Telefónica O2 UK first quarter operating review

In the first quarter of 2009, Telefónica O2 UK continued to outperform in a slower market, achieving record levels of contract churn and obtaining market leading customer satisfaction indicators across all segments while delivering on ongoing efficiency programmes.

Net mobile additions in the first quarter reached 141,753, 2.5 times the figure registered in the same period last year, ending March 2009 with a total mobile customer base of 20.41 million lines (excluding Tesco Mobile).

This represents a 7.0% year-on-year growth achieved through innovative propositions in the quarter such as new Simplicity tariffs, new Business tariffs, DSL promotions and new contract and prepay mobile broadband tariffs.

After adding 286,267 contract customers in the first quarter of 2009 (+18.4% year-on-year), contract customers made up 42.6% of the total base at the end of March (40.3% in March 2008).

This positive performance was due to prepay to contract migrations, a broader range of “Simplicity” propositions, strong mobile broadband connections and continued success of high-end devices (including the iPhone and Blackberry handsets).

The evolution of the prepay base was mainly impacted by the above mentioned prepay to contract migration activity, as well as the seasonal disconnections after Christmas. Propositions such as “Unlimited” and “Top up Surprises” are helping to retain customers in this segment.

The strong performance in contract churn continued in the first quarter with a year-on-year reduction of 0.2 percentage points in the quarter to reach 1.2%. This reflects the customer centric approach of the Company resulting in market leading satisfaction levels. Total churn for the quarter was 2.8%, down 0.1 percentage points year-on-year.

In terms of usage, traffic carried in the first quarter of 2009 grew 17.5% to over 12,798 million minutes; with prepay customers increasing usage on propositions such as Unlimited, while contract customers continued optimising their voice bundle utilisation.

Voice ARPU showed a year-on-year decline of 6.3% in local currency, due to the continued uptake of customer propositions, such as Simplicity, which better fit customers’ current expectations with reduced acquisition costs, as well as the optimising behaviour of customers when using voice bundles. Outgoing roaming activity in the quarter also reduced with the economic environment impacting travel abroad.

Data ARPU continued to grow in the first quarter of 2009, with a year-on-year increase in local currency of 1.5%. This was mainly driven by an increase in the number of mobile broadband connections, as well as the continued success of data bolt-ons. This was partially offset by a decline in SMS ARPU due to the optimising behaviour of customers and the voluntary reduction of mobile termination rates. Data revenues increased 8.4% year-on-year in local currency in the first quarter of the year with non P2P-SMS data revenues increasing 42.2% year-on-year in local currency.

As a result, Telefónica O2 UK’s total ARPU in the first quarter of 2009 showed a 3.6% year-on-year decline in local currency.

Telefónica O2 UK’s DSL broadband service added 63,618 lines in the first quarter of 2009, leaving the total fixed broadband customer base at 404,484 lines at the end of March.

Revenues for the first quarter were 1,563 million euros, a solid increase of 7.0% year-on-year in local currency, mainly driven by mobile service revenue growth of 5.2% year-on-year in local currency, which amounted to 1,422 million euros. As expected, revenue growth from handset sales was lower than in the previous quarter due to the phasing of handset shipments for Christmas.

Operating income before depreciation and amortization (OIBDA) totalled 376 million euros in the first quarter of 2009, a 6.9% year-on-year growth in local currency, leveraging on optimisation of customer investment costs (market leading churn and increased proportion of SIM-only customers), continued operational efficiencies in non-commercial costs, as well as improved
contribution from the DSL business. The Company kept momentum in the market with focused commercial campaigns in the quarter and as a result, OIBDA margin for the quarter was 24.1%, flat over the same quarter of last year.

Operating cash flow (OIBDA-CapEx) for the quarter totalled 252 million euros, a significant increase of 31.5% year-on-year in local currency. This reflected strong OIBDA performance and CapEx reduction of 22.5% year-on-year in local currency to total 124 million euros.

¹ As of Dec. 31st 2007, M2M lines have been included in the customer base, thus reporting ARPU and churn figures have been revised accordingly. As a result the customer base at the end of March 2009 includes 836 thousand M2M lines.