Telefónica’s Net Profits up by 17%, Widely Surpassing Its Debt Reduction Objective

The Chairman of Telefónica (NYSE:TEF) (LSE:TDE), César Alierta, said the Company will accelerate its transformation in 2014: "Among our targets, we will continue accelerating revenue growth and, at the same time, we will increase investments to anticipate to the growing demand from the increasingly intensive data service usage, as well as the recovery of demand expected in some of our main markets”.

Telefónica announces its its guidance and shareholder remuneration policy for 2014 and reiterates its commitment to pay shareholders, with the distribution in 2014 of a dividend of 0.75 euros per share to be paid in the fourth quarter 2014 (0.35 euros per share by means of scrip dividend) and in the second quarter 2015 (0.40 euros per share in cash).

Guidance criteria 2014 organic and excluding Venezuela (*) see page 6

CapEx increase announced by the Company is oriented to stimulate growth, to network differentiation and to improve market positioning, among other reasons. The Company also reiterates mid-term commitment 2.35x Net financial debt/OIBDA.

• In 2013 Telefónica consolidated its high cash generation capacity, closing the year with a free cash flow of 5,391 billion euros (€1.19/share), which widely covers the dividend promised for 2013 (€0.75/share).
• The net debt at the end of 2013 was 45,381 million euros, comfortably meeting the objective of closing the year with a debt lower than 47,000 million. Taking into account asset portfolio management operations not included at the end of December, the net financial debt is reduced to 42,325 million euros, equivalent to a debt ratio of 2.31 times OIBDA.
• As anticipated back in September, the consolidated earnings increased again (+0.7% organic, +1.8% in the fourth quarter) to a figure of 57,061 million euros. The OIBDA, meanwhile, remained stable compared to 2012 at a figure of 19,077 million euros at the year end, after a return to growth in the fourth quarter (+1.2% in organic terms vs. –0.3% in the third quarter and –0.7% in the second). With this, the evolution of the OIBDA margin was also practically stable (33.4%, -0.2 p.p. organic) in line with forecasts.
• Telefónica Latin America and the mobile data business, with year-on-year increases close to double figures (+9.6% and +9.3%, respectively), continued to be the principal motors of growth in the Group’s earnings.
• To guarantee future growth, the Telefónica Group invested 9,395 million euros in the last year, including 1,224 billion euros for purchase of spectrum in a number of countries. In organic terms, investments rose 3.8% year-on-year (-0.7% reported) with nearly 68% of total investments devoted to business transformation and growth.
• In operating terms, the growth of mobiles on contract (+9%) and pay television accesses (+8%) gave a stimulus to Telefónica’s client base, which closed 2013 with 323.1 million accesses (+2%). Particularly worthy of note is the behaviour of mobile broadband accesses, which rose by +38% and now account for 29% of the total of mobile accesses, while pay television accesses brought about a 10-fold increase in the earnings obtained in 2012.
• 2013 consolidated "Movistar Fusión” and operating transformation as levers for recovery of the business in Spain. At the end of the year, it became clear the consumption recovery, reflected in a record net adds of customers choosing quality services such as fibre or pay TV. That is, the fourth quarter evidently shows the success of differentiation in the convergent offer made by Telefónica España, with record net gains of some 100,000 fibre clients and a return to net positive gains in pay television.
• Brazil strengthened its competitive positioning both in the mobile business, reinforcing its leadership in high value segments, and in the fixed business, thanks to the new commercial proposition and the rollout of fibre. It means registering positive net additions across the fived board and that contract segment reached again record net additions in the fourth quarter, with 1.6 million accesses.

Telefónica today presented its results for the end of year 2013, a year in which the Group’s net profit rose by 16.9%, to a figure of 4,593 million euros, at the same time as it kept its focus on improving financial flexibility and strengthening the balance sheet, through proactive management of its portfolio of assets and solid cash flow generation. This translated into a reduction in the net financial debt of 5,878 million euros in 2013, which places this item significantly below the objective set for the year (€45,381 million vs. <€47,000 million), and a reduction of almost 16.000 million euros in 18 months.

Furthermore, although 2012 was a key year for Telefónica because it represented the start of its transformation process, the financial year 2013 saw the consolidation of the long-term sustainable growth model on which it has been working since then. Thanks to this dynamic, Telefónica has managed to improve its positioning with regard to the competition in the segments and markets of greatest value and has successfully managed to strengthen its efficiency levels. So, as anticipated in September, consolidated earnings rose again (+0.7% organic, +1.8% in the fourth quarter) to 57.061 million euros, while the OIBDA (€19,077 million) and the OIBDA margin (33.4%, -0.2 p.p. organic), meanwhile, remained stable compared to 2012, in line with forecasts, meeting all financial guidances for 2013.

In the report presenting the Company’s annual results, Telefónica’s Chairman, César Alierta, pointed out that the Company will accelerate its transformation in 2014: "Among our targets, we will continue accelerating revenue growth and, at the same time, we will increase investments to anticipate to the growing demand from the increasingly intensive data service usage, as well as the recovery of demand expected in some of our main markets”.

He also explained that "in 2014 Telefónica will double the fibre coverage in Spain to 7.1 million homes passed, reaching the highest coverage levels among the largest economies in Europe. In Brazil we will also increase fibre coverage to 2.5 million homes. In the mobile business, we will expand 4G usage in Europe reaching an average coverage of more than 50%, while we continue leading the mobile data market in Latin America with the progressive launch of 4G.

In addition, Telefónica also announced today its guidance and shareholder remuneration policy for 2014 and reiterates its commitment to pay shareholders, with the distribution in 2014 of a dividend of 0.75 euros per share to be paid in the fourth quarter 2014 (0.35 euros per share by means of scrip dividend) and in the second quarter 2015 (0.40 euros per share in cash). Details of the guidance as follows:

Guidance criteria 2014 organic and excluding Venezuela (*) see page 6

CapEx increase announced by the Company for 2014 is oriented to stimulate growth, to network differentiation and to improve market positioning, among other reasons. The Company also reiterates mid-term commitment 2.35x Net financial debt/OIBDA

Contract mobile and pay TV foster access base

Telefónica managed a total of 323.1 million accesses at the end of 2013, up 2% year-on-year, driven by contract mobile customers, in particular the mobile broadband segment, and pay TV accesses. It is worth to mention T. Latinoamérica (68% of the total) outstanding access performance, posting growth acceleration for the fourth quarter in a row to 4% year-on-year.

Mobile accesses stood at 254.7 million at the end of December and posted the highest year-on-year growth in the last four quarters (+3%), reflecting the increased commercial momentum. Contract accesses rose by 9% to 89.2 million euros and now account for 35% of the total mobile customer base, reflecting the focus on growing high-value customers. Mobile broadband accesses reached 72.8 million in December 2013 (+38% year-on-year) and now account for 29% of total mobile accesses (+7 percentage points year-on-year), driven by the strong smartphone performance. Retail broadband accesses totalled 18.4 million, up 2% compared with December 2012 excluding the sale of assets related to the fixed consumer business in the United Kingdom while Pay TV accesses (3.6 million) rose 8% year-on-year, posting 266 thousand net additions in 2013 a tenfold increase on the 2012 figure.

Atento Group results were deconsolidated from Telefónica Group as of the end of November 2012 (following the disposal of the Company during the fourth quarter of 2012), therefore affecting year-on-year comparisons of Telefónica's reported financial results. The results of the disposed assets relating to the fixed consumer business in the United Kingdom are also excluded as from May 1, 2013.

In 2013 exchange rate fluctuations have negatively impacted main metrics year-on-year performance, mainly due to the devaluation of the Venezuelan bolivar and the depreciations of the Brazilian reais and the Argentine peso against the euro. Thus, exchange rates reduced both revenue and OIBDA year-on-year growth by 7.5 percentage points in 2013, and by 9.2 and 9.4 percentage points respectively in the last quarter. Moreover, changes in the perimeter of consolidation reduced revenue growth by 1.7 percentage points and OIBDA growth by 1.0 percentage point.

Revenues totalled 57,061 million euros in 2013, with growth accelerating to 0.7% year-on-year in organic terms (-8.5% in reported terms) following a 1.8% year-on-year increase in the fourth quarter in organic terms (-8.9% in reported terms). Excluding the negative impact of regulation, organic revenues grew 2.3% compared with 2012 and 3.2% year-on-year in the fourth quarter.

Telefónica Latinoamérica remained the Group's main growth driver, with revenues up 9.6% in organic terms compared with 2012 and by 10.3% compared with October-December 2012. Telefónica Digital also continued improving its organic growth (+19.4% year-on-year in the fourth quarter, +17.9% in the third quarter).

Consolidated operating expenses amounted to 39,112 million euros, up 1.4% year-on-year in organic terms (-7.6% reported) mainly on the back of strong commercial momentum at T. Latinoamérica related to the strategic focus on capturing high-value customers. By components, Supplies grew 2.0% year-on-year in organic terms and Personnel costs increased 4.5% in organic terms compared with 2012 (-15.9% reported), reflecting the negative impact of inflation in some Latin American countries. Moreover, subcontract expenses fell 1.4% year-on-year in 2013 in organic terms.

The average headcount in 2013 was 129,893 employees, 3.9% lower than the average in 2012 excluding the impact of the deconsolidation of Atento.

Gains on sales of fixed assets in 2013 totalled 161 million euros (58 million euros in the fourth quarter) mainly associated with the sale of non-strategic towers in Latin America and Spain. Impairment of goodwill and other assets amounted to -39 million euros, and included the value adjustment of certain assets of T. Digital for a total of -25 million euros.

OIBDA evolution and OIBDA margin

Operating income before depreciation and amortisation (OIBDA) in 2013 amounted to 19,077 million euros, stable in organic terms compared with 2012. In the fourth quarter, OIBDA grew 1.2% year-on-year in organic terms and continued the sequential year-on-year organic improvement (-0.3% in the third quarter; -0.7% in the second), resulting from steady revenue growth and on-going cost containment, along with efficiency improvements stemming from the operational transformation process. The OIBDA margin stood at 33.4% at the end of 2013 and at 34.5% in the fourth quarter, both figures virtually stable year-on-year in organic terms.

Operating income (OI) in 2013 stood at 9,450 million euros, virtually unchanged year-on-year (-0.5% in organic terms; -12.5% reported), while in the fourth quarter, operating income growth accelerated to 5.5% year-on-year in organic terms.

Share of profit (loss) of investments accounted for by the equity method totalled -304 million euros in 2013 (-186 million euros in the fourth quarter) and it is mainly explained by Telco, S.p.A.'s adjustments of the value of its investment in Telecom Italia (-350 million euros). It should be pointed out that these effects were non-cash impacts.

Net financial expenses amounted to 2,866 million euros in 2013, of which 111 million euros were due to net negative foreign exchange differences. Excluding this effect, net financial expenses fell 11.8% year-on-year, mainly due to a 11.4% reduction in the average debt.

Profit attributable to minority interests reduced net income in 2013 by 376 million euros, down 20.7% year-on-year, mainly as a result of the lower profit attributed to minority interests in Brazil, affected by the exchange rate.

As a result, consolidated net income in 2013 totalled 4,593 million euros (+16.9% year-on-year) and and basic earnings per share amounted to 1.01 euros per share (+15.6% year-on-year). In the fourth quarter of 2013, net income totalled 1,448 million euros and basic earnings per share stood at 0.31 euros, nearly tripling the figures registered in the same period of 2012.

More CapEx and financial flexibility

CapEx in 2013 amounted to 9,395 million euros and included 1,224 million euros relating to the acquisition of spectrum, primarily in the United Kingdom, Brazil, Peru, Colombia, Spain and Uruguay. In organic terms, investments rose 3.8% year-on-year with nearly 68% of total investments devoted to business transformation and growth.

As a result, free cash flow amounted to 5,391 million euros in 2013, including spectrum payments of 1,499 million euros. Excluding this impact, free cash flow totalled 6,890 million euros.

Net financial debt was reduced by 5,878 million euros in 2013 to 45,381 million euros at year-end as a result of the Company's focus on enhancing financial flexibility. Including post-closing events (disposal of T. Czech Republic, completed in January 2014, and of T. Ireland), net debt stood at 42,325 million euros. The leverage ratio (net debt over OIBDA) for the past 12 months stood at 2.36 times at the end of December 2013. If aforementioned post-closing events were considered, the leverage ratio would stand at 2.31 times.

Active financial activity

During 2013, Telefónica's financing activity, has been intense through bond and loan markets executing operations for nearly 12,000 million equivalent euros. The financing activity was mainly focused on financing in advance debt maturing in 2014 and beyond, smoothing the debt maturity profile at the Holding level for the following years while strengthening liquidity position. Therefore, as of December the Company maintains a comfortable liquidity position to accommodate next debt maturities.

At the end of December 2013, bonds and commercial paper represented 69% of the consolidated gross financial debt breakdown, while debt with financial institutions represented 31%.

Telefónica Digital and Global Resources

Telefónica Digital continued to deliver on its priorities for 2013, building powerful propositions through partnerships and fostering digital products and services in several markets to gradually enhance year-on-year revenue trend (+19.4% year-on-year in organic terms in the fourth quarter; +17.9% in the third quarter).

Regarding its main milestones during 2013, it is worth to mention the launch of its Global Video Platform, which allows the delivery of TV services across various networks to a wide range of devices; and the strong position in M2M, with a portfolio that includes both M2M connectivity services and end-to-end products in different industries. Especially noteworthy is the significant success of in-house developments, as the "Smart M2M” Solution, which enabled the recent contract awarded in the UK (£1.5bn) to deliver smart meter communications services, representing the industry’s largest contract win to date.

It is also important eHealth capabilities, bolstered through acquisitions in 2013, like Axismed in the first quarter, or the strong delivery posted by Financial services, as the establishment in Spain, jointly with Santander and Caixabank, of the first JV in Europe to develop a new Financial Services proposal.

Among other initiatives, it is worth highlight the launched "Latch”, a revolutionary new Security service developed in-house; the strategic investment in Box, the leading Cloud collaboration and storage company; and other Investments and global partnerships made by Telefónica Digital in 2013 included the equity stake in Rhapsody and the global partnerships signed with Pinterest and Evernote. Telefónica also continued driving innovation in its core communications services introducing along 2013 Firefox OS in new markets, and it will be launched in eight new countries in 2014.

Regarding Telefónica Global Resources, in 2013 the unit has continued advancing in infrastructure transformation and in the execution simplification of projects in order to maximise efficiencies and scale benefits.

In this way, the Network and Operations global unit, to anticipate to the growing demand for data (network traffic grew 26% year-on-year in 2013), continued expanding ultra-broadband coverage and all IP. In terms of the fixed network, fibre investments accelerated, mainly in Spain and Brazil. As such, FTTH coverage in Spain grew significantly, with more than 3.5 million homes passed, while Brazil ended the year with 1.4 million homes passed. In terms of the mobile network, there was an acceleration in the LTE rollout across all European markets and in the main Latin American markets. As such, the Company continued advancing in the mobile network transmission and around 60% of the mobile base stations are now connected with UBB, mainly in the areas with higher traffic volumes.

Transformation of the Global IT unit is key to become a Digital Telco. Accordingly, from an IT infrastructure consolidation perspective, the Company closed six data centres in 2013 while at the same time created a benchmark global data centre in Spain. In addition, the simplification and transformation efforts put in place resulted into the switch-off of 1,150 applications and a 12% reduction in physical servers. The global procurement unit continued creating value, capturing the benefits of the Group's scale. In 2013 the new end-to-end sourcing model was consolidated, with significant quarter-on-quarter improvement. This translated into 60% of global procurement processes now executed under the end-to-end strategic sourcing model. The global procurement unit manages over 25 billion euros annually and has achieved savings of 7% on a volume of more than 13 billion euros executed by this unit in 2013.

Finally, the mobile devices unit, progressed in rebalancing the vendors and operating systems in 2013 thanks to the agreements reached with leading industry players, while at the same time accelerated smartphone penetration among our customers, leveraging the Group's scale to obtain more competitive prices.

¹ Guidance criteria 2014: 2014 guidance assumes constant exchange rates as of 2013 (average FX in 2013), excludes Venezuela in both years and considers constant perimeter of consolidation. OIBDA level guidance for 2014 excludes write-offs, capital gains/losses from companies’ disposals, towers sales and other significant exceptionals such as restructuring costs, etc. CapEx excludes spectrum acquisition.

2013 adjusted bases exclude:

• T. Venezuela
• Homogeneous perimeter: Group T. Czech Republic (excluding results from January-December 2013); T. Ireland (excluding results from July-December 2013)
• Tower sales
• Capital gains/losses from companies’ disposals: Capital gains from the sale of Hispasat and Telefónica Móviles Aplicaciones y Soluciones. Value adjustments of T. Ireland and T. Czech Republic

2013 Bases for 2014 targets:

• Revenues: 51,580 million euros
• OIBDA margin: 32.5%
• CapEx/Sales: 14.2%