Annual Report 2001

Annual Report 2001

Page

-- Introductory Note by Acting Director General 7

-- Business Profile of Delta Banka 9

-- Independent Auditor's Report 13

-- Organizational Scheme 42

-- Branch Network 46

Contents

Annual Report 2001

INTRODUCTORY NOTE BY ACTING DIRECTOR GENERAL

To Shareholders and Business Partners

Delta Banka A.D. Beograd was founded 10 years ago as an universal bank able to fully, correctly and efficiently respond to the broad range of services to all requirements of its customers.

The Head Office of the Bank is in Belgrade, and its 39 outlets are located in all major towns all over Serbia.

Operating in the economic ambiance characterized in the past period by the sanctions of the international community, the fall in the GDP product and in overall economic activities, Delta BankaA.D. managed to increase its capital and to preserve its real value, realize the profit, and become the leading Yugoslav bank.

The basic features of the Bank that ensure its present-day good reputation and development perspectivesare:

•• Developed network of branch offices•• Dynamic managing team•• Highly professional staff•• Significant share in the deposit potential of the business banking of Yugoslavia with almost 33,000

customers - legal entities, of which number more than 24,000 are the Bank's depositors•• High level of household savings in foreign currencies•• Large network of 139 correspondents abroad, which number includes 30 current account

correspondents•• Permanent liquidity without outstanding obligations in the country and abroad•• Well-organized internal control and monitoring of the risk inherent in banking operation•• An extraordinarily powerful and developed information system

Consistently to its business policy and the original principles, the Bank will in the future continue to rationalize its operation in all segments by winning, at the same time, new financial deals, adapting to themarket conditions and ensuring the competitiveness on the market of bank services, with full respect forinternational business morale standards.

We hope our presentation will contribute to the strengthening of the ties and to the interest of our foreignpartners in terms of strategic linking.

Acting Director General

Draginja Djuric

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BUSINESS PROFILE OF DELTA BANKA

CONTENTS

Page

-- Summary of the Bank's business activity 10

-- Bank's staff 10

-- Information System 11

-- Basic Strategies of Further Development 11

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SUMMARY OF THE BANK'S BUSINESS ACTIVITIES

The basic characteristics of the business environment during 2001 can be briefly summarized as follows:

•• Macro-economic stabilization and re-entry of the country in international financial organizations,•• The markedly restrictive character of the monetary, credit and foreign exchange policies, with a

24.5% mobilization of the Dinar potential,•• High level of tax obligations despite the amendments of the tax regulations,•• Decrease in the annual retail price rise from 113.3% in 2000 to 38.7% in 2001,•• Introduction of the floating exchange rate and its maintenance at a relatively stable level, •• Growth of the GDP product at the rate of 5.5%•• Reduction of the external debt of the country by its write-off by the Paris Club,•• Intensification of the process of credit portfolio control, and of capital adequacy assessment by the

monetary authorities with a view to restructuring the entire banking system in the country.

The results Delta Banka achieved in 2001 placed it at lead position among Yugoslav banks. An objectiveassessment of the Bank's performance can be made on the basis of the following indicators:

•• High level of Dinar and foreign exchange liquidity allowing the Bank to meet in time all its financial obligations and transactions, and depositors to dispose in unhampered manner of their own assets,

•• Deposit potential of the Bank increased significantly, as did the number of depositors,•• High growth in households' foreign exchange savings was registered, and the volume of

transactions carried out with households has gone up as well, •• An important volume of international payment transactions was recorded,•• The Bank's credit portfolio was largely marked by the companies in the areas of

telecommunications, electric power industry, pharmaceuticals, tobacco industry, trading in gas and oil, beer and cement production, as well as for the public sector (public utilities infrastructureand social activities),

•• High rate of recovery of the claims equal to 95.13% is the result of the maximum backing of credits and credit dispersion by beneficiaries and maturity terms,

•• Necessary preparations have been carried out for launching operations with payment cards in 2002.

BANK STAFF

As of 31 December 2001 the Bank employed 479 workers, out of which 230, or 48% are university graduates. Branch offices employ 319 people.

In 2001, a great attention was dedicated to professional education and training of the staff members. Thisis in line with one of the basic ideas cherished in Delta Banka that only by constant educating of theemployees it is possible to keep pace with modern banking flows, and to respond to any challenge in business.

The dynamic management team, experience and professionalism of the staff, application of world businessstandards and a good knowledge of the local environment are only a part of the advantages making DeltaBanka a leading Yugoslav bank.

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INFORMATION SYSTEM

Delta Banka's information system ensures a competitive advantage in terms of speed and quality in transacting banking operations.

•• The system relies on modern equipment, based on the client-server architecture, a powerful, digital communication infrastructure that links all organizational parts of the Bank into a singlesystem that operates in on-line regime. The access to data is secured by a password and a specialproject of authorized access to certain operations and data segments.

•• Data processing is formally and logically program controlled, which provides reliability and accuracy of the data and information necessary for business decision-making by the management.

BASIC STRATEGIES OF FURTHER DEVELOPMENT

Delta Banka will, in the forthcoming period, aspire for achieving the highest standards in rendering itsservices to customers. In this endeavor, of strategic importance will be:

•• Raising the level of confidence in the long-term stability of the Bank by disclosing reliable information about the financial condition of the Bank, particularly about its solvency and liquidity, and risk management

•• Providing competitiveness on the market by decreasing the operational costs (cost rationalizationin all operation segments)

•• Raising assets with special accent on the growth of long-term sources•• Selection of strategic partner and therefore capital increase•• Controlled growth of the credit portfolio •• Development of retail banking •• Expansion of the volume and raising the quality of services.

The circumstances indicating a favorable outcome of the above listed strategies include:

•• A recognizable image of the Bank•• Taking over payment transactions in Dinars in the country•• Increase in households' savings in Dinars and in foreign currencies, as a result of restored

confidence in banks on the part of households•• Intensive work in developing operations with the payment cards •• The strong information system as fundamental support to all business undertakings and activities.

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FINANCIAL STATEMENTS FOR THE YEAR ENDED 31 DECEMBER 2001 AND INDEPENDENT AUDITORS' REPORT

CONTENTS

Page

-- Independent Auditors' Report 14

-- Statement of Income 15

-- Balance Sheet 16

-- Statement of Changes in Equity 17

-- Statement of Cash Flows 18

-- Notes to the Financial Statements 19

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INDEPENDENT AUDITORS’ REPORT TO THE BOARD OF DIRECTORS AND SHAREHOLDERS OF DELTA BANKA A.D., BEOGRAD:

We have audited the accompanying balance sheet of Delta Banka A.D., Beograd, ("the Bank") as of31 December 2001, and the related statements of income, changes in equity and cash flows for theyear then ended. These financial statements, set out on pages 15 to 38, are the responsibility ofthe Bank’s management. Our responsibility is to express an opinion on these financial statementsbased on our audits.

We conducted our audit in accordance with International Standards on Auditing. Those Standardsrequire that we plan and perform the audit to obtain reasonable assurance about whether thefinancial statements are free of material misstatement. An audit includes examining, on a testbasis, evidence supporting the amounts and disclosures in the financial statements. An audit alsoincludes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe thatour audit provides a reasonable basis for our opinion.

In our opinion, the accompanying financial statements present fairly, in all material respects, thefinancial position of the Bank as of 31 December 2001, and the results of its operations and its cashflows for the year then ended, in accordance with the accounting convention and policies disclosedin notes 2 and 3 to the financial statements.

Without qualifying our opinion we draw attention to the following matters:

(a) The Bank has made adjustments to its statutory financial statements as of, and for the yearended 31 December 2001, for the first time in order to present them in accordance with theaccounting convention and policies disclosed in notes 2 and 3. Since it was impracticable to adjustthe comparative statements of income and cash flows for the year ended 31 December 2000, forthey have not been prepared in terms of the measuring unit current at the end of the reportingyear, they have been omitted from the accompanying financial statements. The omitted financial statements are shown in Appendix 2, not covered by this auditors’ opinion.

(b) As explained in note 24b, the Bank is required to maintain certain minimum or maximum ratioswith respect to its activities and composition of risk assets in compliance with the Yugoslav Lawon Banks and Other Financial Organizations and the National Bank of Yugoslavia regulations. Asof 31 December 2001, only the ratio of property and equipment as a percentage of equity of39.60% was higher than the prescribed limit of 20%. Presently, this ratio is being reconsidered bythe National Bank of Yugoslavia and is expected to be increased.

(c) As disclosed in note 16, the Bank’s management believes that the value of property and equipment reported in these financial statements is understated. However, as no independent valuation of property and equipment was performed, it was not practicable to determine theamount of understatement, if any.

Belgrade, 28 February 2002

Deloitte & Touche

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The accompanying notes form an integral part of these financial statements.

Approved by,

Vladan |or\evi]Director General

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The accompanying notes form an integral part of these financial statements.

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The accompanying notes form an integral part of these financial statements.

Annual Report 2001

18The accompanying notes form an integral part of these financial statements.

1. BANK’S ESTABLISHMENT AND OPERATING POLICY

Delta Banka A.D., Beograd (hereinafter "the Bank") is a shareholding company established in 1991and registered in the Federal Republic of Yugoslavia for payment transfers, credit and depositactivities in the country and abroad, and in accordance with the Yugoslav law, is to operate on principles of liquidity, security of placements and profitability.

On 1 July 2001 the Bank acquired Tigar banka A.D., Pirot. The shareholders of the acquired bankbecame the Bank’s shareholders thereby increasing the capital of the Bank was increased by Dinar93,796 thousand. By its decision dated 5 October 2001, the Commercial Court in Belgradeapproved this increase of capital.

As of 31 December 2001, the Bank’s shares were owned by three shareholders: Hemslade TradingLtd., Cyprus, Delta M, Beograd and Tigar, Pirot who hold 92.27%, 4.28% and 3.45% of the Bank’soutstanding shares, respectively. Hemslade Trading Ltd., Cyprus and Delta M, Beograd are members of the group of companies referred to as the Delta Group.

As of 31 December 2001, the Bank was comprised of a Head office in Belgrade and thirtybranch offices throughout the country.

During FY 2001, the Bank operated in an environment characterized by structural reforms occuring within commercial, banking and fiscal sectors of the Yugoslav economy. The main goalsof the federal and republic governments in 2001 were to maintain the stability of the domesticcurrency and to appease the inflation rate. In an effort to achieve these policy aims, the government moved ahead with the full restructuring of the banking sector. With a view toacchieving this end, the National Bank of Yugoslavia prepared a detailed strategy plan of solutionsbeginning with a diagnostic review of the financial position of all existing banks. Concurrently, theNBY defined a deadline before which all banks were required to comply with the applicableBanking Law and National Bank of Yugoslavia Directives.

2. BASIS OF PREPARATION OF THE FINANCIAL STATEMENTS AND ACCOUNTING CONVENTIONS

2.1. Accounting Convention

The Bank maintains its accounting records and prepares its statutory financial statements in accordance with the Yugoslav accounting standards and regulations, and requirements stipulatedby the Law on Banks and other Financial Institutions and the National Bank of Yugoslavia Directives.

The Yugoslav accounting standards and regulations that were applied for preparation of statutory financial statements depart from International Accounting Standards as specified below:

• Non-application of IAS 29, "Financial Reporting in Hyperinflationary Economies". As a result, non-monetary and certain monetary assets and equity have been revalued by applying officially

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published retail price indices. However, no revaluation of the statement of income for the yearended 31 December 2000 was made and, accordingly, it is not presented in terms of the measuring unit current at the end of the reporting period, as required by IAS 29.

• The Bank’s taxation policy is based on Yugoslav tax regulations and differs from IAS 12, "IncomeTaxes" in that Yugoslav tax regulations do not recognize temporary differences. Accordingly, nodeferred tax assets or liabilities are recognized.

• Due to undeveloped financial markets, the fair value of financial assets and liabilities is notdetermined in accordance with IAS 32 and IAS 39, "Financial instruments".

• Impairment of assets is not determined in accordance with IAS 36, "Impairment of assets".

Adjustments to statutory financial statements in order to present them in the format required byInternational Accounting Standards were made for the first time, as the accounting basis as of 31December 2001. Accordingly, these financial statements differ from the statutory financial statements and are presented in accordance with the accounting policies disclosed in note 3. Theadjustments made to the statutory balance sheet are shown in Appendix 1.

The Bank’s functional currency is the Yugoslav Dinar.

Comparative Figures

Comparative financial statements as of, and for the year ended, 31 December 2000 have been pre-pared under the historical cost convention, as modified by the revaluation of non-monetary andcertain monetary assets and equity, based on officially published retail price indices.

Certain reclassifications were made to present the comparative balance sheet in the formatrequired by International Accounting Standards, however it was impracticable to make any adjustments thereto.

Because the comparative figures shown in the statements of income and cash flows for the yearended 31 December 2000 are not presented in terms of the measuring unit current at the end ofthe reporting period, and since it was impracticable to make adjustments thereto, these statements are omitted from the accompanying financial statements.

3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

3.1. Income and Expense Recognition

Interest income and interest expense, including penalty interest, and other operating income andexpenses are accounted for on an accrual basis. Interest income arising on the obligatory foreigncurrency deposits with respect to the international payment license, is recorded when collected.Investment income and fee and commission receivable are recognized when earned.

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3.2. Foreign Exchange Translation

Transactions denominated in foreign currencies are translated into dinars at the official InterbankMarket rates prevailing at the date of each transaction.

Assets and liabilities denominated in foreign currencies are translated into dinars by applying theofficial Interbank Market rates prevailing on the balance sheet date.

Net foreign exchange gains or losses arising upon translation of transactions and assets and liabilities denominated in foreign currencies are credited or charged to the statement of income.

Contingent liabilities denominated in foreign currencies are translated into dinars at the officialrates prevailing at the year end.

3.3. Property and Equipment

Property and equipment, construction in progress and intangible assets as of 31 December 2000are stated at revalued cost, less accumulated depreciation and amortization.

Revaluation of property and equipment performed in accordance with Yugoslav accounting regulations as of 31 December 2001 has been reversed for the purpose of presentation of thesefinancial statements.

Depreciation and amortization based on the prior year-end restated amounts and the cost of additions during the year, is calculated on a straight-line basis at the following prescribed annualminimum rates in order to write off the assets over their estimated useful lives:

Buildings 1.3%Computers and related equipment 20%Furniture and equipment 7% - 25%Intangible assets 20%

Depreciation and amortization on property and equipment, construction in progress and intangible assets commence on the day such assets are placed into service. In comformity with thenew accounting regulations applicable for the FY 2001, the depreciation charge has been revaluedby applying the officially published revaluation coefficients. Since the rates prescribed by Yugoslavaccounting regulations are generally lower than the rates required by IAS, no reversal of revaluation of depreciation is made in these financial statements.

3.4. Loans

Loans are stated in the balance sheet at the amount of principle outstanding, less any provision forbad and doubtful debts. Provision is recognized on the amounts for which a recovery is doubtful.

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3.5. Provisions for Bad and Doubtful Debts and Potential Losses

The Bank recognizes a full provision against amounts receivable that are more than thirty daysoverdue, if as per management’s assessment, these amounts are not recoverable. The unpaidinterest for the current period arising on these receivables is reversed. Provision for potential losses and contingent liabilities is based on the year-end evaluation of exposure arising on contingent liabilities. In accordance with the National Bank of Yugoslavia regulations, the exposure is graded into categories A, B, C, D and E, based on the number of days amounts are overdue, and on the borrower’s financial position. Provision is calculated at 50%, 75% and 100%for categories C, D and E, respectively. No provision is calculated on the exposure graded into categories A and B.

Provision for bad and doubtful debts is recognized as an expense, charged against income anddeducted from the total amount of loans, interest and fees, investments and other receivables,respectively. Provision for potential losses and contingent liabilities is charged against income andshown in the balance sheet as a liability.

3.6. Trading Securities

Trading securities consist of treasury bills, commercial papers and bonds issued by the FederalRepublic of Yugoslavia based on the unpaid foreign currency public savings.

Trading securities are valued at the lower of cost or market value where a securities market exists.

3.7. Investments

Investments comprise equity investments and equity securities. Equity investments with a controlling or significant interest include investments in companies in which the Bank holds anequity share of 10% or more. Equity securities include other shareholdings, which do not meet theaforementioned criteria.

Investments shown in the balance sheet as of 31 December 2000 were recorded at revalued cost,less an allowance for permanent diminution in value, when appropriate. New investments madeduring FY 2001 are recorded at cost.

The effects of the revaluation of investments, performed in accordance with Yugoslav accountingregulations as of 31 December 2001, have been reversed for the purpose of preparation of thesefinancial statements.

3.8. Cash and Cash Equivalents

For purposes of the statement of cash flows, cash and balances with other banks and the unrestricted balances with the National Bank of Yugoslavia ( NBY ), including the obligatoryreserves, are considered to be cash equivalents.

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3.9. Taxes and Contributions

Income Tax Expense

Income tax expense represents an amount calculated and payable under Yugoslav tax law. Taxauthorities determine the estimated monthly advance of income tax payable.

The Bank‘s effective income tax rate is 20% and is payable on the taxable base reported in the taxreturns. The taxable base reported in the tax returns includes the profit shown in the statutorystatement of income, as adjusted for permanent differences that are defined by the Yugoslav taxlaw. Such adjustments comprise mainly adding back certain disallowed expenses and, up to 30June 2001, deducting certain capital expenditures and investments incurred during the year, up tothe percentage determined by the applicable tax rules. After 30 June 2001, subsequent to amendments in the tax rules, certain capital expenditures and investments became deductiblefrom the income tax expense. The Yugoslav tax law does not recognize temporary differences andaccordingly, no deferred tax assets or liabilities are recognized.

The Yugoslav tax law does not allow tax losses of the current period to be used to recover taxespaid within a specific carry-back period. However, the current year losses may be used to decreasetaxable profits for future periods - but for no longer than five years.

Indirect taxes and contributions

Indirect taxes and contributions include property taxes, employer contributions on salaries, andvarious other taxes and contributions paid pursuant to republic and municipal regulations. Thesetaxes and contributions are included under “Other operating expenses“.

3.10. Fair Value

It is the policy of the Bank to disclose the fair value information of those assets and liabilities forwhich published market information is readily available, and whose fair value is materially different from their recorded amounts. Sufficient market experience, stability and liquidity do notexist for the purchase and sale of loans and other financial assets or liabilities, for which publishedmarket information is not readily available. Accordingly, fair value cannot readily be determined.In the opinion of management, the reported recoverable amounts are the most valid and usefulreporting values under the existing market conditions.

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It is a policy of the Bank to make donations and sponsor certain national projects and events. A portion of these donations and sponsorships is tax deductible.

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The obligatory reserve in dinars represents a deposit required by the National Bank of Yugoslaviaand is calculated on the basis of the average amount of cash held by the Bank and its deposit liabilities in the preceding ten-day period. This deposit is available for liquidity purposes. At 31December 2001 and 2000 the Bank was in compliance with the NBY reserve requirement. TheNational Bank of Yugoslavia pays the applicable interest on like funds held on the obligatoryreserve account.

Pursuant to the National Bank of Yugoslavia Decision, the banks licensed to carry out international payments and credit operations are obligated to place foreign currencies on depositwith the National Bank of Yugoslavia in an average amount equivalent to USD 4 million.

Foreign currency public savings are deposited in accordance with the National Bank of Yugoslaviarequirements introduced on 1 July 2001. As per these requirements, banks are obligated to maintain a deposit with the NBY at an amount equivalent to 50% of the balance of public savingsin foreign currencies effective at the end of the previous month. This deposit earns interest at anannual rate of 3%.

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Time deposits in foreign currencies are mainly deposited with several European banks and havematurities of up to 30 days, with an annual interest rate in a range from 1.55% to 3.75%.

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As of 31 December 2001, placements with and loans to other banks for up to one year in foreign currencies include the amount of Dinar 220,910 thousand which represents a short-term deposit maturing in February 2002 (denominated in EUR) and the amount of Dinar 118,626 thousand representing funds placed with foreign banks to serve as collateral for issued payment guarantees andletters of credit.

Dinar loans for up to one year are granted to enterprises for the purposes of financing commercialactivities in the areas of agriculture and food production, import financing, export trade, and otheractivities.

Dinar loans for over one year include loans granted to citizens in the amount of Dinar 187,558thousand (FY 2000 -Dinar 14,813 thousand) granted for housing purposes, with grace periods ranging from three to five years.

The loan portfolio includes loans to a shareholder (holding 3.45% of the Banks shares) in theamount of Dinar 120,968 thousand. Some of these loans were granted under specific creditarrangements.

The loan portfolio includes loans to entities within the Delta Group, in the amount of Dinar477,191 thousand. Certain loans were granted under specific credit arrangements. The relatedprovision is charged against income and amounts to Dinar 9,983 thousand.

The movement in the provision for impairment is as follows:

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The economic sector risk concentrations within the customer loan portfolio were as follows:

The geographic sector risk concentrations within the customer loan portfolio were as follows:

The Bank has no commitments to these enterprises, nor liabilities to third parties with respect tothe operations of the above-stated entities.

The movement in the provision for impairment is as follows:

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Construction in progress is primarily related to the construction of the Bank’s office building towhich it will move its offices from its currently rented business premises.

Due to a discrepancy between the official and market exchange rates before 5 December 2000, thevalue of property and equipment was materially understated. This understatement could not berecovered by the revaluation of property and equipment made in accordance with Yugoslavaccounting regulations.

Following the Bank s decision to apply International Accounting Standards, the effects of revaluation performed, as of 31 December 2001, in accordance with Yugoslav accounting regulations, were reversed and consequently, management believes that property and equipmenthave been understated in these financial statements.

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Accrued interest and other assets include receivables from the shareholders (holding 7.73% of theBank’s shares), as well as receivables from other members of the Delta Group in the amount of Dinar15,225 thousand. The corresponding provision charged against income amounts to Dinar 4,624 thousand.

The movement in the provision for uncollectible amounts is as follows:

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Demand deposits in dinars consist of the giro account balances of enterprises and governmentalinstitutions, as well as other organizations whose payments are recorded by the National Bank ofYugoslavia service for payment transfers and settlements ( ZOP ).

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20. OTHER BORROWED FUNDS

Other borrowed funds as of 31 December 2001 in the amount of Dinar 65,549 thousand representshort-term borrowings received from the Fund for Development of the Republic of Serbia, with thepurpose of financing production for export. These borrowings bear an annual interest rate of 9%and mature within six months. These funds were loaned to customers under the same conditions.

Liabilities to customers in the amount of Dinar 862,123 thousand (FY 2000 - Dinar 283,861 thousand) include the amount of Dinar 825,845 thousand which represents a liability to customerspurchasing of foreign currencies for the subsequent related payments to their foreign partners.

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23. SHARE CAPITAL

In accordance with its articles of incorporation, the Bank’s capital consists of share capital and theBank’s reserves.

The share capital of the Bank was created from the initial investment of its shareholders, as wellas from the revaluation reserves. The shareholders have the right to take part in the managementof the Bank, as well as in the distribution of profit.

As of 1 July 2001 the Bank acquired Tigar banka A.D., Pirot. Related to acquisition, the Bank’s sharecapital was increased by Dinar 93,796 thousand, pursuant to the Commercial Court of Belgrade’sDecision dated 5 October 2001.

As of 31 December 2001, majority of the Bank’s shares is owned by three shareholders: HemsladeTrading Ltd., Cyprus, Delta M, Beograd and Tigar, Pirot who hold 92.27%, 4.28% and 3.45% of theBank’s outstanding shares, respectively. Hemslade Trading Ltd., Cyprus and Delta M, Beograd aremembers of the group of companies referred to as the Delta Group.

The Bank is required to maintain a minimum capital adequacy ratio of 8%, as established by theNational Bank of Yugoslavia, based on the Basle Accord. As of 31 December 2001, the Bank’s capital adequacy ratio was 24.81% (in FY 2000 - 48.02%).

Included among commitments and contingencies is the amount of Dinar 159,182 thousand related to guarantees and letters of credit issued to shareholders owning 7.73% of the Bank’sshares and to other members of the Delta Group.

There were no forward foreign exchange commitments as of 31 December 2001.

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b) Compliance with Legal Requirements

The Bank is required to maintain its ratios pertaining to the volume of activities and compositionof risk assets in compliance with the Yugoslav Law on Banks and Other Financial Institutions andthe National Bank of Yugoslavia regulations. As of 31 December 2001 and 2000, the followingratios were not within their prescribed limits:

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CONTENTS

Page

-- ORGANIZATIONAL SCHEME 42 - 43

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ORGANIZATIONAL

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SCHEME

CONTENTS

Page

-- BRANCH NETWORK 46 - 47

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Annual Report 2001