Annual Report 2014

Letter from the Chairman of the Supervisory Board and CEO

Dear customers, investors and partners,

2014 was a trying year for the Russian economy and banking sector. Amid the substantial deceleration in the real economy and downward trends in some industries, many credit institutions suffered losses in the money and equity markets, or while trying to absorb credit and interest rate risks in 2014.

In spite of the challenging environment, the Bank has demonstrated strong results. Our IFRS net profit amounted to RUB 4.8 bn, return on equity was 9.7% at year-end 2014. These results were largely ensured by the Bank's core businesses, corporate and retail. We managed to reach all the major goals we had set for ourselves.

The Bank's Stability in the New Realities

The Russian economy demonstrated a growth of a mere 0.6%, which is only half of the 2013 figure. The main reason for the sharp decline in economic growth lies in geopolitical tension, causing a number of severe macroeconomic effects, such as a drop in the exchange rate of the Russian rouble, soaring inflation, and higher interest rates. Notwithstanding the subsequent aggravation of credit conditions and rigidity of loan portfolios, the banking sector showed 18% growth at year end (exclusive of foreign exchange translation), versus 14% in 2013.

The Bank's consistently conservative approach to risk and capital management made it more prepared for the new realities. We faced the crisis with sufficient headroom: as of 1 January 2015, the Bank's capital adequacy ratio under Basel requirements amounted to 13.3%, with a Tier 1 capital ratio of 10.2%. Moreover, we made good profit, and were listed among credit institutions eligible for government capital injection.

The Bank has a stable liquidity position, maintaining a 30% share of liquid assets. There is no need for external debt refinancing, with the loan portfolio is fully financed by customer accounts. Among various sources of funding, we place particular focus on retail deposits and mass-product SME deposits. Retail deposits surged by 24.5% in 2014. This shows that people trust our Bank, and, at the same time, this is a much more reliable liability compared with corporate customer accounts.

Maintaining Loan Portfolio Quality and Profitability

We pay considerable attention to reducing our loan portfolio concentration and improving the quality of larger size loans: the Bank has been systematically increasing the share of retail customers in its lending business. 2014 saw a major breakthrough: retail lending demonstrated growth of 38%. We also decided to postpone the option of "going out in the street" with our consumer loans, which allowed us to maintain a high quality loan portfolio.

With the total share of overdue loans cut back in the reporting year from 7.2% to 4.6%, we are quite satisfied with our loan portfolio quality. Starting from 2Q 2014, we have been gradually raising our provision level, prompted by our concerns about the current macroeconomic situation rather than by any specific problem loans within the portfolio.

Over 2014 we were able to replace larger and cheaper loans with smaller ones which generate more income, thus increasing our interest margin to 4.4%.

Promotion of Digital Channels and Retail Efficiency Enhancement

The Bank continues to advance its digital banking channels, retaining its key advantages and expertise in applying high tech solutions for remote customer service. In 4Q 2014 we launched a conceptually new Internet Bank for corporate customers recognized as a unique solution in the current market. Our Internet Bank for individuals, already boasting 408 000 users, was ranked number one in Russia by Global Banking and Finance Review Awards.

One of our main objectives is to make online banking a convenient payment environment to the fullest extent possible. Online deposits account for 50% of the total deposits placed by retail customers in 2014. Loans originated through the Internet Bank accounted for 18% of the total unsecured retail loans in 2014. 96% of payments every year are made through digital channels (Internet Bank, ATMs and payment kiosks).

Significant funds were invested in customer service quality and efficiency. The Bank became a market leader in 2014 in terms of retail network performance.

Towards Development Strategy Implementation

The Bank's strategy remains unchanged and envisions a sustained profitability level of more than 15%. Quite conservative at the point of its initial approval, this strategy now looks very ambitious. Nevertheless, our solid financial performance in the challenging operating environment proves that our strategy choice was correct.

In 2014, we acquired Kaliningrad-based Bank Evropeisky, and completed all legal procedures related to the merger; integration is now underway. It is a pilot project for us, the first instance of scaling and applying our business model in other regions of Russia. The merger will create a noticeable synergistic effect, combining the efforts of an established local player and an innovative technology-driven bank that we currently are. Following the merger, we are now able to claim a substantial share of the Kaliningrad market.

Amid the new realities putting additional pressures on the Russian economy and banking system, loans and services for the real economy, corporate and retail sectors remain our main priority. In the present circumstances, we are striving to offer our customers maximum support in the form of new and efficient solutions, cutting-edge technologies and quality services.

Alexander Savelyev Vladislav Guz
Chairman of the Supervisory Board Chairman of the Management Board
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