Grupa LOTOS S.A. - Annual Report 2010

These consolidated financial statements were prepared in accordance with the International Financial Reporting Standards (“IFRS”) and the IFRS endorsed by the European Union which have been published and are in effect as at December 31st 2010.

The IFRS include the standards and interpretations approved by the International Accounting Standards Board (“the Board”, “IASB”) and the International Financial Reporting Interpretation Committee (“IFRIC”).

As at the date of approval of these financial statements for publication, taking into account the ongoing process of implementation of the IFRS in the EU and the business activities conducted by the Company, as far as the accounting policies applied by the Company are concerned, there is no difference between the IFRS that have become effective and the IFRS endorsed by the EU.

The Parent Undertaking and LOTOS Petrobaltic S.A., LOTOS Exploration and Production Norge AS, LOTOS Asfalt Sp. z o.o., LOTOS Oil S.A., LOTOS Paliwa Sp. z o.o., LOTOS Kolej Sp. z o.o., LOTOS Tank Sp. z o.o., and LOTOS Serwis Sp. z o.o. maintain their accounting books in accordance with the accounting policies prescribed by the International Financial Reporting Standards. The other Group companies maintain their accounting books in accordance with the accounting standards defined in the Polish Accountancy Act of September 29th 1994 and the accounting policies and standards applicable at their foreign locations. These consolidated financial statements include adjustments which are absent from the accounting books of the Group’s undertakings applying standards other than IFRS, and which have been introduced to ensure consistency of the undertakings’ financial information with the IFRS.

The Group chose to early apply - as of January 1st 2009 - the revised IFRS 3 Business Combinations and the revised IAS 27 Consolidated and Separate Financial Statements. Application of the revised IFRS 3 and IAS 27 had no material effect on the previous periods.

In April 2009, the International Accounting Standards Board released the second collection of amendments to its accounting standards, which aim to eliminate any inconsistencies or ambiguities. Different transitional provisions apply to the individual standards. Implementation of the amendments to the standards listed below led to changes in the Group's accounting policies, but had no impact on the Group’s financial standing or performance as presented in the financial statements.

IAS 7 Statement of Cash Flows. It has been made clear that only expenditure which leads to recognition of an asset may be classified as cash flows from investing activities.

IAS 36 Impairment of Assets. The amendment clarifies that the largest unit to which goodwill acquired in a business combination may be allocated for the purpose of impairment testing is an operating segment, as defined in IFRS 8, before aggregation for reporting purposes. The change had no impact on the Group's consolidated financial statements.

IFRS 8 Operating Segments. It has been clarified that segment assets and liabilities should be disclosed only when such assets and liabilities are included in the measures used by the chief operating decision maker. As the Group’s chief operating decision maker reviews segment assets, the Group continues to disclose the required information in Note 11.

The Group has reviewed the new interpretations, standards and amendments to the existing standards. The new interpretations, standards and amendments to the existing standards which are in effect and have been adopted by the European Union, have no material impact on the accounting policies applied by the Group.

9.1 New Standards and Interpretations

The following new standards, amendments to existing standards and interpretations have been issued by the International Accounting Standards Board or the International Financial Reporting Interpretation Committee, but have not been adopted by the European Union:

• IFRS 9 Financial Instruments (effective for periods beginning on or after January 1st 2013),
• Amendments to IFRS 7 – Financial Instruments: Disclosures: Transfers of Financial Assets (effective for annual periods beginning on or after July 1st 2011),
• Amendments to IAS 12 – Deferred Tax: Recovery of Underlying Assets (effective for periods beginning on or after January 1st 2012),
• Amendments to IFRS 1 – First-Time Adoption of International Financial Reporting Standards: Severe Hyperinflation and Removal of Fixed Dates for First-time Adopters (effective for periods beginning on or after July 1st 2011).

The Group has not decided to choose the option of early application of any other standard, interpretation, or amendment to an existing standard which has been published but has not yet become effective.

By the date of approval of these financial statements, the first phase of IFRS 9 - Financial Instruments: Classification and Measurement (effective for annual periods beginning on or after January 1st 2013) has not been endorsed by the European Union. During the next phases, the International Accounting Standards Board will focus on hedge accounting and impairment. The project is scheduled for completion in mid-2011. Implementation of the first phase of IFRS 9 will have an effect on the classification and measurement of the Group’s financial assets. The Group will analyse this effect along with the effect from the other phases of the project after their publication, in order to present a coherent picture.

The Management Board does not expect the introduction of the new standards and interpretations specified above to have any material impact on the accounting policies applied by the Group or the Group’s financial standing or performance as presented in the financial statements.

The following new interpretations, standards and amendments to the existing standards, which have been adopted by the European Union, are effective in periods beginning after January 1st 2010:

• IAS 32 – Financial Instruments: Presentation: Classification of Rights Issues (effective for annual periods beginning on or after February 1st 2010),
• Amendments to IFRS 1 First-Time Adoption of International Financial Reporting Standards - Limited Exemption from Comparative IFRS 7 Disclosures for First-Time Adopters (effective for annual periods beginning on or after July 1st 2010),
• Amendments to IFRIC 14 IAS 19 — The Limit on a Defined Benefit Asset, Minimum Funding Requirements and their Interaction: Prepayments of a Minimum Funding Requirement (effective for periods beginning on or after January 1st 2011),
• Revised IAS 24 Related Party Disclosures (effective for annual periods beginning on or after January 1st 2011),
• IFRIC 19 Extinguishing Financial Liabilities with Equity Instruments (effective for annual periods beginning on or after July 1st 2010),
• Changes introduced as part of the improvements to IFRSs published in May 2010 (some changes are effective for annual periods beginning on July 1st 2010, some for annual periods beginning on January 1st 2011).

9.2 Changes in Accounting Policies and Correction of Errors

The accounting policies and calculation methods adopted by the Group in the preparation of these consolidated financial statements are the same as those used in the preparation of the consolidated financial statements for the year ended December 31st 2009, except that since January 1st 2010 the Group has applied amendments to IAS 17 Leases, as a result of which perpetual usufruct right to land obtained free of charge was capitalised at fair value and presented under property, plant and equipment (equity was increased accordingly as the related liabilities could not have been determined). Previously, the perpetual usufruct right to land obtained free of charge was classified by the Group as operating lease and disclosed at fair value as an off-balance-sheet item. In connection with the disclosure of the land perpetual usufruct rights obtained free of charge in the balance sheet, the Group adjusted the data presented in these financial statements. As a result of the adjustment, as at December 31st 2009 and January 1st 2009, the value of property, plant and equipment rose by PLN 163,446 thousand, deferred tax liabilities increased by PLN 31,055 thousand, and equity (retained earnings) grew by PLN 132,391 thousand, taking into account the effect of deferred income tax.

As at December 31st 2009, the Group reclassified certain items which had earlier been presented as restricted cash and cash equivalents into non-current financial assets. These items included the PLN 5,819 thousand (as at January 1st 2009: PLN 31,440 thousand) deposit securing the repayment of interest on the loan intended for financing of inventory, and the PLN 1,205 thousand (as at January 1st 2009: PLN 7,255 thousand) security deposit (margin). In connection with the foregoing, cash flows from investing activities and cash flows from financing activities changed respectively by PLN 6,050 thousand and PLN 25,621 thousand.

Furthermore, as at December 31st 2009 the Group presented in restricted cash PLN 18,320 thousand of its cash in bank account on which a hold had been placed.

In the statement of cash flows for the year ended December 31st 2009, valuation of financial instruments previously disclosed under “(Profit)/loss on investing activities” (of PLN 214,433 thousand) and under “Foreign exchange (gains)/losses” (of PLN 161 thousand) was transferred to “Settlement and valuation of financial instruments”.

In the year ended December 31st 2009, the Group reclassified costs relating to transport between storage terminals. For the year ended December 31st 2009, general and administrative expenses decreased by PLN 25,248 thousand with the corresponding increase reflected in cost of sales.

In the year ended December 31st 2010, foreign exchange gains and losses were netted off at the Group level. For the year ended December 31st 2009, finance income and expenses related to foreign exchange differences decreased by PLN 40,012 thousand.

In connection with the purchase of an organised part of business in the form of the LPG Trading Division of LOTOS Gaz S.A. by LOTOS Paliwa Sp. z o.o. from LOTOS Gaz S.A. in December 2009, in order to ensure comparability of the data disclosed in Note 11, the sales revenue, operating profit (EBIT), depreciation and amortisation, and operating profit before depreciation and amortisation (EBITDA) related to the LPG trading business of the LOTOS Gaz Group have been presented in the downstream segment.