Hutchison Telecommunications International 20-F 2005
Documents found in this filing:
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
For the fiscal year ended December 31, 2004
For the transition period from to
Commission file number: 001-32309
HUTCHISON TELECOMMUNICATIONS INTERNATIONAL LIMITED
(Exact name of Registrant as specified in its charter)
HUTCHISON TELECOMMUNICATIONS INTERNATIONAL LIMITED
(Translation of Registrants name into English)
(Jurisdiction of incorporation or organization)
20/F, Hutchison Telecom Tower
99 Cheung Fai Road
(Address of principal executive offices)
Securities registered or to be registered pursuant to Section 12(b) of the Act.
Securities registered or to be registered pursuant to Section 12(g) of the Act.
Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act.
Indicate the number of outstanding shares of each of the issuers classes of capital or common stock as of the close of the period covered by the annual report.
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨
Indicate by check mark which financial statement item the registrant has elected to follow. Item 17 ¨ Item 18 x
TABLE OF CONTENTS
PRESENTATION OF FINANCIAL AND OTHER INFORMATION
In this annual report on Form 20-F, references to our company, we, us, our and similar terms refer to Hutchison Telecommunications International Limited and, unless the context otherwise requires, to its subsidiaries and associated companies.
Unless indicated otherwise, the financial information in this annual report has been prepared in accordance with accounting principles generally accepted in Hong Kong, or Hong Kong GAAP, and is presented in Hong Kong dollars. Hong Kong GAAP differs in some material respects from United States generally accepted accounting principles, or US GAAP. For a discussion of these differences and a reconciliation of net income and shareholders equity to US GAAP, see Operating and Financial Review and Prospects below and note 37 to our consolidated financial statements.
Discrepancies between totals and the sums of the amounts contained in any table may be as a result of rounding.
For your convenience, this annual report contains translations of certain Hong Kong dollar amounts into U.S. dollars at the rate of HK$7.8000 = US$1.00. In addition, this annual report contains translations of Indian Rupees and New Israeli Shekels into Hong Kong dollars at the rates of INR1.00 = HK$0.1777 and NIS1.00 = HK$1.810, respectively. This does not mean that the currencies have been or could be converted at any of these rates.
The Securities and Exchange Commission, or the SEC, encourages companies to disclose forward-looking information so that investors can better understand a companys future prospects and make informed investment decisions. This annual report contains forward-looking statements.
We use words such as will, aim, will likely result, will continue, contemplate, seek to, future, objective, goal, should, will pursue, anticipate, estimate, expect, project, intend, plan, believe and words and terms of similar substance to identify forward-looking statements but they are not the only way we identify such statements. All forward-looking statements are managements present expectations of future events and are subject to a number of factors and uncertainties that could cause actual results to differ materially from those described in the forward-looking statements. In addition to the risks related to our business discussed under Key InformationRisk Factors, other factors could cause actual results to differ materially from those described in the forward-looking statements. These factors include, but are not limited to:
By their nature, certain disclosures relating to these and other risks are only estimates and could be materially different from what actually occurs in the future. As a result, actual future gains, losses or impact on our financial condition and results of operations could differ materially from those that have been estimated.
In addition, other factors that could cause actual results to differ materially from those estimated by the forward-looking statements contained in this annual report which are beyond our control include, but are not limited to:
For further discussion of the factors that could cause actual results to differ, see the discussion under Key InformationRisk Factors contained in this annual report. We caution you not to place undue reliance on the forward-looking statements, which speak only as of the date of this annual report. Except as required by law, we are not under any obligation, and expressly disclaim any obligation, to update or alter any forward-looking statements, whether as a result of new information, future events or otherwise.
All subsequent forward-looking statements attributable to us or any person acting on our behalf are expressly qualified in our entirety by the cautionary statements contained or referred to in this section.
ITEM 3. KEY INFORMATION
A. Summary Consolidated Financial Data
The following tables set forth summary consolidated financial data about our company. We have derived the consolidated financial data as of December 31, 2003 and 2004 and for the years ended December 31, 2002, 2003 and 2004 from our audited consolidated financial statements included in this annual report on Form 20-F. The summary financial data should be read in conjunction with, and is qualified in its entirety by reference to, these consolidated financial statements, including the related notes. These financial statements have been audited by PricewaterhouseCoopers, Hong Kong, independent registered public accounting firm. We have derived the consolidated financial data as of December 31, 2001 and 2002 and for the year ended December 31, 2001 from our audited consolidated financial statements which are not included in this annual report. We have derived the consolidated financial data as of and for the year ended December 31, 2000 from our unaudited consolidated financial statements which are not included in this annual report. In the opinion of management, the unaudited financial data for 2000 reflects all adjustments, consisting solely of normal and recurring adjustments, necessary for a fair presentation of the results for 2000.
You should read the following summary consolidated financial data in conjunction with the rest of this annual report, including our consolidated financial statements and the related notes and the more detailed information contained in Operating and Financial Review and Prospects. For a description of the basis of presentation of these financial statements, see note 2 to our consolidated financial statements and Operating and Financial Review and ProspectsBasis of Preparation of Financial Statements.
Our consolidated financial statements have been prepared in accordance with Hong Kong GAAP, which differ in some material respects from US GAAP. For a discussion of these differences and a reconciliation of net profit (loss) attributable to shareholders and shareholders deficits to US GAAP, see note 37 to our consolidated financial statements.
We completed a restructuring of our company in September 2004, which is described in Information on the CompanyHistory and Development of the CompanyThe Restructuring and elsewhere in the annual report. Under Hong Kong GAAP, the restructuring was accounted for as if it had been consummated as of the beginning of the years presented, except that the capitalization of net long-term amount due to related companies and related interest expenses were not reflected until the restructuring occurred on September 22, 2004.
Under US GAAP, the restructuring was accounted for as if it had been consummated as of the beginning of the years presented. This resulted in our share capital when reconciled to US GAAP being retroactively restated for the effect of the capitalization of the long-term amounts due to related companies in exchange for our ordinary shares issued to members of the Hutchison Whampoa Limited group of companies. Pursuant to the restructuring, HK$20,869 million (US$2,676 million) of the net amount due to related companies was capitalized on September 22, 2004 as share capital and share premium of our company, which comprised both amounts payable included in amounts due to related companies and amounts receivable included in amounts due from related companies on our balance sheet under Hong Kong GAAP. In addition to this amount, retroactive effect has also been given to the interest expense related to the net amounts due to related companies for the years presented. Thus, under US GAAP, the related interest expense prior to the date of capitalization was debited against additional paid in capital. Under Hong Kong GAAP, this interest expense was included in the consolidated profit and loss account.
Risks Relating to Our Business
We face significant competition in our markets, which could result in decreases in current and potential customers, revenues and profitability
We face significant competition in our markets. In particular, we expect competition among providers of mobile telecommunications services, including new entrants, to continue to drive prices for services and handsets (which we subsidize in many markets) lower. In addition, number portability requirements, which enable customers to switch their providers of mobile telecommunications services without changing their mobile phone numbers, have been introduced in some of the markets in which we operate and may be introduced in other markets in the future. These developments could lead to greater movement of customers among providers of mobile telecommunications services, known as churn, which could increase our marketing, distribution and administrative costs, slow growth in our customers and reduce our revenues.
Our market position will also depend on effective marketing initiatives and our ability to anticipate and respond to various competitive factors affecting the industry, including new services, pricing strategies by competitors and changes in consumer preferences and economic, political and social conditions in the countries in which we operate. Any failure by us to compete effectively, including in terms of pricing of services, acquisition of new customers and retention of existing customers, could have a material adverse effect on our financial condition and the results of our operations.
We may not realize the benefits we expect from our capital expenditures, which may adversely impact our business
We have made significant capital expenditures on our network infrastructure and information technology systems to provide the services we offer. Our capital expenditures were HK$4,870 million in 2002, HK$5,546 million in 2003 and HK$4,677 million (US$600 million) in 2004, a significant majority of which were comprised of expenditures on telecommunications and network equipment and construction in progress (calculated at cost). In order to continue to develop our business and offer new services, we intend to continue to invest in networks in new service areas as well as new technologies, which we expect will result in substantial capital expenditures. We may not be successful in marketing these new services to consumers, thus impairing the return from our expenditures.
We cannot assure you that services enabled by new technologies we implement will generate an acceptable rate of return. In addition, we face the risk of unforeseen complications in the deployment of new service areas and new technologies, and we cannot assure you that our estimate of the necessary capital expenditure will not be exceeded.
We may not deploy networks in new service areas according to expected schedules or may not be cost effective. The failure to acquire customers in new markets could result in additional capital expenditures or a reduction in profitability to the extent that we are required under the applicable accounting standards to recognize a charge for the impairment of assets. Any such charge could materially and adversely affect our financial condition and the results of our operations.
We have a history of losses, negative cash flows, shareholders deficits and working capital deficits which may continue and adversely affect our ability to meet our business and growth objectives
We have incurred significant losses and recorded negative cash flows in recent years. Although we had net profit attributable to shareholders of HK$72 million (US$9 million) in 2004, this included a one-time profit of HK$1,300 million (US$167 million) from the placement of shares in Hutchison Global Communications Holdings Limited, as further described in Operating and Financial Review and ProspectsOverview. Without this one-time profit, our operating profit in 2004 would have been significantly smaller, and we would have recorded a net loss attributable to shareholders in 2004. We had net losses attributable to shareholders of HK$986 million and HK$214 million in 2002 and 2003, respectively. Our cash flows from operating and investing activities were negative HK$3,686 million, HK$5,478 million and HK$2,176 million (US$279 million) in 2002, 2003 and 2004 respectively. Our shareholders deficits were HK$6,072 million and HK$6,375 million as of December 31, 2002 and 2003, respectively. Although we had shareholders funds of HK$14,287 million (US$1,832 million) as of December 31, 2004, this mainly resulted from the capitalization of the net amount due to related companies, which amounted to HK$20,869 million (US$2,676 million), as share capital and share premium of our company in September 2004. As of December 31, 2004, we had an accumulated loss of HK$5,923 million (US$759 million).
It is likely that we will continue to record losses in some future periods, and we cannot assure you that our losses will not increase in the future or that we will be able to sustain our operating profits. We refer you to Operating and Financial Review and Prospects for more information regarding our financial condition and results of operations.
We have a high level of debt
We have now and will continue to have for the foreseeable future a significant amount of debt. On a consolidated basis, we had a total of HK$17,430 million (US$2,235 million) in bank loans, borrowings and debentures as of December 31, 2004, of which HK$13,844 million (US$1,775 million) was short-term debt. HK$11,224 million (US$1,439 million) of this debt was guaranteed by Hutchison Whampoa Limited, or Hutchison Whampoa, and its affiliates, HK$5,331 million (US$683 million) was secured by pledges of our assets and HK$4,110 million (US$527 million) was covered by letters of comfort from Hutchison International Limited, or Hutchison International, a subsidiary of Hutchison Whampoa.
As of December 31, 2004, we also had total commitments of HK$5,129 million (US$658 million). In addition to these quantifiable commitments, we may be required to make material payments to purchase additional interests in our India operations if the other shareholders in those businesses exercise certain put options, subject to foreign ownership restrictions. We are required under the relevant shareholders agreements relating to our interests in the Thai operating companies to provide funding for operating expenses and capital expenditures of the operating companies or the intermediary holding companies through which we hold our interest in these operating companies.
Our high level of debt, our significant levels of assets pledged as security and our commitments could:
Our current liabilities have historically exceeded, and continue to exceed, our current assets, which may constrain our operational flexibility
Our current liabilities have generally exceeded our current assets in recent years. We had net current liabilities of HK$6,017 million, HK$6,250 million and HK$14,266 million (US$1,829 million) as of December 31, 2002, 2003 and 2004, respectively. Our high level of net current liabilities could constrain our operational flexibility as well as adversely affect our ability to expand our business.
We require substantial amounts of capital for our business operations, and the failure to obtain needed capital may materially and adversely affect our growth prospects and future profitability
We require substantial capital to build, maintain and operate our telecommunications networks. We also require significant amounts of capital to market and distribute our services and products, to develop new services and products, to develop and implement new mobile telecommunications technologies and potentially to acquire and invest in other telecommunications companies and spectrum rights. To the extent these expenditures exceed our cash resources, we will be required to seek additional debt or equity financing. Our ability to obtain additional financing on favorable commercial terms will depend on a number of factors, including:
In the past, we have relied on loans from third parties that were guaranteed by the Hutchison Whampoa group, as well as loans from members of the Hutchison Whampoa group, to help meet our working capital and other capital requirements. Following the completion of the restructuring of Hutchison Whampoas telecommunications business in September 2004, the Hutchison Whampoa group has no obligation to guarantee new loans or provide funding to us. While we believe that we will be able to procure alternative funding sources for our capital expenditure requirements, we may incur higher funding costs if we no longer have the benefit of guarantees from the Hutchison Whampoa group, which may affect our financial condition and results of operations in future periods.
In addition, any new borrowings could include terms that restrict our financial flexibility, including the debt we may incur in the future, or may restrict our ability to manage our business as we had intended. If we are unable to renew existing funding or obtain additional funding in a timely manner or on acceptable terms, our growth prospects, competitive position and future profitability could be materially and adversely affected.
Our historical financial condition and results of operations may have been different had we been operated as a stand-alone enterprise
Our consolidated financial statements included elsewhere in this annual report have been prepared as if our company and the structure of our ownership of our subsidiaries had been in existence at all dates and during all the periods presented, and include the accounts of our direct and indirect subsidiaries and the interests and investments in associated companies and jointly controlled entities contributed to us by the Hutchison Whampoa group in connection with the restructuring of Hutchison Whampoas telecommunications business which was completed in September 2004. For further information on the presentation of our consolidated financial statements, see notes 2, 3A and 3C to our consolidated financial statements included elsewhere in this annual report. Our consolidated financial statements may not reflect what our historical financial condition and results of operations would have been if we had operated as a separate group of companies, instead of as a part of the Hutchison Whampoa group, and they are not necessarily indicative of our future financial condition or results of operations.
Our controlling shareholder may take actions that are not in, or may conflict with, our public shareholders best interests
Our principal shareholder is Hutchison Whampoa, which holds approximately 74.3% of our shares. Hutchison Whampoa is able to influence our business through its ability to control actions that require majority shareholders approval and through its representatives on our board of directors. Except as otherwise disclosed in Major Shareholders and Related Party TransactionsRelated Party TransactionsRelated party transactions with Hutchison Whampoa, Hutchison Whampoa is not obligated to provide us with financial support or to exercise its rights as a shareholder in our best interests or the best interests of our minority shareholders. In addition, Hutchison Whampoa may engage in activities that conflict with such interests. We have entered into a non-competition agreement with Hutchison Whampoa that restricts Hutchison Whampoa from competing with us in certain markets. This agreement will terminate if Hutchison Whampoas control of our shares falls below certain specified thresholds. See Major Shareholders and Related Party TransactionsRelated Party TransactionsRelated party transactions with Hutchison WhampoaNon-competition agreement for a discussion of the terms of the non-competition agreement. If the interests of Hutchison Whampoa conflict with the interests of our other shareholders, or if Hutchison Whampoa chooses to cause our business to pursue strategic objectives that conflict
with the interests of our other shareholders, those shareholders could be disadvantaged by the actions that Hutchison Whampoa chooses to pursue. We cannot assure you that any conflict of interests and overlap of business activities and operations between Hutchison Whampoa and us will not materially and adversely affect our financial condition, results of operations and prospects.
In addition, we currently benefit from our ongoing relationship with Hutchison Whampoa and its other subsidiaries and affiliates through their global reach and relationships. We cannot assure you that Hutchison Whampoa will continue to allow us to have access to such benefits in the future.
We do not own all of the intellectual property rights necessary to operate our business, and if any of these intellectual property rights become unavailable to us, we could face disruptions in our operations
We do not own all of the intellectual property rights in the brand names that we use to market our services. We have arrangements with the Hutchison Whampoa group pursuant to which we have rights to use 3, Hutch and Hutchison Telecom and other trade marks that include the word Hutchison or derivations thereof royalty-free until the relevant change of control provisions as agreed between the relevant members of our group and the Hutchison Whampoa group are triggered. We use the Hutch brand in most of our markets and 3 in Hong Kong. We also have been granted licenses to use certain trade marks from non-Hutchison Whampoa entities, notably the Orange brand, which we license from subsidiaries of Orange SA. We have been using the Orange brand for our 2G mobile telecommunications operations in Israel and Mumbai, India. If the change control provisions are triggered under our arrangements with the Hutchison Whampoa group, or if we breach the terms of our licenses with non-Hutchison Whampoa entities, we may have to renegotiate the terms of these trade mark arrangements and/or pay royalties for the use of the relevant trade marks and domain names, or could lose the use of such trade marks and domain names altogether.
We rely on the ability of our operating companies to generate earnings, and any decline in the earnings of our operating companies or restrictions on our ability to transfer or convert currencies from the countries in which our operating companies are located could materially and adversely affect our earnings and operational flexibility
We currently conduct all our operations directly or indirectly through our operating companies. Most of our assets are held by, and substantially all of our earnings and cash flows are attributable to, our operating companies. If earnings from our operating companies were to decline, our earnings and cash flow could be materially and adversely affected. As of December 31, 2004, we had, on a consolidated basis, accumulated losses of HK$5,923 million (US$759 million) representing accumulated losses in a number of our operating subsidiaries. Two sources of cash flows are dividends paid to us by our operating companies and shareholder loans repaid to us by our operating companies. We cannot assure you that our operating companies will generate sufficient earnings and cash flows to pay dividends, repay loans or otherwise distribute sufficient funds to enable us to meet our obligations, pay interest and expenses or declare dividends.
In addition, disruption of the international foreign exchange markets may limit our ability to transfer or to convert currencies from the countries in which our operating companies are located into Hong Kong dollars and other currencies. In addition, the governments of certain countries in which we operate, such as India, have instituted, and other countries may in the future institute, restrictive exchange rate policies that limit or restrict our ability to convert their respective currencies into other currencies or to transfer other currencies out of their jurisdictions. We cannot assure you that currency fluctuations or limitations on our ability to convert or transfer currencies would not have a material adverse effect on our financial condition and the results of our operations.
We currently do not pay dividends, and we cannot assure you that we will make dividend payments in the future
We may pay dividends to shareholders in the future; however, such payments will depend upon a number of factors, including our results of operations, earnings, capital requirements and surplus, general financial conditions, contractual restrictions and other factors considered relevant by our board of directors. We currently intend to retain all of our earnings to finance the development and expansion of our business and therefore do not intend to declare or pay cash dividends on our ordinary shares in the near to medium term. We cannot assure you that we will make any dividend payments on our ordinary shares in the future. Except as permitted under the Companies Law and the common law of the Cayman Islands, we are not permitted to distribute dividends unless we have a profit, realized or unrealized, or a reserve set aside from profits which our board of directors determine is no longer needed. Our ability to
pay dividends may be further subject to restrictive covenants contained in indentures and loan agreements governing, in each case, indebtedness we may incur. Currently, we have undertaken in a credit facility not to pay dividends to shareholders for so long as amounts remain outstanding under the credit facility.
We do not own the majority of the voting stock in all of our operating companies and, as a result, we do not have complete control of these companies, which may limit our ability to cause these operating companies to take actions we believe would be beneficial to our shareholders
Governmental policy and/or regulations in some countries in which we currently operate or may operate in the future limit the nature and extent of our investments in those countries. For example, we are currently prohibited from owning more than 49% of the voting equity of any telecommunications operator in India, or 50% or more of the equity of any company engaged in the provision of services, including telecommunications services, in Thailand. In addition, our representatives on the boards of directors of some of our operating companies do not constitute a majority of those boards. As a result, our ownership interests in our operating companies in these countries do not in every instance provide us with the ability to control all actions that require shareholder approval. Although we may participate in the management of such operating companies, we may not have the ability to prevent them from engaging in activities or pursuing strategic objectives that may conflict with our interests or overall strategic objectives. See Information on the CompanyBusiness OverviewOperating companies reviewIndiaOwnership and Information on the CompanyBusiness OverviewOperating companies reviewThailandOwnership.
We may encounter operational and control difficulties when commencing businesses in new markets
Despite our extensive operating experience, the rapid development and establishment of telecommunications businesses in new markets may nevertheless raise unanticipated operational or control risks. Ongoing risks in new markets could have a material adverse effect on our financial condition and the results of our operations.
We may be required to take actions that are inconsistent with our business interests or objectives to avoid being deemed an investment company under the U.S. Investment Company Act of 1940
The U.S. Investment Company Act of 1940, or the 1940 Act, provides generally that a company is an investment company that must register as such under the 1940 Act and comply with its regulations if the company is or holds itself out as being engaged primarily in the business of investing, reinvesting or trading in securities, or more than 40% of the value of the companys total assets is represented by investment securities. The 1940 Act contains substantive regulations with respect to investment companies, including restrictions on their capital structure, operations, transactions with affiliates and other matters that would be incompatible with our operations. We may therefore have to incur significant costs to avoid investment company status and may suffer other adverse consequences if we are deemed to be an investment company under the 1940 Act.
As a company engaged, through our various subsidiaries and affiliates, primarily in the business of providing mobile telecommunications services, we believe that we are not an investment company within the meaning of the 1940 Act as of the date of this annual report. Some of our minority equity investments in other companies may be deemed investment securities for purposes of the 1940 Act. However, even if those investments were so characterized, we believe that we are currently eligible for certain exemptions from the 1940 Act.
One of our strategic objectives is to selectively acquire or invest in new businesses in our existing as well as new markets. As a result of additional acquisitions of minority equity investments in other businesses, as well as fluctuations in the value of these securities or of our other assets, we may become an investment company under the 1940 Act, as such events may cause us to exceed the thresholds for the safe harbor exemption in the future. In order to provide us with the flexibility to pursue our business strategies, we may apply for exemptive relief from the 1940 Act if we believe it appropriate. If we become an investment company under the 1940 Act and we are unable to obtain such relief, we would have to rely on the one-year safe harbor exemption from the 1940 Act for transient investment companies under Rule 3a-2 under the 1940 Act, and/or reduce our holdings of minority equity investments and other investment securities as a percentage of our total assets before the expiration of the one-year safe harbor period. This reduction could be effected in a number of ways, including the disposition of the relevant investment securities and/or the acquisition of other assets (including increasing our equity investments in certain companies) that would not constitute investment securities for purposes of the 1940 Act. If we are required to sell the relevant investment securities, we may be compelled to sell them sooner than we otherwise would. In addition, the sales may be at depressed prices and we may not realize the expected benefits from, or may incur losses on, such investments. Furthermore, we may not be able to sell certain investments due to contractual or legal restrictions or the inability to locate a suitable buyer. We may also incur tax liabilities when we sell such investments. If we decide to try to acquire additional assets that would not constitute investment securities, we may not be able to identify and acquire suitable assets and businesses.
We may be unable to make investments in other companies that are important to our operating strategy if doing so would render us an investment company under the 1940 Act. In addition, if we were deemed to be an investment company in the future, we would, among other things, effectively be precluded from making public offerings in the United States. This could impede our ability to raise additional capital or to implement our business plan. We could also be subject to administrative or legal proceedings.
Risks Relating to Markets Where We Operate
The application of several aspects of the existing and proposed regulations and policies on foreign ownership in India and other countries is unclear, and changes in the regulations or policies, or their application or interpretation, could have a material adverse effect on our financial condition and results of operations
The application of several aspects of the existing and proposed regulations and policies on foreign ownership in India and other countries is unclear. In addition, the regulators in the countries, such as India and Thailand, in which we are subject to foreign ownership restrictions, may re-evaluate foreign ownership restrictions and other regulations applicable to the telecommunications and other sectors. For example, although we are currently prohibited from owning more than 49% of the voting equity of any telecommunications operator in India, a press release dated February 2, 2005 from the Indian government announced that the Cabinet of Ministers had approved a proposal to increase the aggregate permitted direct and indirect foreign investment in an Indian operating company in the telecommunications sector to 74%. Because the press release was a policy announcement only, it was unclear on some matters, particularly as to how direct and indirect foreign investment will be calculated and aggregated. As a policy announcement, it will only become effective after the Department of Telecommunications of India issues detailed guidelines and amends the licenses. The terms and conditions of the press release may be narrowed, expanded or modified by the Department of Telecommunications. As of the date of this annual report, the Department of Telecommunications has not issued any detailed guidelines. The timing of the issuance of the detailed guidelines, as well as the contents of their terms and conditions, are currently uncertain. For a further description of the policy announcement, see Information on the CompanyBusiness OverviewRegulationIndia.
This proposed policy in India, once implemented, or clarifications of, or changes in, the application or interpretation of other existing or proposed regulations or policies in India or elsewhere, or in the regulations or policies themselves, could require us to remove or amend our existing arrangements and reduce our voting and/or economic interests in the relevant companies. Any such removal, amendment or reduction could affect our ability to implement our business strategy in the affected countries. If foreign ownership restrictions are determined to have been violated, it is possible that monetary and criminal penalties could be imposed, and relevant licenses or agreements could be cancelled. Any of the foregoing could have a material adverse effect on our financial condition and the results of our operations.
Depreciation or fluctuation of the currencies in which we conduct operations relative to the Hong Kong dollar could adversely affect our financial condition and the results of our operations
If the currencies of various countries in which we conduct our operations fluctuate relative to the Hong Kong dollar, which we use as our reporting currency in our consolidated financial statements, these fluctuations may result in exchange losses or gains and increases or reductions in our debt after translation into Hong Kong dollars. We recorded a net exchange gain of HK$61 million (US$8 million) in 2004 and HK$42 million in 2003, compared to a net exchange loss of HK$1 million in 2002.
Volatility in social, political and economic conditions in the countries where we operate may adversely affect our business.
Many of our operating companies and a substantial portion of our total assets are located in countries, including India, Israel, Thailand and Sri Lanka, that have experienced social, political and economic volatility. Developments in these countries and other countries in which we operate in the future, including uncertainties arising from economic liberalization and deregulation policies, future economic crises, outbreaks of hostility and political instability, may have a material adverse effect on our business, financial condition and results of operations. In particular, hostilities involving Israel could cause Partners revenues to fall and harm its business. Since October 2000, there has been a substantial deterioration in the relationship between Israel and the Palestinians, which has resulted in increased violence.
Risks Relating to the Telecommunications Industry Generally
The telecommunications industry is a highly regulated industry in which the regulators decisions may materially and adversely affect our financial condition and results of operations.
Our business is highly regulated. In each of the countries in which we operate, we are subject to government regulation regarding licenses, competition, frequency allocation and costs and arrangements pertaining to interconnection and leased lines. Our business and operations could be materially and adversely affected by changes in laws, regulations or government policy affecting our business activities. For example, we are subject to regulations on our tariff structures in some jurisdictions where we operate. We cannot predict with accuracy or assure you on the timing, likelihood or likely magnitude of any future tariff adjustments generally or the extent of any potential impact such tariff adjustments would have on our business. We cannot assure you that our business, financial condition and the results of our operations will not be materially and adversely affected by any government-mandated tariff adjustments in the future.
In some cases, the regulator may also be a competitor. In India, for example, we compete with companies controlled by the Indian government. While Indian regulators have been granted powers to ensure a level playing field among the various mobile telecommunications operators, we cannot assure you that the Indian government will ensure a level playing field between the government companies and private operators.
Required licenses and permits may be difficult to obtain in those countries where we operate a network, and once obtained may be amended or revoked or may not be renewed
Our operation of telecommunications networks and the provision of related services are regulated to varying degrees by national, state, regional or local governmental and/or regulatory authorities. Our operating licenses specify the services we can offer and the frequency spectrum we can utilize for mobile operations. These licenses are subject to review, interpretation, modification or termination by the relevant authorities. We cannot assure you that the relevant authorities will not take any action that could materially and adversely affect us. Our operating licenses are generally renewable upon expiration. However, we cannot assure you that they will be renewed or that any renewal on new terms will be commercially acceptable to us. If we fail to renew any of our licenses, we may lose the ability to continue to operate the affected business, and the realizable value of our relevant network infrastructure and related assets may be materially and adversely affected.
The rules of some government regulatory authorities having jurisdiction over our operations require us to meet specified network build-out requirements and schedules. In addition, our licenses typically require satisfaction of various obligations, including minimum specified quality, service, coverage criteria and capital investment. Failure to comply with these obligations could result in the imposition of fines or the revocation or forfeiture of the license for that area. Furthermore, the need to meet scheduled deadlines may cause us to expend more resources than otherwise budgeted for a particular network build-out. We cannot assure you that we will be able to fully comply with the terms and conditions of these licenses and permits. In particular, some of our operations have been fined for failure to comply with certain of these terms and conditions within the specified time frame.
The deployment of our networks requires various approvals or permits from national, state, regional or local governmental and/or regulatory authorities, particularly in relation to establishing cell sites. These approvals and permits may include building, construction and environmental permits, antenna and mast deployment approvals and other various planning permissions. We have experienced, and may continue to experience, difficulties in obtaining some of these approvals and permits which may require us to seek alternative cell sites and/or incur effort and expense where a suitable alternative cell site is not available, for example, possibly through applying for and making payments in respect of re-zoning applications.
Rapid technological changes may increase competition and render our technologies, products or services obsolete
The global telecommunications industry is characterized by rapid increases in the diversity and sophistication of the technologies and services offered. As a result, we may face increasing competition from technologies currently being developed, or which may be developed in the future, by both our existing competitors as well as new market entrants. The development and application of new technologies involve time, substantial cost and risks. Our competitors may be more effective than us at developing or marketing new technologies, products and services. We cannot accurately predict how emerging and future technological changes will affect our operations or the competitiveness of our services. Similarly, the technologies we employ may become obsolete or subject to intense competition from new technologies in the future. If we fail to develop, or obtain timely access to, new technologies and equipment, or if we fail to obtain the necessary licenses to provide services using these new technologies, we may lose our customers and market share and become less profitable.
We are dependent on interconnection with our competitors networks and associated infrastructure as well as roaming arrangements with other telecommunications operators
Our ability to provide commercially viable mobile and fixed-line telecommunications services depends, in part, upon our interconnection arrangements with other telecommunications operators. In particular, we are dependent on interconnection with our competitors mobile and fixed-line networks and associated infrastructure for the successful operation of our business. The framework by which interconnection charges are made in certain jurisdictions where we engage in business are currently being reviewed by the relevant government authorities. Any change to the framework or the basis upon which interconnection charges are made is likely to require the renegotiation of our interconnection agreements. We cannot assure you that we will be able to maintain our interconnection agreements on terms that are commercially acceptable to us or that any material increase in the interconnection expenses would not have a material adverse effect on our financial condition and the results of our operations.
Our operating companies are also dependent upon roaming agreements with other telecommunications operators as a source of revenues when the other telecommunications operators customers roam on our networks. If these roaming agreements were to terminate, or if the other telecommunications operators were to deploy incompatible technologies, our roaming revenues and profits may be materially reduced.
Our allocated spectrum may be insufficient for the expansion of our mobile telecommunications business
The operation of our mobile telecommunications networks is limited by the amount of spectrum allocated to us in the countries where we operate. Allocation of spectrum is determined by the relevant governmental authorities in those countries. In determining spectrum allocation, governmental authorities generally seek to ensure choice of services, efficient use of spectrum and continuity of customer service while maintaining technology neutrality and providing a stable investment environment. Although we believe that our current spectrum allocation is sufficient for expected customer growth going forward, our future profitability may be materially and adversely affected if our allocated spectrum proves inadequate in the future for the expansion of our mobile telecommunications business.
Concerns about health risks relating to the use of mobile handsets may adversely affect our prospects
Media and other reports have linked radio frequency emissions from mobile handsets to various health concerns, including cancer, and to interference with various electronic medical devices, including hearing aids and pacemakers. Although we do not know of any definitive studies showing that radio frequency emissions cause health problems, concerns over radio frequency emissions may discourage the use of mobile handsets in the countries in which we conduct business, which could have a material adverse effect on our business, financial condition and results of operations. In addition, lawsuits have been filed in the United States against certain participants in the telecommunications industry alleging various adverse health consequences as a result of mobile handset usage, and we may be subject to similar litigation in the future. Research and studies are ongoing, and we cannot assure you that further research and studies will not demonstrate a link between radio frequency emissions and health concerns.
Risks Relating to Our ADSs and Ordinary Shares
Our board of directors may suspend voting rights attaching to some shares as necessary to avoid any of our subsidiaries or affiliates being in breach or default
Our articles of association provide that if any person directly or indirectly has or acquires an interest in a number of our shares that would or may, in the opinion of our directors, require a review or approval under, or which would or may result in any of our subsidiaries or affiliates (being any entity in which we directly or indirectly hold 5% or more of the issued share capital) being in breach or in default of, any applicable law, regulation or license, permit, consent or privilege held or enjoyed by any such subsidiary or affiliate, or any requirement of any governmental or regulatory authority, our directors have the discretion to serve a notice upon the shareholder of these shares:
The notice may also direct the shareholder holding the affected shares to furnish us with information or documents that we may require in order to enable us or any affected subsidiary or affiliate to obtain the necessary approval that may be required in order to enable the shareholder to continue to hold the affected shares without any breach or default occurring or continuing. For purposes of these ownership limitations, we consider ownership of ADSs to be the same as ownership of the underlying ordinary shares. See Additional InformationMemorandum and Articles of AssociationRights, Preferences, Restrictions Attaching to Shares and Changing the Rights of ShareholdersVoting Rights.
It may be more difficult for you to bring an action against us or against our directors and officers, or to enforce a judgment against us or them, than if we were a corporations incorporated in the United States
We are incorporated in the Cayman Islands, and we conduct substantially all of our operations outside of the United States. In addition, substantially all of our assets are located outside the United States. Moreover, most of our directors and officers reside outside of the United States. Our corporate affairs are governed by our memorandum and articles of association, the Cayman Islands Companies Law and the common law of the Cayman Islands. The rights of shareholders to take action against the directors and actions by minority shareholders are to a large extent governed by the common law of the Cayman Islands. The common law in the Cayman Islands is derived in part from comparatively limited judicial precedent in the Cayman Islands as well as from English common law, which has persuasive, but not binding, authority in a court in the Cayman Islands. Cayman Islands law in this area may not be as established and may differ from provisions under statutes or judicial precedent in existence in the United States. As a result, our public shareholders may face different considerations in protecting their interests in actions against the management, directors or our controlling shareholder than would shareholders of a corporation incorporated in a jurisdiction in the United States. Therefore, it may be difficult or impossible for you to bring or enforce an action against us or against these individuals in the United States if you believe that your rights have been infringed under the securities laws or otherwise. In particular, the Cayman Islands courts are unlikely:
Our ability to protect our rights through the U.S. federal courts may be limited, because we are incorporated under Cayman Islands law
Cayman Islands companies may not have standing to initiate a shareholder derivative action in a federal court of the United States. As a result, our ability to protect our interests if we are harmed in a manner that would otherwise enable us to sue in a United States federal court may be limited.
You may not be able to exercise your right to vote the ordinary shares underlying your ADSs
As a holder of our ADSs, you may instruct the depositary of your ADSs to vote the ordinary shares underlying your ADSs but only if we ask the depositary to ask for your instructions. Otherwise, you will not be able to exercise your right to vote, unless you withdraw our ordinary shares underlying the ADSs you hold. However, you may not know about the meeting far enough in advance to withdraw those ordinary shares. If we ask for your instructions, the depositary will notify you of the upcoming vote and arrange to deliver our voting materials to you. We cannot assure you that you will receive the voting materials in time to ensure that you can instruct the depositary to vote your ordinary shares. In addition, the depositary and its agents are not responsible for failing to carry out voting instructions or for the manner of carrying out voting instructions. This means that you may not be able to exercise your right to vote, and there may be nothing you can do if the ordinary shares underlying your ADSs are not voted as you requested.
Under the deposit agreement for the ADSs, the depositary will give us a discretionary proxy to vote our ordinary shares underlying your ADSs at shareholders meetings if you do not vote, unless we notify the depositary that:
The effect of this discretionary proxy is that you cannot prevent our ordinary shares underlying your ADSs from being voted, absent the situations described above, and it may make it more difficult for shareholders to influence the management of our company, which could adversely affect your interests. Holders of our ordinary shares are not subject to this discretionary proxy.
You may not receive distributions on our ordinary shares represented by ADSs or any value for them if it is illegal or impractical to make them available to holders of ADSs
The depositary of our ADSs has agreed to pay to you the cash dividends or other distributions it or the custodian for our ADSs receives on our ordinary shares or other deposited securities after deducting its fees and expenses. You will receive these distributions in proportion to the number of our ordinary shares your ADSs represent. However, the depositary is not responsible if it decides that it is unlawful or impractical to make a distribution available to any holders of ADSs. We have no obligation to take any other action to permit the distribution of our ADSs, ordinary shares, rights or anything else to holders of our ADSs. This means that you may not receive the distributions we make on our ordinary shares or any value for them if it is illegal or impractical for us to make them available to you. These restrictions may have a material adverse effect on the value of your ADSs.
You may be subject to limitations on transfer of your ADSs
Your ADSs, represented by ADRs, are transferable on the books of the depositary. However, the depositary may close its books at any time or from time to time when it deems expedient in connection with the performance of its duties. The depositary may refuse to deliver, transfer or register transfers of your ADSs generally when our books or the books of the depositary are closed, or at any time if we or the depositary thinks it is advisable to do so because of any requirement of law or any government or governmental body, or under any provision of the deposit agreement, or for any other reason.
ITEM 4. INFORMATION ON THE COMPANY
We are a global provider of mobile and fixed-line telecommunications services. We currently serve eight markets around the world: Hong Kong, Macau, India, Israel, Thailand, Sri Lanka, Paraguay and Ghana. We intend to commence providing mobile services in Vietnam in 2005.
In March 2005 we entered into a conditional agreement to acquire a 60% equity interest in a company holding a 2G and 3G mobile telecommunications license in Indonesia. We have entered into a conditional agreement to sell all of our interest in our operations in Paraguay, which we expect to be completed in the third quarter of 2005.
Using 2G GSM, CDMA, GPRS and 3G platforms, we offer customers a wide variety of telecommunications services, ranging from basic voice and data services to multimedia services using advanced mobile technology. In India, we have added enhanced data GSM environment, or EDGE, capabilities to our network, which allows us to provide short video clips and enhanced content services. In Thailand, we provide multimedia services over a CDMA2000 1X network that are not available from other service providers there. Our introduction of 3G services in Hong Kong and Israel has brought customers a significantly wider range of content covering sports, news, entertainment and finance. We were the first service provider in these markets to offer person-to-person video calling.
Each of our businesses enjoys access to our global brands, with our principal focus being the 3 family of brands. We use the 3 brand in Hong Kong and the Hutch brand in India (except the Mumbai service area, where we currently use the Orange brand), Thailand and Sri Lanka. In Israel, we use the Orange brand.
In 2004, we had total turnover of HK$14,960 million (US$1,918 million) and a net profit of HK$72 million (US$9 million) (including a one-time profit of HK$1,300 million (US$167 million) from the placement of shares in one of our subsidiaries). As of December 31, 2004, we had a total of approximately 12.6 million mobile customers. The following table sets forth the number of our mobile customers as of December 31, 2004.
In addition, in our fixed-line operations, we had approximately 248,000 residential voice lines and approximately 175,000 residential broadband lines as of December 31, 2004.
Our main strategy is to focus on mobile telecommunications services markets with the potential for high growth, in terms of customers and/or the value of services provided. We believe that a combination of strong economic growth and favorable demographic profiles in these markets will result in sustained increasing demand for our services. We intend to leverage our experienced management team and established track record of successfully developing and operating mobile telecommunications businesses to grow and diversify our turnover and profits. In particular, we intend to continue to acquire or invest selectively in new businesses in countries in which we already have a presence, as well as in new markets.
Although we recorded a net profit for 2004, we have a history of net losses. As of December 31, 2004, we had accumulated losses of HK$5,923 million (US$759 million) although we had total shareholders funds of HK$14,287 million (US$1,832 million) compared to a shareholders deficit of HK$6,375 million as of December 31, 2003. In addition, as of December 31, 2004, we had a working capital deficit of HK$14,266 million (US$1,829 million).
On April 20, 2005, our interest in Partner Communications Company Ltd., or Partner, our mobile telecommunications operator in Israel, increased from 42.9% to 52.2% of the issued share capital of Partner following the completion of a buyback of shares by Partner from certain of its shareholders.
On May 3, 2005, it was announced that we had requested the board of directors of our fixed-line operating company, Hutchison Global Communications Holdings Limited, or Hutchison Global Communications Holdings, to put forward a proposal to privatize Hutchison Global Communications Holdings, in which we currently hold a 52.5% interest. On June 7, 2005, the privatization proposal was made. If successfully completed, Hutchison Global Communications Holdings would become our wholly-owned subsidiary and the listing on the Hong Kong Stock Exchange of its shares will be withdrawn. Under the terms of the proposed privatization, certain shareholders of Hutchison Global Communications Holdings would be able to exchange the cancellation of their shares for our shares or for cash. The proposed privatization is subject to a number of conditions and is described further in Operating companies reviewHong Kong fixed-line businessProposed privatization.
Our strategy is to take advantage of markets that offer superior opportunities for growth. We first identify markets experiencing strong economic growth, with favorable demographic profiles as well as low telecommunication penetration rates. We then develop market position by building quality networks, offering competitive tariffs and providing customer-driven products and innovative service plans. We focus on attracting and maintaining knowledgeable local management, continuing technological innovation, and maintaining a strong reputation in the telecommunications industry.
We also modify these factors for the diverse markets that we serve. In India, for example, with its vast population and low telecommunication penetration, we focused on network and service quality to establish a successful business that not only makes a significant contribution to our results but also continues to show strong growth. In contrast, in markets where telecommunications services are more established, we build strategically on our well-known brands and our reputation as an innovation leader. Meeting customer demand for the latest technology and newest applications, we have launched 3G services in Hong Kong and Israel to drive growth in these markets.
In the markets in which we operate, we aim to establish and maintain leadership positions. We also aim to expand our business through acquisitions of businesses or licenses in attractive growth markets.
We also seek to leverage the global buying power that comes from operating global networks. We believe this has allowed us to source high-quality network infrastructure at attractive prices to enable the efficient development of our businesses.
Services and products
We offer a variety of voice, video, data and value-added services over our mobile and fixed line networks. We operate 2G and 3G mobile networks using GSM, CDMA and W-CDMA across our businesses. 2G, or second generation technology, usually refers to mobile telecommunications services using the 800/900-MHz and 1800-MHz spectrum. 3G, or third generation technology, usually refers to UMTS, or universal mobile telecommunications system. GSM, or global system for mobile communications, is a comprehensive digital standard for the operation of all elements of a cellular telephone system. CDMA, or code division multiple access, is a method by which many users sharing the same radio channel can be distinguished by unique code numbers.
We offer a range of services carefully designed to meet the needs of the local market in which we operate. Specifically we offer:
Since May 2002, we have offered BlackBerryTM wireless email services operating on our GSM and GPRS networks in Hong Kong. We were the first mobile telecommunications operator in Asia to offer the BlackBerryTM wireless email services, which provide corporate customers with an end-to-end wireless solution that includes integrated email, mobile telecommunications and electronic organizer features.
Fixed line telecommunications
In Hong Kong, we provide a comprehensive range of fixed-line telecommunication services to retail customers (business and residential) as well as wholesale customers such as other telecommunications operators.
We also offer data center facilities, managed hosting solutions, operations outsourcing and disaster recovery solutions for both local and multinational corporations.
In view of the increasing popularity of broadband television services, we have been working closely with different content and application service providers to enhance our fixed-line service offerings. In January 2005, we signed an agreement with pay TV service provider Galaxy Satellite Broadcasting Limited (currently a wholly owned subsidiary of Television Broadcasts Limited, Hong Kongs leading television broadcaster), to deliver 34 channels of infotainment content to Hong Kong households through our broadband network. In addition, we entered into a co-branding agreement with Skype Technologies S.A., a global Internet telephony provider, to promote their service in Hong Kong.
Interest in operations
We own differing equity interests in our operating companies as shown in the table below. In addition, we own certain convertible debt and preference shares in certain of our operating companies, and have made loans to certain of our operating companies which are not wholly owned, as shown in the table below. All information is as of December 31, 2004 except where indicated.
Marketing strategy and brand
Each of our businesses enjoys access to our global brands, with our principal focus being the 3 family of brands. We use the 3 brand in Hong Kong, the Hutchison Telecom brand in Macau and the Hutch brand in India (except the Mumbai service area, where we currently use the Orange brand), Thailand and Sri Lanka. In Israel, Partner uses the Orange brand in its promotional and advertising activities, and all mobile phones sold to its customers bear the logo.
Our overall marketing strategy is to attempt to distinguish our brands from other telecommunications service providers by the quality of our products and, where applicable, the multimedia services offered. Other aspects of our marketing strategy depend on the nature of each market.
We offer different plans to meet the needs of different user segments. Our postpaid plans include a monthly fee which bundles voice services with a variety of value-added services such as voice mail, MMS, SMS and fax mail services. Additional charges are levied for other value-added services including IDD services and roaming services. We also offer several prepaid plans. Prepaid customers purchase a rechargeable prepaid SIM card for a specified amount of airtime and they may also enjoy additional value-added services. SIM, or subscriber identity module, is a small card or chip provided to network subscribers that is inserted into a handset. The SIM is a computer processor that uniquely identifies a network subscriber and stores the subscribers personal phone book, sent and received text messages, network security codes and other programs that enable additional network features.
We offer postpaid 3G services. 3G tariff plans charge different monthly fees according to the needs of different user segments. These plans include a monthly fee which bundles voice services, video calls, streaming or downloads of multimedia clips and other data services. Additional charges are levied for IDD, roaming and other value-added services. We also recently launched prepaid 3G services in Hong Kong providing voice services, video calls streaming or downloads of multimedia clips, roaming and other data and value-added services.
Sales and distribution
We have developed extensive sales and distribution networks using both our own and third-party operations to market our mobile telecommunication service products. We have dedicated retail outlets in Hong Kong, India, Israel and Thailand at which customers can select mobile phones and accessories, make inquiries and subscribe for services. In addition, we utilize other leading distributors, specialist and general retail outlets to sell our services. In some markets like Hong Kong, Israel or Thailand where we are introducing advanced services, we are actively involved in sourcing and selling handsets, while in other markets such as India handsets are sourced directly by the distributor and we are involved only in the sale of the SIM card. In all of our markets, access to wide sales and distribution outlets of good quality and is critical to the success of the business. For business customers, we typically use teams of direct sales agents.
Our fixed-line operations in Hong Kong normally utilize internal sales teams to market, sell and deliver their services and products. This enables the maintenance of quality marketing and distribution of services and products in a cost-effective and cost-efficient manner. In addition, our fixed-line operations also make use of various other sales and distribution channels from time to time to complement their internal sales teams, including retail shops within the Hutchison Whampoa group, and external sales agents.
Operating companies review
Hong Kong and Macau mobile telecommunications business
In Hong Kong we provide 2G CDMA and GSM dual band and 3G mobile telecommunications services, all under the 3 brand. In Macau we provide 2G GSM dual band mobile telecommunications services under the Hutchison Telecom brand. We hold a 70.9% interest in our operating companies in Hong Kong and Macau. During 2004, we maintained our position as the largest mobile telecommunications operator in Hong Kong in terms of customer numbers, and together with Macau, provided services to approximately 2.2 million customers as of December 31, 2004.
We are the largest 3G service provider in Hong Kong. As of December 31, 2004, our 3G network, comprised of over 1,300 radio stations, provided 99% coverage in the business and populated areas of Hong Kong including full 3G coverage for the Island Line of Hong Kongs subway system, major traffic tunnels and elevators in key commercial buildings.
We have provided GSM dualband mobile telecommunications services in Macau since August 2001. Macaus mobile communications industry enjoyed significant growth along with its economic upsurge in 2004. In Macau, we enhanced the quality of our network by increasing the number of cell sites and repeaters by over 15%. We also expanded our international roaming coverage in voice and GPRS data.
The following table sets out market and operating data for our mobile services in Hong Kong and Macau as of the dates or for the periods indicated:
Our mobile services in Hong Kong and Macau(1)
Products and services
In Hong Kong, we offer basic mobile telecommunications services such as local voice, SMS, MMS, IDD and international roaming. International voice roaming is currently available in 227 destinations, with data roaming available in 95 destinations and video roaming in 15 countries.
We provide the largest array of 3G video mobile phones in Hong Kong. At the end of 2004, we offered 13 models, 22 color choices and a unique UMTS/GPRS-enabled data card.
We work with over 120 3G content providers from all over the world, enabling us to deliver a rich and diverse portfolio of content. As a result, we offer 33 service channels and in 2004 were able to introduce a range of video mobile content for the first time in Hong Kong, including:
In Macau, we pioneered a number of services, including:
We have a 70.9% interest, and NTT DoCoMo, Inc., or NTT DoCoMo, and NEC Corporation, or NEC, each owns an indirect shareholding of 24.1% and 5%, respectively, in each of Hutchison 3G HK Limited, or Hutchison 3GHK, Hutchison 3G Services (HK) Limited, or Hutchison 3GHK Services, Hutchison Telephone Company Limited, or Hutchison Telephone, and Hutchison Telephone (Macau) Company Limited, or Hutchison Macau, which are our operating companies for 3G services in Hong Kong and 2G services in Hong Kong and Macau. NEC is currently a supplier of 3G infrastructure systems and 3G handsets for the operations of our 3G network in Hong Kong. NEC also provides managed services, including network operation and maintenance, radio site engineering and site administration for our 2G networks in Hong Kong and Macau and our 3G networks in Hong Kong.
NTT DoCoMo and NEC each entered into shareholders agreements dated November 8, 2002 with Hutchison Whampoa in respect of their respective shareholdings in Hutchison 3GHK, Hutchison 3GHK Services and Hutchison Telephone. The shareholders agreements contain customary provisions dealing with matters such as voting rights, board control, funding obligations
and restrictions on share transfers. Pursuant to a pass-through agreement between our company and Hutchison Whampoa, the rights and obligations of Hutchison Whampoa under the Hong Kong shareholders agreements (as supplemented by an agreement between Hutchison Whampoa and NEC as described below) have been passed through to us, subject to limited exceptions stated therein. Under the pass through agreement, Hutchison Whampoa agreed, among other things, to indemnify us from and against all claims and liabilities in connection with any antecedent breach by Hutchison Whampoa of the shareholders agreements occurring prior to the date of our listing on the Hong Kong Stock Exchange.
The shareholders agreements also gave each of NTT DoCoMo and NEC the right to participate in the initial public offering of our company by exchanging their existing shareholdings in our operating companies for 2G services in Hong Kong and Macau and 3G services in Hong Kong for ordinary shares in our company. Hutchison Whampoa made formal offers to NTT DoCoMo and NEC, respectively, offering them the opportunity to exercise their rights to exchange their shareholdings in these operating companies for our ordinary shares. Under a separate agreement with Hutchison Whampoa, NEC declined the offer and now has only some of the rights it had under the shareholders agreements prior to our listing on the Hong Kong Stock Exchange. NEC no longer has the right to exchange its shareholdings in these operating companies for any other companys shares. The offer to NTT DoCoMo lapsed, with the result that they remain as indirect shareholders in Hutchison 3GHK, Hutchison 3GHK Services, Hutchison Telephone and Hutchison Macau. Accordingly, NTT DoCoMo continues to have the right to participate in an initial public offering of any subsidiary of Hutchison Whampoa, including any subsidiary of ours to the extent that it would also be deemed to be a subsidiary of Hutchison Whampoa, substantially all of whose business interests comprise telecommunications or multi-media interest and which directly or indirectly holds an interest in our operating companies for 2G services in Hong Kong and Macau and 3G services in Hong Kong by exchanging its existing shareholding in these operating companies for shares in such a holding company so that the value of NTT DoCoMos participation in such holding company is at least equal to the value of NTT DoCoMos investment in these operating companies.
Other than as described above, there is currently no equipment or financing commitment from either NTT DoCoMo or NEC in connection with our Hong Kong mobile operations. We expect NEC to continue to be a supplier of 3G infrastructure systems and 3G handsets in Hong Kong following the offering, and to provide managed services with respect to our 2G and 3G networks in Hong Kong and our 2G network in Macau.
Hong Kong and Macau mobile telecommunications markets
As of December 31, 2004, Hong Kong had a mobile phone penetration rate of approximately 117.8%, which reflected Hong Kongs high number of resident customers with multiple subscriptions as well as business and tourist customers. There were approximately 8.1 million mobile phone subscriptions out of a total population of approximately 6.8 million in Hong Kong as of December 31, 2004. Market growth has slowed since 2001, however, and is now primarily driven by prepaid customers.
Based on key statistics of radio communication and telecommunications services available from the GDTTIs website, there were approximately 432,000 mobile telecommunications customers in Macau as of December 31, 2004, representing a penetration rate of 92.9%, as compared with approximately 364,000 mobile customers as of December 31, 2003, representing a penetration rate of 81.2%. We expect that the penetration rate will continue to grow steadily as a result of deregulation.
We face significant competition in the Hong Kong mobile telecommunications market.
There are currently five other 2G mobile telecommunications operators in Hong Kong: New World PCS Limited, or New World; China Resources Peoples Telephone Company Limited, or Peoples; SmarTone Mobile Communications Limited, or SmarTone; SUNDAY o/b Mandarin Communications Limited, or Sunday; and Hong Kong CSL Limited, or CSL. We are the largest mobile telecommunications operator in Hong Kong in terms of customer numbers as of December 31, 2004, with approximately 2.01 million customers. However, the presence of six 2G mobile telecommunications operators serving a market that has one of the worlds highest penetration rates for customers of mobile telecommunications services makes the Hong Kong market highly competitive. Mobile telecommunications operators in Hong Kong have engaged in price competition in order to win market share from the other operators. Recent promotional offers and lower tariffs as a result of price competition have decreased our blended ARPU from HK$184 in 2002 to HK$165 in 2003 and HK$151 (US$19.36) in 2004.
Out of the four 3G license holders in Hong Kong, we were the first telecommunications operator to have launched 3G services. CSL and SmarTone both rolled out their 3G services in December 2004. It is expected that competition in the 3G mobile telecommunications services market will intensify over time.
In Macau, there are currently three other mobile telecommunications operators. Until 1999, the telecommunications industry in Macau operated under a monopoly environment. The largest operator is Companhia de Telecommunicações de Macau S.à r.l., the previous monopoly mobile telecommunications operator.
Spectrum and mobile telecommunications networks
We have deployed multiple mobile technologies in Hong Kong. In particular, we were the first telecommunications operator in the world to launch a CDMA commercial network in 1995 and the first in Asia to launch a GSM dualband network in 1998. We also became Hong Kongs first 3G mobile telecommunications services provider in January 2004, using W-CDMA technology.
We use GSM and CDMA mobile telecommunications networks for our 2G operations in Hong Kong. Currently, the vast majority of our 2G customers in Hong Kong use our GSM dualband network, which allows radio communications to and from customer handsets to switch seamlessly between the 900 MHz spectrum and 1800 MHz spectrum bands resulting in enhanced network quality and capacity. We also offer GPRS technology in Hong Kong, which utilizes GSM frequencies. Our CDMA network in Hong Kong deploys a 2.5G CDMA IS95B packet data transmission technology, which offers data transmission speeds of up to 64 Kbps. For a more detailed discussion of spectrum allocation in Hong Kong, see RegulationHong KongLicensing frameworkSpectrum allocation.
On April 1, 2005, the Office of the Telecommunications Authority of Hong Kong, or OFTA, the executive arm of the Telecommunications Authority, offered us a right of first refusal to take up new mobile carrier licenses in replacement of our existing GSM and personal communication services licenses upon their expiry. These new licenses would be for a term of 15 years and would contain conditions similar to our existing licenses along with new conditions such as open network access requirements and spectrum utilization fees. This right of first refusal to renew was not offered to us in respect of our license for CDMA services, however. Instead, we would receive a customer migration period of three years with one-third of the original assigned spectrum upon the expiry of our existing CDMA license. For a more detailed discussion of the terms of the replacement licenses, see RegulationHong KongLicenses.
Following the award of a 3G license in Hong Kong in October 2001, we obtained one block of paired spectrum of 2 x 14.8 MHz and one block of 5 MHz unpaired spectrum at the 1900 to 2200 MHz spectrum bands. Under the terms of our 3G license in Hong Kong, we are required to roll out and maintain our network so as to cover an area where at least 50% of Hong Kongs population live by no later than December 31, 2006, which we have already achieved. The Hong Kong government has introduced an open network access framework, in which 3G licensees have to make available up to 30% of the capacity of their networks for use by non-affiliated mobile virtual network operators and service providers. See RegulationHong KongLicenses for a description of how network capacity is calculated.
Hong Kong fixed-line business
We offer local and IDD voice call services, broadband Internet access and various data transmission services to business and residential customers in Hong Kong through Hutchison Global Communications Limited, or Hutchison Global Communications, a subsidiary of Hutchison Global Communications Holdings (formerly Vanda Systems & Communications Holdings Limited, or Vanda). We own 52.5% of Hutchison Global Communications Holdings, which is listed on the Hong Kong Stock Exchange.
In May 2005, it was announced that we had requested the board of directors of Hutchison Global Communications Holdings to put forward a proposal to privatize Hutchison Global Communications Holdings that would result in Hutchison Global Communications Holdings becoming our wholly-owned subsidiary. On June 7, 2005, the privatization proposal was made. Under the proposed privatization, holders of Hutchison Global Communications Holdings shares not held by us would have an option to exchange, for cancellation of their shares, either HK$0.65 (US$0.08) per share in cash or two of our shares for every 21 Hutchison Global Communications Holdings shares, but not a combination of both. The proposed privatization is subject to a number of conditions, including approval by holders of Hutchison Global Communications Holdings shares not held by us or who are not parties acting in concert with us. The proposed privatization of Hutchison Global Communications Holdings is further described in See Proposed privatization.
We are currently one of the largest fixed-line telecommunications operators in Hong Kong, with approximately 248,000 residential voice lines as of December 31, 2004, representing growth of 17% compared to December 31, 2003. We provide one of the fastest bi-directional residential broadband services, in terms of upload and download speeds, in the Hong Kong market, with approximately 175,000 residential broadband lines as of December 31, 2004, representing growth of 47% compared to December 31, 2003.
We own and operate what we believe is the largest fiber-optic building-to-building telecommunications network in Hong Kong, with 4,600 kilometers of linear ducting and over 800,000 kilometers of core fiber-optic cable. Fiber-optic networks are able to support a higher volume of traffic at faster transmission speeds for Internet and data communications compared to traditional copper cable networks. Using this fiber-optic network, we have been able to gain a firm foothold in the local fixed network industry, with the delivery of efficient and reliable services to business and residential customers, schools, hospitals, local community organizations, governmental bodies and other network carriers.
In March 2004, Hutchison Global Communications Holdings purchased PowerCom Network Hong Kong Limited, or PowerCom, a company that utilizes the electricity distribution system to provide broadband connections. The addition of the PowerCom business to our fixed-line operations is expected to provide us with a cost-effective last-mile solution for installing broadband Internet services in residential estates, hotels and service apartments.
The following table sets out certain market and operating data for our fixed-line services for the periods indicated:
Our fixed-line services in Hong Kong
Products and services
Our fixed-line operation pioneered the integration of traditional and new technologies in Hong Kong by offering services which combined basic telecommunications services with video phones. We also offer one of the fastest bi-directional residential broadband services available in Hong Kong. In 2004, we:
Hutchison Global Communications was transferred to us by the Hutchison Whampoa group pursuant to the restructuring completed in September 2004. Hutchison Global Communications is a subsidiary of Hutchison Global Communications Holdings, in which we hold an interest of approximately 52.5%. Our interest in Hutchison Global Communications Holdings resulted from a transaction concluded in March 2004. The transaction involved the purchase by Vanda, which was subsequently renamed Hutchison Global Communications Holdings, of Hutchison Global Communications, which was then a wholly-owned subsidiary of Hutchison Whampoa operating its fixed-line telecommunications and related businesses. In exchange for Hutchison Global Communications, Vanda issued new shares and convertible notes to Hutchison Whampoa. Hutchison Whampoa had previously held a 37.1% interest in Vanda since September 2003. As a result of the new Vanda shares issued to Hutchison Whampoa, Hutchison Whampoas shareholding in Vanda would have increased to 78.9%. However, following a placement of Hutchison Whampoas shares in Vanda, Hutchison Whampoas interest in Vanda was subsequently reduced to approximately 52.5%.
In addition, we hold a convertible note with a principal amount of HK$3,200 million (US$410 million) issued by Hutchison Global Communications Holdings. The convertible note is convertible into ordinary shares of Hutchison Global Communications Holdings at an initial conversion price of HK$0.96 per share. If the convertible note were converted, 3,333,333,333 ordinary shares of Hutchison Global Communications Holdings would be issued, which would increase our ownership of Hutchison Global Communications Holdings to 68.0%.
Furthermore, Hutchison Global Communications Holdings has drawn a loan under a HK$1,000 million (US$128 million) credit facility agreement dated March 12, 2004 between Hutchison International Limited, or Hutchison International, and Hutchison Global Communications Holdings, as amended with effect from March 14, 2005. We assumed the obligations of Hutchison International as part of the restructuring completed in September 2004, as described in Major Shareholders and Related Party TransactionsRelated Party TransactionsRelated party transactions with Hutchison WhampoaFinancial assistance by the Hutchison Whampoa group to our groupLoans. As of December 31, 2004, the principal amount outstanding of the loan was HK$466 million (US$60 million). Under the terms of the credit facility agreement, as amended, on each of the second and third anniversaries of the date of the credit facility agreement, all loans which will have been drawn and remain outstanding, together with all interest accrued but not paid as of such date, shall be mandatorily and automatically converted into a convertible note with a principal amount equal to the outstanding amount of the loan including all interest accrued. The convertible note is convertible into shares of Hutchison Global Communications Holdings at an initial conversion price of HK$0.96 per share.
On May 3, 2005, it was announced that we had requested the board of directors of Hutchison Global Communications Holdings to put forward a proposal for the privatization of Hutchison Global Communications Holdings that would result in Hutchison Global Communications Holdings becoming our wholly-owned subsidiary. On June 7, 2005, the privatization proposal was made. Under the proposed privatization, holders of Hutchison Global Communications Holdings shares not held by us as at the specified record date would have an option to exchange, for the cancellation of their shares, either HK$0.65 (US$0.08) per share in cash or two of our shares for every 21 Hutchison Global Communications Holdings shares, but not a combination of both.
Holders of outstanding share options issued under the Hutchison Global Communications Holdings share option plan, or HGCH Options, can exercise their options on or before the specified record date, in which case the shares issued upon exercise of the HGCH Options would be eligible to be exchanged for cash or our shares as described above. Alternatively, they could elect not to exercise their HGCH Options and instead allow their unexercised HGCH Options to lapse in exchange for cash or our shares (except for the HGCH Options with an exercise price of HK$0.94 per share) as follows:
To the extent that any of the Hutchison Global Communications Holdings shareholders or holders of the HGCH Options are deemed to be connected persons of us or of Hutchison Whampoa under the listing rules of the Hong Kong Stock Exchange, and those connected persons elect to receive our shares in exchange for cancellation of their Hutchison Global Communications Holdings shares or unexercised HGCH Options, as the case may be, we will procure that Hutchison Whampoa will transfer on our behalf to those connected persons, from the shares of our company held by the Hutchison Whampoa group, that number of shares of our company that the connected persons are entitled to under the terms of the offer. In turn, we will assume an indebtedness to the Hutchison Whampoa group in the amount of the value of our shares being transferred together with any stamp duty incurred in connection with the transfer. The purpose of using this arrangement is to enable connected persons of ours or of Hutchison Whampoa participating in the privatization who elect to receive our shares to have existing shares transferred to them without involving us in the issue of new shares of our company to them.
Upon completion of the privatization, all shares of Hutchison Global Communications Holdings not held by us will be cancelled.
We have waived any rights we have under the HK$3,200 million convertible note issued by Hutchison Global Communications Holdings in connection with this proposed privatization. The convertible note is described in further detail in Ownership.
If all shareholders of Hutchison Global Communications Holdings were to elect to receive our shares in exchange for cancellation of their shares:
If all shareholders of Hutchison Global Communications Holdings were to elect to receive cash in exchange for their shares:
We will finance the cash consideration payable by us in connection with the privatization, including funds for repayment of any indebtedness incurred as a result of Hutchison Whampoas transferring our shares to connected persons on our behalf, from an existing secured revolving credit facility of HK$8,000 million that we have in place with ABN AMRO Bank N.V., which is described further in Operating and Financial Review and ProspectsLiquidity and Capital ResourcesOutstanding Debt.
The proposed privatization is subject to a number of conditions, including approval by independent holders of Hutchison Global Communications Holdings shares, meaning shareholders other than ourselves or any parties acting in concert with us. The approval of a majority in number of independent shareholders holding not less than three-fourths in value of the Hutchison Global Communications Holdings shares that are voted at the meeting of independent shareholders is required, provided that the proposed privatization is not disapproved by independent shareholders holding more than 10% in value of all the Hutchison Global Communications Holdings shares held by the independent shareholders. The proposed privatization will lapse if it does not become effective on or before October 31, 2005 (or such later date as we and Hutchison Global Communications Holdings may agree or as the Supreme Court of Bermuda, the jurisdiction in which Hutchison Global Communications Holdings is incorporated, may direct).
If the privatization becomes effective, the listing on the Hong Kong Stock Exchange of all Hutchison Global Communications Holdings shares will be withdrawn.
Hong Kong fixed-line telecommunications market
As of December 31, 2004, there were approximately 3.8 million telephone exchange lines in Hong Kong, including approximately 456,000 fax lines, in a territory with a total population of approximately 6.8 million. Telephone density was approximately 55 lines per 100 people.
In the fixed line business in Hong Kong, we face competition from five other fixed-line telecommunications operators, including PCCW-HKT Telephone Limited (formerly known as Hong Kong Telephone Company Limited), or PCCW-HKT. By far the largest fixed-line telecommunications operator in Hong Kong, PCCW-HKT is Hong Kongs previous monopoly carrier. Other competitors include: Wharf T&T Limited, or Wharf T&T; New World Telecommunications Limited, or NWT; Hong Kong Broadband Network Limited and Hong Kong Cable Television Limited. Unlike us, Wharf and NWT rely more heavily on Type II interconnections provided by PCCW-HKT in offering voice services. For a description of Type II interconnections, see RegulationHong KongKey industry regulatory issuesFixed-line interconnection.
As a consequence of the full liberalization of the Hong Kong telecommunications market in January 2003, new companies are likely to enter the market. These new entrants will find it difficult to build a network comparable in size and quality to that of ours because new subterranean cables and network lines would have to be installed at a deeper level than the existing fixed-line telecommunications operators networks, which significantly increases construction costs. This is likely to present additional opportunities for our Hong Kong fixed-line wholesale business.
Our business interests in India are conducted through Hutchison Max Telecom Limited, or Hutchison Max, a mobile telecommunications operator in Mumbai in which we hold direct and indirect equity interests. Hutchison Max in turn holds substantially all of the issued shares in five other mobile telecommunications operators in India. See Ownership below for more detailed discussions of our ownership interests in these operators. We refer to these mobile telecommunications operators collectively as Hutch India. We exercise strategic influence over the business of the mobile telecommunications operators. The results of each of the mobile telecommunications operators are consolidated in our financial statements. In India, we provide 2G services using GSM technology.
Hutch India is collectively Indias third largest private mobile telecommunications operator based on monthly market share data published by the Cellular Operators Association of India, or COAI, and the Association of Unified Telecom Service Providers of India, or AUSPI. We have experienced considerable growth in customers in recent years. As of December 31, 2004, we had 7.2 million customers as compared to 4.1 million customers as of December 31, 2003 and 2.0 million customers as of December 31, 2002.
Implementing services into new service areas, we have been strengthening our network in the newly acquired areas of Uttar Pradesh (East), Rajasthan and Haryana since August 2003. We also commenced operations in Punjab, Uttar Pradesh (West) and West Bengal towards the end of 2004. As a result, our licenses covered 13 of the 23 license areas in India as of December 31, 2004.
The following table sets out certain market and operating data for our Indian operations as of the dates or for the periods indicated:
Our services in India
The diagram below depicts the location of our operations areas in India.
Products and services
Voice continues to be the main revenue generator in India. However, we have also created new revenue opportunities with innovative data services such as:
Foreign ownership restrictions in the Indian telecommunications industry set forth in the Indian governments Industrial Policy and in the telecommunications licenses held by these mobile telecommunications operators, as discussed in further detail in RegulationIndiaForeign ownership restrictions, have to date prohibited us from holding more than 49% of the direct voting equity interests in the operators. Indian shareholders must hold at least 51% of the voting equity interests in these operators. Our investments in India therefore have taken the form of direct minority holdings through our wholly-owned subsidiaries. In addition, we also hold direct and indirect minority interests in Indian companies through which we and the Kotak Mahindra Capital Co. group, or the Kotak Mahindra group, jointly invest in the operators. The Kotak Mahindra group, a leading Indian financial services group, owns the majority of the equity interests in these Indian companies. We cannot independently vote these additional equity interests given the indirect and minority nature of the holdings.
On February 2, 2005, the Indian government issued a press release announcing an increase in foreign ownership limits, subject to certain conditions. As of the date of this annual report, however, there has been no change in the applicable regulations or license conditions to implement the terms set forth in the announcement, as discussed in further detail in RegulationIndiaForeign ownership restrictions.
On November 1, 2004, we received the approval of the Indian governments Foreign Investment Promotion Board to proceed with the consolidation of the Hutch India mobile telecommunications operators under an Indian holding company. On February 1, 2005, we completed the consolidation of the Hutch India operating companies, as a result of which five of the operating companies were consolidated under another operating company, Hutchison Max. Following the completion of the consolidation, we held a 42.3% interest in Hutch India.
The following summary organizational chart shows the equity interests held in Hutch India following the consolidation:
As a result of our minority interest in Usha Martin Telematics Limited, or Usha Martin Telematics, UMT Investments Limited and Telecom Investments India Limited, which are members of the Kotak Mahindra group, we have an additional economic interest in common stock of Hutchison Max of approximately 13.9%, resulting in us holding an aggregate direct and indirect interest of approximately 56%.
An aggregate of a further 0.57% of the existing shares of Hutchison Max is to be transferred to Essar Teleholdings Limited, or Essar, or one of its subsidiaries, by us and the Kotak Mahindra group, in a proportion to be determined between us and the Kotak Mahindra group.
The directors of Hutchison Max are appointed by the various shareholder groups in accordance with the relevant term sheet agreements. The shareholders of Hutchison Max are identified in the organizational chart shown above. The shareholders have held negotiations regarding the form of a new shareholders agreement for Hutchison Max to replace the separate shareholder agreements that previously were in place. As of the date of this annual report, however, no such agreement has been executed. Following the consolidation, the operating companies that were consolidated under Hutchison Max became direct or indirect wholly-owned subsidiaries of Hutchison Max, with the exception of Hutchison Essar South Limited, which is a 99.8%-owned subsidiary, and therefore the shareholders agreements that were in place with respect to these operating companies are no longer operative. Under our term sheet arrangements with other shareholders, we may appoint a number of directors proportionate to our directly-held equity interests in Hutchison Max, as a result of which, under Hutchison Maxs current board structure of 12 directors, we have appointed five directors. Currently, no single shareholder has a right to appoint a majority of the directors for Hutchison Max. While the other shareholders could, by acting together, appoint and remove the majority of the board of Hutchison Max, we believe we have the ability to exercise strategic influence over its business in a number of ways.
In addition, we and certain of the Indian shareholders each have veto rights over certain material matters relating to the business operations of Hutchison Max. These material matters include approval of the business plan and budget, the decision to consolidate or merge into another company, the entry into contracts with shareholders or their affiliates, liquidation and the entry into contracts above specific monetary thresholds that are outside the scope of the then-approved business plan. We are also involved with the Indian shareholders in the management of Hutchison Max and the other operating companies pursuant to these arrangements.
The shareholder arrangements contain some restrictions on share transfers. For example, in most cases, we have a right of first refusal in the event the Indian shareholders wish to transfer their shares in Hutchison Max to a third party. Another example is that one of the Indian shareholders has a similar right of first refusal in the event we wish to transfer our shares to certain specified third parties. Our rights to acquire additional shares from the Indian shareholders are subject in each case to the foreign ownership restrictions described in RegulationIndiaForeign ownership restrictions. Furthermore, in the event we sell our shares in Hutchison Max to a third party to below a specified level, some of the Indian shareholders may require us to procure the purchase of their shares by such third party on the same terms.
The shareholders arrangements pertaining to the Indian entities through which we hold indirect and minority interests in Hutchison Max also gives us director appointment, veto and other rights proportionate to our interest in such entities.
We also hold call options, both directly and indirectly, which, if exercised, would entitle us or a third-party nominee to additional equity interests in the Indian entities through which we hold indirect interests in Hutchison Max, in each case subject to the foreign ownership restrictions described in RegulationIndiaForeign ownership restrictions. Conversely, some Indian shareholders hold put options that could, again subject to the foreign ownership restrictions, require us or a third-party nominee to purchase additional equity interests in the Indian entities through which we hold indirect interests in Hutchison Max. Where our group already owns a direct 49% equity interest in these entities and the restrictions on foreign ownership apply, an exercise by us of the call options and an exercise by the Indian shareholders of the put options would need to be effected by a third-party nominee that is Indian acquiring the interests that are subject to the options. The call and put options may be exercised at any time. The purchase price is fair market value at the time of exercise of the option, as determined by agreement of the parties or, failing such agreement, by an affiliate of Goldman Sachs located outside of India.
We also hold almost 100% of the non-convertible preference shares issued by one of the Indian entities through which we hold a portion of our indirect equity interest in Hutchison Max. The preference shares entitle us to receive nominal dividend payments and a redemption premium that accrues at a rate that provides a 13% yield. While dividends are paid, the preference shares do not have any voting rights. However, the preference shares give us an additional economic interest in these operators. As of April 23, 2005, the last premium accrual date, the aggregate redemption value of the preference shares was approximately INR13,238 million (HK$2,352 million).
In connection with its initial investment in one of the Hutch India mobile telecommunications operators, a member of the Hutchison Whampoa group had agreed to provide support for a third-party loan to Essar, which at the time was an Indian shareholder in that operator. This loan and a subsequent loan in the aggregate principal amount of approximately INR10,913 million (HK$1,939 million or US$249 million), as of December 31, 2004, were secured by a stand-by letter of credit from a third party and part of Essars equity interest in Hutchison Max. The stand-by letter of credit was guaranteed by a member of the Hutchison Whampoa group in the aggregate amount of approximately US$260 million as of December 31, 2004. As part of the restructuring that was completed in September 2004, the Hutchison Whampoa groups obligations with respect to the provision of credit support were passed through to us.
As the initial public offering of the Indian holding company referred to in Initial public offering of Hutchison Max below had not occurred as of April 30, 2005, and as the third-party loan to Essar described above had not been repaid by April 30, 2005, then subject to the satisfaction of certain conditions (which have not been satisfied as of the date of this annual report), we will have the right to acquire from Essar, in exchange for repayment of the loan by us on behalf of Essar, a number of shares of Hutchison Max equal in value to the outstanding amount of the loan. Conversely, and subject to the same conditions (which have not been satisfied), Essar will have the right to sell to us, in exchange for repayment of the loan by us on behalf of Essar, a number of shares of Hutchison Max equal in value to the outstanding amount of the loan.
Essar has an option to acquire from Usha Martin Telematics an additional 3.42% of the equity of Hutchison Max. Usha Martin Telematics has a similar option to purchase from Essar an additional 1.73% of Hutchison Max. These options are exercisable on or before the initial public offering of the Indian holding company or June 30, 2005, whichever is the earlier.
Initial public offering of Hutchison Max
Pursuant to a consolidation agreement dated July 5, 2003 among HTI (1993) Holdings Limited, or HTI Holdings, Usha Martin Telematics and Essar, the parties agreed on their intention to effect an initial public offering of shares in the Indian holding company, now Hutchison Max, subject to commercial factors and prevailing market conditions, on or before December 31, 2004. Such initial public offering contemplates a listing of Hutchison Max on one or more stock exchanges in India and/or overseas. Under the consolidation agreement, HTI Holdings also agreed that, if the initial public offering of shares of the Indian holding company did not take place by December 31, 2004, it would provide all reasonable assistance to Essar to enable Essar to sell, by initial public offering or in some other way, Essars interest in the Indian holding company. The rights and obligations of HTI Holdings under the consolidation agreement were passed through to us as part of the restructuring that was completed in September 2004. In December 2004, the trigger date for this obligation was extended to June 30, 2005, as the initial public offering of the Indian holding company had not occurred. For the reasons discussed below, we consider that the initial public offering is unlikely to occur on or before June 30, 2005.
At the time we entered into the consolidation agreement described above, as well as at the time we listed our shares on the Hong Kong Stock Exchange, it was our intention to proceed with an initial public offering of the Indian holding company should a consolidation of our six Indian mobile telecommunications operators occur, subject to commercial factors and prevailing market conditions. On February 1, 2005, we completed the consolidation of our Indian mobile telecommunications operators under Hutchison Max. On February 2, 2005, the Indian government announced that new rules governing foreign ownership in mobile telecommunications operators in India would be introduced, but details of such rules have not been published as of the date of this annual report. As any plan to proceed with the initial public of offering of the Indian holding company, which is now Hutchison Max, may only be formalized with reference to these new foreign ownership rules and in compliance with all applicable regulatory and legal requirements, Hutchison Max is therefore not in position to recommend a timetable for its application for listing, and accordingly we consider the completion of the initial public offering on or before June 30, 2005 to be unlikely.
An initial public offering of Hutchison Max would constitute a spin-off for us under the listing rules of the Hong Kong Stock Exchange and will be subject to compliance by us with all requirements under the listing rules that may be applicable at the relevant time, including, without limitation, Practice Note 15 under the listing rules, unless otherwise agreed or waived by the Hong Kong Stock Exchange. Practice Note 15 currently contains a principle to the effect that the Hong Kong Stock Exchange would not normally consider a spin-off application within three years of the date of the listing of the parent in recognition of the fact that the listing of the
parent will have been approved on the basis of the parents portfolio of businesses at the time of listing and that the expectation of investors at that time would have been that the parent would continue to develop these businesses. Prior to the listing of our shares on the Hong Kong Stock Exchange, the Hong Kong Stock Exchange granted us a waiver from the strict compliance with this three-year principle on certain conditions, including effecting the listing of an Indian holding company by June 30, 2005.
For so long as the current restrictions under the listing rules of the Hong Kong Stock Exchange continue to apply, we will be required to obtain a further waiver from the Hong Kong Stock Exchange from strict compliance with the current three-year principle if we seek to conduct an initial public offering of Hutchison Max within the three-year period following the listing of our shares on the Hong Kong Stock Exchange. As Practice Note 15 does not contain an absolute prohibition on spin-offs within three years of the date of the listing of our shares, the Hong Kong Stock Exchange has indicated that it would be willing to consider an application for a further waiver on its merits and on the basis of the information then available. Such an application will be made at a time and in circumstances that we consider appropriate. Any spin-off of Hutchison Max is subject to the final decision of our board of directors and the board of directors of Hutchison Max and compliance with all applicable regulatory and legal requirements. We cannot assure you that the Hong Kong Stock Exchange will grant us a waiver from the three-year requirement or that we will be able to successfully list the shares of Hutchison Max during this three-year period or at any time afterwards.
Consolidation into financial accounts
Hutch India is consolidated into our consolidated financial statements included in this annual report, notwithstanding the fact that we do not own a majority of the voting equity interests in Hutchison Max or the other mobile telecommunications operators in India. They are consolidated as our subsidiaries under Hong Kong GAAP, the accounting principles under which our consolidated financial statements are prepared, in accordance with the Statement of Standard Accounting Practice 32, Consolidated Financial Statements And Accounting For Investments In Subsidiaries. We take the majority of the economic risks and are entitled to the majority of the rewards from these subsidiaries, on a long-term basis, after taking into consideration the following factors:
The Hutch India mobile telecommunications operators are consolidated and treated as subsidiaries under US GAAP on the basis of our determination under applicable accounting guidelines that the entities are variable interest entities and we have been the primary beneficiary of these operators from the date of their acquisition or incorporation. For further information, see note 37 to our consolidated financial statements.
India mobile telecommunications market
The Indian mobile telecommunications industry has experienced high growth in recent years. According to COAI, the total number of GSM mobile telecommunications subscribers in India has increased from approximately 5.3 million as of December 31, 2001 to 37.4 million as of December 31, 2004. Approximately 19 million people became new mobile customers in India in 2004, providing strong growth potential for us. As of December 31, 2004, our operations in 13 service areas collectively covered approximately 56% of Indias population and approximately 72% of Indias total mobile customers.
There is substantial competition in the Indian mobile telecommunications industry based principally on the price and range of value-added services, depth of sales and distribution network, brand awareness, network coverage and service quality. Although we only offer GSM services in India, we compete with all other GSM and CDMA operators in our service areas. Based on monthly customer numbers published by the AUSPI and market share data published by the COAI, Reliance Infocomm Limited, or Reliance Infocomm, a CDMA and GSM operator, is the largest nationwide mobile telecommunications operator as of December 31, 2004. Other private competitors include Bharti Televentures Limited, or Bharti Televentures, the largest nationwide GSM mobile telecommunications operator in India based on monthly share data published by the COAI, Tata Teleservices Limited, or Tata Teleservices, a quasi-national CDMA mobile telecommunications operator, and the government-controlled GSM mobile telecommunications operator Bharat Sanchar Nigam Limited, or BSNL, which offers GSM services everywhere in India except Mumbai and Delhi. In Mumbai and Delhi, Mahagana Telephone Nigam Limited, or MTNL, is the government-controlled telecommunications operator.
As a result of historically low customer acquisition costs and a historical lack of handset subsidies, India also has a higher churn rate than other mobile telecommunications services markets. Our ability to compete successfully in India going forward depends on, among other things, our ability to anticipate and respond to competitive factors affecting the Indian mobile telecommunications industry. The market has experienced repeated price drops in the last three years, which came about due to changing regulatory dynamics and the launch of new services by Reliance Infocomm, BSNL, Tata Teleservices and Bharti Televentures. We expect that tariffs in India will continue to decline and customers will have a greater choice of mobile telecommunications operators throughout India.
Spectrum and mobile telecommunications networks
All of our mobile telecommunications networks in India operate in either the 900 or 1800 MHz spectrum band using GSM technology. We operate 13 GSM networks. We have been allocated between 6.2 MHz to 10 MHz of spectrum depending on the number of customers in the relevant service area. We are entitled to have as much as 15 MHz per service area, which we believe is adequate to meet our capacity requirements in India for the next few years.
We build our own fiber/microwave synchronous digital hierarchy network in India where commercially viable. In most other areas in India, we have either leased or purchased capacity from telecommunications infrastructure providers. In order to reduce capital and network operating costs, approximately 27% of our total cell sites in India are shared with competitors.
We conduct our business and operations in Israel through Partner. As of April 20, 2005, following the completion of a buyback by Partner of its shares from certain of its shareholders, we held approximately 52.2% of the issued share capital of Partner through wholly-owned subsidiaries. Partners shares are quoted on the Tel Aviv Stock Exchange and its American Depositary Shares are quoted on The Nasdaq National Market, or Nasdaq, and on the London Stock Exchange.
Prior to April 20, 2005, we held approximately 42.9% of Partner. On April 20, 2005, Partner completed the purchase and cancellation of 33,317,933 of its shares from certain of its shareholders, resulting in an increase of our shareholding to 52.2%. See Ownership for a further description of the share buyback.
Partner has expanded rapidly, and as of December 31, 2004, it had approximately 2.3 million customers, an 11.3% increase over the previous year. Its contribution to our operating profits increased to HK$755 million, representing growth of 26.9%.
In a market with an overall mobile telecommunications penetration of over 100%, Partner is seeking to differentiate itself from the competition not only through the quality of its network and its focused customer services, but also as a leader in technology. Partners customer services have won the prestigious Israel Management Institute award for best services in the telecommunications market in the past three consecutive years. Partner markets its services by capitalizing on the strong international Orange brand and the experience of its affiliates, primarily Hutchison Whampoa.
The following table sets out certain market and operating data for Partners 2G services as of the dates or for the periods indicated:
Partners 2G services in Israel
Prior to April 20, 2005, we accounted for the results of operations of Partner under the equity method of accounting. Following the completion of the share buyback by Partner on April 20, 2005, our interest in Partner increased above 50%. As a result, we will consolidate Partners results commencing with the beginning of the second quarter of 2005. See Operating and Financial Review and ProspectsBasis of Preparation of Financial Statements.
Products and services
During 2004, Partner launched 3G services and also became the only company in Israel to offer nationwide UMTS network and person-to-person video call services. Partners 3G services include:
Prior to April 20, 2005, we held approximately 42.9% of the issued share capital of Partner, making us the largest shareholder in Partner. On April 20, 2005, Partner completed a buyback of its shares from Elbit Ltd., or Elbit, Polar Communications Ltd., or Polar, Eurocom Communications Ltd., or Eurocom, and Matav Investments Ltd., or Matav Investments. A total of 33,317,933 shares were purchased at a price of NIS32.2216 (HK$58.3210 per share). As a result of the buyback and subsequent cancellation of the purchased shares, our interest in Partner increased to 52.2% of the issued and outstanding share capital of Partner.
On April 14, 2005, amendments to Partners telecommunications license became effective which required that Partners founding shareholders hold, in the aggregate, at least 26% of its outstanding shares. The amendments also reduced from 20% to 5% the required minimum holdings of Partners shares by Israeli citizens and residents. Under the terms of a restated relationship agreement that we entered into on April 20, 2005 with Elbit, Polar, Eurocom, Matav Investments, Matav Cable Systems Media Ltd., or Matav Cable, and Tapuz Cellular Systems Ltd., or Tapuz, we have agreed to hold such number of shares of Partner as will be required to comply with the minimum founding shareholder percentage of 26% required under Partners license, less the 5% required to be held by Partners Israeli citizens and residents, which the Israeli shareholders that are party to the relationship agreement have agreed to hold.
Prior to April 14, 2005, 54,733,017 of our shares of Partner were subject to share pledges granted in favor of lenders to Partner under the terms of a loan facility provided to Partner pursuant to a facility agreement amended and restated on December 31, 2002. On April 14, 2005, the loan facility was terminated and our share pledges were released.
Following the completion of the share buyback, Partners board of directors was reduced from 17 directors to 13 directors. Under the restated relationship agreement, the Israeli shareholders who are party to the agreement are entitled to appoint 10% of the directors on Partners board of directors, which, based on the current number of directors, entitles the Israeli shareholders to appoint one director. In addition, to the extent required by applicable law or Partners license, we are obligated to vote our shares in each general meeting of Partner at which directors are elected to ensure that a majority of the directors of Partner are Israeli citizens or residents. Except for these requirements, obligations of the parties to vote for each others directorship nominations were eliminated. Provisions specifying shareholders rights to nominate the members of Partners executive committee, the chairman of Partners board of directors and Partners chief financial officer, and provisions restricting transfers of shares, were also eliminated. If a party to the relationship agreement commits certain events of default described in the agreement, it may be required to offer its shares to the other parties on a pre-emptive basis. Events of default for this purpose include a breach of the relationship agreement which has a material adverse effect on Partner, and in the case of such breach, the purchase price at which the shares are to be sold will be market value less a 17.5% discount.
Mobile telecommunications industry in Israel
Mobile telecommunications services were first introduced in Israel in 1986. Initially, there was a single mobile telecommunications operator, Pelephone Communications Limited, or Pelephone (a wholly-owned subsidiary of Israeli Telecommunications Company Limited, or Bezeq), offering an analog service. It was not until the launch of the second mobile telecommunications operator, Cellcom Israel Limited, or Cellcom, at the end of 1994, that growth in mobile telecommunications usage in Israel increased significantly. Within two years, mobile telecommunications subscriber numbers increased by more than seven times.
Since the end of 1996, there has been continued strong growth in the Israeli mobile telecommunications services market. Market data from industry sources indicates that the total market size was approximately 7.2 million subscribers as of December 31, 2004, representing approximately 105% of Israels population.
There are currently four mobile telecommunications operators in Israel: Partner, Pelephone, Cellcom and MIRS Communications Limited. In addition, Palestine Telecommunication Co. Ltd., or Paltel, operates a GSM mobile telecommunications network under the name Jawwal in the areas of the West Bank and Gaza Strip administered by the Palestinian Authority, as well as a fixed-line network. Paltels GSM network competes with Partners network in some border coverage overlap areas. Partner is the second largest mobile telecommunications operator in Israel. Israels high mobile telecommunications penetration rate has resulted in intense competition for market share among mobile telecommunications operators. Partner, Cellcom and Pelephone have each been awarded a 3G license, and Cellcom launched services using EDGE technology in the first half of 2004.
Spectrum and mobile telecommunications networks
As of December 31, 2004, Partners network covered approximately 97% of the Israeli population.
Spectrum availability is limited in Israel and is allocated by the Israeli Ministry of Communications through a licensing process. Pursuant to the terms of its license and subsequent allocations, Partner was allocated 2 x 10.4 MHz in the 900 MHz frequency band, of which 2 x 2.4 MHz is shared with Paltel in the West Bank and the Gaza Strip. Partner also has an agreement to use an additional 2 x 2.4 MHz of spectrum in the 900 MHz frequency band on a shared basis with Paltel. Under this agreement, which has been endorsed by the Israeli Ministry of Communications, Partner is permitted to use this additional spectrum in Israel so long as it does not cause interference in areas where Paltel operates.
In December 2001, the Israeli Ministry of Communications awarded Partner two bands of spectrum: one band comprising 10 MHz of paired GSM 1800 spectrum and one band comprising 10 MHz of paired and of 5 MHz unpaired UMTS third-generation spectrum. During 2002, Partner started deploying GSM 1800 MHz band base transceiver stations to enhance the capacity of its GSM 900 network, and to further improve the quality of its GSM 900 network. In 2004, Partner launched 3G services.
Our business operations in Thailand are conducted mainly through two entities, Hutchison CAT Wireless MultiMedia Limited, or Hutchison CAT, and BFKT (Thailand) Limited, or BFKT, which both exercise contractual rights that have been negotiated with CAT Telecom Public Company Limited (the successor to the telecommunications business operations of the former Communications Authority of Thailand), or CAT Telecom. CAT Telecom has the right to operate a CDMA2000 1X network. Hutchison CAT is a corporation with two principal shareholders, Hutchison Wireless MultiMedia Holdings Limited, or Hutchison Wireless, and CAT Telecom.
In 2003, CAT Telecom was established to operate the telecommunications business of the former Communications Authority of Thailand, a regulatory agency responsible for regulating international and mobile telecommunications services. CAT Telecom has the right to provide mobile telecommunications services under the Cellular Digital AMPS 800 Band A System throughout Thailand.
Hutchison CAT has a contract with CAT Telecom to provide exclusive marketing services for CAT Telecom in central Thailand, an area that covers 25 of Thailands 76 provinces, including the capital city of Bangkok, and has a population of 22 million people, representing 35% of Thailands population. Our marketing area accounts for 71% of Thailands GDP. CAT Telecom is the only mobile telecommunications operator in Thailand utilizing CDMA2000 1X technology. Accordingly, we believe that we are the only company in Thailand that currently markets high speed wireless multimedia services to customers.
Under our marketing contract with CAT Telecom, we are responsible for marketing and selling mobile phones and mobile telecommunications services to the public on behalf of CAT Telecom, as well as providing after-sale services and other supplementary services relating to such sales and marketing activities. The current contract is effective through 2015. We receive a percentage of the access fees, monthly service fees and sign-on fees paid by the customers.
We began operations in Thailand in February 2003. As of December 31, 2004, the Hutch brand service had approximately 615,000 customers.
Hutchison CATs provision of marketing services to CAT Telecom, and BFKTs leasing of telecommunications equipment to CAT Telecom, are both activities that are distinct from those carried out by the network operator, CAT Telecom, which is the sole party with the right to operate the CDMA2000 1X network. See RegulationThailand.
The following table sets out certain market and operating data for the Hutch brand CDMA2000 1X services as of the dates or for the periods indicated:
Hutch brand CDMA2000 1X services in Thailand
Since commencing operations in Thailand in February 2003, we have experienced start-up operational and control difficulties in growing our business. Remedial action taken by our management resulted in significant provisions being made for bad debts and capitalized customer acquisition costs for involuntarily churned customers. As of December 31, 2004, the bad debt provision of Hutchison CAT totalled HK$263 million (US$34 million). The total number of customers as of December 31, 2004 is calculated after deducting those of CAT Telecoms customers using the Hutch brand service for whom bad debt provision has been made. Looking forward, we believe that we are successfully addressing these difficulties with the implementation of new controls and other measures and are confident in our overall strategy and the future development and operation of the business.
Products and services
In addition to traditional voice and text messaging services, we provide services and applications that are designed to take full advantage of the CDMA2000 1X network, such as:
Through our 49% interest in Hutchison Wireless, which holds 73.9% of the voting equity in Hutchison CAT, we have a 36.2% economic interest in Hutchison CAT. GMRP (Thailand) Limited, or GMRP, a company owned by two Thai entrepreneurs,
beneficially holds 41% of the equity interests in Hutchison Wireless, and three other Thai shareholders together beneficially hold the remaining 10%. We hold our equity interests in Hutchison Wireless in the form of Class A shares, entitling us to one vote per share, while GMRP holds its equity interests in Hutchison Wireless principally in the form of Class B shares, which entitle it to one vote per 20 shares. This gives us voting control over Hutchison CAT on matters that do not require special shareholder resolutions under the shareholders agreement or the articles of association of Hutchison CAT, because we own approximately 80% of the voting equity of Hutchison Wireless, which holds 73.92% of the voting equity interests in Hutchison CAT.
In addition, we exercise governing power over the business operations of Hutchison CAT through our shareholders agreements with the Thai shareholders of Hutchison Wireless. For example, we are entitled to nominate four of the five directors of Hutchison Wireless, and Hutchison Wireless is entitled to nominate six of the nine directors of Hutchison CAT, including the chairman of the board and the managing director. The shareholders agreement also confers upon us a right of first refusal with respect to shares held by the group of Thai shareholders beneficially holding 10% of the equity interests in Hutchison Wireless. We also have the right to purchase, or cause to be purchased, their shares in Hutchison Wireless upon certain events of default by those Thai shareholders, subject to applicable foreign ownership restrictions.
Furthermore, under the shareholders agreement with Hutchison Wireless, we have a call option which, if exercised, would allow us to purchase, or nominate a third party to purchase, all or a portion of the equity ownership held by GMRP in Hutchison Wireless, subject to applicable foreign ownership restrictions. Conversely, GMRP has a put option which, if exercised, would allow it to require us to purchase all or a portion of its equity interest in Hutchison Wireless, subject to the same foreign ownership restrictions. The option exercise price would be the historical cost of acquisition by GMRP of its shares in Hutchison Wireless.
CAT Telecom holds 26% of the voting equity in Hutchison CAT. The shareholders agreement with respect to Hutchison CAT contains restrictions on share transfers by the shareholders. Among other provisions, Hutchison Wireless and CAT Telecom each have a right of first refusal in the event the other party wishes to transfer its shares in Hutchison CAT to a third party. Transfers of shares in Hutchison CAT by Hutchison Wireless, other than pursuant to the right of first refusal or to certain subsidiaries and affiliates, are subject to the prior written consent of CAT Telecom.
Pursuant to the terms of the shareholders agreements with respect to Hutchison CAT and Hutchison Wireless, CAT Telecom has an option to swap CAT Telecoms shares in Hutchison CAT with shares of Hutchison Wireless or BFKT. If the option is exercised, then our investment in BFKT or Hutchison Wireless will be diluted, but there will be a corresponding increase in our investment in Hutchison CAT. CAT Telecom may exercise the swap option at any time. The shareholders agreement provides that the swap will be for shares of equivalent value, but does not specify other details, which would be determined by the parties if and when the option is exercised. To date, CAT Telecom has not exercised this option.
Under the shareholders agreement with respect to Hutchison CAT, Hutchison Wireless is responsible for securing financing to meet the operational requirements of Hutchison CAT. Previously, such financing was generally obtained in the form of third-party loans that were guaranteed by Hutchison Whampoa. See Operating and Financial Review and ProspectsLiquidity and Capital Resources for a further discussion of these guarantees. We are required under another shareholders agreement to provide funding for all operating expenses and capital expenditures of Hutchison Wireless, directly through shareholder loans, guarantees and subscription to capital calls, and indirectly by providing financing to the Thai shareholders in order to enable them to meet their funding obligations and maintain their current share ownership level.
Our other significant interest in Thailand is BFKT, a telecommunications network leasing company in which we hold a 49% economic interest and generally have voting control. Our interest in BFKT is held through our 49% interest in PKNS (Thailand) Limited, or PKNS, a holding company that owns almost 100% of the voting equity interests in BFKT. The other 51% interest in PKNS is held by DPBB (Thailand) Limited, or DPBB. We hold our equity interests in PKNS in the form of Class A shares, entitling us to one vote per share, while DPBB holds its equity interests in the form of Class B shares, entitling it to one vote per 20 shares. As a result, we have voting control of BFKT, since we own approximately 95% of the voting equity of PKNS, which holds almost 100% of the voting equity interests in BFKT. Through our voting control and agreements with DPBB, we exercise significant influence over the business operations of BFKT.
Under the shareholders agreement with respect to BFKT, we have a call/put option arrangement with DPBB that is substantially similar to the call/put option arrangement we have in place with GMRP with respect to Hutchison CAT.
Consolidation into financial accounts
In accordance with the foreign ownership restrictions set forth in applicable Thai laws and regulations, Thai shareholders own a majority of the equity interests in Hutchison CAT and BFKT. Notwithstanding the fact that we do not directly hold a majority of the equity ownership interests in Hutchison CAT or BFKT, we are nonetheless able to consolidate these businesses into our consolidated financial statements included in this annual report. They are consolidated as our subsidiaries under Hong Kong GAAP, the accounting principles under which our consolidated financial statements are prepared, because we have governing power over the business operations by virtue of our voting control and agreement with the Thai shareholders. We can exercise approximately 80% of the voting rights of Hutchison Wireless which holds 73.9% of the equity shares in Hutchison CAT, and approximately 95% of the voting rights in PKNS which can exercise almost 100% of the voting rights in BFKT, as detailed above. For accounting consolidation purposes, the losses applicable to the minority interests in the Thailand businesses to the extent that they exceed the minority interests share of the Thai entities common equity are charged against our profit and loss account. For further information, see note 3C to our consolidated financial statements. These Thailand businesses are also consolidated under US GAAP for the same reasons as they are consolidated under Hong Kong GAAP.
Mobile telecommunications industry in Thailand
Although the Thai mobile telecommunications market saw a 120% increase in customers from 2001 to 2002, growth slowed to approximately 26% in 2003 and 22% in 2004. The penetration rate for mobile telecommunications services in Thailand is approximately 42%, based on the number of activated subscriptions.
In Thailand, a significant majority of mobile telecommunications customers are prepaid customers. We began marketing prepaid subscriptions in Thailand in late March 2004. Prior to March 2004, we marketed only postpaid subscriptions. As of December 31, 2004, we estimate that the Hutch brand service, as the most recent mobile service introduced into the market, was ranked fourth in terms of the number of postpaid subscriptions in Thailand with approximately 362,000 postpaid customers.
The Hutch brand service is a relatively new entrant to the Thai mobile telecommunications market and was the second smallest mobile telecommunications service in Thailand as of December 31, 2004. As the newest entrant in the Thai mobile telecommunications industry, the Hutch brand service faces significant competition from more established brands with an existing large customer base. The Hutch brand service competes with three other major mobile telecommunications operators: Advanced Info Services, Total Access Communications and TA Orange Company Limited, all of which had significantly larger market shares than ours.
Mobile telecommunications network equipment leasing
BFKT has a contract to lease mobile telecommunications equipment and accessories comprised of switching subsystems, base stations subsystems, networking subsystems, ancillary equipment for switching systems and network systems, test devices and radio system analysis equipment to CAT Telecom. We also provide all of the technical personnel who maintain and manage such equipment and facilities. Under the contract, CAT Telecom engages us to install, repair, maintain and manage the equipment and accessories that we lease to CAT Telecom. We own the equipment that we lease to CAT Telecom pursuant to approvals granted by the Post and Telegraph Department, but not the land on which the sites are located. The current lease is effective through 2015.
We have majority interests and management control over mobile telecommunications operators in Sri Lanka, Paraguay and Ghana. Following a determination that Paraguay was not a market in which we had ambitions for growth, we entered into a conditional agreement to sell all of our interest in our operations in Paraguay. We expect the sale to be completed in the third quarter of 2005. We are building a mobile telecommunications network in Vietnam and intend to commence services in 2005. Our operations in Vietnam are structured through a business cooperation contract with a Vietnamese partner. Our mobile telecommunications operating companies in these countries are focusing on developing customer growth in a manner appropriate to the circumstances of each country.
We expect to continue to expand and diversify our business by pursuing selected business opportunities in growth markets.
The following table sets out certain operating data for our services in Sri Lanka, Paraguay and Ghana as of the dates or for the periods indicated:
Our services in Sri Lanka, Paraguay and Ghana
In August 1997, we acquired a 100% interest in Hutchison Telecommunications Lanka (Private) Limited (formerly called Lanka Cellular Services (Pvt.) Ltd.), or Lanka, which holds one of the four nationwide mobile telecommunications licenses in Sri Lanka. We began providing mobile telecommunications services in December 1998 by setting up analog base stations around Colombo and providing mobile handsets to customers who needed affordable mobile telecommunications services in the Colombo area. Recognizing the telecommunications needs of the broader unserved rural population, we subsequently launched GSM services in 2000 under the brand Rankatha, which means golden talk, throughout the interior and southwest regions of the country. As of December 31, 2004, we had approximately 127,000 customers using GSM technology.
We launched standard GSM services in the Colombo area in May 2004 under the Hutch brand. The analog network around Colombo was shut down on July 1, 2004. We are also planning to launch GSM services in the northeast region over the next twelve months thereby completing our nationwide GSM roll-out plan.
By focusing on prepaid customers, we increased our customer base in 2004 by 111% over 2003. Turnover grew by more than 24%, which enabled us to streamline our internal operations and reduce operating expenses.
In mid-2000, we acquired 100% of the equity (in which we hold a 95% beneficial interest) of Hutchison Telecommunications Paraguay S.A. (formerly known as Comunicaciones Personales S.A.), or Hutchison Paraguay. We operate a nationwide GSM network which covers all the major cities and towns in Paraguay. Our customer base is mainly drawn from the high and medium socio-economic segments of the Paraguayan population.
Through our control of the board of directors of Hutchison Paraguay and our majority voting rights as a shareholder, we control the business operations of Hutchison Paraguay. We have an obligation to meet all funding requirements of Hutchison Paraguay.
In 2004, we increased our customer base in Paraguay by 92%, and our revenues increased by over 95%. During the year, we launched a prepaid option for our customers, expanded our points of sale locations from 40 to over 1,100, added value-added services for customers and promoted new services on Paraguays first nationwide GSM network.
In May 2005, we entered into a conditional agreement with a subsidiary of América Móvil, S.A. to sell all of our interest in our operations in Paraguay. The sale is subject to regulatory approvals and other conditions. We expect the sale to be completed in the third quarter of 2005.
In 1998, we acquired our interest in Kasapa Telecom Limited (formerly known as Celltel Limited), or Kasapa. Kasapa had been providing mobile telecommunications services in the capital Accra and the adjacent port city of Tema, using a small AMPS analog switch and three cell sites. In 2004, we launched mobile telecommunications services in Kumasi, the capital of the Ashanti region and the second largest city in Ghana.
We operate a prepaid system and began offering voucher cards for sale in March 2003. In addition to these traditional voucher cards, we introduced electronic prepaid vouchers (printed for each customer) at point of sale terminals during 2004. The new lower denominations and their wider availability have improved affordability and provided greater customer convenience.
During 2004, our customer base increased by 2.6% and turnover increased by 87%.
In January 2005, our equity and voting interest in Kasapa increased from 80% to 100%. Kasapa also received a 15-year replacement license effective 2 December 2004 authorizing the provision of mobile cellular service on its present 800 MHz spectrum. Kasapa proposes to offer CDMA service under this new license.
On February 18, 2005, we received from the Ministry of Planning and Investment of Vietnam an investment license approving a business cooperation contract that Hutchison Telecommunications (Vietnam) S.à r.l., or Hutchison Vietnam, our indirect wholly owned subsidiary, had entered into on July 12, 2004 with Hanoi Telecommunications Joint Stock Company, or Hanoi Telecommunications. We intend to commence services in Vietnam in 2005.
Under the terms of the business cooperation contract, we are to jointly build, develop and operate a CDMA-based mobile telecommunications network in Vietnam and provide services over such network for a term of 15 years. Hutchison Vietnam will contribute capital and management resources towards the deployment and operation of the network. The network itself will be deployed and operated pursuant to a license and frequency allocation secured by Hanoi Telecommunications.
Under the business cooperation contract, we and Hanoi Telecommunications will share on an equal basis the free cash flow determined as cumulative profits before tax (determined according to a pre-agreed formulation) after the repayment of the funding paid or committed by Hutchison Vietnam for the development of the network and the business. Under the terms of the business cooperation contract, the parties expect the capital expenditure and working capital over the 15-year term of the business cooperation contract to be approximately US$655 million (approximately HK$5,109 million). Peak funding from Hutchison Vietnam is expected to be approximately US$250 million, which will be financed from our internally generated funds and external borrowings.
On March 9, 2005, we entered into a conditional agreement with PT Asia Mobile, Asia Telecommunications Technology Ltd and Young Crown Mobile Ltd, which are affiliates of the Charoen Pokphand Group Indonesia, for the acquisition of a 60% equity interest of PT Cyber Access Communications, or Cyber Access Communications, the holder of a combined 2G and 3G mobile telecommunications license in Indonesia. The consideration, before any adjustment, is US$120 million (HK$936 million). The Charoen Pokphand Group Indonesia will retain a 40% equity interest in Cyber Access Communications.
The completion of the acquisition is subject to various conditions, including Indonesian regulatory approvals, which have not been satisfied as of the date of this annual report. If the acquisition is successfully completed, Cyber Access Communications shareholders will agree to provide funding to Cyber Access Communications pro rata to their respective equity interests with an initial committed amount of US$300 million (approximately HK$2,340 million).
Hutchison Whampoa has interests in a mobile telecommunications operator in Argentina that is limited to the greater Buenos Aires area. In the wake of the Argentine economic collapse in 2002, and given the current differences in the business strategies of the Argentine operations and our company, which are the primary reasons for Hutchison Whampoas decision to exclude the Argentine operations from our company, Hutchison Whampoa is evaluating its options in Argentina. If the Argentine operations had been included, the contribution to our consolidated revenue and net assets value of our group would have been insignificant, representing less than 1% and 2%, respectively. However, we have been granted an option to acquire the Argentine operations during the period following the initial option period of three years when, subject to Hutchison Whampoa holding more than 30% of our issued share capital, the option is exercisable at the price offered by the third party, or its cash equivalent. See Major Shareholders and Related Party TransactionsRelated Party TransactionsRelated party transactions with Hutchison WhampoaOption to purchase Hutchison Argentina.
We have entered into a framework intellectual property rights licensing agreement with Hutchison International pursuant to which Hutchison International shall procure that certain domain names, trade marks and other intellectual property rights owned by or licensed to the Hutchison Whampoa group in relation to the telecommunications services and operations of the relevant members of our group are licensed to, and will continue to be licensed to, our group. The intellectual property rights are, and will continue to be, licensed to members of our group on a royalty-free basis until the relevant change of control provisions as may be agreed between the relevant members of our group and the Hutchison Whampoa group are triggered. The relevant members of our group will bear the appropriate proportion of the total external and internal costs and expenses incurred in connection with brand management and support.
All of Hutch Indias operations are marketed under the brand name Hutch, which is licensed from Hutchison 3G Enterprises S.à r.l., except in Mumbai where Hutch India currently operates under the Orange brand, which is licensed from Orange Personal Communications through Hutchison Whampoa Enterprises Limited, or Hutchison Whampoa Enterprises, a wholly-owned subsidiary of Hutchison Whampoa. Under the license, Hutchison Whampoa Enterprises was granted the exclusive right to use the Orange brand in connection with telecommunications services and ancillary goods and services, as well as the non-exclusive right to use the Orange brand on promotional merchandise and the trade marks dual band and wirefree in Mumbai, India. Hutchison Whampoa Enterprises has the right to grant sub-licenses in certain circumstances. The license is free of royalty until Hutchison Whampoa no longer holds directly or indirectly at least 33 1/3% of the issued voting capital of either Hutchison Max or Hutchison Whampoa Enterprises. If Hutchison Whampoas holdings fall below 33 1/3%, then the agreement permits the parties to require a renegotiation of the commercial terms of the agreement. The license will automatically terminate if none of Hutchison Whampoa Enterprises and its sub-licensees are able to supply telecommunications services in Mumbai, India.
Partner has a license from Orange International Developments Limited, a subsidiary of Orange SA, to use the Orange brand. Under the brand license agreement, which became effective from July 1, 1998, Partner has the exclusive right to use the Orange brand in connection with personal communications services and promoting its network services in Israel for as long as Partner is able and legally eligible under the laws of Israel to offer telecommunications services to the public in Israel. The license is royalty-free until July 1, 2013, and the parties may negotiate the terms and fees for operating the license thereafter.
Hutchison CAT markets CAT Telecoms services under the Hutch brand name, licensed from Hutchison 3G Enterprises S.à r.l.
Licenses and network infrastructure
We are dependent on the licenses we hold to provide our telecommunications services. Further detail on the issue and regulation of licenses can be found in Regulation. The table below summarizes the significant licenses held by our group and details of their related network infrastructure:
Our operating companies are generally subject to regulation governing the operation of their business activities. Such regulation generally takes the form of industry-specific law and regulation covering telecommunications services. The following sections describe the regulatory framework and the key regulatory developments in the countries in which we have operations.
Hong Kongs telecommunications regulatory regime is considered pro-competition and pro-consumer. The Telecommunications Authority of Hong Kong, or the Telecommunications Authority, is a public officer appointed by the Chief Executive under the Telecommunications Ordinance (Chapter 106 of the Laws of Hong Kong). The Telecommunications Authority is supported by OFTA, the executive arm of the Telecommunications Authority.
The Telecommunications Ordinance, together with subsidiary legislation such as the Telecommunications Regulations and various guidelines and codes of practice issued by the Telecommunications Authority, operate to form the overall regulatory landscape of Hong Kongs telecommunications industry. The Telecommunications Authority from time to time issues guidance notes and statements outlining the implementation or interpretation of new policy initiatives, which are formulated by the Communications and Technology Branch of the Commerce Industry and Technology Bureau of Hong Kong, or CITB.
In addition to developing policy, the CITB is also responsible for monitoring the overall regulatory regime in order to develop it further, in keeping with an open and competitive market. The industry itself also plays a role in the development of the regulatory environment. OFTA regularly issues consultation papers to solicit views of the public in respect of proposed guidelines and regulations that will subsequently form part of the regulatory framework governing Hong Kongs telecommunications market.
There are no investment restrictions on foreign companies wishing to invest in Hong Kong-based telecommunications operators or service providers. However, OFTAs guidelines generally require that license applicants are companies incorporated or registered under the laws of Hong Kong.
The Telecommunications Ordinance sets out the overall licensing framework for Hong Kongs telecommunications market. Essentially, no person may establish or maintain any means of telecommunications without an appropriate license. The Telecommunications Regulations and the Telecommunications (Carrier Licenses) Regulation set out the prescribed forms of licenses that may be issued under the Telecommunications Ordinance. There are three key components to these licenses:
Under the Telecommunications (Amendment) Ordinance 2000, the Secretary for Commerce Industry and Technology, or SCIT, may by regulations prescribe the general conditions, including the period of validity, of a carrier license, together with the fees payable on matters such as those payable on grant and renewal.
The Telecommunications Authority has the power to allocate frequencies and bands of frequencies in all parts of the radio spectrum used in Hong Kong, and he is obligated to promote the efficient allocation and use of the radio spectrum as a public resource of Hong Kong. The title to all radio frequencies remains with the Hong Kong government. When the Telecommunications Authority grants a mobile carrier license, he will simultaneously allocate to the licensee a particular band of frequency on the radio spectrum to be used for the provision of the mobile telecommunications services.
Proposed allocation of spare 2G spectrum
OFTA issued a consultation paper on February 28, 2005 proposing to assign spare 2G spectrum to alleviate spectrum shortage problems faced by the existing 2G operators. The Telecommunications Authority proposed to assign six equal blocks of 1.6-KHz x 2 bandwidth with three blocks each in the 800/900-MHz band and the 1800-MHz band, as follows:
Under this proposal, we would only be entitled to one block of 1.6 KHz x 2 in the 800/900-MHz band despite owning licenses for both the 800/900-MHz band and the 1800-MHz band. Furthermore, unlike a similar spectrum allocation exercise completed in March 2002, the Telecommunications Authority proposal would not impose a 144 Kbps speed restriction on these new blocks of spectrum and would remove the 144 Kbps speed restriction on those blocks of spectrum that were previously assigned in March 2002. We have objected to these proposals. The Telecommunications Authority also proposed that these newly assigned spectrum be subject to the same spectrum utilization fees that will be required under the 2G replacement mobile carrier licenses described in Licenses below. The Telecommunications Authority has not yet reached a decision regarding any of these proposals.
Proposed spectrum policy review
When concluding its 2G license consultation in November 2004, discussed below in Licenses, the government of Hong Kong announced that it will commence a spectrum policy review in 2005 on the overall policies of allocation and assignment of radio spectrum for telecommunications and related services, including mobile and fixed services. Both the Permanent Secretary, Communications and Technology Branch of the CITB and the Telecommunications Authority indicated that no new mobile licenses would be issued before the conclusion of the review, which is scheduled to be completed around 2008. The Telecommunications Authority also indicated that the necessary arrangements for allocating the spectrum vacated by our CDMA system in the 800 MHz band as well as other available spectrum for mobile and other telecommunications service will be initiated only after taking into account the outcome of the spectrum policy review.
Broadband wireless access
OFTA issued a consultation paper on December 20, 2004 regarding the licensing framework for the deployment of broadband wireless access. The Telecommunications Authority took the preliminary view that broadband wireless access in Hong Kong is a potential alternative to Type II interconnection and may be initially offered as a wireless extension of the conventional wireline-based fixed network service. To differentiate broadband wireless access services from full mobile service, the Telecommunications Authority also proposed to impose a limited mobility condition, which has been interpreted to mean not allowing seamless handoff from one cell site to another cell site as a user moves from one cell site coverage area to another. The Telecommunications Authority has recently mentioned in the press that such limited mobility condition may be lifted after a specified date, but has not yet reached a decision on this issue.
Proposed review of fixed mobile convergence and unified licensing scheme
OFTA has recently announced that it is planning to conduct a review of the existing regulatory framework in view of the growing convergence of fixed and mobile services. Topics that are likely to be included in this policy review include the current fixed/mobile interconnection regime, unified licensing for fixed, mobile and nomadic services such as wireless local area networks (also known as wi-fi), and fixed/mobile number portability.
We use GSM and CDMA network technologies for our 2G operations. We hold three 2G licenses for Hong Kong. On November 20, 1992, OFTA awarded us a PRS license (No. 010) for GSM services in the 800/900 MHz radio spectrum band and a PRS license (No. 009) for CDMA services in the 800/900 MHz radio spectrum band. PRS refers to public radio communications services and a PRS license is a telecommunications license issued by the Telecommunications Authority permitting provision by a
mobile telecommunications operator of personal communications services (PCS) or public mobile radiotelephone services (PMRS), the generic term to describe the GSM and CDMA based services in Hong Kong PMRS. Both licenses were originally for 10 years, and were extended for a further three years on October 22, 2001 and will expire on November 20, 2005. We were awarded a 10-year PRS license (No. 058) for PCS services in the 1800 MHz radio spectrum band, the term of which began on September 30, 1996 and will expire on September 30, 2006.
Each of these licenses contains conditions which require the licensee, among other things, to:
These conditions are currently in force and effect.
The Telecommunications Authority conducted a public consultation on licensing of mobile services on expiry of existing licenses for second condition mobile services in 2003 and 2004. When it concluded the consultation in November 2004, the Telecommunications Authority offered to the nine existing incumbent GSM and PCS licensees, including us, a right of first refusal to take up new mobile carrier licenses in replacement of their existing GSM and PCS licenses. This right of first refusal to renew would not be offered to us in respect of our PRS license for CDMA services upon the expiry of the existing CDMA licenses. However, a customer migration period of three years with one-third of the original assigned spectrum (2 x 2.5 Mhz paired spectrum) would be offered to us on the expiry of the existing CDMA licenses. This reduced size of the spectrum would be assigned for the three-year period to us under the replacement license for GSM.
By way of an offer letter dated April 1, 2005, OFTA formally offered us the replacement licenses in replacement of our existing PRS licenses for GSM (No. 010) and PCS (No. 058) upon their respective expiry dates. This formal offer from OFTA also included the three-year term for one-third of the present CDMA spectrum.
Unlike the existing GSM and PCS licenses, the replacement licenses will be subject to spectrum utilization fees. These fees are calculated as a percentage of network turnover. However, for an initial period of five years from the date of issue of the replacement licenses, the holders of the new 2G mobile carrier licenses will be subject to spectrum utilization fees of a fixed amount in order to minimize the impact it will have on their operating costs. Unlike with 3G licenses, the replacement licenses do not require the licensees to provide performance bonds in support of their spectrum utilization fee payment obligations.
Except in relation to the reduced CDMA spectrum, each of the replacement licenses is for a term of 15 years and contains conditions similar to our existing PRS licenses, along with additional conditions which require the holder, among other things, to:
In OFTAs offer letter dated April 1, 2005, the Telecommunications Authority informed us that the open network access requirements of the replacement licenses need not be complied with during the first five years of the replacement licenses. In addition, the replacement licenses provide for the right of the Telecommunications Authority to withdraw any frequency previously assigned to the licensee by notice in writing if in the Telecommunications Authoritys opinion the licensee is not making efficient use of that frequency.
On October 22, 2001, we obtained a 3G license in the 1900-2200-MHz radio spectrum band for Hong Kong. The term of the license is 15 years, commencing from October 22, 2001. The license requires us to roll out and maintain our network so as to cover an area where at least 50% of Hong Kongs population lives by no later than December 31, 2006. In addition, we and other 3G licensees are required to make available up to 30% of the capacity of our networks for use by non-affiliated mobile virtual network operators and service providers. The network capacity is determined as the sum of the capacities of the installed base station equipment plus the extra capacity that can reasonably be deployed through the addition or reconfiguration of base station equipment in a prescribed period of time. However, this does not impose an obligation on the licensees to deploy additional carriers or base station sites.
For the first five years of the term of the license, we are required to pay an annual spectrum utilization fee of HK$50 million. For the remaining years, the annual spectrum utilization fee will be the higher of 5% of our network turnover or a progressively increasing prescribed flat fee (starting from HK$60,124,000 for the sixth year). 3G licenses require operators to adopt separate accounts for their network and service operations. However, the Telecommunications Authority has not yet published a manual to provide such guidance.
On June 30, 1995, OFTA awarded us a fixed telecommunications network services (FTNS) license to provide fixed-line telecommunications network services in Hong Kong. The license is valid for 15 years from June 30, 1995 and, at the discretion of the Telecommunications Authority, may be renewed for such further period not exceeding 15 years as the Telecommunications Authority thinks fit. The license authorizes us to offer basic voice services, data services, integrated services digital network, or ISDN, which supports the transmission of voice, data and images over conventional telephone lines, fast packet switch and intelligent network services. The license contains conditions, which require us, among other things, to:
In addition to the FTNS license, we also hold various public non-exclusive telecommunications service (PNET) licenses used in other areas of our fixed-line telecommunications business, including for our data center and broadband services. The term of each of these licenses is one year and renewable annually subject to payment of the relevant renewal fees.
In addition to the above licenses, we also hold various other non-carrier licenses that permit us, among other things, to operate a dedicated IDD service accessed at a specific access code and import handsets. The term of most of these licenses is one year renewable annually subject to payment of the relevant renewal fees.
Key industry regulatory issues
The Telecommunications Authority may prescribe interconnection obligations or otherwise attach them to a license as conditions. Additionally, OFTA has provided statements setting out configuration and principles for interconnection arrangements. The Telecommunications Authority also has the power to determine the terms and conditions of interconnection which may include any technical, commercial and financial terms and conditions as the Telecommunications Authority considers fair and reasonable.
The interconnection obligations under an FTNS license requires the license holder to:
Fixed-line interconnection is divided into two types based upon the physical modes of interconnection as follows:
On July 6, 2004, the Hong Kong government announced its decision to withdraw Type II interconnection policy for local fixed-line telecommunications services at the telephone exchange level in order to promote investment and consumer choice in high bandwidth customer access networks in telecommunications. The withdrawal will be implemented in an orderly manner on a building-by-building basis and will apply to buildings already connected to at least two self-built customer access networks. The withdrawal will be fully implemented across the territory by June 30, 2008. Thereafter mandatory Type II interconnection will be maintained as a safety net in buildings in which it is not technically feasible or economically viable for an operator to roll out its customer access network. In addition, Type II interconnection will continue to be maintained in respect of copper-based local loops at the street level and copper wires of in-building systems.
As we have already deployed our own fiber-optic network throughout much of Hong Kong, we believe that this development will assist in consolidating our competitive position with respect to other providers of fixed-line telecommunications services who consider the costs of deploying their own network prohibitive. This development also introduces the potential for us to be presented with additional revenue opportunities from other fixed-line operators that decide not to deploy their own fixed-line networks.
Mobile interconnection obligations are provided for in the special conditions of PRS/mobile carrier licenses. These conditions generally require licensees to interconnect with other telecommunications networks and services when so directed by the Telecommunications Authority. On August 6, 2004, the Telecommunications Authority issued an industry consultation paper in respect of the guidelines on the principles and methodologies for the interconnection charges to be imposed by 3G licensees under the open network access framework that 3G licensees are subject to. The Telecommunications Authority has not yet issued those guidelines.
External gateway and local network interconnection
We operate a number of external gateways to connect to overseas telecommunications carriers via submarine and overland cables. The external gateways are connected to the local PSTN by backhaul cables. We have concluded bilateral agreements with more than 40 overseas telecommunications operators on routing of external traffic to and from Hong Kong. We use our external gateways to deliver our IDD and international bandwidth services as well as to support wholesale business for other external telecommunications services licensees and overseas telecommunications operators.
The Telecommunications Ordinance does not contain any express provisions regulating retail tariffs or setting principles as to initial tariffs. It does, however, require licensees to publish tariffs in accordance with the requirements of their respective license or directions issued in writing by the Telecommunications Authority. In addition, various requirements are imposed on licensees which are dominant in any particular market.
The general conditions of an FTNS fixed carrier license set out a more stringent framework with respect to licensees that are dominant in a particular market. Prior to January 2005, PCCW-HKT was the only fixed-line carrier in Hong Kong deemed to be dominant. OFTA issued a statement in January 2005 which revoked the tariff approval requirements applicable to PCCW-HKT and converted PCCW-HKTs FTNS license to a new fixed carrier (FC) license. Under the new FC license, PCCW-HKT is no longer presumed dominant in any market sector and any alleged abuse of dominant position will be assessed on a case-by-case basis on an ex-post manner. Along with the removal of presumption of dominance, the FC license also allows PCCW-HKT to offer discounts to its published tariffs subject to a 24-hour advance notification to OFTA.
OFTA issued a consultation paper in October 2004 on the regulation of internet protocol (IP) telephony. In this consultation paper, OFTA was of the preliminary view that a minimum and proportionate level of regulation should be applied to IP telephony subject to preserving the achievement of certain social objectives. OFTA suggested that IP telephony services that are intended to be used as substitutes for conventional telephone services should meet certain conditions to avoid any confusion which customers may have on the two type of services and to protect public interest. OFTA proposed to apply different set of regulations to conventional telephone service providers and IP telephony service providers. As of the date of this annual report, OFTA has not yet issued any regulations governing IP telephony service providers.
The Telecommunications Authority may at any time revoke, suspend or cancel a license or vary the conditions thereof by a notice served in writing on the licensee or by public notice. Additionally, the Telecommunications Authority may impose a financial penalty on a licensee where the licensee breaches any of its license conditions, any provision of the Telecommunications Ordinance or any regulation made thereunder or any direction issued in respect of the licensee by the Telecommunications Authority. Upon application to a court, a financial penalty may be as high as 10% of the turnover of the licensee in the relevant telecommunications market in the period of the breach, or HK$10 million, whichever is higher. If any person is aggrieved by a decision of the Telecommunications Authority with regards to competition matters, an appeal may be made to the Telecommunications (Competition Provisions) Appeal Board.
In December 1991, the Indian government began opening up the telecommunications industry by inviting bids from private mobile telecommunications operators, or service providers, as they are known in the Indian context, to provide services in the four metropolitan cities of Mumbai, Delhi, Kolkata and Chennai. In January 1995, the Indian government invited tenders from private mobile telecommunications operators, with no more than 49% foreign ownership to provide services in 18 service areas, excluding the four metropolitan areas. The service areas were classified into three categories (A through C) based principally on their revenue-generating potential, with the Category A service area having the highest revenue potential. In 1994, the Indian government invited bids from Indian companies for providing basic (fixed-line) services in 21 service areas.
In March 1999, the Indian government announced the New Telecommunications Policy 1999, or NTP 1999, which permitted basic and mobile telecommunications operators to migrate from a fixed license fee regime to a revenue sharing arrangement. It also permitted unlimited competition in basic services and entry of an additional private mobile telecommunications operator in all of the existing mobile service areas. In October 1999, the Department of Telecommunications of India, or DoT, was bifurcated into two departments: the DoT, which performs the role of licensor and policy maker, and the Department of Telecom Services of India, which was to function as the telecommunications operator. The Department of Telecom Services was transformed from a government department into a limited liability company in October 2000 as a new entity: BSNL, which provides telecommunications services in the entire country except in Delhi and Mumbai. In Delhi and Mumbai, MTNL is the Indian governments controlled telecommunications operator. As per the recommendation of NTP 1999, the Indian government announced the guidelines for unlimited competition in basic services and the bidding process for the award of one additional mobile license to a fourth telecommunications operator in the mobile service areas. Subsequently, licenses were awarded by the Indian government to the selected bidders.
In November 2003, NTP 1999 was amended to include the following categories of licenses for telecommunications services:
In connection with UAS Licenses, guidelines were issued by the Indian government in November 2003. There is no limitation on the number of UAS Licenses that can be granted in any service area. With respect to unified licenses for all telecommunications services, the Telecom Regulatory Authority issued a consultation paper in March 2004 discussing the framework for a unified licensing regime and proposed charges, fees, operational conditions and guidelines and subsequently issued recommendations to the Indian government. The Indian government has not yet issued guidelines and it is uncertain when such guidelines will be issued.
TRAI Act, 1997
The Telecom Regulatory Authority was established in 1997 and is an autonomous body with quasi-judicial powers to regulate telecommunications services in India. The regulatory functions of the Telecom Regulatory Authority, as specified by the Telecom Regulatory Authority of India Act, 1997, or the TRAI Act, fall within two broad categoriesrecommendatory and mandatory.
The principal recommendatory functions of the Telecom Regulatory Authority may be exercised either on its own initiative or on request from the licensor on matters ranging from introduction of new telecommunications operators, terms and conditions of licenses to be awarded to telecommunications operators, revocation of licenses, measures to facilitate competition and promote efficiency in the operation of telecommunications services, measures for the development of telecommunications technology, efficient management of the available spectrum and any other matter related to the telecommunications industry. The recommendations of the Telecom Regulatory Authority in respect of all of the matters referred to above are not binding upon the Indian government.
The principal mandatory functions of the Telecom Regulatory Authority include fixing tariffs, ensuring compliance with the terms and conditions of licenses, fixing the terms and conditions of interconnection arrangements between telecommunications operators, ensuring technical compatibility and effective interconnection between different telecommunications operators, regulating revenue-sharing arrangements among telecommunications operators, ensuring effective compliance of universal service obligations, establishing standards of quality of service to be provided by telecommunications operators and ensuring the quality of service, periodically surveying such service in order to protect the interests of the consumers and establishing and ensuring the time period for providing local and long distance services between telecommunications operators.
The Telecom Regulatory Authority also has the authority to levy fees and other charges at such rates and in respect of such services as it may determine, and to perform such other functions, including administrative and financial functions, as may be entrusted to it by the Indian government or as may be necessary to implement the provisions of the TRAI Act.
The Telecom Disputes Settlement and Appellate Tribunal of India, or TDSAT, was established in 2000 pursuant to the Telecom Regulatory Authority of India (Amendment) Act, 2000. TDSAT has been granted powers to adjudicate any dispute between a licensor and a licensee, between two or more telecommunications operators, and between a telecommunications operator and a group of consumers. TDSAT also has the jurisdiction to hear and dispose of appeals against any direction, decision or order of the Telecom Regulatory Authority. Decisions of TDSAT may be appealed to the Supreme Court of India on one or more specified grounds.
Regulations governing mobile operations
Revenue sharing percentage
Since August 1, 1999, license fees have been structured as a percentage of the revenue earned under the license with a one-time entry fee. Effective from April 1, 2004, mobile telecommunications operators in metropolitan areas and category A service areas are now required to pay a license fee equal to 10% of adjusted gross revenues, or AGR, and mobile telecommunications operators in category B and C service areas are required to pay a license fee of 8% and 6% of AGR, respectively. Further, the first two mobile licensees in each of the non-metropolitan service areas (whether in category A, B or C) have been given additional reductions of two percentage points, subject to a minimum of 5% of AGR, for a period of four years effective from April 1, 2004. Accordingly, the license fee for such licensees in non-metropolitan service areas will be 8%, 6% and 5% in category A, B and C service areas, respectively.
In addition to the license fee, the DoT has specified that an additional charge will be levied on mobile telecommunications operators for use of spectrum, depending upon the spectrum allotted. If the spectrum allotted is up to 4.4 MHz+4.4 MHz, the royalty charge will be 2% of AGR and if the spectrum allotted is up to 6.2 MHz+6.2 MHz, the royalty will be 3% of AGR. Additional spectrum, up to 10 MHz+10 MHz, may be assigned to mobile telecommunications operators who have a customer base of 500,000 or more. For this additional spectrum, if assigned, an additional charge of 1% of AGR will be levied. Thus the total spectrum charge to be paid by mobile telecommunications operators that have spectrum availability of up to 10 MHz+10 MHz would be 4% of their AGR. Mobile telecommunications operators who have a customer base of 1.2 million or more are entitled to apply for additional spectrum beyond 10 MHz+10 MHz. Under the current spectrum policy, each mobile telecommunications operator is entitled to spectrum up to 15 MHz+15 MHz per service area, although the allocation may be in smaller blocks and will depend on availability. Additional royalty for use of spectrum for point to point links and access links is also payable as specified by the Wireless and Planning Co-ordination Wing of the DoT.
License fees must be paid quarterly in arrears to the Indian government with quarter-to-quarter adjustments.
Tariff ceilings are set by the Telecom Regulatory Authority pursuant to guidelines issued by it, and telecommunications operators are required to charge for services in compliance with such guidelines. Pursuant to the Telecommunication Tariff Order, 1999, or TTO 1999, the Telecom Regulatory Authority stipulated a maximum tariff that may be charged by mobile telecommunications operators. Tariff charges prescribed in the TTO 1999 have been revised by the Telecom Regulatory Authority from time to time. In September 2002, the Telecom Regulatory Authority issued amendments to the TTO 1999, pursuant to which mobile telecommunications operators must specify a monthly rental and airtime charge per minute with a pulse duration of 30 seconds as a Reference Tariff Package. There can be a maximum of 25 alternative tariff plans, including both post-paid and prepaid tariff plans.
NTP 1999 permitted mobile, basic, cable service and radio paging operators to interconnect and share infrastructure with any telecommunications operators within the same service area. In December 2001, the Telecom Regulatory Authority issued the Telecommunications Interconnection (Charges and Revenue Sharing) Regulations, 2001, relating to arrangements among telecommunications operators for interconnection charges and revenue sharing.
In July 2002, the Telecom Regulatory Authority issued the Telecommunications Interconnection (Reference Interconnect Offer) Regulations, 2002, pursuant to which any mobile, basic, national long distance or international long distance telecommunications operators holding a 30% share of total activity in a licensed telecommunication service area is required to publish, with the approval of the Telecom Regulatory Authority, a reference interconnect offer describing the technical and commercial conditions for interconnection with other service providers. The reference interconnect offer is required to form the basis for all interconnection agreements executed with such telecommunications operator, provided that two parties by mutual agreement may modify the terms and conditions in the reference interconnect offer. A reference interconnect offer may be changed only with prior approval from the Telecom Regulatory Authority.
In October 2003, the Telecom Regulatory Authority amended the Telecommunications Interconnection Usage Charges Regulations, 2003, which had been issued in January 2003 and which had introduced a calling party pays regime, and issued new regulations, referred to herein as the October 2003 Interconnection Regulations. The October 2003 Interconnection Regulations provide interconnection usage charges only for termination and carriage of calls. The October 2003 Interconnection Regulations also specify distinct access deficit charges whereby all telecommunications operators are required to collect additional amounts on certain calls and pay these amounts to the prescribed fixed line operators to compensate them for certain revenue deficits arising from regulated lower rentals and tariffs. The interconnection charges under the October 2003 Interconnection Regulations became effective as of February 1, 2004.
Foreign ownership restrictions
In India, foreign investment in the telecommunications sector is regulated through the Indian governments telecommunications industry policy under the Industrial Policy of India, or the Industrial Policy, and the Foreign Exchange Management Act, 1999, as amended, or FEMA. While the Industrial Policy prescribes the limits and the conditions subject to which foreign investment can be made in different sectors of the Indian economy, FEMA specifies similar limits as specified under the Industrial Policy and regulates the precise manner in which such investment should be made. The government bodies responsible for granting foreign investment approvals, where prior approval is required, are the Foreign Investment Promotion Board of the Government of India, or Foreign Investment Promotion Board, and the Reserve Bank of India.
The Industrial Policy currently permits investment by persons resident outside India in Indian operating companies providing basic telecommunications services, mobile telecommunications services, paging and value-added services, and global mobile personal communications by satellite of up to 49% of the outstanding capital of the operating company. Preference shares that are not convertible into equity shares will not be included in this 49% limit. Such permission is conditional on the operating company complying with the terms of the license granted to it. As described below, one of the terms of the license requires that management control of the licensee should be in Indian hands. The Industrial Policy specifies that an investing company in the infrastructure sector requires the prior approval of the Foreign Investment Promotion Board for investments by persons resident outside India and that the ceiling on such foreign investment is 49% of the outstanding capital of the company.
The Industrial Policy provides that in considering the aggregate foreign investment in an Indian operating company providing services in the infrastructure sector, only the direct investment in such company is considered for the prescribed foreign investment cap, and any foreign investment in an investing company is not set off against the prescribed cap, provided the foreign direct investment in such investing company does not exceed 49% and the management of the investing company is with the Indian owners.
Increase in foreign ownership limits
The Indian government issued a press release dated February 2, 2005 announcing that the Cabinet of Ministers had approved a proposal to increase the aggregate permitted direct and indirect foreign investment in an Indian operating company in the telecommunications sector to 74%. The press release stated the following:
The press release is a policy announcement only and will become effective only after the DoT issues detailed guidelines and amends the licenses. The terms and conditions of the press release may be expanded or modified by the DoT. Although the DoT is expected to issue detailed guidelines shortly, the timing and the terms and conditions of such detailed guidelines and amendments are currently uncertain.
Management control in Indian hands
In addition to the ownership restrictions prescribed by the Industrial Policy, under the terms of the licenses issued by the Indian government to mobile telecommunications services providers, management control of the licensee is required to be in Indian hands. It is expected that these provisions will be amended pursuant to the new regulations and amendments to license condition to be issued in respect of the proposed increase in foreign ownership restrictions discussed above.
Hutch India has 11 cellular mobile telecommunications service licenses and two unified access licenses to provide mobile services in 13 service areas and unified access services in two service areas, the details of which are given below:
Mobile telecommunications services licenses
A mobile telecommunications operator requires a license from the Indian government prior to providing mobile telecommunications services. The licenses specify, among other terms, the type of network system to be installed or type of services to be provided, the frequency spectrum allocated for the network system, the geographical region in which the licensee may provide the service, the license term and the fee payable by the license holder to the Indian government.
The mobile telecommunications services licenses held by Hutch India contain substantially similar terms. All licenses are non-exclusive and the Indian government reserves the right to grant additional licenses to private mobile telecommunications operators, without limitation as to number, after recommendations from the Telecom Regulatory Authority with respect to the timing and the terms of entry of a new mobile telecommunications operator. The terms and conditions of the licenses may be modified at any time by the applicable licensor, if it is deemed necessary or expedient to do so in the interests of the general public, for national security or for the proper conduct of telecommunications services.
Term and renewal
Each license is valid for an initial period of 20 years. The Delhi, Mumbai and Kolkata licenses expire in November 2014, the Haryana, Uttar Pradesh (East), Rajasthan and Gujarat licenses expire in December 2015, the Chennai, Karnataka and Andhra Pradesh licenses expire in September 2021, the Punjab license expires in October 2021, the Uttar Pradesh (West) license expires in February 2024 and the West Bengal license expires in March 2024. The licensor may extend the period of the license by 10 years at one time, upon the request of the licensee (provided such request is made during the 19th year of the license period), on mutually agreed terms. The decision of the licensor shall be final in respect of the grant of an extension.
Technology must always be digital and based on standards issued by the International Telecommunications Union, Telecom Engineering Center or any other international standards organizations.
The non-metro licenses require that at least 10% of the designated district headquarters (DHQs) be covered within the first year of the license and 50% of the DHQs within three years. Hutch India has completed its roll-out obligations in the relevant service areas. In the Punjab, West Bengal, Uttar Pradesh (West), Rajasthan, Haryana and Uttar Pradesh (East) service areas, we have met our roll-out obligations, but are awaiting confirmation of this compliance from the regulators.
The licensee is liable to pay liquidated damages of between INR500,000 and INR70 million (depending upon the number of weeks of delay) for failure to provide the service and/or failure to satisfy its roll-out obligations within the specified periods. In addition to liquidated damages, the licensor may also impose a financial penalty of up to INR500 million for violation of the terms and conditions of the license agreement.
The licensor may at any time revoke or terminate the license upon the provision of 30 to 60 days notice if (i) the licensee fails to provide any or all of the services within the time period specified in the license, (ii) the licensee fails to perform any of its obligations, including timely payments, under the license, (iii) the licensee becomes bankrupt or otherwise insolvent, (iv) the licensee transfers the license to a third party without the prior written consent of the licensor, or (v) such revocation is deemed to be in the public interest. For a failure to perform or a breach of any obligation, a licensee is given a 30-day period (or such longer period as specified by the licensor) to cure such failure or breach.
The licensor has the right to take over the entire services and networks or revoke, terminate or suspend the license in the interest of national security or in the event of a national emergency, war or low intensity conflict type of situations.
The licensee is required to ensure that no single company or legal person, either directly or through its associates, holds substantial equity, i.e., equity of 10% or more, in more than one licensee in the same service area for the same service. The licensee is further required to ensure compliance with the provisions of the Indian Monopolies and Restrictive Trade Practices Act, 1969, as amended.
Approvals from the Wireless and Planning Co-ordination Wing of the DoT are required to be obtained for assignment of radio frequency channels (microwave link frequencies and frequencies for mobile telecommunications networks). In addition, clearance from the Standing Advisory Committee on Radio Frequency Allocation is required for setting up cell sites. Certificates from the Telecommunications Engineering Center, are also required for approving point of interconnect in mobile service areas.
Partner operates within Israel primarily under the Communications Law (Telecommunications and Broadcasting), 1982, or the Telecommunications Law, the Wireless Telegraphy Ordinance (New Version), 1972, or the Wireless Telegraphy Ordinance, the regulations promulgated by the Israeli Ministry of Communications and its license. The Ministry of Communications issues the licenses that grant the right to establish and operate mobile telephone services in Israel, and sets the terms by which such mobile telephone services are provided. The regulatory framework under which Partner operates consists also of the Planning and Building Law, 1965 and the Consumer Protection Law, 1981. Additional areas of Israeli law may be relevant to its operations, including antitrust law, specifically the Restrictive Trade Practices Law, 1988, and administrative law. The Israeli telecommunications market is in a state of transition, moving to a more liberalized environment in which various markets, such as the mobile, international services, and domestic markets and infrastructure, are gradually being opened to competition and in which government-owned monopolies are being privatized. As a result, there is a possibility that changes may take place in the regulatory framework described below.
The principal law governing telecommunications in Israel is the Telecommunications Law and related regulations. The Telecommunications Law prohibits any person, other than the State of Israel, from providing public telecommunications services without a license issued by the Ministry of Communications.
Regulation by the Ministry of Communications
The Ministry of Communications has the authority to amend the terms of any license and require Partner to submit details of any of its services for approval. Pursuant to Partners license, the Ministry of Communications must approve its standard agreement with customers, its prospective tariffs and the payments it charges customers. Partner has submitted its standard agreement to the Ministry of Communications for approval. The Ministry of Communications is still reviewing the agreement. In addition, Partner is required to inform the Ministry of Communications 30 days prior to the activation of certain specified types of services.
Partners license requires it to interconnect its mobile telephone network to other telecommunications networks operating in Israel, including that of Bezeq, the other mobile telecommunications operators and the international telecommunications operators in Israel. Conversely, Partner must allow other telecommunications operators to interconnect to its network. The Ministry of Communications, with the consent of the Minister of Finance, may also promulgate regulations to determine interconnect rates.
The Ministry of Communications has promulgated regulations that, coupled with a change effected in the mobile telephone operators licenses, impose a uniform call and SMS termination tariff. In November 2004, the Ministry of Communications announced regulatory changes significantly reducing call termination tariffs and SMS termination tariffs. These changes included reducing call termination tariffs, effective March 1, 2005, from NIS0.45 to NIS0.32 per minute, with additional reductions mandated as follows: effective March 1, 2006, to NIS0.29 per minute; effective March 1, 2007, to NIS 0.26 per minute; and effective March 1, 2008, to NIS 0.22 per minute. At the same time, the Ministry of Communications reduced SMS termination tariffs, effective March 1, 2005, from NIS0.285 to NIS0.05, with an additional reduction mandated effective March 1, 2006 to NIS 0.025.
In addition, the Ministry of Communications further announced that billing units will be reduced from the present intervals of up to 12 seconds to 1 second, effective December 31, 2008. Furthermore, the Ministry of Communications indicated that it intends to start implementing a process to bring about unification of rates for calls terminating on and off an operators network and that it intends to hold preliminary hearings with the cellular operators in Israel on this matter in 2005.
No person, other than the State of Israel, may provide public telecommunications services in Israel without a license issued by the Ministry of Communications.
On April 7, 1998, the Ministry of Communications granted Partner a general license to establish and operate a mobile telecommunications network in Israel for a period, following an amendment to the license in June 2002, of 20 years from February 1, 2002. Partner paid a license fee and associated costs totaling approximately NIS1,571 million (approximately US$359 million at the then exchange rate). In the December 2001 spectrum auction in Israel, Partner was awarded additional spectrum (GSM 1800 MHz
spectrum and UMTS third-generation 1900 MHz and 2100 MHz spectrum). Partners license was then amended to include the terms for the grant of the additional spectrum to Partner. The cost of the license fees is NIS180 million (approximately US$41 million) for the GSM 1800 spectrum, payable in two installments and NIS220 million (approximately US$50 million) for the UMTS third-generation spectrum, payable in six installments. To date, Partner has paid NIS180 million (approximately US$41 million) and NIS165 million (approximately US$38 million) for the GSM 1800 MHz spectrum and the UMTS third-generation spectrum, respectively.
On February 18, 2004, the Minister of Communications appointed a tender committee for allocating additional spectrum bands to existing and new mobile telecommunications operators. In addition, the tender included the possibility of granting a general license to a new mobile telecommunications operator. Under the tender, the Ministry of Communications offered GSM 1800 MHz spectrum bands and UMTS third-generation spectrum bands. Cellcom, one of Partners competitors, was the sole operator to buy additional bands in the GSM 1800 MHz spectrum. Furthermore, following a possible rearrangement of spectrum in the 900 MHz band, an additional portion of the 900 MHz spectrum may be offered to operators in the future.
On March 16, 2004 and December 23, 2004, Partners license was amended to allow for adult voice services through all cellular media including voice, picture, chat and dating services. The access to adult voice services is through a domestic dialing code by a plan set by the Ministry of Communications and a service number that Partner allocates to the provider of the adult voice services. Access to the adult voice services is automatically barred as a default for all subscribers unless they specifically request the service and verify that they are over 18 years of age. This amendment has been applied to all cellular operators, to Bezeq and recently to the international operators. The Ministry of Communications will hold the operators and not the content providers liable and accountable for any infractions of this amendment.
On March 9, 2005, Partners general license was further amended, with effect from April 14, 2005 upon Partners notice to the Ministry of Communications that it had met the requirements set out in the license amendment. The principal elements of this amendment are as follows:
Partners license may be extended for an additional six-year period upon request to the Ministry of Communications and confirmation being received from the Ministry that certain performance requirements have been met. Partner may also request renewal of its license for successive six-year periods thereafter, subject to regulatory approval.
Partner must pay royalties to the State of Israel every quarter based on its chargeable revenues, as defined in the relevant regulation, from mobile telecommunications services. The regulation provided a rate of 4% in 2003 and currently provides a rate of 3.5% in 2004 and 2005. In November 2004, the Ministry of Communications announced that from January 2006 the rate of royalties payments will be reduced annually by 0.5% to a level of 1%.
As a condition of its license, Partner must at all times be a company registered in Israel, in which citizens and residents of Israel, as determined by Israeli law, must hold at least 5% of Partners issued share capital and of any means of control in Partner. Partners license provides restrictions on changes of control and on the direct or indirect transfer of 10% or more of any means of control in Partner, such as voting or other control rights. The Ministry of Communications takes into account indirect interests in Partner and accordingly, for so long as we continue to own approximately 52.2% of the issued share capital of Partner, any person owning more than approximately 19.2% of our shares will be regarded as indirectly having 10% or more of the means of control in Partner.
On May 30, 2004, the Ministry of Communications gave its approval to the restructuring and the indirect transfer of shares in Partner by Hutchison Whampoa as a result of our listing on the Hong Kong Stock Exchange and the New York Stock Exchange. The Ministry of Communications also gave its confirmation that, following the listings and for so long as the Hutchison Whampoa group remains our single largest shareholder and retains at least 30% of our total issued share capital, it will not be a breach of Partners license should any person transfer or acquire shares in our company that would constitute an indirect transfer or acquisition of means of control in Partner requiring the prior consent of the Ministry of Communications without such prior consent having been obtained, provided that our board of directors, promptly following its becoming aware of such transfer or acquisition, notifies Partner and, in accordance with our articles of association, suspends specified voting rights conferred by those shares. The specified rights are the voting rights attaching to those shares on any resolution or matter before a general meeting of our company that concerns the activities of Partner or the appointment of a director or managing director of Partner, and the voting rights of any of our directors who has been appointed by or at the direction of the holder of those shares to our board of directors on any resolution or matter before a meeting of our board of directors that concerns the activities of Partner or the appointment of a director or managing director of Partner. The suspension is required to remain in force until the grant or obtaining of any approvals of the Ministry of Communications required under Partners license.
Partners stock was initially listed on Nasdaq and the London Stock Exchange in October 1999 and on the Tel Aviv Stock Exchange in July 2001. In connection with Partners initial public offering, the license was amended by the Ministry of Communications to provide that certain transactions related to a public offering would not be considered a transfer of any means of control. If publicly traded shares or share equivalents, such as ADSs, are transferred in breach of the license restrictions, Partner must notify the Ministry of Communications and request the consent of the Minister of Communications within 21 days of learning of the breach. In addition, should a shareholder, other than a founding shareholder, breach these or other restrictions, unless the consent of the Minister of Communications is obtained, its shareholdings may be converted into dormant shares, with no rights other than the right to receive dividends and other distributions to shareholders, and to participate in rights offerings.
The existence of shareholdings which breach the restrictions of Partners license in a manner that could cause them to be converted into dormant shares, or may otherwise provide grounds for the revocation of Partners license, will not serve in and of themselves as the basis for the revocation of the license so long as, among other conditions, the principal shareholders of Partner continue to hold in the aggregate at least 26% of the means of control of Partner.
Partners license generally prohibits cross-control or cross-ownership among competing mobile telecommunications operators without a permit from the Ministry of Communications.
During a period of an emergency, control of Partners mobile radio telecommunications system may be assumed by the government for the security of the State of Israel, and some of the spectrum granted to Partner may be temporarily withdrawn. In addition, Partners license requires it to supply services to the Israeli defense and security forces. Furthermore, certain of Partners senior officers are required to obtain security clearance from Israeli authorities.
In March 2001, Partner received a special license issued by the Ministry of Communications, allowing it through its own facilities to provide Internet access to both mobile and fixed network customers. The license is valid until March 2008.
Antenna and other permits
The Ministry of the Environment is empowered to grant erection permits and operation permits for Partners antennas. The permits granted by the Ministry of the Environment are for a one-year period. Partner must also obtain a building permit from local licensing authorities for the construction of most of its antennas. The construction of Partners antennas may also be subject to the
approval of the Civil Aviation Administration and the Israeli Defense Forces. Like other mobile telecommunications operators in Israel, Partner has experienced difficulties in obtaining some of these consents and permits, especially from local building authorities. As of December 31, 2004, approximately 30% of Partners antenna sites were operating without local building permits. A substantial portion of these are microsites. Partner believes that a portion of the sites operating without permits from local authorities do not require local building permits under the Planning and Building Law, 1965. If it continues to experience difficulty in obtaining approvals for the erection of antenna sites, this could adversely affect Partners existing network, delay the erection of additional antenna sites to its network and adversely impact its 3G network build-out. Partners inability to resolve these issues in a timely manner could also prevent it from achieving or maintaining the network coverage and quality requirements contained in its license.
The Ministry of the Environment has adopted the International Radiation Protection Agencys standard as a basis for the consents it gives for the erection and operation of Partners antennas. Recently, however, the Ministry of the Environment adopted a more conservative approach, according to which the maximum radiation level of an antenna should not exceed 10% of the above-mentioned standard.
The extent of Partners potential liability in connection with alleged health risks relating to antenna sites or in connection with alleged depreciation in the value of nearby properties as a result of the building of antenna sites may be increased as a result of a number of developments. First, since National Building Plan 36 was approved, some planning committees have started to require that, as a precondition for issuing new permits for antenna sites, Partner submit an undertaking to indemnify the committee against claims for depreciation in the value of nearby properties as a result of issuing a permit to build, and the building of, antenna sites. Partners position, like that of the other mobile network operators in Israel, is that under existing law and the National Building Plan, the planning committees have no authority to require Partner to submit such an undertaking. Recently, Partners position received support in a judicial decision of the District Court of Tel Aviv. However, the National Council for Planning and Building decided to add the requirement described above to National Building Plan 36 itself. In order for such a requirement to be included in the National Building Plan and to become effective, it has to be approved by a Governmental Ministers Committee. At this stage, Partner cannot predict whether such a requirement will become effective. However, if it becomes effective it may have a material effect on Partners financial condition and results of operations. Second, legislation is pending in the Israeli legislature which, if enacted, would require that, as a precondition for issuing building permits for antenna sites, mobile network operators submit an undertaking to indemnify the building and planning committee against claims for both depreciation in the value of nearby properties and health damage that result from the issuance of a permit to build, and the building of, antenna sites. According to the pending legislation, Partner would be required to submit such an undertaking also in relation to antenna sites for which it had obtained building permits prior to the date the pending legislation takes effect. The pending legislation also provides that in a class action claim regarding damage to health from any antenna sites, a defendant would have the burden of proving that the damage to health was not caused by such sites. The pending legislation also provides absolute liability for offenses committed and prescribes liability for officers of a company violating such law. If the pending legislation becomes law, it may have an adverse effect on Partners financial condition and results of operation.
Like other mobile telecommunications operators in Israel, Partner provides repeaters, also known as bi-directional amplifiers, to customers seeking an interim solution to weak signal reception within specific indoor locations. These repeaters, installed by Partner at the customers premises upon their request, consist of an indoor box attached to a small outdoor antenna of between 40 and 70 cm (approximately one to two feet), receive signals from a network antenna site and amplify them within a specific room or rooms. The radiation emission from these outdoor antennae is comparable to that of the handset whose signal it is transmitting. In light of the lack of a clear policy of the local planning and building authorities, and in light of the practice of the other mobile telecommunications operators, Partner has not requested permits under the Planning and Building Law for the repeaters. The Ministry of Communications, however, has granted a type approval for the repeaters.
Partner has received approval from the Ministry of Communications for all of the handsets and other terminal equipment it sells. The Ministry of the Environment also has authority to regulate the sale of handsets in Israel. However, in accordance with the current practice among mobile telecommunications operators in Israel, Partner has not obtained approvals or exemptions from the Ministry of the Environment for the handsets since, to date, neither the Ministry of the Environment nor the Ministry of Health has issued standards for the permitted level of radiation emissions from handsets. However, as of June 2002, Partner has been required to provide information to purchasers of handsets on the specific absorption rate of the handsets as well as the handsets compliance with standards pursuant to a regulation promulgated by the Israeli Ministry of Industry and Trade under the Consumer Protection Law.
Thailands telecommunications regulatory environment is in a state of transition from a structure in which government enterprises acted as regulator and telecommunications operator to privatization and liberalization. A significant degree of uncertainty exists pending the establishment of the regulatory body responsible for telecommunications.
The inherited concession system
Up until the enactment of the Telecommunications Business Act 2001, or TBA on November 17, 2001, Thai law reserved to the government the right and authority to install, maintain and provide telegraph and telephone services within Thailand. These rights were initially assigned to the Post and Telegraph Department and later assumed by two governmental bodies, CAT Telecom and TOT Corporation Public Company Limited (the successor to the telecommunications business operations of the former Telephone Organization of Thailand), or TOT Corporation, each of which was established under its own statute. Between them, the Post and Telegraph Department, CAT Telecom and the TOT Corporation regulated the Thai telecommunications industry, with the Post and Telegraph Department being responsible for spectrum allocation and the issuance of licenses required under the Radio Communications Act 1955 for the ownership or use of radio frequency equipment.
CAT Telecom was entitled to conduct telecommunications operations in its own right. However, in many cases private-sector technical expertise and capital were required to establish and operate mobile telecommunications networks. This was achieved through the award of concessions, contracts to build and operate telecommunications networks, which typically required the concession holder to transfer ownership of the network to CAT Telecom. During the period of a concession, CAT Telecom invariably receives a percentage of revenues derived from the operation of the telecommunications business authorized by the concession. The ability of CAT Telecom to grant concessions ceased on March 8, 2000, on the enactment of the Act on Organizations Allocating Frequency Spectrum and Regulating Radio and Television Broadcasting and Telecommunications of Thailand, or the Frequency Act, and CAT Telecom no longer has a regulatory role.
Our business operations in Thailand are conducted mainly through two entities, Hutchison CAT and BFKT. Hutchison CAT provides exclusive marketing services to CAT Telecom in respect of CAT Telecoms mobile telecommunications services in central Thailand, an area that covers 25 of Thailands 76 provinces. BFKT leases mobile telecommunications equipment and accessories to CAT Telecom and provides CAT Telecom with support and maintenance services in respect of those equipment and accessories. The provision of these services does not require either Hutchison CAT or BFKT to obtain any approval or concession granted by either CAT Telecom or the TOT Corporation. However, BFKT holds approvals granted by the Post and Telegraph Department, which allow it to own the mobile telecommunications equipment and accessories that it has leased to CAT Telecom.
The TBA was enacted and became effective on November 17, 2001. The National Telecommunications Business Commission, or NTBC, the regulatory body responsible for administering the TBA and issuing licenses, was officially established on October 1, 2004. However, notwithstanding that the TBA imposes a licensing requirement on entities engaging in a telecommunications business, the NTBC has not yet issued any regulation on issuing of licenses. Thus, no new licenses can be issued and licensing criteria remain unknown. Currently, the NTBC is in the process of establishing its internal administrative structure. The NTBC is also in the process of developing subordinate legislation to govern interconnection charges, allocation of mobile phone numbers and the issuance of licenses to CAT Telecom.
The NTBC is required to issue licenses to CAT Telecom under the TBA in respect of the scope of their business operations. Until the NTBC has issued licenses to CAT Telecom, CAT Telecom is allowed to continue operating its telecommunications businesses in accordance with the rights pursuant to which its business was operated prior to the issuance of the licenses. Under the transitional provisions of the TBA, concessionaires of CAT Telecom are allowed to continue operating their telecommunications businesses in accordance with the rights under their existing concessions prior to the TBA coming into force until termination of such concessions. Concessionaires will have the ability to convert their concessions to licenses under the TBA but are not compelled to do so.
If a concessionaire wishes to convert its concession to a license, it is likely to be bound by the foreign ownership restrictions of the TBA, which are presently more restrictive than those applying to many concessionaries. There is much uncertainty regarding the manner in which concessions may be converted to licenses, as conversion is likely to put to an end the revenue sharing arrangements which provided significant revenue streams for CAT Telecom, and the requisite consent of CAT Telecom is unlikely to be provided unless satisfactory compensation is provided for the loss of ongoing revenue.
The concept of a telecommunications business is widely defined by the TBA and the Frequency Act to mean a business that renders a service of transmission, dissemination or reception of any sign, signal, character, figure, picture, sound, code or any other activity that conveys meaning through a cable system, frequency wave system, light system, any other electromagnetic system, or other systems, whether a single system or several systems consolidated, or a telecommunications business prescribed by law or by the joint commission under the Frequency Act as a telecommunications business. We believe that the current business activities of Hutchison CAT and BFKT do not constitute a telecommunications business that would require a license under the TBA. However, there is currently a lack of certainty as to the scope of activities that may be subject to licensing requirements under the TBA. Similarly, the costs and conditions of obtaining a license are presently unknown, as is the extent of restrictions which the NTBC may place on a licensee.
While we have been advised by Thai legal counsel that our current business activities do not constitute a telecommunications business that requires a license, the NTBC could potentially define some of our existing business activities in Thailand as a telecommunications business, which could require Hutchison CAT or BFKT to obtain one of three types of licenses required to be held by an operator of a telecommunications business. Such licenses are subject to restrictions on foreign investment that Hutchison CAT and BFKT may not be able to meet.
Many aspects faced by telecommunications operators such as interconnection, universal service obligations and tariffs are presently unregulated. However, the TBA and the Frequency Act provide a framework for those issues to be regulated by the NTBC, which will have broad regulatory powers, including the power to:
Many of these issues are being addressed by the NTBC.
Penalties for breaching the TBA include seizure of telecommunications equipment if a judgment is made against a person operating a telecommunications business without a license, penalties up to THB10 million, and imprisonment terms of up to five years. If the wrongdoer to be punished under the TBA is a juristic entity, the penalties will also apply to the managing director, managers or persons responsible for the operation of the juristic entity, unless it can be proved that the wrongdoing was committed without their knowledge or consent.
In recent years, the Telecommunications Regulatory Commission of Sri Lanka, or TRCSL, has encouraged foreign investment in the telecommunications sector with a goal of expanding teledensity in the country. Foreign investors can invest in the telecommunication industry in Sri Lanka without any restrictions, including 100% ownership of the telecom business.
In order to operate telecommunications systems, a license must be obtained from the Minister of Mass Communications, who will issue it on TRCSLs recommendation. Lanka currently operates in the 900-MHz band under a license that will expire in 2012. Lanka was required under the license to terminate analog services and switch to GSM technology by June 2004. As discussed above under Operating companies reviewOther countriesSri Lanka, Lanka shut down the existing analog network and completed the rollout of GSM services in the Colombo area on July 1, 2004.
The National Telecommunications Commission of Paraguay, or CONATEL, is charged with the regulation and oversight of all telecommunications activities within Paraguay. CONATEL grants licenses, imposes sanctions, regulates interconnection and proposes tariff regimes and fees.
Licenses to provide mobile telecommunications services are granted for a period of five years, and may be renewed when the licensee has complied with its obligations. Our GSM mobile telecommunications license is valid until January 2009, with the right for an extension for five additional years upon our request. Aside from the licensee fee, all mobile telecommunications operators must pay an annual fee for the use of the spectrum. Likewise, mobile telecommunications operators must pay a commercial exploitation fee of 1% of gross income, the payment of which is made monthly.
The interconnection between public telecom networks is considered of public interest and is therefore compulsory. Interconnection contracts must be in writing and in harmony with the principles of no discrimination, equal access and equality. A detailed description and justification of the interconnection charge calculations must be filed with CONATEL prior to or simultaneously with the creation of the interconnection contracts.
A mobile telecommunications operator may establish and freely modify its tariffs, without a legal maximum tariff. However, this is subject to CONATELs intervention if there is proof of anti-competitive practices.
There is no limit for foreign shareholding in a Paraguayan company. However, there are certain limitations as to the transfer of the control of the shareholding. Specifically, the licensee may not transfer in whole or in part its license without the prior approval of CONATEL. The licensee may not carry out any act which would imply the change in control of the licensee or its administration without CONATELs prior authorization.
The National Communications Authority Act, 1996 (Act 524), or the NCA Act, is the principal legislation governing the telecommunications sector in Ghana. The National Communications Authority, or NCA, is the regulatory authority of the telecommunication sector. The NCA manages and controls the use of the radio frequency spectrum, is the issuing authority of the use of spectrum to mobile telecommunications operators, grants licenses, and provides guidelines on tariffs.
Foreign investors may invest in the telecommunications industry through a Ghanaian registered company or partnership.
Interconnection between telecommunications operators is by agreement between the operators or as determined by the NCA. Interconnection agreements between telecommunications operators are subject to the approval of the NCA. Mobile telecommunications operators set and change tariffs without prior approval of the NCA. They must notify the NCA and the public of tariff rates and its changes.
The NCA has proposed to replace the form of existing licenses of all telecommunications operators with a new standard comprehensive form, and in April 2004, it issued a draft for discussion and comment by all telecommunications operators. The authorized coverage is, and should remain, nationwide. After satisfying certain conditions, we may also obtain permission to operate an international gateway and to offer fixed services.
The Macau mobile telecommunications market was liberalized in October 2000 when the Office for the Development of Telecommunications and Information Technology, or GDTTI, issued one-year provisional mobile telecommunications licenses that could be extended to a period of eight years. The licenses allow owners to provide and operate 2G networks. We hold a license that allows us to operate on the GSM 900 and GSM 1800 spectrums, which will expire on July 8, 2010. Union Telecom Limited, which we acquired in July 1991, has also held a radio paging license since February 1991.
There are no material conditions imposed on us in respect of the grant of the licenses.
The primary legislation which currently regulates the telecommunications sector in Vietnam is the Ordinance on Posts and Telecommunications passed by the Standing Committee of the National Assembly on May 25, 2002, or the Telecoms Ordinance, and the implementing Decree 160 issued on September 3, 2004, or Decree 160. The telecommunications sector is regulated by the Ministry of Post and Telematics, or MPT.
The provision of telecommunications services and the establishment of telecommunications networks in Vietnam must be licensed by the MPT. Although all license applications are made to the MPT and the MPT issues the licenses, the final decision on whether to grant a license in the telecommunications sector is ultimately made by the Prime Minister of Vietnam.
A telecommunications license will only be granted to enterprises established under Vietnamese law, which contemplates four main types of enterprises: (i) state-owned enterprises, (ii) private limited companies; (iii) joint-stock (or shareholding) companies; and (iv) foreign-invested enterprises operating within certain sectors. If a foreign company is interested in providing telecommunications services of any kind in Vietnam, it must either invest in, or cooperate with, a Vietnamese enterprise.
Foreign-invested projects involving the construction of public telecommunications networks and telecommunications service provision may only be implemented in the form of a business cooperation contract, or BCC, a form of non-corporate business collaboration in which the Vietnamese partner is a telecommunications enterprise permitted to engage in the relevant business activities. Unlike a corporate joint venture which establishes a joint venture enterprise, a BCC does not allow the incorporation of a company or enterprise. A BCC cannot directly employ Vietnamese nationals. All operations must be performed by the Vietnamese partner. Furthermore, as a matter of policy and because most Vietnamese partners in the telecommunications sector are state-owned enterprises, the Vietnamese government may require a minimum level of control or that decision-making rights be granted to the Vietnamese partner.
Hutchison Vietnam has entered into such a BCC with Hanoi Telecommunications, a state-owned enterprise. Hanoi Telecommunications is the holder of a license for the establishment of a ground mobile telecommunications network and the provision of telecommunications services throughout Vietnam. The Ministry of Planning and Investment has granted an investment license in respect of this BCC arrangement for a term of 15 years.
Types of telecommunications services
Decree 160 classifies telecommunications services into two main categories: telephony services and Internet services. Together with Hanoi Telecommunications, we will provide basic and value-added telephony services.
Under the Telecoms Ordinance, all licensed telecommunications operators are entitled to connect to any other licensed network on the fulfillment of certain basic conditions. The Prime Ministers Decision 217 dated October 27, 2003, relating to the regulation of postal and telecommunications service prices, or Decision 217, provides that the Vietnamese government will not interfere with the legal rights of telecommunications enterprises to set their own prices and to compete on prices. Decision 217 specifies that interconnection fees are to be set on a non-discriminatory basis to reflect the actual costs of interconnection and that such rates should be in line with interconnection fees of other countries in the region and around the world. If the parties cannot reach agreement on the terms of interconnection within 45 days, the MPT has the right to determine the dispute.
However, the MPT has retained the power to regulate the prices of services provided by dominant service providers, including the interconnection fees that they may charge. Because control of the network infrastructure remains with Vietnam Posts and Telecommunications Corporation, or VNPT, a dominant service provider controlling approximately 93% of the market, this means that the MPT has the right to determine the interconnection fees involving VNPT while also having the responsibility to resolve any dispute relating to interconnection fees involving VNPT.
The scope for regulatory intervention under the Telecoms Ordinance with respect to service pricing remains significant. In particular, the Prime Minister may determine tariffs for important telecommunications services that affect various sectors and socio-economic development a very wide category, for which there is as yet no official definition. In the absence of criteria for determining what falls into this category, the Prime Minister effectively has full discretion to determine the matter.
B. Property, Plants and Equipment
We and our operating companies own, or control through long-term leases or licenses, properties consisting of plant and equipment used to provide mobile and fixed-line telecommunications services. In addition, we and our operating companies own, or control through leases, properties used as administrative office buildings and/or retail sales locations, customer service centers and research and development facilities. These properties include land, interior office space and space on existing structures of various types used to support equipment used to provide mobile and fixed-line telecommunications services. Most of the leased properties are owned by private entities and the balance is owned by municipal entities.
Plant and equipment used to provide mobile and fixed-line communications services consist of:
The majority of the lines connecting our services to other telecommunications operators and power sources are on or under public roads, highways and streets. The remainder are on or under private property.
The following table sets forth the total gross floor area of properties held by us and the total gross floor area of properties leased by us as of December 31, 2004, by country, and the principal uses of the properties.
Certain properties owned by us in the Peoples Republic of China and India, with an aggregate value of HK$5,236 million (US$671 million) are subject to mortgages as collateral for certain of our bank borrowings as of December 31, 2004.
We are subject to various environmental laws in the countries in which we have operations. Compliance with such laws has not had, and in our opinion is not expected to have, a material adverse effect upon the use of our properties, plants or equipment or on our results of operations.
Hutchison Telecommunications International Limited was incorporated in the Cayman Islands on March 17, 2004 as an exempted company with limited liability under the Companies Law, Cap. 22 (Law 3 of 1961, as consolidated and revised) of the Cayman Islands. Our principal offices are located at 20/F, Hutchison Telecom Tower, 99 Cheung Fai Road, Tsing Yi, Hong Kong, and our telephone number is +852 2128-3222.
We were formed in March 2004 as a subsidiary of Hutchison Whampoa, a conglomerate based in Hong Kong and listed on the main board of the Hong Kong Stock Exchange. Hutchison Whampoa began its telecommunications business in Hong Kong in 1985 with the provision of analog mobile telecommunications services, and subsequently expanded into digital mobile telecommunications services. Since 2000, Hutchison Whampoa has pioneered the development of third-generation mobile telecommunications technology and has rolled out 3G services in a number of countries in Western Europe and in Australia as well as Hong Kong. Set forth below is a summary of the principal telecommunications operations transferred to us upon completion of the restructuring of Hutchison Whampoas telecommunications business and subsequent developments.
Hong Kong (including Macau). The Hutchison Whampoa group commenced mobile telecommunications operations in Hong Kong in 1985 and operated its mobile telecommunications business through Hutchison Telecommunications (Hong Kong) Limited, or Hutchison Telecom, and its subsidiaries. In January 2004, the Hutchison Whampoa group became the first mobile telecommunications services provider in Hong Kong to offer 3G services, under the 3 brand. Since May 31, 2004, all of Hutchison Whampoas mobile telecommunications services in Hong Kong have been offered under the 3 brand. In August 2001, the Hutchison Whampoa group launched GSM dualband mobile telecommunications services under the brand of Hutchison Telecom in Macau.
The Hutchison Whampoa group also provides fixed-line telecommunications services in Hong Kong through Hutchison Global Communications under the brands HGC and Hutchison Global Communications. Hutchison Global Communications obtained its license in 1995. In March 2004 the Hutchison Whampoa group acquired a 52.5% interest in Hutchison Global Communications Holdings through the acquisition by Hutchison Global Communications Holdings of a wholly-owned subsidiary of Hutchison Whampoa, operating its fixed-line telecommunications and related businesses, in exchange for an issue of new shares and convertible notes. In May 2005 it was announced that we had requested the board of directors of Hutchison Global Communications Holdings to put forward a proposal to privatize Hutchison Global Communications Holdings through the cancellation of Hutchison Global Communications Holdings shares not already held by us. If the privatization becomes effective, the listing on the Hong Kong Stock Exchange of all Hutchison Global Communications Holdings shares will be withdrawn. This proposal was made on June 7, 2005.
India. The Hutchison Whampoa groups presence in India began in February 1992 when Hutchison Whampoa, together with an Indian partner, established a company which in 1994 was awarded a license to provide mobile telecommunications services in Mumbai (formerly Bombay). Commercial operations began in late November 1995. At the time of the restructuring, the Hutchison Whampoa group had acquired interests in six mobile telecommunications operators with a total of 13 out of Indias 23 service areas. Hutchison Whampoas mobile telecommunications services have been provided in India under the Hutch and Orange brands.
On November 1, 2004, we received the approval of the Indian governments Foreign Investment Promotion Board to proceed with the consolidation of the Hutch India mobile telecommunications operators under an Indian holding company. On February 1, 2005, we completed the consolidation of our Indian operating companies, as a result of which five of our operating companies in India were consolidated under Hutchison Max. Following the completion of the consolidation, we held an aggregate direct and indirect interest of approximately 56% in Hutchison Max.
Israel. The Hutchison Whampoa group established its presence in Israel in September 1997 when Hutchison Whampoa, together with local investors, formed Partner, which was awarded a nationwide license to provide mobile telecommunications services. Partner launched commercial operations in January 1999 and is now a public company, with shares listed on the Tel Aviv Stock Exchange and ADSs quoted on Nasdaq and traded on the London Stock Exchange. Partner provides mobile telecommunications services under the Orange brand. In April 2005, Partner became a subsidiary of our company following the completion of a share buyback by Partner, as a result of which our equity interest in Partner increased from 42.9% to 52.2%.
Thailand. The Hutchison Whampoa group commenced operations in Thailand in February 2003 when Hutchison CAT, our joint venture with CAT Telecom, began marketing CAT Telecoms CDMA2000 1X network services under the Hutch brand under a marketing service agreement running until April 21, 2015.
Prior to the listing in October 2004 of our shares on the main board of the Hong Kong Stock Exchange and our ADSs on the New York Stock Exchange, a number of steps were taken to transfer companies within the Hutchison Whampoa group to us in preparation for such listings as well as to effect a harmonization of the group structure. The objective of the restructuring was to establish our company as a holding company for some of the Hutchison Whampoa groups telecommunications interests.
In summary, the effect of the restructuring, which was completed in September 2004, was as follows:
As part of the restructuring, we have entered into a non-competition agreement with Hutchison Whampoa to maintain a clear delineation of our respective businesses going forward, principally on a geographical basis. The agreement delineates each partys territory for the purpose of implementing the non-competition restrictions. Hutchison Whampoas territory comprises Western Europe (defined to include the European Union prior to its enlargement in 2004 and other countries such as Switzerland, Norway, Greenland and Liechtenstein), Australia, New Zealand, the United States, Canada and Argentina (unless and until we exercise our option to acquire the Hutchison Whampoa groups interest in Hutchison Telecommunications Argentina S.A., or Hutchison Argentina). Our territory will cover all the remaining countries of the world.
The restrictions under the non-competition agreement will terminate one year after Hutchison Whampoa ceases to control, directly or indirectly, more than 30% of our issued ordinary share capital, unless on Hutchison Whampoas cessation of interest another party controls, directly or indirectly, 30% or more of our issued ordinary share capital, in which case the restrictions will fall away immediately upon Hutchison Whampoas cessation of interest. The restrictions will also terminate on the date on which our shares and ADSs are no longer listed on any internationally recognized stock exchange (provided that such delisting is voluntary and at our instigation). For more information about the terms of this agreement, see Major Shareholders and Related Party TransactionsRelated Party TransactionsRelated party transactions with Hutchison WhampoaNon-competition agreement.
Capital Expenditures and Divestitures
Our capital expenditures in 2002, 2003 and 2004 have been for the continuing build-out and expansion of our networks in the markets where we operate, including purchases of fixed assets and licenses and acquisitions of interests in existing third-party telecommunications companies as well as companies engaged in complementary or related businesses. The amounts of capital expenditures for these periods, broken out by geographical segment, are set out in Operating and Financial Review and ProspectsLiquidity and Capital ResourcesCapital Expenditure. We have traditionally met our working capital and other capital requirements principally from cash flow from our operating activities, borrowings by our subsidiaries from banks based on guarantees and/or pledges provided by Hutchison Whampoa and its affiliates and borrowings from the Hutchison Whampoa group of companies. As a result of the restructuring, we expect that going forward, we will meet our financing needs primarily through cash flow from our operating activities and borrowings by our subsidiaries from banks based on guarantees and/or pledges provided by our company. See Operating and Financial Review and ProspectsLiquidity and Capital Resources.
In May 2005, we entered into a conditional agreement to sell all of our interest in our operations in Paraguay. The sale is subject to regulatory approvals and other conditions. We expect the sale to be completed in the third quarter of 2005. In 2004, we completed a placement of shares of Hutchison Global Communications Holdings, reducing our ownership to 52.5%. In 2002, NEC acquired a 5% interest in the share capital of each of Hutchison 3G HK Holdings Limited, Hutchison 3GHK, Hutchison 3GHK Services, Hutchison Telephone and Hutchison Macau, our subsidiaries in Hong Kong and Macau.
D. Organizational Structure
We are an indirect subsidiary of Hutchison Whampoa, which currently owns approximately 74.3% of our outstanding ordinary shares. Prior to June 23, 2005, Hutchison Whampoa owned approximately 70.2% of our outstanding ordinary shares. As described further in Major Shareholders and Related Party TransactionsMajor Shareholders, NTT DoCoMo exercised an option as a result of which on June 23, 2005, Hutchison Whampoa purchased shares of our company held by NTT DoCoMo, which increased Hutchison Whampoas interest in our current issued share capital to approximately 74.3%.
Hutchison Whampoa is a conglomerate based in Hong Kong and listed on the main board of the Hong Kong Stock Exchange. It operates five core business divisions around the world. The five divisions are: (1) ports and related services; (2) property and hotels; (3) retail and manufacturing; (4) energy, infrastructure, finance and investments; and (5) telecommunication. We were formed as part of the restructuring by Hutchison Whampoa of its telecommunications business, as described in History and Development of the CompanyThe Restructuring.
We are a holding company for the following significant subsidiaries as of December 31, 2004:
Note 1: We hold 49% or less of direct equity interest in each of these companies. The percentages disclosed above include our indirect equity interests.
Note 2: The company is a subsidiary company because we, by virtue of its funding or financing arrangement, bear the majority of the economic risks and are entitled to the majority of its rewards on a long term basis from a combination of some of the following factors:
Note 3: In addition to our 49.0% and 36.2% beneficial interest in each of BFKT and Hutchison CAT respectively as disclosed above, we also hold call options over 51.0% and 30.3% beneficial interest in each of BFKT and Hutchison CAT, respectively.
ITEM 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS
The following discussion should be read in conjunction with our consolidated financial statements and the related notes included elsewhere in this annual report. Our consolidated financial statements have been prepared in accordance with Hong Kong GAAP, which differs in some material respects from US GAAP. For a discussion of these differences and a reconciliation of net (loss) profit attributable to shareholders and shareholders (deficits) equity to US GAAP, see Note 37 to our accounts.
We had total turnover of HK$14,960 million (US$1,918 million) in 2004, representing an increase of 48.1% from total turnover of HK$10,104 million in 2003. The increase was mainly due to strong growth in turnover from our India and Thailand mobile operations resulting from strong growth in our customer base together with consolidation for the first time of the results of Vanda (since renamed Hutchison Global Communications Holdings), in which we acquired a majority interest in March 2004. In particular, turnover from our India operations increased by 57.7% from HK$4,497 million in 2003 to HK$7,093 million (US$909 million) in 2004.
Our total operating profit increased by 113.9% to HK$1,859 million (US$238 million) in 2004 from HK$869 million in 2003. This increase was primarily attributable to a one-time gain of HK$1,300 million (US$167 million) generated from the placement of shares in Hutchison Global Communications Holdings, as described below. Excluding the one-time gain, our operating profit declined by 35.7% to HK$559 million (US$72 million) because operating expenses increased by 54.2% as described below. These increased operating expenses were offset in part by increases in operating profit from our India operations and Partner, our mobile telecommunications operator in Israel in which we held an approximately 42.9% interest, and a reduced operating loss from our Thailand operations. Our operating profit margin, excluding associated companies, increased from 2.8% in 2003 to 7.4% in 2004.
Our operating expenses increased by 54.2% from HK$9,826 million in 2003 to HK$15,154 million (US$1,943 million) in 2004. The increase was primarily attributable to expenditures associated with higher levels of activity in our business, as well as the consolidation of Vandas operating expenses into our consolidated results for the first time, charges in relation to certain restructuring activities and impairments that took place in 2004, the inclusion of several start up operations in 2004, increased depreciation and amortization due to the commercial launch of 3G operations in Hong Kong and a full years depreciation from Thailand operations which we launched in February 2003. Excluding charges relating to restructuring activities and impairments, operating expenses grew approximately in line with the increase in turnover that we experienced during the same period.
Basis of Preparation of Financial Statements
We were formed in March 2004 in preparation for a restructuring by Hutchison Whampoa during the third quarter of 2004. In connection with the restructuring, Hutchison Whampoa and a number of its affiliates transferred to us their holdings in certain mobile and fixed-line telecommunications businesses. We also issued additional ordinary shares as a part of the restructuring to capitalize substantially all of the outstanding loans from the Hutchison Whampoa group, net of receivables from such companies, in the aggregate amount of HK$20,869 million (US$2,676 million).
The restructuring has been accounted for as a reorganization of businesses under common control, in a manner similar to a pooling of interests. Our consolidated financial statements have been prepared as if our company and the structure of our ownership of our subsidiaries had been in existence at all dates and during all years presented, and include the accounts of the direct and indirect subsidiaries and the interests and investments in associated companies and jointly controlled entities contributed to us by the Hutchison Whampoa group in connection with the restructuring. The results of operations of subsidiaries, associated companies and jointly controlled entities acquired or disposed of during a year are included in our consolidated financial statements commencing from the effective dates of their acquisition or up to the effective dates of their disposal, as the case may be. See Note 2 to our accounts.
Certain figures for 2002 and 2003 have been reclassified to conform with the current years presentation. In particular, interest income has been reclassified to net off with interest and other finance costs, and shown as interest and other finance cost, net.
We group our subsidiaries into the following five business segments for financial reporting purposes, based on their geographic area of operation and principal business line:
The results of operations of our Macau mobile business are aggregated with our Hong Kong mobile business because our Macau mobile operating company is a subsidiary of our Hong Kong mobile operating company, shares the same management and is significantly smaller, in terms of financial results and customer numbers.
In March 2004, Vanda acquired 100% of our fixed-line and data center businesses, and was renamed Hutchison Global Communications Holdings. Our stake in Hutchison Global Communications Holdings increased to 78.9% of the enlarged share capital of Hutchison Global Communications Holdings. As of March 2004, Hutchison Global Communications Holdings was accounted for as our consolidated subsidiary. Previously, we held only a 37.1% interest in Vanda and accounted for its results using the equity accounting method. Subsequently, following a placement of our shares in Hutchison Global Communications Holdings, our stake in Hutchison Global Communications Holdings decreased to 52.5% and we recognized a one-time gain of HK$1,300 million (US$167 million).
Others comprises our Sri Lanka, Paraguay and Ghana operations and our corporate office.
In 2004, we decided to early adopt Hong Kong Financial Reporting Standards 3, Hong Kong Accounting Standards 36 and 38 in respect of business combinations, impairment of assets and intangible assets. In our interpretation of these standards there is an impact on our 2004 results, which is explained further in our Critical Accounting Policies and Note 3 to the accounts.
Results of Operations
The following table presents, for the years indicated, the amounts and percentages of turnover of the major line items in our consolidated profit and loss account:
Year Ended December 31, 2004 Compared to Year Ended December 31, 2003
Our turnover increased by 48.1% from HK$10,104 million in 2003 to HK$14,960 million (US$1,918 million) in 2004. The increase was mainly due to strong growth in our mobile customer base, which increased from approximately 8.5 million as of December 31, 2003 to approximately 12.6 million as of December 31, 2004. All of our operating companies reported an increase in turnover in 2004 with particularly strong growth in India. Our India operations accounted for 47.4% of our total turnover in 2004, compared to 44.5% in 2003. As our Thailand operations moved into their first full year of operations, the percentage of our total turnover derived from them rose from 3.5% in 2003 to 8.1% in 2004. Our Hong Kong fixed-line operations, after the consolidation of Vandas results for the first time, accounted for 18.1% of our turnover in 2004, compared to 16.1% in 2003. Turnover from our Hong Kong mobile operations declined as a percentage of our total turnover from 34.5% in 2003 to 24.8% in 2004.
Turnover from mobile services accounted for 79.3% of total turnover while turnover from fixed line and other services accounted for 18.1%. Telecommunication products, which are principally handsets and accessory sales, represented 2.6% of total turnover.
Our operating profit increased from HK$869 million in 2003 to HK$1,859 million (US$238 million) in 2004. The increase was due primarily to a one-time gain of HK$1,300 million (US$167 million) from the placement of shares of Hutchison Global Communications Holdings. Excluding the one-time gain, our operating profit declined by 35.7% from HK$869 million in 2003 to HK$559 million (US$72 million) in 2004 because operating expenses increased by 54.2%. This increase was due to a combination of activity related increases, the impact of start up operations and restructuring and impairment charges, which was offset by the lower amortization expenses resulting from the net effect of early adoption of HKFRS 3 and HKAS 38 from January 1, 2004 as described below. These increased operating expenses were offset in part by increases in operating profit from our India operations and Partner, and a reduction in operating loss from our Thailand operations. Our operating profit margin excluding associated companies increased from 2.8% in 2003 to 7.4% in 2004. Our US GAAP operating profit does not include the results of our associated companies.
The following table presents, for the years indicated, a breakdown of operating expenses and percentage change from year to year:
The rise in operating expenses was primarily attributable to expenditures associated with higher levels of activity in our business. Excluding charges relating to restructuring activities and impairments, operating expenses grew approximately in line with the increase in turnover that we experienced during the same period.
Cost of inventories sold increased by 155.9% from HK$547 million in 2003 to HK$1,400 million (US$179 million) in 2004, mainly due to the consolidation of Vanda into our Hong Kong fixed-line and other operations for the first time. Vanda had cost of inventories of HK$597 million (US$77 million) for 2004, whereas our Hong Kong fixed-line and other operations had no cost of inventories sold in 2003. Excluding Vanda, cost of inventories sold increased by 46.8%, reflecting the launch of 3G operations in Hong Kong and the ramp up in operations in Thailand and stayed constant at 5.4% of total turnover in 2003 and 2004.
Staff costs increased by 47.7% from HK$1,081 million in 2003 to HK$1,597 million in 2004 (US$205 million), mainly due to increased staff costs resulting from growth in our business, restructuring costs, as well as the increase related to our initial consolidation of Vanda. As a percentage of total turnover, staff costs remained stable at 10.7% in both 2003 and 2004, reflecting growth in staff in line with growth in total turnover.
Depreciation and amortization expenses increased by 35.2% from HK$2,262 million in 2003 to HK$3,059 million (US$392 million) in 2004. This increase was mainly attributable to the increase in our fixed assets as a result of the network build-out in all of our operations. In addition, the launch of 3G services in Hong Kong in January 2004 resulted in the commencement of depreciation charges and amortization of customer acquisition costs in 2004. However, because of the early adoption of HKFRS 3 and HKAS 38 from January 1, 2004, goodwill amortization expenses decreased by HK$540 million (US$69 million) in 2004 whereas the amortization of telecommunication customer acquisition costs increased by HK$260 million (US$33 million) in 2004, resulting in a net decrease of HK$280 million (US$36 million) in amortization expenses. Primarily as a result of this decrease, depreciation and amortization expenses decreased from representing 22.4% of our total turnover in 2003 to 20.4% in 2004.
The following table presents, for the years indicated, a breakdown of other operating expenses:
Other operating expenses increased by 53.3% from HK$5,936 million in 2003 to HK$9,098 million (US$1,166 million) in 2004. The main component of other operating expenses was costs of services provided, comprised of network costs and associated network operating costs, which increased by 52.3% from HK$4,195 million in 2003 to HK$6,389 million (US$819 million) in 2004. The increase in costs of services provided was mainly attributable to continued growth in our customer base, which resulted in significant increases in interconnection, roaming and IDD charges. Other contributing factors were the continued build-out of networks, which resulted in increased rental fees for cell sites and leased lines, as well as the consolidation of Aircel Digilink India Limited, an Indian mobile telecommunication operator which we acquired in August 2003, and the consolidation of Vanda. The increase in other operating expenses was also partly due to the increase in general, administration and distribution costs by 14.2% from HK$1,706 million in 2003 to HK$1,949 million (US$250 million) in 2004. Another factor contributing to the increase in other operating expenses was certain costs in respect of restructuring that took place in 2004, including a charge of HK$142 million (US$18
million) in respect of an impairment loss on telecommunication and network equipment. The write-off of telecommunications customer acquisition costs arises as a consequence of our policy of capitalizing customer acquisition costs for postpaid customers. The customer acquisition cost capitalized is amortized over the minimum enforceable contract life under HKAS 38. Where a customer leaves the network before the end of the contract life, the unamortized balance of that customer acquisition costs is immediately expensed. In 2004 there was a charge of HK$150 million (US$19 million) in respect of such charges (2003HK$234 million).
Share of profits less losses of associated companies
This item reflects our share, under the equity method of accounting, of the profits net of losses of our associated companies, being principally Partner. In 2004, our share of profits less losses of associated companies increased by 27.4% to HK$753 million (US$97 million) from HK$591 million in 2003. This increase principally reflected an increase in the operating profit of Partner, which was primarily due to customer growth in Partners operations in Israel.
Interest and other finance costs, net
Interest and other finance costs, net, principally consists of interest and other finance costs relating to our debt, net of interest income received from bank deposits, as well as our share of the interest and other finance costs of our associated companies, including Partner. Interest and other finance costs, net, increased by 8.7% from HK$970 million in 2003 to HK$1,054 million (US$135 million) in 2004, primarily due to higher levels of debt used to finance the expansion of our operations. HK$178 million (US$23 million) related to interest paid on loans from the Hutchison Whampoa group, which were subsequently capitalized as part of the restructuring.
(Loss) profit before taxation
We recorded a profit before taxation of HK$805 million (US$103 million) in 2004, compared to a loss before taxation of HK$101 million in 2003. Profit before taxation in 2004 included a one-time gain of HK$1,300 million (US$167 million). Excluding this one-time gain, we would have recorded a loss before taxation in 2004 of HK$495 million (US$63 million).
Current and deferred taxation charges (credits)
We recorded a net taxation charge of HK$489 million (US$63 million) in 2004, compared to a net taxation credit of HK$173 million in 2003. Of these amounts, HK$105 million (US$13 million) and HK$22 million were attributable to current taxation for 2004 and 2003, respectively. The current taxation charges for both years were due principally to the application of tax loss carry-forward rules in India.
We recorded a net deferred taxation charge of HK$384 million (US$49 million) in 2004, compared to a net deferred taxation credit of HK$195 million in 2003. The net deferred taxation charge related to each of our India and Hong Kong mobile operations as well as Partner, where we had historical losses and applied our carry-forward losses to our tax positions as offsets.
Net profit (loss) attributable to shareholders
As a result of the foregoing, we recorded a profit after taxation of HK$316 million (US$41 million) in 2004, compared to a profit after taxation of HK$72 million in 2003.
We recorded a profit attributable to shareholders of HK$72 million (US$9 million) in 2004, compared to a loss attributable to shareholders of HK$214 million in 2003. Excluding the one-time gain of HK$1,300 million (US$167 million), we would have recorded a net loss attributable to shareholders of HK$1,228 million (US$157 million) in 2004.
Results of our operating companies
The following table presents, for the years indicated, a breakdown of turnover by our five business segments and the percentage of total turnover accounted for by each segment:
The following table presents, for the years indicated, a breakdown of operating profit by our five business segments, as well as profit on partial disposal of a subsidiary company and share of profits less losses of associated companies, and the percentage of total operating profit accounted for by each segment or line item:
The following table presents, for the years indicated, a breakdown of operating expenses by our five business segments and the percentage of operating expenses accounted for by each segment:
Share of profits less losses of associated companies
Our share of profits less losses of associated companies increased by 27.4% from HK$591 million in 2003 to HK$753 million (US$97 million) in 2004. This increase principally reflected an increase in the operating profit of Partner. As of December 31, 2004, we owned approximately 42.9% of Partner.
Partners operating profit for 2004 was NIS1,019 million (equivalent to HK$1,844 million), an increase of 19.2% from NIS855 million (equivalent to HK$1,458 million or US$187 million) in 2003. Partners turnover increased by 15.1% from NIS4,468 million (equivalent to HK$7,622 million) in 2003 to NIS5,141 million (equivalent to HK$9,305 million or US$1,193 million) in 2004. This increase was primarily due to increased revenue from services (including data and content) and equipment.
Partners operating costs increased by 14.1% to NIS4,121 million (equivalent to HK$7,459 million or US$956 million) from NIS3,613 million (equivalent to HK$6,164 million) in 2003. The increase in 2004 as compared to 2003 resulted primarily from the increase in service revenues, as the higher level of service revenues, driven by increased minutes of use, resulted in higher variable costs including inter-carrier termination fees and transmission, and the increased depreciation and amortization which were recorded since Partner commercially launched its 3G services on December 1, 2004, higher distribution and advertising costs in response to increasing competition and the introduction of Partners 3G network and a larger provision for doubtful accounts resulting from the increased volume of handset sales, compensation costs under the new stock option plan, and costs incurred in Partners attempt to purchase a controlling interest in Matav and a write-off of legal and accounting fees incurred in 2001 in preparing Partners shelf registration with the United States Securities and Exchange Commission.
Hong Kong dollar equivalents for these purposes are calculated using an effective average exchange rate of HK$1.706=NIS1.00 for 2003 and HK$1.810=NIS1.00 for 2004, respectively.
Year Ended December 31, 2003 Compared to Year Ended December 31, 2002
Our turnover increased by 32.0% from HK$7,654 million in 2002 to HK$10,104 million in 2003. The increase was mainly due to additional turnover contributed by our India operations and our Hong Kong fixed-line operations. Our India operations accounted for 44.5% of our total turnover in 2003, compared to 38.9% in 2002. The increase was mainly due to strong growth in our mobile customer base, which increased from approximately 5.8 million as of December 31, 2002 to approximately 8.5 million as of December 31, 2003. Our Hong Kong fixed-line operations, after inclusion of the full year results of operations of Hutchison Global Communications and its subsidiaries and related data center companies, which became our consolidated subsidiaries in May 2002, accounted for 16.1% of our turnover in 2003, compared to 11.2% in 2002. As our Thailand operations began marketing Hutch brand mobile telecommunications services in Thailand in February 2003, the percentage of our total turnover derived from them rose from 0.5% in 2002 to 3.5% in 2003. Turnover from our Hong Kong mobile operations declined as a percentage of our total turnover from 48.7% in 2002 to 34.5% in 2003, as a result of the ongoing impact of a reduction in tariffs due to discounts offered by our competitors.
In 2003, turnover from mobile services accounted for 79.5% of total turnover while turnover from fixed-line services accounted for 16.1%. Telecommunication products, which are principally handsets and accessory sales, represented 4.4% of total turnover.
Our operating profit increased from HK$219 million in 2002 to HK$869 million in 2003. The increase was due primarily to continued strong customer growth from India operations and increased contributions from our Hong Kong fixed-line operations and from our associated company, Partner, the Israeli mobile telecommunications operator in which we had approximately a 42.9% ownership interest at the time. Our operating profit margin, excluding associated companies and jointly controlled entities, increased from negative margin of 1.2% in 2002 to 2.8% in 2003. Our operating profit for 2002 included a one-time gain of HK$278 million on the sale to NEC Corporation, or NEC, of a 5% equity interest in our Hong Kong mobile operations. Excluding this one-time gain, our operating profit margin in 2002 would have been a negative margin of 4.9%. Our US GAAP operating profit does not include the results of our associated companies.
As customer numbers grew and network expansion continued, our operating expenses also increased in 2003. The following table presents, for the years indicated, a breakdown of operating expenses and percentage change from year to year:
Operating expenses increased by 22.4% from HK$8,027 million in 2002 to HK$9,826 million in 2003.
Cost of inventories sold increased by 2.6% from HK$533 million in 2002 to HK$547 million in 2003, mainly due to the increase in turnover from mobile telecommunications products by 19.9% from HK$371 million in 2002 to HK$445 million in 2003. The rate of increase in cost of inventories sold was much lower than the rate of increase in turnover from mobile telecommunications products mainly due to higher margin achieved from our operations in Paraguay and offset by the decreased margin in Hong Kong mobile operations as a result of the discounts offered by our competitors.
Staff costs increased by 8.6% from HK$995 million in 2002 to HK$1,081 million in 2003, mainly due to increased staff costs from our India operations, Hong Kong fixed-line and Thailand operations as a result of the expanded scope of operations and coverage in these markets, as well as the inclusion in 2003 of the full year results of operations of Hutchison Global Communications and its subsidiaries and related data center companies, which became our consolidated subsidiaries in May 2002.