OAO Southern Telecommunication Company
Consolidated Financial Statements
As of December 31, 2001 and 2000
together with Report of Independent Auditors
OAO Southern Telecommunication Company
Consolidated Financial Statements
As of December 31, 2001 and 2000
Contents
Report of Independent Auditors 1
Consolidated Financial Statements
Consolidated Balance Sheets 2
Consolidated Statements of Operations 3
Consolidated Statements of Cash Flows4
Consolidated Statements of Shareholders’ Equity5
Notes to Consolidated Financial Statements 6
OAO Southern Telecommunication Company
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(Amounts stated in thousands of US dollars, unless otherwise noted)
Report of Independent Auditors
To the Shareholders and Board of Directors
of OAO Southern Telecommunication Company:
We have audited the accompanying consolidated balance sheet of OAO Southern Telecommunication Company (a Russian open joint-stock company), and its subsidiaries, hereinafter “the Group”, as of 31December 2001 and the related consolidated statements of operations, cash flows and shareholders’ equity for the year then ended. These consolidated financial statements are the responsibility of the Group’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audit. The consolidated financial statements of the Group as of 31 December 2000 and for the year then ended, were audited by other auditors whose report dated 20 April 2001 expressed an unqualified opinion on those statements.
Except as discussed in the following paragraph, we conducted our audit in accordance with International Standards on Auditing. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
We were unable to obtain audited financial statements as of 31 December 2001 and for the year then ended supporting the Group’s investment in ZAO Kuban GSM stated at $6,755 as of 31 December 2001, or its equity in earnings of that associate of $4,710, which is included in net income for the year then ended as described in Note 8 to the consolidated financial statements; nor were we able to satisfy ourselves as to the carrying value of this investment or the equity in its earnings by other auditing procedures.
In our opinion, except for the effects of such adjustments, if any, as might have been determined to be necessary had we been able to examine evidence regarding the investment and earnings associated with ZAO Kuban GSM, the accompanying consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Group as of 31 December 2001 and the results of their operations and their cash flows for the year then ended in conformity with accounting principles generally accepted in the United States of America.
Without qualifying our report on this matter, we draw attention to Note 2 to the consolidated financial statements, which discusses the continuing political and economical uncertainties existing for enterprises operating in the Russian Federation, the impact of tariff regulation and the planned reorganization of the Group. These uncertainties will continue to affect the Group’s operations and financial condition. The effects of these uncertainties cannot presently be determined, and these consolidated financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts or classification of liabilities that may result from the outcome of these uncertainties.
16 August 2002
OAO Southern Telecommunication CompanyConsolidated Balance Sheets as of December 31, 2001 and 2000
(Amounts stated in thousands of US dollars)
Note / 2001 / 2000
Assets
Currents Assets:
Cash and cash equivalents / $ 1 228 / $ 595
Accounts receivable, net / 5 / 6 210 / 4 597
VAT and other taxes receivable / 1 393 / 1 361
Investments held for sale / 8 / 6 755 / 2 453
Inventories, net / 6 / 4 925 / 3 076
Prepaids and other current assets / 16 / 1 186 / 967
Total Current Assets / 21 697 / 13 049
Property, plant & equipment, net / 7 / 223 407 / 219 582
Intangible and other assets, net / 75 / 262
Investments, net / 8 / 97 / 70
Total Assets / $ 245 276 / $ 232 963
Liabilities & Shareholders' Equity
Current Liabilities:
Short-term loans / 9 / $ 12 000 / $ 3 484
Accounts payable / 10 / 6 633 / 3 683
Advances received / 2 114 / 1 944
Dividends payable / 3 774 / 2 424
Current portion of long-term debt / 11 / 11 006 / 6 964
Current portion of obligations under lease / 7 / 434 / 433
Taxes payable / 2 990 / 2 032
Interest payable / 729 / 691
Other current liabilities / 10 / 3 285 / 2 412
Total Current Liabilities / 42 965 / 24 067
Long-term loans / 9 / 1 172 / 6 047
Long-term debt / 11 / 833 / 1 582
Obligations under lease / 7 / - / 463
Total Liabilities / 44 970 / 32 159
Commitments and Contingencies / 19 / - / -
Shareholders' Equity
Capital stock / 12 / 91 361 / 91 361
Additional paid-in capital / 12 / 1 193 / 1 193
Retained earnings / 12 / 107 752 / 108 250
Total Shareholders' Equity / 200 306 / 200 804
Total Liabilities & Shareholders' Equity / $ 245 276 / $ 232 963
See accompanying Notes to the Consolidated Financial Statements.
V.L. Gorbachev / S.G. Fefilova
General Director / Chief Accountant
V.L. Gorbachev / S.G. Fefilova
General Director / Chief Accountant
OAO Southern Telecommunication Company
Consolidated Statements of Operations
For the years ended December 31, 2001 and 2000
(Amounts stated in thousands of US dollars, except earnings per share)
Note / 2001 / 2000
Revenues / 13 / $ 95 904 / $ 75 475
Operating Expenses / 14 / (74 144) / (60 595)
General and Administrative Expenses / 15 / (13 060) / (11 029)
Bad Debt Recovered / 74 / 319
Income from Operations / 8 774 / 4 170
Earnings from Equity Investment / 8 / 4 710 / 2 522
Currency Traslation Gain (Loss) / 239 / (91)
Interest Expense / (1 854) / (851)
Non-Operating Expenses, Net / (4 391) / (3 288)
Income before provision for Income Taxes / 7 478 / 2 462
Provisions for Income Taxes / 16 / (4 469) / (3 482)
Net Income (Loss) / 3 009 / (1 020)
Preferred Dividends / (2 405) / (1 382)
Eearnings (Loss) Attributable to Common Shareholders / $ 604 / $ (2 402)
Basic and diluted earnings (loss) per share, US dollars / $ 0,06 / $ (0,23)
Weighted average number of common shares used
in computing basic and diluted earnings (loss) per share / 10 553 425 / 10 553 425
See accompanying Notes to the Consolidated Financial Statements.
V.L. Gorbachev / S.G. Fefilova
General Director / Chief Accountant
V.L. Gorbachev / S.G. Fefilova
General Director / Chief Accountant
OAO Southern Telecommunication Company
Consolidated Statements of Cash Flows
For the years ended December 31, 2001 and 2000
(Amounts stated in thousands of US dollars)
2001 / 2000
Cash Flows from Operating Activities
Net income (loss) / $ 3 009 / $ (1 020)
Adjustments to reconcile net income (loss) to net cash
provided by operating activities:
Depreciation and amortization / 18 373 / 18 518
Increase in provision for investments / - / 103
Decrease in provision for doubtful accounts / (222) / (543)
Loss on fixed assets disposal / 4 784 / 2 588
Equity income from investee company / (4 710) / (2 522)
Income from fixed assets received free of charge / (3 104) / (1 779)
Other non-cash adjustments / (25) / (7)
Changes in assets and liabilities:
Increase in accounts receivable / (1 390) / (671)
Increase in inventories / (1 849) / (499)
Increase in prepaids and other current assets / (252) / (81)
Increase (decrease) in accounts payable / 2 950 / (1 125)
Increase in advances received / 169 / 93
Increase in other current liabilities / 1 870 / 725
Cash provided by operating activities / 19 603 / 13 780
Cash Flows from Investing Activities
Additions to non-current assets / (17 665) / (12 658)
Proceeds from fixed assets disposals / 999 / 1 059
Dividends received from investee company / 408 / 78
Cash flows used for investing activities / (16 258) / (11 521)
Cash Flows from Financing Activities
Loans received / 18 619 / 20 968
Repayments of loans / (14 978) / (15 946)
Dividends paid / (2 157) / (1 280)
Repayment of obligations under vendor financing agreements / (3 733) / (5 824)
Repayment of obligations under lease / (463) / (307)
Net proceeds on treasury stock sales / - / 258
Cash flows used in financing activities / (2 712) / (2 131)
Net increase in cash and cash equivalents / 633 / 128
Cash and cash equivalents at beginning of period / 595 / 467
Cash and cash equivalents at end of period / $ 1 228 / $ 595
Supplemental Disclosures of Cash Flow Information
Cash paid during the period for interest / $ 2 078 / $ 1 230
Cash paid during the period for income taxes / $ 4 306 / $ 3 396
V.L. Gorbachev / S.G. Fefilova
General Director / Chief Accountant
See accompanying Notes to the Consolidated Financial Statements.
V.L. Gorbachev / S.G. Fefilova
General Director / Chief Accountant
OAO Southern Telecommunication Company
Consolidated Statements of Shareholders' Equity
For the years ended December 31, 2001 and 2000
(In thousands of US dollars)
Shares / Additional / Retained
Preferred / Common / Amount / Paid-in Capital / Earnings / Total
Balance as of
December 31, 1999 / 3 517 500 / 10 539 965 / 91 272 / 1 025 / 111 376 / 203 673
Net loss / - / - / - / - / (1 020) / (1 020)
Transactions
with treasury stock / 325 / 13 460 / 89 / 168 / - / 257
Dividends declared / - / - / - / - / (2 106) / (2 106)
Balance as of
December 31, 2000 / 3 517 825 / 10 553 425 / 91 361 / 1 193 / 108 250 / 200 804
Net income / - / - / - / - / 3 009 / 3 009
Transactions
with treasury stock / - / - / - / - / - / -
Dividends declared / - / - / - / - / (3 507) / (3 507)
Balance as of
December 31, 2001 / 3 517 825 / 10 553 425 / 91 361 / 1 193 / 107 752 / 200 306
See accompanying Notes to the Consolidated Financial Statements.
V.L. Gorbachev / S.G. Fefilova
General Director / Chief Accountant
OAO Southern Telecommunication Company
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(Amounts stated in thousands of US dollars, unless otherwise noted)
1. The Company
General
OAO Southern Telecommunication Company (hereinafter referred to as “STC” or “the Company”), a Russian open joint stock company, completed its last charter registration on June 26, 2002. This amendment was due to the process of reorganization of OAOKubanelectrosvyaz into OAO Southern Telecommunication Company.
STC’s principal activity is providing local and long-distance telephone services. Other types of activity of the Company and its subsidiaries (together hereinafter referred to as “theGroup”) include production of telecommunication equipment and its technical support, motor transport repair and maintenance of recreational facilities and other social infrastructure. The associated company provides cellular services in the Krasnodar region and Republic of Adygeya.
The Company was privatized in May 1994, assuming the assets and liabilities of the former state-owned enterprise. As of December 31, 2001 STC consists of 23 branches and provides services to approximately 556,625 urban subscribers and 257,373 subscribers in rural areas. The total installed capacity is approximately 857,092 telephone numbers.
Open joint-stock company Svyazinvest, a federal holding company majority-owned by the Russian Federation, owns 51% of the common stock of STC.
Operating licenses
STC has been granted operating licenses to provide telecommunications services in the Krasnodar region. The Company’s license to provide services for local and regional telephone, telegraph, data transmission, communication channel leasing, radio transmission, long-distance and international communications expires on October 1, 2004. Starting September 1999, the license grants STC the right to use DECT technology in the local loop.
A mobile radiotelephone communication license for services rendered in 7 residential areas of Krasnodar region expired on February 1, 2001. The license required payments for the development of communication networks in Russia, which total $150. However, the authority granting this license (Ministry of Telecommunication and Informatization) has never requested such payments to be made. In January 2001 STC was granted a new license for these services which entails different payment terms. The license expires on January 25, 2006 and requires license payments for the development of communications networks in Russia in the amount of 0.3% of monthly revenue from licensed services.
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OAO Southern Telecommunication Company
Notes to Consolidated Financial Statements
December 31, 2001 and 2000
(Amounts stated in thousands of US dollars, unless otherwise noted)
2.Russian Environment and Economic Conditions
General
Russia continues to undergo substantial political, economic and social changes. As an emerging market, Russia does not possess a well-developed business and regulatory infrastructure that would generally exist in a more mature market economy. Furthermore, the Russian Government has not yet fully implemented the reforms necessary to create banking, judicial, taxation and regulatory systems that usually exist in more developed markets. As a result and as reflected in the Government’s debt default and Ruble devaluation during August 1998, operations in Russia involve risks that are not typically associated with those in developed markets. Such risks persist in the current environment with results that include but are not limited to, a currency that is not freely convertible outside of the country, onerous currency controls, low liquidity levels for debt and equity markets, and continuing high rates of inflation.
Currency Exchange and Control
Foreign currencies, in particular the US Dollar, play a significant role in the underlying economics of many business transactions in Russia. Following the 1998 economic crisis, the Ruble’s value fell significantly against the US Dollar, falling from a pre-crisis rate of approximately 6 Rubles to 1 US Dollar, to 27 Rubles to 1 US Dollar by the end of 1999. During 2000 and 2001, the Ruble’s value fluctuated between 26.9 and 30.3 to 1 US Dollar. As of August 16, 2002 the exchange rate was 31.56 Rubles to 1 US Dollar.
The Group’s principal currency exchange rate risks are the ability to recover the investments in non-monetary assets, specifically Property, Plant and Equipment, as well as exposure to currency exchange losses (see “Effects Considered by the Group through December 31, 2001” below) and the ability to repay its foreign currency denominated obligations.
The Group’s principal future operating cash flows (revenues, personnel costs and other major operating expenses) will be generated in Russian rubles. In the event the ruble continues to decline against the US dollar, the Group could have difficulties in meeting its US dollar denominated obligations.
In this respect, the Group’s principal currency exchange rate risk comes from the deferred payment agreements with Siemens AG, Ericsson Nicola Tesla and Iskratel.
The Central Bank of Russia has established strict currency control regulations designed to promote the commercial utilization of the ruble. Such regulations place restrictions on the conversion of rubles into hard currencies and establish requirements for conversion of hard currency sales to rubles.
36
OAO Southern Telecommunication Company
Notes to Consolidated Financial Statements
2. Russian Environment and Economic Conditions (continued)
Inflation
The Russian economy has been characterized by high rates of inflation. The following table summarizes the annual rate of inflation for each year in the three-year period ended December 31, 2001.
As of December 31, / AnnualInflation
1999 / 36.5%
2000 / 20.2%
2001 / 18.6%
The Group can experience inflation-driven increases in certain of its costs, which are sensitive to rises in the general price level in Russia.
While the Group could seek to raise its tariffs, regulatory bodies may not permit increases that are sufficient to preserve operating margins. Additionally, high rates of inflation in Russia could adversely affect the Group’s results of operations.
Interest Rates
The Group’s principal interest rate risks relate to interest payable under deferred payment agreements with Siemens AG, Ericsson Telecom AB, Ericsson Nicola Tesla and Iskratel which have a floating interest rate (see Note 11).
Management has not entered into transactions designed to hedge against these interest rate risks due to financial instruments typically used for hedging purposes being generally unavailable in the Russian financial markets and certain restrictions imposed by the Russian regulations on the use of hard currency-denominated financial instruments.
Effects Considered by the Group through December 31, 2001
Impairment of property, plant and equipment
As described further in Note 3, subsequent to the establishment of fixed asset balances at December 31, 1997 using the work of an appraiser, the Group has accounted for its investment in property, plant and equipment based on the historical costs of acquisition in USdollar terms.
In general, values considered in the tariffing process are based on the Russian statutory financial data. In this regard, property, plant and equipment are recorded in historical rubles, subject to statutory revaluations, if any.
2. Russian Environment and Economic Conditions (continued)
Effects Considered by the Group through December 31, 2001 (continued)
As a result of significant devaluation of the ruble described above, the Group has assessed the recoverability of property, plant and equipment stated in US dollar terms. Management has considered several factors in its analysis, including the following factors:
–the continued use of each facility,
–the implied value of property, plant and equipment stated at current exchange rates compared to historical exchange rates,
–expected cash flows from operations, and
–investment needed to maintain the Group’s current (and expected) operations.
Based on this analysis, management believes that the carrying value of property, plant and equipment reflected in the accompanying financial statements as of December 31, 2001 does not exceed their expected recoverable value. See also Note 3.
Management cannot predict what effect a continuation of the difficult economic conditions in Russia or changes in fiscal, political or tariffing policies may have on the Group’s remaining investment or ability to make future investments in property, plant and equipment. Further, management cannot predict the potential for statutory revaluation of property, plant and equipment for taxation purposes nor its effect, if any, on the Group’s ability to successfully negotiate increases in tariffs. The financial statements do not include any adjustments that might result from these uncertainties. Related effects will be reported in the financial statements, as they become known and estimable.
Allowance for doubtful accounts receivable
The unstable Russian economy has significantly affected many organizations within Russia and their ability to meet their obligations.
As detailed in Note 5 “Accounts Receivable”, the Group provides for doubtful accounts from governmental, corporate and residential customers principally based on specific review of accounts in addition to other allowances associated with the overall delinquency in customer payments.
While management believes that accounts receivable have been reduced to their approximate net realizable value, significant uncertainty exists as to the effect Russia’s unstable economy may have upon its customers, including governmental organizations, and their ability to fund telecom services consumed. The financial statements do not include any adjustments that might result from these uncertainties. Related effects will be reported in the financial statements, as they become known and estimable.
2. Russian Environment and Economic Conditions (continued)
Liquidity and Financial Resources
As of December 31, 2001 and 2000, the Group’s current liabilities exceeded its current assets by approximately $21.3 million and $11.0 million, respectively. As a result, significant uncertainties exist as to the Group’s liquidity and future capital resources.
Primarily due to ongoing investments in maintenance and construction programs, the Group requires cash flows from operations, debt and other long-term financing resources, which may be available from time to time. Further, in seeking additional financing, the Group may be limited to borrowing in hard currencies. Hard currency borrowings have an inherent risk (i.e. exchange rate movements) for which no commercially viable hedging instruments are available.