Investor Releases

Economic environment continues to affect top-line performance; strong market positions maintained amidst intense competition

 

Budapest, February 25, 2010 00:00

Magyar Telekom (Reuters: NYSE: MTA.N, BSE: MTEL.BU and Bloomberg: NYSE: MTA US, BSE: MTELEKOM HB), the leading Hungarian telecommunications service provider, today reported its consolidated financial results for 2009, in accordance with International Financial Reporting Standards (IFRS).

Highlights:

• Revenues were down by 4.3% to HUF 644.0 bn (EUR 2 295.2 m) in 2009 compared to 2008. The revenue decline reflects the reversal of provisions related to fixed to mobile traffic revenues booked in the amount of HUF 8.5 bn in the second quarter of 2008. Excluding the provision reversal, revenues were down by 3.1% as a result of declining fixed line and mobile voice revenues in Hungary. These declines could not be fully offset by the growth in the Hungarian SI/IT and TV revenues and the higher revenue contribution of the international subsidiaries which were driven by the translation impact of the weaker forint.
• EBITDA declined by 7.2% to HUF 249.1 bn , with an EBITDA margin of 38.7% in 2009.Underlying EBITDA (EBITDA excluding investigation-related costs, severance payments and accruals, and related provision reversals) decreased by 6.9% to HUF 262.8 bn with an underlying EBITDA margin of 40.8%. Excluding thereversal of provisions related to fixed to mobile traffic revenues booked in 2008, underlying EBITDA was down by 4.0% in 2009.

Details of special influences and on-off items (HUF mn)	Q4 2008	YTD 2008	Q4 2009	YTD 2009
Investigation-related costs	1,475	5,420	1,252	6,398
Severance payments and accrulas	5,173	8,472	8,305	9,557
Severance related provision reversals	0	0	0	-2,200
Fixed to mobile revenue related provision reversal	0	-8,525	0	0
Total special influence and on-off items	6,648	5,367	9,557	13,755

• Profit attributable to owners of the parent company ( net income ) decreased by 16.5%, from HUF 93.0 bn (EUR 370.2 m) to HUF 77.6 bn (EUR 276.6 m) in 2009. The decline was primarily driven by lower EBITDA, as well as higher net financial expenses due to the enlarged loan portfolio which were partly offset by lower depreciation and amortization expenses, and lower income tax. Depreciation expenses decreased due to the extension of the useful life of a number of assets during 2008 and 2009. Income taxes declined as a result of the change in the Macedonian tax regime, under which no current and deferred taxes should be accounted for until the dividend has been paid out of net income.
• Net cash generated from operating activities decreased from HUF 210.3 bn to HUF 193.8 bn. The lower EBITDA was coupled with some deterioration in the working capital and higher interest and other financial charges. These drivers were partly offset by the lower level of income tax paid. Deterioration in working capital was primarily driven by the increase in provisions for overdue receivables.
• Investments in tangible and intangible assets (CAPEX) decreased by HUF 6.1 bn to HUF 101.9 bn in 2009 compared to 2008. The CAPEX decline also reflects the HUF 2.5 bn Macedonian 3G license fee and HUF 1.8 bn of non-cash items related to inventory reallocation accounted for in 2008. Excluding these items, CAPEX decreased by HUF 1.8 bn in 2009. Of the total CAPEX, HUF 23.8 bn is related to the Consumer Services Business Unit, HUF 2.9 bn to the Business Services Business Unit, HUF 4.5 bn to Group Headquarters, HUF 49.0 bn to the Technology Business Unit, while in Macedonia and Montenegro the CAPEX spending was HUF 15.3 bn and HUF 4.9 bn, respectively.
• Net debt increased from HUF 254.3 bn to HUF 269.4 bn by the end of 2009 compared to the end-2008 level. The net debt ratio (net debt to total capital) was 30.8% as at the end of 2009.

Christopher Mattheisen, Chairman and CEO commented: “We witnessed a very challenging year in 2009, when our already difficult market environment characterized by increasingly intense competition deteriorated further as a result of the economic crisis. To address these challenges, we remained focused on strengthening our competitive positions in our core markets. Thanks to these initiatives, we maintained our clear market leadership in the Hungarian mobile segment, both in voice and broadband. In the domestic fixed line segment, we continued with our triple play offerings aimed at strengthening Magyar Telekom’s position as the fully integrated service provider, with demand for these packages exceeding our expectations. Consequently, the proportion of our customers who subscribe for voice, internet and TV services doubled during the year. At the same time, we were able to considerably increase our share of the TV market in 2009 and are now the second biggest TV provider in Hungary. Owing to our integrated IT-telecommunications products, we further strengthened our ICT leadership, resulting in increased revenues from this segment, despite the difficult market environment.
However, we could not completely mitigate the adverse impacts of the external environment on our performance as consumer spending came under significant pressure, affecting both the residential and corporate segments. Usage volumes decreased considerably, whilst increased levels of customer erosion were driven by consumer efforts to rationalize spending. As a consequence, our revenue ^[1] decline of 3.1% in 2009 was somewhat greater than targeted. At the same time, thanks to cost control measures we implemented during 2009, both underlying EBITDA excluding one-off items, which decreased by 4.0%, and CAPEX of HUF 101.9 billion were slightly better than targeted.
Looking ahead to 2010, we expect continued pressure on consumer spending due to high unemployment and restricted growth in household disposable income. At the same time, unfavorable trends in the corporate segment are likely to continue this year, putting pressure on our top-line performance. In addition, a stronger forint compared to average 2009 exchange rates may have an adverse impact on our results by negatively affecting contributions from our international subsidiaries. As a consequence, we are targeting a revenue and an underlying EBITDA decline of 5-7% for 2010, with the latter reflecting our changing revenue structure.  However, the higher portion of SI/IT revenues in the overall mix allows us to reduce our CAPEX with 2010 levels expected to be approximately 5% lower compared to last year’s spending. ^[2]”

[1] Excluding the one-off item related to the fixed-to-mobile provision reversal booked in 2008
[2]The comparable figures for 2009 are: revenues of HUF 644.0 billion; underlying EBITDA of HUF 262.8 billion and CAPEX of HUF 101.9 billion.

Q4 2009 results analyis

Group

• Revenues declined by 4.0% in Q4 2009 compared to the same quarter in 2008. Retail voice revenues decreased across all markets, mainly driven by the unfavourable economic environment in Hungary and the intense competition at our international subsidiaries. At the same time, cut in the Hungarian mobile termination rates caused mobile wholesale revenues to decline. These could not be fully offset by the increasing TV revenues and the higher SI/IT revenues in Hungary.
• EBITDA decreased by 14.2% in the fourth quarter of 2009. Excluding the special influences, EBITDA was down 7.9%. The lower revenues were coupled with higher employee related expenses due to the annual wage increase. These could not be wholly offset by the lower level of payments made  to other mobile operators, reflecting the cut in the Hungarian mobile termination rates, and the decrease in other operating expenses driven by the cost cutting initiatives.

Consumer Services Business Unit (CBU)

Revenues before intersegment elimination fell by 4.0% to HUF 81.8 bn and underlying EBITDA declined by 2.6% to HUF 43.4 bn in Q4 2009 compared to the same period of 2008. Underlying EBITDA margin improved slightly to 53.0%, thanks to our efficiency improvement efforts, more than offsetting the decline in high margin fixed line and mobile voice revenues. CAPEX amounted to HUF 3.6 bn in the fourth quarter with a significant portion related to the satellite TV and fiber program.

• Fixed line revenues declined by 2.7% in Q4 2009 compared to the same period in 2008, reflecting the high level of customer erosion driven by the economic recession and migration to IP- and cable-based voice solutions and leading to declining subscription and traffic revenues. In addition, although the number of broadband customers continued to increase, reaching over 595,000, internet revenues decreased by 6.5%, due to declining prices and the increasing migration towards lower priced packages. These negative impacts were partially offset by the 32.8% growth in fourth quarter TV-related revenues, resulting from growth in the customer base. The total number of TV customers by the end of 2009 was 630,000.
• Mobile revenues declined by 5.0% to HUF 48.6 bn in the fourth quarter driven by customer efforts to rationalize spending in response to the difficult economic environment. Although T-Mobile’s residential customer base and market share of total SIM cards decreased compared to the end of 2008, this trend was driven mainly by the increased churn of inactive customers and cancellations of multiple SIM cards. Consequently, our market share among active customers increased during the year to 44.4%. Whereas usage was broadly stable in 2009 compared to the prior year, the decreasing average tariff levels and the cut in mobile termination rates effective from January 2009 led to a 6.9% reduction in ARPU year-on-year.

Business Services Business Unit (BBU)

Revenues before intersegment elimination were down by 2.3% to HUF 47.5 bn while underlying EBITDA increased by 2.5% to HUF 21.3 bn in Q4 2009. Consequently, the underlying EBITDA margin rose from 42.8% to 44.9%, supported by the efficiency improvement measures implemented during the year that partly offset the revenue decline. In addition, revenues and costs related to the sale of network elements at PRO-M decreased significantly (to HUF 1.1bn in Q4 2009 from HUF 2.5bn in Q4 2008), positively impacting the EBITDA margin.

• Fixed line revenues were down by 6.8% reflecting the recessionary impacts on the Hungarian economy. The reduction in the overall number of businesses in Hungary was coupled with cost cutting at the remaining companies, leading to a contraction in their telecommunications spending. Consequently, both voice and internet customer numbers decreased further, while usage also declined driven by mobile substitution, resulting in lower voice and internet revenues. 
• Mobile revenues decreased by 9.1% as the above-mentioned recessionary impacts had a similar effect on the mobile spending of our corporate clients. Consequently, churn remained high whilst average tariff levels continued to decline in the fourth quarter of 2009. Although non-voice revenues are increasing (23.6% of corporate client ARPU) thanks to the increasing mobile broadband usage, ARPU was down by 15.6% in 2009 also driven by the cut in mobile termination rates effective from January 2009. In addition, revenues from sale of network elements at PRO-M decreased in Q4 2009 compared to the same period of 2008.
• SI/IT revenues rose by 10.0% in Q4 2009, as a number of private and public sector projects that were postponed earlier in the year were completed during the quarter.

Macedonia

In Macedonia, revenues decreased by 3.8% in Q4 2009 compared to the same period in 2008, with underlying EBITDA declining by 6.8%. Consequently, underlying EBITDA margin was down to 40.6% compared to 41.9% a year earlier, reflecting the intensifying competition in all segments. In local currency terms, revenue declined by 8.8% and underlying EBITDA was down by 11.6% (reflecting the forint weakening by 5.5% compared to the denar in the last quarter of 2009 against the same period a year earlier).

• Fixed line revenues declined by 13.2% in local currency terms, driven by intense competition from alternative operators and mobile substitution. These, coupled with the unfavourable economic environment, resulted in an elevated annual churn rate and a further decline in outgoing traffic volumes. The voice revenue decline was partly offset by growing internet and IPTV revenues driven by the expanding customer base.
• Mobile revenues were lower by 4.7% in local currency terms. Although average usage increased and the customer mix improved, these were more than offset by competition-driven tariff reductions, putting pressure on ARPU levels. At the same time, customer growth slowed down to 0.1% driven by the intensifying competition.

Montenegro

Revenues of the Montenegrin subsidiary were moderately up by 0.4% in Q4 2009 compared to the same period in 2008 driven by the weakening of the Hungarian forint against the euro (the forint weakened on average by 5.3% to the euro in the fourth quarter). Underlying EBITDA was up by 17.0% and underlying EBITDA margin improved from 34.1% to 39.8%, reflecting the lower employee related expenses and other efficiency improvement measures impacting many other operating cost items, implemented during the year. In local currencies, revenues declined by 4.7%, while underlying EBITDA improved by 11.2%.

• Fixed line revenues declined by 2.0% in local currency terms in Q4 2009 driven by lower voice revenues, partly offset by increasing internet and TV revenues. The decrease in voice revenues was driven by an increasing rate of mobile substitution caused primarily by considerably lower mobile tariffs brought about principally by the entrance of a third mobile operator, which intensified further the competitive environment. On the other hand, both internet and TV revenues grew thanks to an increasing number of ADSL and IPTV customers.
• Mobile revenues were down by 7.5% in local currency terms. Despite growth in the mobile customer base, retail voice revenues declined driven by considerable decrease in tariff levels. These trends were somewhat mitigated by the increase in non-voice revenues, supported by the growing number of mobile internet users.

Technology Business Unit

Technology Business Unit is a cost centre responsible for the operations and development of the mobile and fixed network as well as IT management. Network and IT related investments are also generated by this Business Unit. Revenues at the Technology Business Unit declined by 28.6% to HUF 2.5 bn and underlying EBITDA decreased by 0.9% to HUF -11.9 bn. CAPEX amounted to HUF 13.1 bn in Q4 2009, mainly driven by the rollout of the fiber optic network, improvements in the mobile broadband network and IT developments.

Group Headquarters

Revenues before intersegment elimination were down by 11.6% to HUF 34.7 bn. The revenue decline was mainly driven by lower wholesale revenues, especially within mobile revenues, reflecting the 15% cut in mobile termination rates since the beginning of 2009. Underlying EBITDA decreased to HUF -6.3 bn, driven by increased provisions for overdue receivables.

In the course of conducting their audit of the Company’s 2005 financial statements, PricewaterhouseCoopers, the Company’s auditors, identified two contracts the nature and business purposes of which were not readily apparent to them. In February 2006, the Company’s Audit Committee retained White & Case, as its independent legal counsel, to conduct an internal investigation into whether the Company had made payments under those, or other contracts, potentially prohibited by U.S. laws or regulations, including the U.S. Foreign Corrupt Practices Act (“FCPA”) or internal Company policy. The Company’s Audit Committee also informed the United States Department of Justice (“DOJ”), the United States Securities and Exchange Commission (“SEC”) and the Hungarian Financial Supervisory Authority of the internal investigation. 

Based on the documentation and other evidence obtained by it, White & Case preliminarily concluded that there was reason to believe that four consulting contracts entered into in 2005 were entered into to serve improper objectives, and further found that during 2006 certain employees had destroyed evidence that was relevant to the investigation. White & Case also identified several contracts at our Macedonian subsidiary that warranted further review. In February 2007, our Board of Directors determined that those contracts should be reviewed and expanded the scope of the internal investigation to cover these additional contracts and any related or similarly questionable contracts or payments. 

For further information about the internal and governmental investigations, please refer to the Company’s quarterly reports for the first, second and third quarters of 2009 and the Company’s annual reports on Form 20-F for the year ended December 31, 2008 filed with the SEC. 

On December 2, 2009, the Audit Committee provided the Company’s Board of Directors with a “Report of Investigation to the Audit Committee of Magyar Telekom Plc.” dated November 30, 2009 (the “Final Report”).  The Audit Committee indicated that it considers that, with the preparation of the Final Report based on currently available facts, White & Case has completed its independent internal investigation. 

The Final Report includes the following findings and conclusions, based upon the evidence available to the Audit Committee and its counsel: 

- As previously disclosed, with respect to Montenegrin contracts, there is “insufficient evidence to establish that the approximately EUR 7 million in expenditures made pursuant to four consultancy contracts ... were made for legitimate business purposes”, and there is “affirmative evidence that these expenditures served improper purposes.”  These contracts were not appropriately recorded in the books and records of the Company and its relevant subsidiaries. As previously disclosed, the Company has already reclassified, in the Company’s financial statements, the accounting treatment relating to certain of these contracts to more accurately account for these expenditures.  
- As previously disclosed, there is evidence that certain former employees intentionally destroyed documents relating to activities undertaken in Macedonia by the Company and its affiliates.  
- Between 2000 and 2006 a small group of former senior executives at the Company and the Company’s Macedonian affiliates, authorized the expenditure of approximately EUR 24 million through over twenty suspect consultancy, lobbying, and other contracts (including certain contracts between the Company and its subsidiaries on one hand, and affiliates of a Cyprus-based consulting company on the other hand).  The Final Report concludes that “the available evidence does not establish that the contracts under which these expenditures were made were legitimate.”   
- “The evidence shows that, contrary to their terms, a number of these contracts were undertaken to obtain specific regulatory and other benefits from the government of Macedonia.  The Companies generally received the benefits sought and then made expenditures under one or more of the suspect contracts.  There is evidence that the remaining contracts were also illegitimate and created a pool of funds available for purposes other than those stated on the face of the agreements.” However, the Audit Committee’s counsel did not have access to evidence that would allow it to identify the ultimate beneficiaries of these expenditures.  
- In entering into these contracts and approving expenditures under them, the former senior executives knowingly caused, structured, or approved transactions that shared most or all of the following characteristics:  
-  intentional circumvention of internal controls;  
-  false and misleading Company documents and records; 
-  lack of due diligence concerning, and failure to monitor performance of, contractors and agents in circumstances carrying a high risk of corruption;  
-  lack of evidence of performance; and  
-  expenditures that were not for the purposes stated in the contracts under which they were made, but rather were intended to obtain benefits for the Companies that could only be conferred by government action.  

The Final Report states that “the Investigation did not uncover evidence showing receipt of payments by any Macedonian government officials or political party officials.”   

Nothing in the Final Report implicates any current senior executive or Board member of the Company in connection with any wrongdoing.  

As previously disclosed, the Company has taken remedial steps to address issues previously identified by the independent investigation, including steps designed to revise and enhance the Company’s internal controls.  In connection with the issuance of the Final Report, the Audit Committee has not made recommendations relating to the Company’s compliance program or internal controls.  Following its presentation to the Audit Committee regarding remedial actions in light of the Final Report, the Company is considering, in consultation with the Audit Committee, whether and to what extent the Final Report warrants additional remedial actions, including any personnel actions and/or changes in internal control policies and procedures at the Company or its subsidiaries to address the findings of the Final Report.   

The Company is continuing to assess the nature and scope of potential legal remedies available to the Company against individuals or entities that may have caused harm to the Company. 

As previously announced, the DOJ, the SEC and the Ministry of Interior of the Republic of Macedonia have commenced investigations into certain of the Company’s activities that were the subject of the internal investigation.  Also, as previously announced, the Hungarian National Bureau of Investigation (“NBI”) has begun a criminal investigation into alleged misappropriation of funds relating to payments made in connection with the Company’s ongoing internal investigation and the possible misuse of personal data of employees in the context of the internal investigation.  These governmental investigations are continuing, and the Company continues to cooperate with those investigations.  The Company cannot predict what the final outcome of those investigations may be or the impact, if any, they may have on its financial statements or results of operations. Furthermore, government authorities could seek criminal or civil sanctions, including monetary penalties, against the Company or its affiliates as well as additional changes to its business practices and compliance programs. 

Magyar Telekom incurred HUF 6.4 bn in expenses relating to the investigations in 2009, which are included in other operating expenses of the Company’s Headquarters business segment for financial reporting purposes.

About Magyar Telekom

Magyar Telekom is Hungary's principal provider of telecom services. It provides a full range of telecommunications and infocommunications (ICT) services including fixed line and mobile telephony, data transmission and non-voice as well as IT and systems integration services. The business activities of Magyar Telekom are managed by two business units: Consumer Services (the home-related services brand T-Home and the mobile communications brand T-Mobile) and Business Services (T-Systems brand). Magyar Telekom is the majority owner of Makedonski Telekom, the leading fixed line and mobile operator in Macedonia and it holds a majority stake in Crnogorski Telekom, the leading telecommunications operator in Montenegro. Magyar Telekom's majority shareholder (59.21%) is MagyarCom Holding GmbH, fully owned by Deutsche Telekom AG.

This investor news contains forward-looking statements. Statements that are not historical facts, including statements about our beliefs and expectations, are forward-looking statements. These statements are based on current plans, estimates and projections, and therefore should not have undue reliance placed upon them. Forward-looking statements speak only as of the date they are made, and we undertake no obligation to update publicly any of them in light of new information or future events.

Forward-looking statements involve inherent risks and uncertainties. We caution you that a number of important factors could cause actual results to differ materially from those contained in any forward-looking statement. Such factors are described in, among other things, our Annual Report on Form 20-F for the year ended December 31, 2008 filed with the U.S. Securities and Exchange Commission.