Business report of the Mercator Group 1−6 2016

In the period 1–6, 2016, Mercator Group generated net revenue of EUR 1.25 billion, and its operating profit stood at EUR 21.19 million. Sales revenue was down by 3.3% relative to the equivalent period last year which is the result of persistently harsh market conditions, activities related to accelerated store refurbishment and smaller number of stores in Slovenia, Serbia, and Croatia. Nevertheless, Mercator Group wrapped up the first half of 2016 with a net profit of EUR 7.1 million, however results from operating activities and profit are not comparable to the year before due to non-recurring business events and result of divestment of non-core activities (Santana and Loka, Grosuplje Bakery, M Holidays and other divestments of non-operating assets). Following the acquisition of land in April 2016, Mercator Group launched the construction project for a new logistics and distribution centre. In July, a sale and purchase agreement for divestment of Modiana operations was successfully signed, consistently with Mercator Group's pursuit of its strategy of focusing on the core activity.

Revised short-term strategy already yielding results

Challenging market conditions and the losses resulting from the fire at our distribution centre compelled us to revise our short-term strategy in order to further improve our performance. The disaster in May 2015 when our largest fresh program distribution warehouse burnt down caused a temporary increase in distribution, logistics, and other costs. This added to the urgency to revise many processes at the company. At the same time, the company faced a more aggressive competition as seen from stepped up investment into promotion and advertising.
Hence, we introduced a number of organizational, process, and tactical changes and revised our short-term strategy which is identified in 6 steps:

• Clear format positioning strategy.
• Network development with further refurbishments and new store formats.
• Careful and more efficient profit margin management.
• Regional platform of competitive suppliers on the purchasing side.
• Attainment of business performance and efficiency on a par with the best competitors in the region.
• Reorganization at Mercator Group: more transparency and responsibility – new organization and spin-off of wholesale as an independent activity.

This led to the following success by the second half of the first quarter:

• We stabilized our market share; in June 2016, our market share increased relative to the share in June 2015; data for July and August 2016 confirms this trend.
• In the second half of the first quarter and especially in July and August we have seen gross revenue increase relative to the same period last year.
• Our profit margin has grown due to improved internal process efficiency.

It should furthermore be noted that the company has resumed the implementation of strategy of focusing on the core activity. This, we successfully completed negotiations and signed a sale and purchase agreement in June to divest the Modiana operations, and we expect to sign an agreement to divest the Intersport operations by the end of August.

Profitability comparable to last year's figures, adjusting for non-recurring business events and the effect of divestments
In the period 1–6, 2016, Mercator Group generated revenue of EUR 1.25 million, which is 3.3% less than in the same period of last year. In the markets of Slovenia (3.4%) and Serbia (3.9%), lower revenue is a result of closing down of some of the stores for refurbishments, and fewer units in non-core operations – the number of units in the home product, apparel, and beauty program in both markets was reduced by 15% relative to the comparable period of the previous year. Moreover, the decrease in revenue in Slovenia is a result of divestment of Santana and Loka, Grosuplje Bakery (Pekarna Grosuplje), and M Holidays operations. In the market of Croatia, which saw the highest decrease of revenue (15.3%), revenue is lower especially due to abandonment of the entire FMCG program as of June 2015 following consolidation across markets within the Agrokor Group. Nevertheless, Mercator Group wrapped up the first half of 2016 with a net profit of EUR 7.1 million. Lower profit is a result of non-recurring business events, and divestment of non-core activities and other non-operating assets in 2015.

A boost to investment activities

In the period 1–6, 2016, Mercator Group investments amounted to EUR 32.3 million, which is 21.6% more than in the equivalent period of 2015. Focus remains on retail unit refurbishments which accounted for 51.0% of total investment funds. In the period 1–6, 2016, the refurbishment dynamics improved considerably relative to 2015, as seen in improved sales performance.

New strategic development project: construction of Mercator logistics and distribution centre

In April 2016, the agreement was signed between the company Poslovni sistem Mercator, d.d., and the company Slovenske železnice, d.o.o., on the purchase of land for the construction of a new Mercator logistics and distribution centre. The value of the transaction was EUR 17 million, and the value of the entire investment is estimated at approximately EUR 100 million. Start of construction works on the facility is anticipated for the second half of 2017, and construction is expected to be completed by the end of 2018. The purpose of construction of the logistics centre is to centralize the warehousing activity, optimize the operating costs, successfully compete with other retailers, and modernize operations.

Sale and purchase agreement on divestment of Modiana operations successfully signed in July 2016

On July 14, 2016, the company Poslovni sistem Mercator, d.d., signed an agreement with the company Montecristo SL, d.o.o., on the transfer of Modiana activities, by which Mercator continues to successfully pursue its strategy of focusing on its core activity. The subject of the sales process at hand includes apparel stores and Beautique drugstores in all markets of Mercator operations (Slovenia, Croatia, Serbia, and Bosnia and Herzegovina). The company also includes the purchase of assets (property, plant, and equipment), transfer of employees, and transfer of operations and activities at all locations. The transaction is expected to be completed in the last quarter of 2016.