of the Company regarding matters for the responsibility of the Company s Executive Board; > > Develop proposals for changes to the Company s structure, including the creation and elimination of standalone subdivisions (representative offices, branches, etc.); > > Prepare and approve documents and information on projects provided to the Board of Directors of the Company; > > Review and approve the receipt of loans by the Company and real estate transactions amounting to five (5) percent or more of the Company s asset value which are made by the Company in its regular business activity; > > Review and approve major transactions made by the Company s subsidiaries, with the exception of cases specified in the Company s Charter; > > Make decisions regarding the appointment of directors of the Company s subsidiaries (branches, representative offices, etc.); > > Make decisions related to the agenda of general shareholders (participants ) meetings of subsidiaries and dependent companies in which the Company is a shareholder (participant), except in cases when the decision making on such issues is within the purview of the Board of Directors of the Company; > > Propose candidates for the positions of CEO, managing organisation, managing 53

56 Corporate Governance Governance director, management Board members, Board of Directors members and candidates in other management roles within organisations where the Company acts as a shareholder or participant; > > Review the activities and performance of the divisional units (representative offices, branches, etc.) of the Company and its subsidiaries; > > Make decisions regarding the position of the Company on issues of reorganisation, making major interest transactions, and changes in Charter capital, all of which are submitted for consideration at general meetings of shareholders (participants) of the Company s subsidiaries; > > Make decisions regarding the purchase and use of Company trademarks, approving the corporate identity of the Company and giving recommendations as to its usage. > > The Executive Board has the right to summon the Company s officials for reporting, acquire technical, economical, business and other information on the Company s activities, as well as information on its subsidiaries activities, and fulfill other duties within the frame of the Board authority. The Code of Corporate Policy (governance) of Cherkizovo Group OJSC was incorporated on January 11, On December 14, 2011, a special anonymous hotline for Company employees was implemented. Internal Control/Risk Management The Board of Directors holds overall responsibility for ensuring that the Company maintains an adequate system of internal control and risk management, and for reviewing its effectiveness. Internal control is also carried out by the Revision Committee, the activities of which are governed by the Company s Charter The commission oversees and coordinates audits of financial and economic activities of the Company. Its principal duties are to ensure that the Company s activities comply with the applicable Russian legislation, do not infringe on shareholders rights, and that accounting and reporting do not contain material misstatements. The members of the commission are elected for one year at the AGM and may not include the Chief Executive Officer or other members of the Board. Audit Committee The members of the Audit Committee in 2013 were Mr Musheg Mamikonian, Mr Samuel Lipman and Mr Marcus Rhodes, who chairs the Committee. As a chartered accountant and a retired E&Y audit partner, Marcus Rhodes possesses relevant financial experience. The Audit Committee maintains a formal agenda of items that are to be considered at each Committee meeting and within the annual audit cycle. The exclusive responsibilities of the Audit Committee are to: > > Evaluate the candidates for the position of independent auditor of the Company and provide the results of that evaluation to the Board of Directors of the Company; > > Evaluate the conclusions of the independent auditor of the Company; > > Evaluate the efficiency of current procedures for internal control and risk management of the Company, preparing suggestions for their improvement; > > Analyse the approval system for nonstandard operations of the Company and develop suggestions for the Board of Directors for its improvement. The Audit Committee is required to: > > Provide the Board of Directors with the results of their assessment of candidates for the position of independent auditor and prepare recommendations regarding the candidates for the position of independent auditor of the Company; > > Prepare recommendations regarding the amount of compensation for the independent auditor of the Company based on the nature and extent of their service; 54

57 Cherkizovo Group 2013 Annual Report > > Hold a competitive selection process for the position of independent auditor, if there is to be one; > > Analyse and discuss, together with the independent auditor of the Company, major issues that appear in the course of auditing financial (accounts) reporting prior to the publication of such reporting; > > Evaluate the opinions of the independent auditor of the Company and analyse related comments by management before providing these opinions to the general shareholders meeting of the Company (provided in the form of information materials for the AGM); > > Check transactions made by affiliated persons of the Company; > > Ensure the consistency of financial reporting prepared in accordance with international standards (IFRS, US GAAP); > > Consider messages from the Internal Control Department which controls procedures of internal control of the financial and economic activity of the Company, evaluation of the efficiency of the internal control system, risk management and corporate governance about detected breaches and evaluate such breaches; 55

58 Corporate Governance Governance > > Consider annual reports from the Internal Control Department of the Company; > > Evaluate internal control and risk management procedures, develop and provide the Board of Directors with suggestions and recommendations regarding the improvement of such procedures; > > Analyse and develop suggestions for the Board of Directors regarding improvements to the approval system for nonstandard operations of the Company; > > Prepare conclusions, either in response to requests by the Board of Directors or on their own initiative, for different issues within its purview, and annually provide the Board of Directors with reports on the work of the Audit Committee during the previous year; > > Consider reports, opinions and other documents of the Revision Committee of the Company regarding detected breaches within a certain period; > > Provide for consideration at the Board of Directors meetings conclusions about breaches detected in the period under review and suggest solutions for their elimination and prevention of future recurrence; > > Approve the work plans of the Internal Control Department; > > As necessary, develop special tasks or projects for the Internal Control Department; > > Analyse the activity and organisational structure of the Internal Control Department and take measures to avoid or eliminate unnecessary restrictions in the activity of the Internal Control Department by either managing entities, Company officials or other Company personnel; > > Discuss press releases of the Company regarding profits, financial results, and the outlook for the Company which are provided to analysts and rating agencies; > > Take any other actions necessary for the Audit Committee to effectively function. Personnel and Remuneration Committee In 2013, the members of the Personnel and Remuneration Committee were Mr. Musheg Mamikonian, Mr. Marcus Rhodes, and Mr. Vitaliy Podolskiy as the Committee Chairman. The Committee adheres to a formal list of issues within its area of responsibility that must be discussed at each meeting during the financial year. The Committee s main objective is to propose and issue recommendations to the Company s Board on issues including: > > The Company s HR policy; > > Adopting base performance targets to reward the Company s Board directors, members of the Executive Board, and the Chief Executive Officer (the Company s bodies of management). The main tasks of the Committee include first examination and issuing of recommendations to the Board on the following areas of policy: > > Corporate recruitment; > > Remuneration paid to members of the bodies of management; > > Human resources policy in affiliates and subsidiaries; > > Formation of the Executive Board; > > Appointment of the Company s Chief Executive Officer, Chairman of the Executive Board, and members of the Executive Board; > > Recruitment and nomination of independent directors; > > Determining remuneration paid to the Company s key executives; > > Corporate management structure; > > Training of human resources, including key executives; > > Other issues as decided by the Board or instructed by the Board Chairman; 56

59 Cherkizovo Group 2013 Annual Report Investments and Strategic Planning Committee In 2013, the members of the Investments and Strategic Planning Committee were Mr. Sergei Mikhailov, Mr. Samuel Lipman, Mr. Evgeny Mikhailov, and Mr. Musheg Mamikonian as Committee Chairman. The Committee adheres to a formal list of issues within its area of responsibility that must be discussed at each meeting during the financial year. The Committee s main objective is to propose and issue recommendations to the Company s Board on a number of issues, including: > > Determining the priority activities for the Company; > > Examining the Company s development strategy; its strategic goals and objectives, both long-term and annually, and the Company s long-term investment programmes. The Committee is also responsible for: > > First consideration and recommendations to the Board on issues related to the Company s strategic planning and investment policy; > > Evaluating the efficiency of interaction between the Company s structural units, whose responsibilities under federal Law cover management of strategic planning and investment processes, and the Board, and issuing recommendations to the Board based on this evaluation. > > Evaluating the efficiency of the Company s long-term performance and issuing recommendations to the Board to improve the Company s development strategy and specific business directions, based on the need to raise corporate efficiency and taking into consideration product and capital market trends, as well as the performance of the Company and its competitors, and other factors. > > Working together with the Company s Chief Executive Officer, Executive Board, and authorised designated business directions in the Company. 57

60 Directors Report Governance The directors present their annual report and audited financial statements for the year ending 31 December Principal activities and review of the business Cherkizovo is the leading integrated diversified meat producer in the Russian Federation. Operations are structured into four divisions: Poultry division, Pork division, Meat Processing division, and Grain division. Each division, with the exception of Grain, incorporates its own distribution unit, sales unit, network of trading centres, and marketing department; each is also involved in non-core activities such as accompanying services. > > Poultry Division. Seven poultry complexes and two feed mills make up the Poultry division. > > Pork Division. This comprises fourteen pig farms and a feed plant. > > Meat Processing Division. This comprises six plants at which raw meat is processed into fresh and ready-to-cook products, and a wide range of other processed products, including salamis, sausages, hams and delis. > > Grain Division. This has an operational land bank with more than 51,400 hectares. More information about the business is set out in the Chairman s Statement, on pages 18 and 19 and the Chief Executive Officer s Review, on pages 20 and 21, as well as on individual segments overviews on pages 22 to 29. Future developments The group s stated objective is to become the undisputed leading integrated diversified producer of meat and meat products in the Russian Federation. To achieve this aim, it will continue to modernise existing meat processing facilities, invest in its poultry facilities and look for possible acquisitions build new sales and distribution centres where these will increase its geographic spread, and invest in its pork and grain business. The management believes that there are opportunities for continuing expansion, in what is a fragmented market, through acquisition as well as organic growth. 58

61 Cherkizovo Group 2013 Annual Report Going concern After reviewing the 2014 budget and longer-term plans of the Group, the directors are satisfied that, at the time of the approval of the financial statements, it is appropriate to adopt the going concern basis in preparing the financial statements of the group. Directors in the year The following served as directors of the Company during the year ending 31 December > > Igor Babaev Chairman of the Board > > Evgeny Mikhailov Head of Investments Project Department, Member of the Board > > Sergei Mikhailov Chief Executive Officer, Member of the Board > > Samuel Lipman Non-Executive Director > > Musheg Mamikonian Non-Executive Director and Chairman of the Investment and Strategic Planning Committee > > Vitaliy Podolskiy Non-Executive Director and Chairman of the Personnel and Remuneration Committee > > Marcus Rhodes Non-Executive Director, Chairman of Audit Committee of its document flow, in June 2012 the Board of Directors appointed a corporate secretary. For the term of the current Board, from June 2013 to June 2014, Mr Valeriy Kuprienko was elected to be a Corporate Secretary. Disclosure of information to auditors So far as each director is aware, there is no relevant audit information of which the Company s auditors are unaware. Each director has taken all steps that he ought to have taken in his duty as a director to make himself aware of any relevant audit information and to establish that the Company s auditors are aware of that information. Election and re-election of directors Our charter provides that our entire Board of directors may be re-elected at each Annual General Meeting. The Board is elected through cumulative voting, under which each shareholder may cast an aggregate number of votes equal to the number of voting shares he or she holds, multiplied by the number of people to be elected to the Board. Each shareholder is entitled to cast all his or her votes for one candidate or to spread them out between a number of candidates. The directors may be removed as a group at any time before the end of their terms of office, without cause, by a majority vote at a shareholder meeting. Corporate Secretary According to Best Practice in Corporate Governance, to ensure the efficient functions of the Board of Directors and the organisation 59

62 Health, Safety and Environment Governance To ensure the high quality of our products, we control all stages of the production process, from feed production to breeding, processing and implementation. Cherkizovo remains focused on its commitment to be a good corporate citizen. We aim to reduce the impact we make on the environment, and to have a positive interaction with the communities in which we operate. We also make considerable efforts to ensure effective communication with our shareholders, suppliers and employees. We comply with the applicable environmental legislation and observe biological and veterinary safety requirements in our poultry and pig farming operations. This involves ensuring: > > Comfort We stimulate the healthy growth and development of our poultry and pigs by controlling air temperature and circulation, lighting and humidity. > > Traceability To ensure the high quality of our products, we control all stages of production, from feed production to breeding, processing and distribution. > > Balanced feed We produce our own feed made to special formulas to ensure it contains the optimum balance of energy and protein, microelements, vitamins and amino acids. > > Specialisation and separation of sites We carry out all stages of production at discrete sites, divided by minimum sanitation zones of at least five kilometres. This prevents the transfer of diseases between generations of animals and between breeding and production stock. We also take prevailing winds into consideration when choosing locations. > > All full/all empty Individual sites only contain animals of the same generation. Sites are cleaned and disinfected between production periods. > > Preventative Measures We seek to operate our agricultural facilities to international best practice standards. We undertake a large number of preventative measures to ensure that our sites are safe, both to limit stock s susceptibility to disease and to prevent the spread of any diseases which may occur. 60

63 Cherkizovo Group 2013 Annual Report These measures include: Strictly controlling access to sites Limiting the number of visitors, including foreign delegations Prohibiting the movement of staff between sites Ensuring the effective operation of veterinary and sanitary stations Providing staff with work shoes and clothing Using disposable packaging for deliveries Prohibiting staff from visiting countries which suffer from pig and poultry diseases Regularly eliminating potential carriers of disease, such as rodents and insects Regularly testing blood samples from our pigs and chickens Clinically examining and taking veterinary care of stock Vaccinating to required procedures > > Environmental Measures We have systems at all sites that control waste water, air pollution and energy consumption. 61

64 Employment Policies Governance Our personnel management policy aims to attract and retain highly skilled employees at all levels. Our employees are our most valuable asset, and Cherkizovo seeks to excel in the recruitment, motivation, education and training of all personnel. The Group s HR policies are designed to ensure we recruit and retain high quality people at all levels of the business. Training When new people join the Group, we provide introductory training on the Company and its history, as well as on production, distribution, sales and our quality policy. Professional development is an on going priority for our employees. We consider the shortage of suitably trained people to be one of the major risks to our business. As a result, we work closely with final year students in educational establishments in an effort to attract the best people. We have also introduced programmes to give existing senior members of staff international training. Equal opportunities We do not consider age, colour, ethnic origin, gender, political or other opinions, religion or sexual orientation to be a barrier to employment or advancement. Legislation and Benefits Employees work a 40-hour week, including a daily one-hour lunch break. Each of our facilities has a staff canteen at which food is available at low cost (and for free for some categories of staff). In addition, each employee is given a food hamper at New Year. We reward employees for particular achievements. These include particularly good work, reaching output targets, long service and outstanding contribution. Women are entitled to paid maternity leave, receive a cash gift on the birth of a child, and their jobs are kept open for three years. We also give financial assistance on marriage and in cases of disability or bereavement. The Company organises and partly funds summer camps for employees children, and many of our operations have a gym or facilities for football and tennis. 62

65 Cherkizovo Group 2013 Annual Report Cherkizovo has its own corporate newsletter, which aims both to inform employees about key events at Cherkizovo and in our marketplace, and also to help the development of our corporate culture. Health Our employees are given medical examinations three times a year. Those who work with raw meat receive additional examinations and innoculations. All employees are given flu injections every autumn. We have medical centres at which employees can receive help, although Russian citizens have government medical insurance which entitles them to free treatment. 63