FORM 6-K
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
Report of Foreign Private Issuer
Pursuant to Rule 13a-16 or 15d-16 of
the Securities Exchange Act of 1934
For the month of April, 2007
(Indicate by check mark whether the registrant files or will file annual
reports under cover of Form 20-F or Form 40-F.)
Form 20-F X Form 40-F
----- -----
(Indicate by check mark whether the registrant by furnishing the information
contained in this form is also thereby furnishing the information to the
Commission pursuant to Rule 12g3-2(b) under the Securities Exchange Act
of 1934. )
Yes No X
----- -----
(If "Yes" is marked, indicate below the file number assigned to registrant
in connection with Rule 12g3-2(b): 82-__________. )
N/A
China Netcom Group Corporation (Hong Kong) Limited
Building C, No. 156, Fuxingmennei Avenue
Xicheng District
Beijing, 100031 PRC
This Form 6-K consists of:
The 2006 annual report of China Netcom Group Corporation (Hong Kong) Limited
(the "Registrant"), made by the Registrant in English on April 10, 2007.
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
under-signed, thereunto duly authorized.
CHINA NETCOM GROUP CORPORATION (HONG KONG) LIMITED
By /s/ Li Fushen
-----------------
By /s/ Mok Kam Wan
-----------------
Name: Li Fushen and Mok Kam Wan
Title: Joint Company Secretaries
Date: April 10, 2007
Contents
2 Company Profile and Corporate Information
4 2006 Major Milestones
7 Financial Highlights
8 Chairman's Statement
11 Chief Executive Officer's Statement
16 Profile of Directors and Senior Management
24 Corporate Governance
34 Human Resources Development
37 Business Review
45 Management's Discussion and Analysis of Financial Condition and
Results of Operations
56 Report of the Directors
73 Notice of Annual General Meeting
75 Auditor's Report
77 Financial Information of the Company
145 Supplementary Information for American Depositary Shares Holders
152 Financial Summary
1
Company Profile and Corporate Information
China Netcom Group Corporation (Hong Kong) Limited (the "Company", "our
Company", "we" or "us", and together with its subsidiaries, the "Group") is a
company incorporated under the Companies Ordinance (Chapter 32 of the Laws of
Hong Kong) in Hong Kong on October 22, 1999 with limited liability. We were
listed on the New York Stock Exchange and the Main Board of The Stock Exchange
of Hong Kong Limited on November 16, 2004 and November 17, 2004, respectively.
We are a leading broadband communications and fixed-line telecommunications
operator in China. Our northern service region in China consists of Beijing
Municipality, Tianjin Municipality, Hebei Province, Henan Province, Shandong
Province, Liaoning Province, Heilongjiang Province, Jilin Province, Neimenggu
Autonomous Region and Shanxi Province. Our southern service region in China
consists of Guangdong Province and Shanghai Municipality. On February 28, 2007,
we sold the telecommunications assets, liabilities and business operations in
Guangdong Province and Shanghai Municipality and our service region will no
longer include our southern service region hereafter.
In our northern service region, the Company is a dominant provider of fixed-line
telephone services, broadband and other Internet-related services, as well as
business & data communications services.
The services that we offer include:
o fixed-line telephone services (including Personal Handyphone System, or PHS
services), including local, domestic long distance and international long
distance services;
o broadband and other Internet-related services, including XDSL, LAN,
wireless and other Internet access services, broadband content and
applications services;
o business and data communications services, including managed data and
leased line services; and
o information and communications technology services (the "ICT"), including
services such as system integration, software development, maintenance and
consultancy.
As of December 31, 2006, China Network Communications Group Corporation ("China
Netcom Group", our ultimate controlling shareholder), beneficially owned
approximately 69.88% of shares in the Company through China Netcom Group
Corporation (BVI) Limited ("CNC BVI"); Shandong Provincial State-owned Assets
Supervision and Administration Commission beneficially owned 2.25% of shares in
the Company; each of Chinese Academy of Sciences Holdings Co., Ltd., Information
and Network Center of the State Administration of Radio, Film and Television,
China Railways Telecommunications Center and Shanghai Alliance Investment
Limited beneficially owned 0.56% of shares in the Company; Telefonica
Internacional, S.A. beneficially owned 4.99% of shares in the Company, and
public investors owned 20.64% of shares in the Company.
2
Registered office
Room 6701, The Center
99 Queen's Road Central
Hong Kong
Board of Directors
Mr. ZHANG Chunjiang Chairman and Executive Director
Mr. ZUO Xunsheng Executive Director and
Chief Executive Officer
Mr. ZHANG Xiaotie Executive Director
Mr. LI Fushen Executive Director, Chief Financial Officer and Joint
Company Secretary
Mr. MIAO Jianhua Executive Director
Dr. TIAN Suning Vice Chairman and Non-executive Director
Mr. YAN Yixun Non-executive Director
Mr. Jose Maria Non-executive Director
ALVAREZ-PALLETE
Mr. Mauricio SARTORIUS Non-executive Director
Mr. John Lawson Independent Non-executive Director
THORNTON
Mr. Victor CHA Mou Zing Independent Non-executive Director
Dr. QIAN Yingyi Independent Non-executive Director
Mr. HOU Ziqiang Independent Non-executive Director
Mr. Timpson CHUNG Independent Non-executive Director
Shui Ming
Ms. Hong CHEN JIN (Alternate Director to Mr. Jose Maria ALVAREZ-PALLETE
and Mr. Mauricio SARTORIUS)
Joint company secretaries
Mr. LI Fushen
Ms. MOK Kam Wan
Qualified accountant
Mr. LEUNG June Man HKICPA, AICPA
Auditors
PricewaterhouseCoopers
Legal advisers
As to Hong Kong Laws:
Linklaters
As to U.S. Laws:
Skadden, Arps, Slate, Meagher & Flom LLP
Investor Relations
Beijing Office
No. 21 Financial Street
Xicheng District
Beijing 100032, P. R. China
Telephone: 8610-66259550
Facsimile: 8610-66259544
E-mail: ir@china-netcom.com
Website: www.china-netcom.com
3
Committees of the Board
Audit committee
Mr. Timpson CHUNG Shui Ming Chairman
Dr. QIAN Yingyi
Mr. Victor CHA Mou Zing
Mr. HOU Ziqiang
Nominating and corporate governance committee
Mr. John Lawson THORNTON Chairman
Mr. ZHANG Chunjiang
Mr. ZUO Xunsheng
Mr. Victor CHA Mou Zing
Dr. QIAN Yingyi
Compensation committee
Dr. QIAN Yingyi Chairman
Mr. ZHANG Xiaotie
Mr. LI Fushen
Mr. John Lawson THORNTON
Mr. Timpson CHUNG Shui Ming
Strategy committee
Mr. ZHANG Chunjiang Chairman
Mr. ZUO Xunsheng
Mr. LI Fushen
Dr. TIAN Suning
Mr. Jose Maria ALVAREZ-PALLETE
Dr. QIAN Yingyi
Mr. HOU Ziqiang
Supervision committee
Mr. MIAO Jianhua Chairman
Mr. ZHANG Xiaotie
Mr. Victor CHA Mou Zing
Mr. HOU Ziqiang
Mr. Timpson CHUNG Shui Ming
Stock code:
The Stock Exchange of Hong Kong: 906
New York Stock Exchange: CN
Share registrar and transfer office
Computershare Hong Kong Investor Services Limited
Rooms 1712-1716,
17th Floor, Hopewell Centre
183 Queen's Road East
Wan Chai
Hong Kong
American depositary receipts depositary
Citibank, N.A.
388 Greenwich St.,14th Floor
New York, NY10013, U.S.A.
Tel: 1-212-816-6671
Fax: 1-212-816-6865
4
2006 Major Milestones
January
January 6, Jointly with our partners, China Netcom Group, the Company's ultimate
controlling shareholder established the National Lab of NGN In Broadband
Application. This is one of the three national labs approved by the National
Development and Reform Commission.
February
February 23, East Asia Cable (EAC) established connection to the international
submarine cable landing station of Qingdao, which now serves as a sole landing
station to connect northern China with international cable lines.
March
March 6, the Company formally became a constituent stock of Hong Kong's Hang
Seng Index.
March 21, China Netcom Group signed a Memorandum of Understanding (MoU) on
International Satellite TV Transmission for Beijing 2008 Olympic Games with
Russian Satellite Communications Company.
March 29, China Netcom Group Broadband Online Limited Corporation was
incorporated as a subsidiary of the Company, dedicating to broadband content and
applications.
April
April 25, China Netcom Group and Visa International Service Association signed a
strategic cooperation agreement for the full-range cooperation in branding,
marketing and technologies to jointly serve the 2008 Olympic Games.
April 29, a video-conferencing system built by China Netcom (Group) Company
Limited ("CNC China") for National People's Congress was put into service during
the 21st Session of the Standing Committee of the Tenth National People's
Congress meeting.
April 30, China Netcom Group System Integration Limited Corporation was
incorporated as a subsidiary of the Company, to provide integrated information
and communications technology services to corporate customers.
May
May 1, the Company did spot-marketing of "Family 1+" business at Baoding, Handan
and Qinghuangdao in Hebei Province, Jinan in Shandong Province and Yangquan in
Shanxi Province.
May 11, the Company signed a MoU with the European Communication Satellite
Company and formally commenced the cooperation on international satellite
transmission for the 2008 Olympic Games.
May 20, "CNC MAX" was successfully broadcasted online "My Broaden World, New
Stage for Super Gril"
May 26, the Company launched "Economical Phone" business in trial run in Shanxi
Province.
May 26, "CNC MAX" was formally on board as China's first all-video portal
website, which can provide large stream and high resolution video services.
June
June 9, the Company signed a MoU on international communications service with
Chunghwa Telecom for the 2008 Olympic Games.
June 21, the Company signed a MoU on strategic cooperation and communications
with British Telecom for the 2008 Olympic Games.
5
July
In July, the Company was allowed to provide IPTV services in 5 cities --
Shenyang, Dalian and Panjin in Liaoning Province and Heihe and Mudanjiang in
Heilongjiang Province.
July 20, CNC China, a subsidiary of the Company successfully issued RMB10
billion short term commercial papers.
August
August 9, China Netcom Group signed a cooperation agreement on broadcast
television service with Beijing Olympic Broadcasting Company (BOB) for the 2008
Olympic Games. Pursuant to the agreement, China Netcom Group will be responsible
for the transmission of public broadcast television signals from all Olympic
venues in Beijing and other Olympic cities to the international broadcast
center.
August 22, the Company completed the disposal of Asia Netcom Corporation Limited
("Asia Netcom"), one of our wholly-owned subsidiaries.
In August, the IPTV-based information on services for rural areas in Henan
Province was recognised and promoted by the National Reform and Development
Commission.
September
September 10, the Company officialy launched its WAP portal for PHS.
November
November 1, the Company formally launched "Phone Navigation" business to the
public.
November 1, "CNC MAX" started to broadcast online NBA games lively.
November 28, China Netcom Group Broadband Online Limited Corporation and Google
entered into an agreement regarding the web search service, click advertisements
and the advertisement via Adsense for content.
December
December 18, China Netcom Group, together with other operators, signed an
agreement on Trans-Pacific Express, the first TB-level submarine fiber cable
system connecting China with the United States. Upon completion of this project,
sufficient trans-pacific capacity will be provided to meet the growing demand
for the Internet, data and voice services between Asia-Pacific and the United
States. Simultaneously, the network delay in Asia region and the hotspots
between the United States and Asia will be reduced.
6
Financial Highlights
Hong Kong GAAP
(in RMB millions, except earnings per share) 2006 2005
Continuing operations:
Revenues 86,921 85,861
Including Upfront connection fees 2,406 3,405
EBITDA (1) 45,588 45,650
Operating Profit (2) 19,980 20,731
Deficit on revaluation of fixed assets 1,524 --
Profit for the year from continuing operations 11,141 14,114
CAPEX 26,474 27,247
Free cash flow (3) 7,476 6,236
Profit /(loss) for the year from discontinued operations (4) 1,819 (226)
Profit for the year 12,960 13,888
Earnings per share from operations attributable to shareholders of the Company
for the year RMB1.95 RMB2.11
Earnings per ADS from operations attributable to shareholders of the Company
for the year RMB39.0 RMB42.2
(1) EBITDA refers to profit before finance costs, interests income, dividend
income, deficit on revaluation of fixed assets, income tax, depreciation
and amortization, share of profit of associated companies. To supplement
our consolidated financial statements presented in accordance with the Hong
Kong GAAP, we use the non-Hong Kong GAAP measure of EBITDA, which is
adjusted from our results based on Hong Kong GAAP. We believe that EBITDA
provides useful information to both management and investors to further
analyze our operating results since we, as a company operating in the
capital intensive telecommunications industry, incurred significant capital
expenditure and finance costs which have significant impact to our results
based on Hong Kong GAAP. EBITDA should only be considered in addition to
our Hong Kong GAAP results. It should not be considered a substitute for or
superior to our Hong Kong GAAP results as it cannot be used to measure
operation results and liquidity and does not represent operation cash
flows. In addition, our EBITDA may not be comparable to similar indicators
of other companies.
(2) Operating profit refers to profit before interests income, dividend income
and deficit on revaluation of fixed assets.
(3) Free cash flow refers to net cash inflow from operating activities of
continuing operations net of our capital expendure.
(4) On June 2, 2006, the Group entered into an agreement with the third party
buyers to dispose of its entire interest in the Asia Netcom for an
aggregate cash consideration of US$168.84 million, at fair value determined
by both parties. The disposal was completed on August 22, 2006. The gain on
disposal amounted to RMB1,878 million. The results and cash flows of the
Asia Netcom for the year ended December 31, 2006 are presented as
discontinued operations.
7
Chairman's Statement
Dear Shareholders,
2006 was an important year for the development of China's telecommunications
industry. In 2006, although broadband businesses in China grew rapidly, more and
more fixed-line telephone subscribers and voice traffic migrated to mobile
service. The extent of mobile substitution that is currently happening in China
is one of the largest among the major telecommunications markets in the world as
there is no genuine full-service provider in China.
Facing such challenges and opportunities, in 2006, we continued to pursue our
strategic goal of becoming a "broadband communications and multi-media services
provider" relentlessly. Our high-growth businesses maintained its rapid growth
and made an impressive contribution to revenue. At the same time, the Company's
traditional fixed-line telephone business was facing severe challenges. We saw
negative growth in local telephone subscribers for the first time in corporate
history. In 2006, the consolidated net profit of the Company was RMB12,960
million (Excluding RMB2,406 million of upfront connection fees, the Company's
consolidated net profit was RMB10,554 million). Basic earnings per share was
RMB1.95.
Strategic Transformation
The telecommunications industry is undergoing a major reform. The rapid
development of Internet technology and its wide applications has created a new
industrial revolution, with concomitant effects on culture and society. While
the reforms in the telecommunications industry pose challenges, they also bring
about enormous opportunities for industry participants. In this context, in
order to grow, we must innovate. Thus, the Company has set a long-term strategic
goal of transforming itself from a traditional voice-centric telecommunications
services provider to a broadband and multi-media services provider.
In 2006, we made major progress towards our strategic goal of becoming a
broadband communications and multi-media services provider.
By the end of 2006, the total number of the Company's broadband subscribers
reached 15.081 million, representing a year-on-year increase of 31.4%. In March
2006 the Company established China Netcom Group Broadband Online Limited
Corporation a wholly-owned subsidiary, then launched "CNC MAX", the first
all-video website in China. In July 2006, we were approved to provide IPTV
services in five cities in addition to Harbin, Heilongjiang Province. In
cooperation with local government, we launched IPTV-based integrated information
services in rural areas of Henan Province, and this cooperative model was
recognised by relevant governmental departments. In 2006, the Company's
broadband strategy, which includes broadband access and content as well as IPTV
services, was strengthened and enhanced to embrace multi-dimensional delivery.
We have begun to see substantial growth in our broadband business, and are now
moving into new parts of the broadband and Internet value chain.
In 2006, the Company leveraged on the opportunities brought about by the
government initiatives of "informationisation". We inaugurated such services
through our brand, "CNC Connected", to meet the demand by corporate and
government customers for integrated information services which comprise
telecommunications, IT and IT related applications services. With our extensive
network, customer and brand resources, we are moving away from a monolithic
network and voice communications services provider to become a provider of
integrated information services.
8
The Olympic Games and Strategic Cooperation
As the sole official partner of the 2008 Beijing Olympics for fixed-line
telecommunications services, our strategies are
o To leverage on the historic opportunity of the Olympic Games to bring our
service performance to a higher level, by establishing a bottleneck-free
service system and meeting market demand for stable, safe and user-friendly
services;
o To enhance penetration of our broadband services, accelerate broadband
content and applications development, so as to honour our commitment to
deliver a "Broadband Olympics";
o To enhance our management standard through the process of delivering high
quality and multi-level communications solutions to the Olympic Games;
o To enhance our corporate identity and branding through Olympics-related
marketing efforts.
We intensified our Olympic strategy in 2006. We believe through implementing our
Olympic strategy, the Olympics Games will serve as a milestone in our corporate
development, and play a pivotal role in our overall transformation into a
multi-media telecommunications service provider.
We have long maintained an open mind towards strategic cooperations with the
world's leading telecommunications operators. We believe that such cooperations
will help to bring about innovations in technology, products and management
knowhow, constituting elements conducive to enhancing our management standard
and core competences, In 2006 we deepened our cooperative relationship with
Telefonica in the areas of strategy, innovation, budgeting and operations. This
exercise was instrumental in helping the Company strengthen its management,
especially its capital expenditure (CAPEX) management.
Corporate Governance
The Company is putting in place international best-practices of corporate
governance. We believe that these will strengthen our core competences.
In 2006, the Company carried out reformation of its board of directors from the
perspective of the "hardware" and "software" of corporate governance. Firstly,
changes were made with regard to the structure and responsibilities of the board
of directors and board committees. We modified key board and committee
procedures. In particular, we put in place a system to evaluate performance of
directors, board committees, and the board of directors. These changes in board
structure, procedures and the introduction of a performance evaluation system
are meant to improve the board's efficiency, encourage active participation on
the part of directors, and ensure that board decisions will be to the benefit of
all shareholders as well as to the Company's long-term development.
In 2006, the nominating and corporate governance committee conducted the first
round of performance evaluations of the board of directors and board committees.
The compensation committee conducted the first performance evaluation of board
members based on their professional capabilities, ability to fulfill duties, and
ability to maintain objective in decision making. Based on the results, the
board will provide training and research sessions to directors; and to reform
operational procedures of the board of directors in order to improve efficiency
and professional standards of the board and board committees.
Value to Shareholders
After taking into account the Company's financial position in 2006, estimated
cash flow in 2007 and business development strategies for the future, the Board
of Directors has recommended payment of a final dividend of HK$0.553 per share
for the financial year ended December 31, 2006, up 18.7% from HK$0.466 in 2005.
On August 22, 2006, we disposed our entire shareholding in Asia Netcom. On
February 28, 2007, we disposed our Guangdong and Shanghai telecommunications
assets and operations to our parent company China Network Communications Group
Corporation ("China Netcom Group"). These two transactions have enabled us to
concentrate on our northern service region, where we have extensive network
resources and dominant market share. We believe that these transactions enabled
the Company to reinforce our market dominant position in the traditional
fixed-line telephone market, better grasp the growth opportunities in the
northern service region, with a view to creating greater value for the
shareholders.
9
Change of Directors and Management
On December 19, 2006, Mr. Mauricio Sartorius was appointed as a non-executive
director of the Company and Ms. Hong Chen Jin was appointed as an alternate
director to Mr. Jose Maria Alvarez-Pallete and Mr. Mauricio Sartorius. On
December 20, 2006, Mr. Miao Jianhua resigned from his position as joint company
secretary of the Company, but remained as an executive director of the Company.
On the same date, Mr. Li Fushen, the Chief Financial Officer of the Company, was
appointed as joint company secretary of the Company. On January 15, 2007, Ms. Li
Liming resigned as non-executive director of the Company, and Mr. Li Fushen was
appointed as an executive director of the Company.
On behalf of the Company, I wish to express our sincere gratitude for the
contributions made by Mr. Miao Jianhua as joint company secretary and Ms. Li
Liming as non-executive director. At the same time, I would also like to extend
our warmest welcome to Mr. Mauricio Sartorius, Ms. Hong Chen Jin and Mr. Li
Fushen for joining the board.
Prospects
Looking ahead, as information technology develops rapidly and the
telecommunications industry rapidly shifts focus towards broadband, mobility, IP
and convergence, our business philosophy is innovation and development. Through
innovation in technologies, services and management, we will strive to establish
our engines of sustainable development to get ourselves well-prepared to seize
future growth opportunities and to support pursuit of our strategic goal of
becoming a broadband communications and multi-media services provider.
In 2007, we will utilize bundled and convergence services to lessen the effects
brought about by the decline in traditional fixed-line telephone businesses. We
will take full advantage of the forthcoming Olympic Games to increase
penetration of broadband and make new breakthroughs in high-growth businesses
such as broadband access, broadband content and applications as well as ICT
(Information and communications technology) services. We will promote innovation
in such areas as tariff, services, branding, and organization to accommodate
changes in the market. We will prepare ourselves for mobile services and
accelerate network convergence, with a view to providing our customers with
multi-dimensional services.
Lastly, I would like to extend my sincere appreciation to our shareholders for
their trust and support. I am also grateful for the management and staff's
contributions to the Company in 2006. We believe that, with the commitment of
our management and staff, we will be able to provide our customers with high
quality service, our employees with greater satisfaction, and our shareholders
with increased value and returns.
ZHANG Chunjiang
Chairman
Hong Kong, April 2, 2007
10
Chief Executive Officer's Statement
Dear Shareholders,
I am pleased to report to you that we made significant progress in 2006 toward
our strategic goal of becoming a "broadband communications and multi-media
service provider", against the backdrop of escalating challenge from
intensifying mobile substitution. Contribution of our high-growth businesses to
the total revenue continued to increase, laying a solid foundation for our
strategic transformation.
1. Stable Financial Performance
In 2006, the Company generated RMB87,901 million of consolidated revenues,
which include RMB86,921 million of revenue from continuing operations and
RMB980 million of revenue from discontinued operations. Excluding upfront
connection fees of RMB2,406 million, our revenue was RMB85,495 million, of
which RMB84,515 million was attributable to continuing operations. Revenue
from continuing operations grew by 2.5% over the last year. Intensifying
mobile substitution and a downward adjustment of tariff for inter-district
calls slowed down our revenue growth in 2006 as compared with that of last
year.
Our consolidated net profit for 2006 was RMB12,960 million, and excluding
upfront connection fees, our consolidated net profit was RMB10,554 million
which includes discontinued operations (unless otherwise specified, all
data in the subsequent sections exclude discontinued operations and the
effect of the upfront connection fees). As a result of our strengthened
management over CAPEX, CAPEX for continuing operations for the year was
RMB26,474 million, which was RMB826 million lower than the budgetary
guidance outlined by management at the beginning of the year. Benefiting
from revenue growth, cost control and effective capital expenditure
management, our free cash flow* grew by a robust 19.9% to RMB7,476 million.
As a result of the growth of free cash flow, by the end of 2006, our
interest bearing debts reduced by 3.6% to RMB79,154 million.
* Free cash flow represents net cash flow from operating activities of
continuing operation net of capital expenditure
2. Challenges Faced by Traditional Fixed-line Businesses
2006 was an unusual year for monolithic telecommunications operators in
China which solely operate fixed-line networks. The acceleration of mobile
substitution created severe imbalances in the competitive landscape. Our
traditional fixed-line business was facing acute challenges.
In 2006, our strategic response to the acceleration of mobile substitution
was to leverage off our extensive network resources and the multi-business
nature of our business to develop bundled and converged services. In the
first half of 2006, the Company launched a bundled service offered under
the brand "Family 1+", and a converged service offered under the brand
"Unified Number" which captures both fixed-line and mobile functionalities
in certain cities. This helped to lessen mobile substitution to a certain
extent in the pilot cities. By the end of 2006, the number of local
telephone subscribers amounted to 114.934 million, reporting a decline for
the first time in our corporate history. Of the subscribers, 27.334 million
were PHS subscribers, almost at the same level as over the same period last
year. Both the local voice ARPU and traffic experienced a decline.
In 2006, we launched several new products targeted at a variety of market
segments. These included: the "Family 1+" bundled product for urban
residential customers; the "Economical Phone" service which does not charge
monthly fees for rural customers; and the " New Sunshine" service for
colleges and universities. We believe with the completion of upgrading of
our local fixed network to embrace intelligent functionalities and the
implementation of our initiatives to retain our traditional fixed line
business through bundled services, we will be able to lessen effects of
mobile substitution in 2007 and to defend our dominant market position in
the traditional fixed line market of our northern service region.
11
3. Sustained Rapid Development of High-growth Businesses
In 2006, we experienced continued strong momentum in high-growth services
including broadband service, value-added services, information and
communications technology (ICT) and business & data communications
services. This sector experienced revenue increase of 31.6% from last year,
reaching 26.0% of the total revenue, up 5.8 percentage points from last
year. High-growth businesses helped offset revenue decline in traditional
fixed line businesses and was the biggest drive for sustainable and
effective growth in 2006.
The Company's strategy for high-growth businesses in 2006 included
promoting broadband video and interactive content and applications while
expanding the broadband subscriber base; continuously launching new
value-added services; and speeding up the promotion of "CNC Connected" and
ICT business to make them the growth drivers in the future. Such strategies
achieved sound results in 2006.
Broadband service still experienced rapid growth. As at the end of 2006, we
had 15.081 million broadband subscribers, representing an increase of 31.4%
from last year. Through the implementation of strategic initiatives such as
broadband applications and content, IPTV and broadband business, we are
gradually entering into a new business model for broadband operation, with
an "access + content" combined fee mechanism riding on a "PC + TV"
multi-terminal platform. By the end of 2006, revenue attributable to
broadband and Internet-related services amounted to RMB11,248 million,
representing an increase of 33.7% over the same period last year, and
contributed 13.3% of the total revenue, an increase of 3.1 percentage
points over the same period in 2005. The ARPU of broadband services reached
RMB66.3, preluding a healthy upward trend. The number of IPTV subscribers
was 144.5 thousand, representing an increase of 201% over the same period
last year.
In 2006, we established China Netcom Group System Integration Limited
Corporation, an entity that provides business customers with ICT services
that integrate communications, network connectivity and information
technology, leveraging off our plentiful fixed-line network resources, rich
customer resources and our strong brand identity. It will meet the demand
for increasingly diversified and customized needs of our customers,
boosting customer retention and loyalty, stabilizing our market share and
explore new avenues for revenue growth. Taking advantage of the central
government policy to promote an information society, we launched "CNC
Connected" services in 2006, promoting ICT services. Tailored to the
demands of small-and medium-sized business customers, we developed an
integrated solutions platform that allows companies to perform external
communications as well as internal information technology related
applications. At the same time, we launched a "Broadened Vision" video
surveillance product under the auspices of the Government's "Safe City"
policy. In 2006, excluding traditional voice and broadband services,
revenue from our business customers including ICT services and business &
data communications services reached RMB5,267 million.
Our value-added services sustained rapid growth momentum in 2006 as some
PHS-based value-added services were successfully applied to the fixed-line
telephone. Up to the end of 2006, revenue from our value-added services
reached RMB5,421 million, representing an increase of 35.5% over the same
period last year, contributing 6.4% of the total revenue. The number of
personalized ring subscribers was 15.766 million, of which 8.917 million
were fixed line personalized ring subscribers, representing an increase of
480.9% over the same period last year, leading to a penetration rate of
10.2%. PHS SMS volume was 7,815 million messages, representing an increase
of 15.3% from last year.
12
4. Olympics-driven Strategic Transformation
Core to our Olympics strategy is to make the 2008 Beijing Olympics a
"Digital Olympics" and a "Broadband Olympics" while bringing breakthroughs
to high-growth operations and significantly upgrading our organizational
management standards.
In the past year, our preparatory work for the Olympic Games moved into an
implementation phase. We deployed an Olympics communication service
assurance system and signed Olympics broadcasting service co-operation
agreements and memorandums of understanding (MoUs) for telecommunications
co-operation with various carriers, creating the country's largest
city-wide intelligent optical network - the Beijing multi-service broadband
transmission network. Through these communications infrastructure
development for the Olympics, we will ensure the realisation of our
"Broadband Olympics" vision, satisfying our customers' needs for stability,
safety and flexibility to the maximum extent.
Taking advantage of our ambitious program for the Olympic Games, we will
institute the "Broadband Olympics" theme into our new service offerings.
Jointly with the Beijing Olympics Committee, we have planned an
Olympic-themed fixed communication product system which incorporates the
"Broadband Olympics" idea. We seek to leverage off our status as an Olympic
partner by launching new products such as "2008 Broadband Hotels". As at
the end of 2006, 1,267 hotels had signed up for this service. In April
2006, we reached an agreement with Visa International Service Association
on joint marketing rights for Olympic telephone cards. This marked a
breakthrough in the Company's commemorative telephone card business.
5. Steady Management Innovation and Reasonable Resource Allocation
In 2006 we continued to tighten controls over capital expenditures and
resource allocation in an effort to improve our free cash flow and our
efficient utilization of capital.
We established an annual revenue assurance plan in accordance with the
business plan for 2006. The revenue assurance plan allocated resources
reasonably to better ensure the achievement of our operation targets. With
the support of the board of directors and our strategic partners, we
increased our management focus on and carefully reviewed and prioritized
CAPEX items in order to establish more effective controls.
As a result of improved resource allocation, the Company assigned priority
to CAPEX for high-growth services and our strategic transformation. The
ratio of CAPEX for high-growth services to total CAPEX rose to 19.8% in
2006 from 15.2% over the same period last year. The ratio of CAPEX for
traditional fixed-line services to total CAPEX continued to decline. CAPEX
for PHS-related operations also declined by 42.6% to RMB2,748 million.
We will continue to focus on CAPEX controls in 2007 to achieve a higher
CAPEX utilization rate. For 2007, the estimated CAPEX is RMB21,000 million,
representing a decrease of 20.7% from 2006. We anticipate that the CAPEX to
revenue ratio will continue to decrease significantly.
After two years of development work, we achieved decisive success in
enterprise resource planning (ERP) and internal control management at the
end of 2006. ERP system has been put into place all our service areas. An
internal control system based on the Committee of the Sponsoring
Organizations of the Treadway Commission (COSO) definitions of internal
controls, standards and criteria has been completed and deployed in all
areas. The implementation of these two projects will improve the
standardization and systemization of our management, raising management
standards and bringing about improved efficiency throughout the
organization.
13
6. Business Strategies for 2007
Our business strategies will focus on the following in 2007:
- Traditional fixed-line businesses: continuing to promote bundled
services and converged services like "Family 1+" and "Unified Number";
implementing more flexible tariff policies to meet market and customer
demands; promoting customer loyalty programs; building integrated,
professional customer service systems; establishing a strong and
consistent brand image to retain and acquire customers and improve our
competitiveness;
- High-growth businesses:
o Broadband services: On the basis of incessant innovation,
continuing the "access + content" fee mechanism and "PC+TV"
multi-terminal development model while expanding network capacity
to boost access speed; taking advantage of the development of new
technologies and the Olympics; introducing an innovative business
model to increase the broadband penetration rate; introducing new
broadband content and value-added services; promoting the scale
development of IPTV; providing intensive marketing of
broadband-based bundled services; and increasing brand awareness
for our broadband services.
o Value added services: continuing to promote value-added services
such as caller identification display, personalized ring tones,
short message service (SMS) and telephone information services;
intensifying the bundling of value-added services and basic voice
services; and intensifing the promotion of value-added services
for fixed network and innovations in the variety of service
offerings.
o Information and Communications Technology (ICT) service:
carefully building our ICT business based on the size of
different ICT service segments, our compatibility of capacity and
the contribution to bundled core telecommunications services
including the development of ICT services for SMEs on the current
"Small-to Medium-enterprises Information Platform" to provide
users with custodian service; providing comprehensive system
consultancy and business application system services to large
enterprises; providing government agencies with LAN services and
outsourcing services; and integrating internal resources,
processes, organization structure and review systems to guarantee
the rapid development of ICT services.
- Olympics marketing: Under the slogan "Race to 2008", marketing Olympic
products such as the expansion of plug-and-play broadband access,
"2008 Broadband Hotels", "Broadband City" and marketing Olympic themed
products such as Olympic telephone card; and strengthening cooperation
with partners on broadband content related to the Olympics;
- Preparing for the delivery of mobile services: expanding our TD-SCDMA
trial in Qingdao; and strengthening research into new technologies and
services, in order to create a foundation for the convergence of fixed
and mobile services and staying ahead of the competition.
- Management improvements: with the recent launch of our ERP system and
IT system, improving operational efficiency in terms of finance,
network support and marketing. We will leverage off our strategic
partnership resources to improve efficiency in terms of budget and
CAPEX control, in order to guarantee the mobilization of resources for
high-growth services and towards our strategic transformation, thereby
increasing our free cash flow.
Based on a philosophy of innovation and development, we are committed to
becoming a broadband communications and multi-media services provider in
2007 through our strategic transformation.
I would like to take this opportunity to express our most sincere thanks to
our customers, shareholders, board of directors and employees for your
trust and support.
ZUO Xunsheng
Chief Executive Officer
Hong Kong, April 2, 2007
14
Profile of Directors and Senior Management
Directors
Zhang Chunjiang, 48, Chairman and Executive Director, has served as a Director
since June 2004. He has been the Chairman of China Netcom (Group) Company
Limited since September 2004 and President of China Netcom Group since May 2003.
He has joined PCCW Limited as a non-executive director since April 2005. Prior
to joining China Netcom Group, Mr. Zhang served as Deputy Minister of the
Ministry of Information Industry (MII) and was one of the most senior regulatory
officials in the PRC telecommunications industry from December 1999 to May 2003.
From August 1993 to December 1999, Mr. Zhang held a series of senior-level
positions at the former Liaoning Provincial Posts and Telecommunications Bureau,
the former Ministry of Posts and Telecommunications (MPT), and the MII,
including serving as the Deputy Director of the former Liaoning Provincial Posts
and Telecommunications Administration, Director of Mobile Telecommunications
Administration of the MPT and Director of Telecommunications Administration of
the MII. Mr. Zhang is a senior engineer of professor level and has extensive
experience in telecommunications management, operations and technology. Mr.
Zhang graduated from the Beijing University of Posts and Telecommunications in
1982 with a bachelor's degree in telecommunications.
Zuo Xunsheng, 56, Executive Director and Chief Executive Officer, has served as
Executive Director and Chief Executive Officer since May 2006, and served as
Chief Operating Officer of the Company from December 2005 to May 2006 overseeing
general operations of the Company. Mr Zuo has served as Senior Vice President
since July 2004. He has also served as Vice President of China Netcom Group
since April 2002. Before joining China Netcom Group , Mr Zuo was President of
the former Shandong Telecommunications Company from May 2000 to April 2002. From
October 1997 to May 2000, Mr Zuo has served as Director of the former Posts and
Telecommunications Bureau of Shandong Province. From 1993 to 1997, Mr Zuo has
served as Director of the former Bureau of Telecommunications of Jinan City. Mr
Zuo graduated from Guanghua School of Management of Peking University with an
EMBA degree.
Zhang Xiaotie, 54, Executive Director and Senior Vice President, has served as a
Director since October 2004 and Senior Vice President since January 2007
overseeing procurement and logistics management. He has served as Vice President
of China Netcom Group since July 2003. From June 2002 to July 2003, Mr. Zhang
also served as Assistant to President and General Manager of Planning and
Finance Department of China Netcom Group. Before joining China Netcom Group, Mr.
Zhang served as Deputy Director and Director of Economic Planning and
Communication Settlement Department of MII. He also held a series of
senior-level positions at the former MPT and Beijing Administration of
Telecommunications. Mr. Zhang graduated from the School of Economics and
Management of Tsinghua University with an M.S. degree.
Li Fushen, 44, Executive Director, Chief Financial Officer and Joint Company
Secretary, has served as executive director since January 2007, has served as
Joint Company Secretary since December 2006, and has served as Chief financial
Officer since September 2005. He served as Financial Controller from July 2004
to August 2005. Since October 2005, he served as the Chief Accountant of China
Netcom Group. From October 2003 to August 2005, he served as General Manager of
the Finance Department of China Netcom Group. From November 2001 to October
2003, he served as Deputy General Manager of Jilin Communications Company and
Deputy General Manager of the former Jilin Provincial Telecommunications
Company. He graduated from the Australian National University with a master's
degree in management, and from the Jilin Engineering Institute with a degree in
engineering management in June 1988.
Miao Jianhua, 55, Executive Director, has served as a Director since October
2004. He served as the Joint Company Secretary from December 2005 to December
2006. He has also served as Assistant to President of China Netcom Group since
September 2003 to November 2005. From June 2002 to November 2005, Mr. Miao
served as the General Manager of the Human Resources Department of China Netcom
Group and the Company. Before joining China Netcom Group, Mr. Miao served as
Director of the Inspection Bureau of the former MPT and the MII from 1997 to
early 2002, and held senior-level positions at the former Jilin Provincial
Administration of Posts and Telecommunications prior to June 1997. He graduated
from the Australian National University with a master's degree in management.
15
Tian Suning, 43, Vice Chairman, Non-Executive Director, has served as a Director
since 2000 and re-designated as a Non-Executive Director since May 2006. He has
also served as Vice President of China Netcom Group from April 2002 to May 2006.
From 1999 to May 2006, he has served as Chief Executive Officer of China Netcom
(Holdings) Company Limited and the Company. He has been a Director of China
Netcom (Group) Company Limited from 2001 to May 2006. He has also served as Vice
Chairman and a Non-executive director of PCCW Limited since April 2005. Starting
from April 2006, Dr. Tian has served as Independent Director of MasterCard
International. After Dr. Tian resigned his CEO position at the Company on May
17, 2006, he founded and became Chairman of China Broadband Capital Partners
L.P. . Invited by KKR, Dr. Tian has been appointed as Senior Advisor since
November, 2006. Dr. Tian is also an Independent Director of Asiainfo Holdings
Inc., a NASDAQ-listed company. Dr. Tian is a member of the Advisory Committee to
Harvard Business School of the US and the International Business Council of the
World Economic Forum. Prior to joining China Netcom (Holdings) Company Limited,
Dr. Tian was the co-founder and Chief Executive Officer of AsiaInfo Holdings
Inc., a NASDAQ-listed company providing software and networking solutions in
China. Dr. Tian has extensive experience and knowledge in the management and
financing fields of the telecommunications and information industry. Dr. Tian
received a Ph.D. in natural resources management from Texas Tech University in
1992, an M.S. degree in ecology from the Graduate School of the Chinese Academy
of Sciences in 1988,and a B.S. degree in environmental biology from Liaoning
University in 1985.
Yan Yixun, 68, Non-executive Director, has served as a Director since 2001. He
is a member of the Standing Committee of the Tenth National People's Congress
and Vice Chairman of the Financial and Economic Committee of the Tenth National
People's Congress. He was a member of the Standing Committee of the Eighth and
Ninth National People's Congress and a member of the Education, Science, Culture
and Health Committee of the Ninth National People's Congress. From December 1992
to November 2000, he served as Vice Chairman of the Chinese Academy of Sciences,
prior to that he served as Director of Shanghai Technical Physics Research
Institute. He was a first-term Board Director of Legend Holdings Limited and now
serves as Chairman of the Board of NewMargin Venture Capital Co., Ltd and
Director of Chinese Academy Sciences Holdings Co., Ltd. Mr. Yan received a
master's degree from the Institute of Electronics of the Chinese Academy of
Sciences in 1966 and graduated from the Department of Radio Electronics at
Tsinghua University in 1962.
Jose Maria Alvarez-Pallete, 43, Non-executive Director, has served as a Director
since September 2005. He joined Telefonica Internacional in February 1999 as
General Manager for Finance. In September of the same year, he became Chief
Financial Officer of Telefonica, S.A.. In July 2002, he was appointed Chairman
and Chief Executive Officer of Telefonica Internacional, S.A. and General
Manager of Telefonica Latinoamerica as well as a member of the Board of
Telefonica, S.A. in July 2006. As at December 31, 2006, Telefonica
Internacional, S.A. had 4.99% interest in the issued share capital of the
Company. Mr. Alvarez-Pallete is a Director on the boards of Telecomunicacoes de
Sao Paulo, S.A. (listed on the Stock Exchanges of Sao Paulo and New York),
Compania de Telecomunicaciones de Chile, S.A. (listed on the Stock Exchanges of
Santiago de Chile and New York), Telefonica de Espana, Telefonica Moviles S.A.
(listed on the Stock Exchanges of Madrid and New York), Telefonica Moviles
Espana, Telefonica Data, Telefonica Internacional, Telefonica de Argentina
(listed on the Stock Exchanges of Buenos Aires and New York), Telefonica CTC
Chile, Telefonica de Peru S.A.A. (listed on the Stock Exchange of Lima),
Compania de Telefonos de Chile Transmisiones Regionales, Telefonica Larga
Distancia de Puerto Rico, Telesp and Cointel. In addition, he is a member of the
Supervisory Board of Cesky Telecom (a company listed on the Stock Exchange of
Prague). Mr. Alvarez-Pallete received a bachelor's degree in economics from the
Universidad Complutense of Madrid.
Mauricio Sartorius, 47, Non-executive Director, was the alternate director to
Mr. Jose Maria Alvarez-Pallete from September 2005 to December 2006 and served
as Non-executive Director from December 2006. Mr. Sartorius began his career
with Banco del Progreso. In 1983, Mr. Sartorius started working at E. F. Hutton
& Co., Inc. as a Registered Commodity Representative. In 1985, he joined Credit
Suisse First Boston as Vice President of Corporate Finance for the Latin
American Region based in New York. Mr. Sartorius joined Telefonica on January 1,
1997 as a Deputy Managing Director of the Corporate Finance Department. In 1998,
Mr. Sartorius was appointed to be responsible for human resources for Telefonica
Internacional, S.A. On January 1, 2005, he became the Chief Representative
Officer of Asia of Telefonica Internacional and since then resides in Beijing.
Mr. Sartorius holds a degree in economics from the Universidad Complutense of
Madrid and a MBA degree from New York University.
16
John Lawson Thornton, 53, Independent Non-executive Director, has served as a
Director since October 2004. Mr. Thornton is Professor and Director of Global
Leadership Project at Tsinghua University in Beijing. He was President and a
Director of The Goldman Sachs Group, Inc. until July 2003. Mr. Thornton is also
a Director of Ford Motor Company (listed on the New York Stock Exchange),
Industrial and Commercial Bank of China Ltd. (listed on the Shanghai and Hong
Kong Stock Exchanges), Intel Corporation (listed on NASDAQ Stock Exchange) and
News Corporation, Inc. (listed on the New York Stock Exchange and the Australian
Stock Exchange). He is also Chairman of the Brookings Institution Board of
Trustees, a member of the Council on US Foreign Relations, a trustee of advisory
board member of the Asia Society, China Institute, China Securities Regulatory
Commission, the Eisenhower Fellowships, Financial Services Volunteer Corps, The
Hotchkiss School, International Advisory Committee of the China Reform Forum,
Morehouse College, National Committee on US-China Relations, Nelson Mandela
Legacy Foundation (US), Tsinghua University School of Economics and Management
(Beijing) and the Yale School of Management. Mr. Thornton received an A.B. in
history from Harvard College in 1976, a B.A. and M.A. in jurisprudence from
Oxford University in 1978 and a M.P.P.M. from the Yale School of Management in
1980.
Victor Cha Mou Zing, 57, Independent Non-executive Director, has served as a
Director since October 2004. Since September 2001, Mr. Cha is the Managing
Director of HKR International Limited and Alternate Independent Non-executive
Director of New World Development Company Limited (both companies being listed
on the Hong Kong Stock Exchange). He is also a member of the Chinese People's
Political Consultative Committee of Zhejiang Province and a council member of
the Hong Kong Polytechnic University. Mr. Cha graduated from Stanford University
with a MBA degree and University of Wisconsin with a B.S. degree.
Qian Yingyi, 50, Independent Non-executive Director, has served as a Director
since October 2004. He is also a Professor of Economics at the University of
California, Berkeley. Since 2005, Dr. Qian has served as Independent Director of
the Industrial and Commercial Bank of China Ltd. (listed on the Shanghai and
Hong Kong Stock Exchanges). Since 2006, Dr. Qian has been the Dean of the School
of Economics and Management at Tsinghua University, and also has served as
Independent Director of Vimicro International Corporation (listed on New York
NASDAQ). Before joining the Berkeley faculty in 2001, Dr. Qian taught in the
Department of Economics at Stanford University and the University of Maryland.
In 1990, Dr. Qian received his Ph.D. in Economics from Harvard University, after
receiving an M.Phil. in management science/operations research from Yale
University and an M.A. in statistics from Columbia University. In 1981, Dr. Qian
graduated from Tsinghua University with a B.S. degree in mathematics.
Hou Ziqiang, 69, Independent Non-executive Director, has served as a Director
since October 2004. He had also been Chairman of China Kejian Company Limited.
Mr. Hou has served as Independent Director of the Varitronix International Ltd.
(listed on Hong Kong Stock Exchange) Since 2005, Hou founded China Kejian
Company Limited in 1984. From 1993 to 1997, Mr. Hou was Director of the
Institute of Acoustics of the Chinese Academy of Sciences. From 1988 to 1993,
Mr. Hou was Secretary General of the Chinese Academy of Sciences. Mr. Hou
graduated from Peking University in 1958 with a bachelor's degree in physics.
Timpson Chung Shui Ming, 55, G.B.S., J.P., Independent Non-executive Director,
has served as a Director since October 2004. He is a fellow member of the Hong
Kong Institute of Certified Public Accountants and the Association of Chartered
Certified Accountants. He is an Executive Director of Hantec Investment Holdings
Limited and Independent Non-executive Director of Tai Shing International
(Holdings) Limited, Glorious Sun Enterprises Limited, The Miramar Hotel &
Investment Co. Limited and Nine Dragons Paper (Holdings) Limited. In addition,
Mr. Chung is a member of the National Committee of the 10th Chinese People's
Political Consultative Conference, the Chairman of the Council of the City
University of Hong Kong and a member of the Hong Kong Housing Authority.
Formerly, he was an Executive Director of Shimao China Holdings Limited, a
Director of Stockmartnet Holdings Ltd and Extrawell Pharmaceutical Holdings
Limited. He was also Chairman of the Hong Kong Housing Society, a member of the
Executive Council of the Hong Kong Special Administrative Region, the Vice
Chairman of the Hong Kong Special Administrative Region Government Land Fund
Advisory Committee, a member of the Managing Board of the Kowloon-Canton Railway
Corporation and a member of the Disaster Relief Fund Advisory Committee. Mr.
Chung holds a bachelor of science degree from the University of Hong Kong and a
master's degree of business administration from the Chinese University of Hong
Kong.
17
Hong Chen Jin, 44, Alternate Director to Mr. Jose Maria Alvarez-Pallete and Mr.
Mauricio Sartorius, she served as an Alternate Director since December 2006. She
joined Telefonica in Spain eleven years ago; since then, she has had a variety
of professional experience working in the Telefonica fixed business (IT
Strategy), mobile business (marketing department and mobile Value-Added and
content services department) , and Telefonica Data (Broadband and Online
Services), and also in Telefonica Soluciones (Key account client solution and
sales). She was assigned to Beijing and appointed as the Asia Director in the
beginning of 2005. Since then, her responsibility covers the government and
institutional relationship, external communication, business development and
strategies in Asia and office operation. Ms. Chen holds a bachelor's degree in
Computer Science of Shanghai Jiaotong University and MBA. She began her career
in China as faculty member of the Management School of Shanghai Jiao Tong
University. During seven years in the USA, she obtained a master's degree in
industrial engineering (major in investment analysis and corporate management
skills). During that period, she worked as a Vice President of R&D in ACS - a US
software company and headed the IT and network department of another US
multinational corporation. In Spain, prior to joining Telefonica, she was a
partner of a telecom consulting company.
Joint Company Secretaries and Qualified Accountant
Li Fushen, 44, Executive Director, Chief Financial Officer and Joint Company
Secretary,
Mok Kam Wan, 44, Joint Company Secretary. Ms. Mok joined the Company in October
2005. She holds a bachelor's degree of laws from the University of London and a
master's degree in business administration from The Hong Kong Polytechnic
University. Ms. Mok is an associate member of The Institute of Chartered
Secretaries and Administrators in the United Kingdom and The Hong Kong Institute
of Chartered Secretaries.
Leung June Man, 37, Assistant to the Chief Financial Officer and Qualified
Accountant. Mr. Leung has joined the Company since June 2005. He graduated from
Washington State University in 1992 with a bachelor's degree in business
administration, major in accounting. Mr. Leung is a member of both of Hong Kong
Institute of Certified Public Accountants and American Institute of Certified
Public Accountants.
Senior Management Officers
Zuo Xunsheng, Executive Director and Chief Executive Officer
Pei Aihua, 56, has served as Senior Vice President since July 2004 overseeing
corporate development, mobile communications and administration. He has also
served as Vice President of China Netcom Group since April 2002. Before joining
China Netcom Group, he was Deputy General Manager of the former Beijing
Telecommunications Company from July 2001 to April 2002, General Manager of
Sichuan Provincial Telecommunications Company from July 2000 to July 2001, and
Deputy Director of the former China General Bureau of Posts and
Telecommunications from June 1997 to May 2000. Mr. Pei is a senior engineer of
professor level. He graduated with a master's degree in information
communication management jointly sponsored by Fudan University and the Norway
Management School in 2001. He graduated from Changchun Optical Precision
Machinery College with a master's degree in electrical engineering in 1993 and
Beijing School of Telecommunications in microwave technology in 1976.
Zhao Jidong, 56, has served as Senior Vice President since July 2004, and is
responsible for Olympics communications, international affairs and Beijing
Municipal Branch Company. He has also served as Vice President of China Netcom
Group since July 2003. Before joining China Netcom Group, Mr. Zhao served as
General Manager of Beijing Communications Company from July 2002 to July 2003,
and General Manager of the former Beijing Telecommunications Company from May
2000 to July 2002. From November 1994 to May 2000, Mr. Zhao served as the Deputy
Director and Director of the former Beijing Telecommunications Bureau. Mr. Zhao
graduated with a master's degree in information and communication management
jointly sponsored by the Management School of Fudan University and the Norway
Management School, and from Fudan University with a B.A. degree in English in
1975.
Zhang Xiaotie, Executive Director and Senior Vice President
Li Fushen, Executive Director , Chief Financial Officer and Joint Company
Secretary
18
TengYong, 52, has served as Chief Technical Officer since August 2006,
responsible for technical issues and ICT applications. He served as the General
Manager of Hebei Communications Company from July 2004 to April 2006 and the
General Manager of Tianjin Communications Company from May 2002 to July 2004.
Mr. Teng held the position of General Manager of Tianjin Telecommunications
Company from July 2000 to July 2002 and the Deputy Director and later Director
of the Posts and Telecommunications Administration of Tianjin from May 1995 to
May 2000. Mr. Teng graduated from Nanjing University of Posts and
Telecommunications with a major in automatic telephone switching in February
1980, and later obtained a doctor degree of management and engineering from
Tianjin University.
Zhu Lijun, 53, has served as Vice President since December 2006, responsible for
network operation and consumer rights protection. Since March 2005 , he has
served as Assistant to the General Manager of China Netcom Group, and served as
General Manager of Department of Planning and Construction starting from July
2004. He was the General Manager of Shanxi Communications Company from August
2002 to July 2004. He was the General Manager of Shanxi Telecommunications
Company from December 2001 to August 2002. He worked as the General Manager of
Telecommunications Company of Guangxi Zhuang Autonomous Region from July 2000 to
December 2001, and served as the Deputy Director of the Posts and
Telecommunications Administration of Neimenggu Autonomous Region from August
1996 to July 2000. Mr. Zhu graduated from the Department of Chinese Language and
Literature of Inner Mongolia Normal University in 1986, and later obtained a
master degree of international business management from Australian National
University.
Huo Haifeng, 42, has served as the Vice President from December 2006, in charge
of marketing and key account management. He was the General Manager of Tianjin
Communications Company since August 2004 to November 2006 and served as the
General Manager of Dalian Branch of Liaoning Communications Company from
December 2002 to August 2004. Before joining China Netcom Group, Mr. Huo was the
General Manager of Dalian Branch of Liaoning Telecommunications Company of
former China Telecom Group from April 2001 to December 2002. He worked as the
General Manager of Anshan Branch of Liaoning Telecommunications Company from
August 2000 to April 2001. Mr. Huo served as Director of Bureau of
Telecommunications Administration in Anshan city of Liaoning Province from
October 1998 to August 2000. After his graduation from the Changchun University
of Posts and Telecommunications with a bachelor degree of computer application
in September 1987, he obtained a master degree of telecommunications engineering
management degree from Beijing University of Posts and Telecommunications and a
master degree of business management from Australian National University.
Corporate Governance
The Company is deeply aware of the significance and purpose of corporate
governance to our shareholders, and we are dedicated to pursuing sound corporate
governance. The Company is convinced that every step to improve our corporate
governance will help in enhancing our core competitiveness, our results and
shareholders' value.
In order to achieve a world-class corporate governance structure and mechanism,
in 2006, the Company continued with its efforts to push forward and improve the
"Corporate Governance Consultancy Project" launched in 2005. While we continued
to maintain our good board structure, called "hardware", such as the separation
of the positions of Chairman and Chief Executive Officer, we further improved
our "software", such as the establishment of a reasonable mechanism, a
comprehensive system and a clear workflow. At present, the first stage and
second stage of the project have been accomplished. On the basis of clarifying
the key points of our corporate governance, the restructuring of the board of
directors and committees of the board has been in effect with their
responsibilities redefined. We have established the Audit Committee, the
Nominating and Corporate Governance Committee, and the Compensation Committee as
required by "Code on Corporate Governance Practices". In addition, the Strategy
Committee and the Supervision Committee were set up in order to effectively
fulfill the responsibilities of the Board. Further, a host of regulatory
documents including the guidelines of meeting for the board and its committees,
guidelines for the directors and the code of ethics for directors have been
elaborated for the purpose of clarifying the responsibilities of directors as
required by the principles of the "Code on Corporate Governance Practices". Upon
the implementation of the project, the responsibilities of both the Board and
the management have been more clearly defined, with the rules for the procedures
of meeting and decision-making more transparent. The assessment of performance
of the Board, the directors and the management has now been standardized by
procedures, thereby greatly enhancing the standards of corporate governance.
For the third stage of the project in 2007, the Company will continue to advance
the governance reforms, make adjustments to the governance structure,
consolidate and improve the high-quality personnel management, increase strategy
formulation and implementation efforts, improve the assessment of the
performance of the Board, the directors and the management, and strive to build
up world-class corporate governance.
19
Throughout 2006, the Company has fully complied with the relevant provisions set
out in "Code on Corporate Governance Practices", Appendix 14 of the Rules
Governing the Listing of Securities on The Stock Exchange of Hong Kong Limited
("the Listing Rules").
The Board
The Company has been adhering to the principle that non-executive directors
shall be the majority in the Board to ensure the independence of decision-making
of the Board and alignment with best interests of shareholders. The Board
comprises of fourteen Directors, including five independent non-executive
Directors, four non-executive Directors and five executive Directors. Members of
the Board are professionals from the telecommunications, finance, property
development and consultancy industries and economists. By virtue of their wealth
of experience in their own fields and thorough understanding of our
technological operations, in 2006, directors contributed greatly to the
formulation of our strategies and enhancement of corporate governance.
The responsibility of the Board is to lead and supervise the Company in the
conduct of its affairs and protect interests of shareholders and the Company as
a whole. It exercises its powers pursuant to our articles of association, the
relevant laws and regulations and regulatory requirements; it is responsible for
supervising and controlling the governance structure and rules, defining our
overall development strategies and approving our annual strategic development
plans, budgets and targets, capital expenditure and investment plans,
supervising the effectiveness of our internal control system and regulatory
compliance of our operations, formulating a management succession system and
managing the performance of the management of the Company. The Board delegated
day-to-day management of the Company's business and administration to the
management.
The Board routinely meets four times each year and on other occasions when a
special Board decision is required on an interim basis. All members of the Board
have full and timely access to relevant information for meetings in advance.
Proposed Board and Board committee meeting schedules for a fiscal year are
agreed and determined at the preceding fiscal year's Board meetings. During this
reporting period, the Board held eleven meetings. The attendance record of each
member of the Board is set out below:
Directors Attendance
Executive Directors
Zhang Chunjiang (Chairman) 9/11
Zuo Xunsheng*^(Chief Executive Officer) 7/7
Zhang Xiaotie 8/11
Miao Jianhua^ 10/11
Jiang Weiping# 3/4
Non-executive Directors
Tian Suning (Vice Chairman) 10/11
Li Liming## 11/11
Yan Yixun 11/11
Jose Maria Alvarez-Pallete^ 11/11
Mauricio Sartorius** 0/0
Independent non-executive Directors
John Lawson Thornton 10/11
Victor Cha Mou Zing 9/11
Qian Yingyi 11/11
Hou Ziqiang 11/11
Timpson Chung Shui Ming 11/11
* Appointed as a director with effect from May 17, 2006
** Appointed as a director with effect from December 19, 2006
# Resigned as a director on May 17, 2006
## Resigned as a director on January 15, 2007; Mr. Li Fushen was appointed
as an executive director with effect
from January 15, 2007
^ Mr. Zuo Xunsheng and Mr. Miao Jianhua attended one of the board meetings by
their alternates and Mr. Jose Maria Alvarez-Pallete attended five of the
board meetings by his alternate.
20
During this reporting period, the Board at all time complied with the
requirements of the Listing Rules relating to the appointment of at least three
independent non-executive Directors, and complied with the requirements that at
least one of the independent non-executive Directors must have appropriate
accounting or related financial management professional qualifications.
Details of the Chairman, Vice Chairman, Executive Directors, Non-executive
Directors and Independent Non-executive Directors are set out on pages 16 to 20
of this annual report.
Chairman and Chief Executive Officer
The positions of Chairman and Chief Executive Officer are held by Mr. Zhang
Chunjiang and Mr. Zuo Xunsheng* respectively. The separation of functions
ensures greater independence between the Board and the management. The Chairman
is mainly responsible for chairing and managing the Board, as well as focusing
on major strategic issues and corporate governance. The Chief Executive Officer
is responsible for the operations of the Company and accountable to the Board.
Our Chairman and Chief Executive Officer have extensive and long standing
experience in the telecommunications industry. The Company is confident that
their expertise and experience will be beneficial for the enhancement of the
Company's business performance.
* Mr. Zuo Xunsheng has been appointed as the Chief Executive Officer with
effect from May 17, 2006 and Dr. Tian Suning resigned from the position on
the same date.
Independent Non-executive Directors
In 2006, the Independent Non-executive Directors had gained a better
understanding of the technology and operations of the Company through their
participation in training, seminars and studies. They played active roles in the
affairs of the Company through Board meetings, committee meetings and meetings
of the independent board committee, and provided a lot of constructive comments
and suggestions to the Company on corporate governance practice, strategic
planning and internal control system optimization. In 2006, our management
proposed the disposal of the Company's major telecommunications assets,
liabilities and operations in Guangdong Province and Shanghai Municipality.
Pursuant to the requirements of the Listing Rules, the Board of the Company
established an independent board committee which comprised all independent
non-executive Directors and chaired by Mr. Timpson Chung Shui Ming to provide
independent advice on the fairness and reasonableness of the disposal
transaction. The Independent Board Committee acted in the interests of minority
shareholders, reviewed the qualifications and capability of the independent
financial advisor and discussed in detail the fairness and reasonableness of the
terms of disposal, in order to protect the legitimate rights and interests of
minority shareholders. The Independent Board Committee held three meetings in
total in 2006.
The attendance record of each Independent Board Committee member in 2006 is set
out below:
Directors Attendance
Timpson Chung Shui Ming 3/3
John Lawson Thornton 2/3
Victor Cha Mou Zing 3/3
Qian Yingyi 3/3
Hou Ziqiang 3/3
To fully demonstrate the function of Independent Non-executive Directors and
protect the interests of minority shareholders, the Board, in accordance with
legal requirements and international best practices, arranges for the
Independent Non-executive Directors to play a key role in reviewing all the
connected transactions.
The Company has obtained the confirmation from all the Independent Non-executive
Directors relating to their independence under the Listing Rules. The Company
considers all the Independent Non-executive Directors to be independent. There
are no relations among the directors (including the Chairman and the Chief
Executive Officer).
Non-executive directors
All Non-executive Directors are appointed for a term of not more than three
years, and are subject to retirement by rotation and re-election by
shareholders. Pursuant to the Articles of Association of the Company, one-third
of the Directors, including both Executive and Non-executive Directors, are
required to retire from office by rotation at the annual general meeting each
year. A retiring Director is eligible for re-election. Any Director who is
appointed by the Board will hold office until the next following annual general
meeting and will be eligible for re-election.
21
Board Committees
In 2006, according to the corporate improvement reform plan, the Board optimized
the structure of the board committees. Prior to June 28, 2006, the Board
established four committees, namely, the Audit Committee, Compensation and
Nomination Committee, Corporate Governance Committee and the Strategic Planning
Committee. On June 28, 2006, the Board approved for the establishment of the
Supervision Committee and re-named the original committees with the
re-assignment of duties. At present, there are five committees, namely the Audit
Committee, Nominating and Corporate Governance Committee, Compensation
Committee, Strategy Committee and Supervision Committee. Among the adjustments,
in May 2006, the Audit Committee amended the "Terms of Reference of the Audit
Committee", but there has not been any significant change in the composition and
duties of the Audit Committee; duties of the original Compensation and
Nomination Committee in respect of nomination was merged with those of the
Corporate Governance Committee, and the Compensation and Nomination Committee
was re-named Compensation Committee, whereas the Corporate Governance Committee
was re-named Nominating and Corporate Governance Committee and its composition
was adjusted in line with the adjustment of its duties; the original Strategic
Planning Committee was renamed the Strategy Committee, but there has not been
any significant change in its duties, while members of the committee were
suitably adjusted. Adjustments to the duties and composition of these committees
were merely the natural course to rationalize the duties of these committees for
their members to make full use of their knowledge and experience, hence
enhancing the standard of corporate governance.
Audit Committee
To guarantee the objectiveness, fairness and independence of the Audit
Committee, the Audit Committee comprises four Independent Non-executive
Directors, chaired by Mr. Timpson Chung Shui Ming. Other members of the
committee include Mr. Victor Cha Mou Zing, Dr. Qian Yingyi and Mr. Hou Ziqiang.
The primary responsibilities of the Audit Committee include supervising and
managing our financial reporting system, reviewing the auditors' appointment,
and supervising the work of the internal audit department as well as guiding and
supervising our internal control system.
As an experienced member of the HKICPA and of the ACCA, Mr. Chung has extensive
professional experience. His active participation has helped to improve the
internal control system and the financial reporting system of the Company. Led
by Mr. Chung, not only has the Audit Committee performed its responsibilities
for supervising corporate auditing, but also played an important role in
optimizing the internal control system. The Audit Committee leads the
implementation of the Company's internal control projects, reviews regular
phasal result reports submitted by the internal control project team, and
supervises solutions to internal control problems identified and has established
an effective channel of complaints and reports.
In 2006, the Audit Committee held seven meetings and discharged its
responsibilities set out in the related regulations, including reviewing the
financial statements, annual results and accounts, half-yearly reports as well
as major comments concerning financial reporting in the financial statements and
reports; reviewing the appointment and reappointment of external auditor and
making suggestions to the board; reviewing and pre-approving the annual
engagement letter for the external auditor covering the defined service fees,
all audit services and non-audit services permitted under the Sarbanes-Oxley Act
and under rules and regulations published by U.S. Securities and Exchange
Commission as well as relations between the Company and such external auditor.
Besides, the Committee also reviewed and discussed with the external auditor on
the annual audit plan (including the timeline and scope of audit activities),
supervised the annual progress and results of the plan, reviewed the progress of
internal control project undertaken by the management in response to the
requirements under the Sarbanes-Oxley Act 404, gave guidance to the internal
audit department in its revision of "Internal Audit Rules of China Netcom",
heard reports from the internal audit department on a regular basis and reviewed
major connected transactions which do not require to be reviewed by the
Independent Board Committee as prescribed by the Listing Rules.
The attendance record of each member of the Audit Committee in 2006 is set out
below:
Directors Attendance
Timpson Chung Shui Ming 7/7
Victor Cha Mou Zing 7/7
Qian Yingyi 7/7
Hou Ziqiang 7/7
The Board acknowledges the responsibilities for preparing the accounts. A
statement of the auditors about their reporting responsibilities is set out in
the auditors' report on the financial statements on page 75 of this annual
report.
22
During the reporting period for the year ended December 31, 2006, the fees
paid/payable to the external auditors in respect of audit and non-audit services
provided by such auditors to the Company are set out as follows:
Nature of services Amount (RMB)
Audit services 61,000,000
Audit related services 30,960,202
Non-audit services
(i) Taxation services & Transfer pricing reports 1,181,947
(ii) Other services 556,150
Compensation Committee
On June 28, 2006, the Compensation and Nomination Committee was re-structured
and re-named as the Compensation Committee. The powers and functions of the
original committee to nominate directors and senior management were merged with
those of the Corporate Governance Committee, and the Corporate Governance
Committee was re-named as the Nominating and Corporate Governance Committee.
The primary duties of the Committee include making recommendations to the Board
in respect of the overall compensation policies and structure of the directors
and senior management of the Company and the establishment of formal and
transparent procedures for the formulation of these policies; determining the
specific compensation package of the senior management on behalf of the Board
and making recommendations to the Board in respect of the compensation of the
non-executive directors; reviewing and supervising the share option scheme and
option allocation plan of the Company; and assessing the performance of the
directors as well as the senior management.
The Compensation Committee of the Board is chaired by Dr. Qian Yingyi; other
members include Mr. Zhang Xiaotie, Mr. Li Fushen, Mr. John Lawson Thornton and
Mr. Timpson Chung Shui Ming. Ms Li Liming resigned as a director and member of
the Compensation Committee on January 15, 2007.
In 2006, the Compensation Committee (including the Compensation and Nomination
Committee) held seven meetings, of which four meetings were to discuss
remuneration related matters. Its work includes the consideration and approval
of the proposal on the revision of director's fees and the compensations for
various committee members, the compensation proposal for executive directors and
the senior management and supplemental agreements to their service agreements,
the revision proposal for the share option scheme for the middle-to-senior
management, and other documents relating to the Company's systems such as the
"Measures Governing Directors' Performance Evaluation", "Interim Measures for
the Performance Evaluation of Senior Management Personnel", which were submitted
to the Board for consideration and approval. The Committee also organizes and
implements performance evaluation of directors.
23
The attendance record of each member of the Compensation Committee (including
the Compensation and Nomination Committee) in 2006 is set out below:
Directors Attendance
Zhang Chunjiang^ (Chairman) 4/5
Qian Yingyi* 3/3
Zuo Xunsheng** 1/1
Zhang Xiaotie*** 2/2
Jiang Weiping# 4/4
Li Liming## 2/2
John Lawson Thornton**** 4/7
Victor Cha Mou Zing### 3/5
Hou Ziqiang### 5/5
Timpson Chung Shui Ming*** 2/2
^ Resigned as the chairman of the committee with effect from May 16, 2006 and
continued to act as a member; ceased to be a member of the committee with
effect from June 28, 2006
* Joined the committee with effect from May 16, 2006 and acted as the
chairman
** Appointed as a member from May 17, 2006 to June 28, 2006
*** Joined the committee with effect from June 28, 2006
# Resigned as a director with effect from May 17, 2006 and ceased to be a
member of the committee
## Joined the committee with effect from June 28, 2006, resigned as a director
on January 15, 2007 and ceased to be a member of the committee
### Ceased to be a member of the committee with effect from June 28, 2006
**** Due to telephone network problems, Mr. John Lawson Thornton was unable to
participate in one of the committee meetings
Nominating and Corporate Governance Committee
On June 28, 2006, the relevant powers and functions of the Corporate Governance
Committee merged with those of the original Compensation and Nomination
Committee with regard to the nomination of directors and senior management, and
the committee was re-named as the Nominating and Corporate Governance Committee.
The Nominating and Corporate Governance Committee is dedicated to the
realization of a sound composition with industry experience and professional
capability within the Board. The primary duties of the committee include the
nomination of directors and senior management, supervising the implementation of
corporate governance system and the operation efficiency of the Board and making
recommendations to the Board with regard to the optimization of the corporare
governance structure. In accordance with the Guidelines for Directors of the
Company, the Nominating and Corporate Governance Committee is responsible for
formulating the criteria for selecting directors, working out Directors'
succession plan, suggesting candidates of Directors, and submitting the related
proposals to the Board and/or shareholders' meeting for review and approval. For
the nomination of candidates for new appointments of directors, the committee
primarily considers whether the candidates have the necessary professional
expertise and experience to help the Board to perform its duties in a better way
and to promote the development of the Company. The independence of independent
non-executive directors is examined by the committee.
The committee is chaired by Mr. John Lawson Thornton, an independent
non-executive Director. Other members include: Mr. Zhang Chunjiang, Mr. Zuo
Xunsheng, Dr. Qian Yingyi and Mr. Victor Cha Mou Zing.
The Nominating and Corporate Governance Committee is committed to the continued
optimization of the composition of the Board and the management and the
continuous improvement of the corporate governance system of the Company. Its
role is significant to the enhancement and improvement of the structure of
corporate governance. In 2006, the Nominating and Corporate Governance Committee
(including the Corporate Governance Committee) held five meetings. Its work
included the consideration of the proposal on the improvement of the corporate
governance project and documents relating to the systems of the Company such as
"Terms of Reference of the Nominating and Corporate Governance Committee",
"Procedural Rules for the Board of Directors and Board Committees", "Guidelines
for Directors", "Guidelines for the Board of Directors", "Implementation Rules
for Succession Planning of Senior Management" and its revised version, "Job
Description of the Senior Management", "Interim Measures on the Joint Meeting
between the Board of Directors and Chairmen of Staff Unions", "Interim Measures
Governing the Attendance of Staff Representatives at Meetings of the Board of
Directors and Board Committees" and "Evaluation Criteria for the Board and Board
Committees for 2006", as well as the nominations of the vice presidents, chief
technical officer, directors and alternate director(s) and changes of joint
company secretaries, which were submitted to the Board for consideration and
approval.
24
The attendance record of each member of the Nominating and Corporate Governance
Committee (including the Corporate Governance Committee) in 2006 is set out
below:
Directors Attendance
John Lawson Thornton 5/5
Zhang Chunjiang* 1/3
Tian Suning# 0/2
Zuo Xunsheng* 3/3
Victor Cha Mou Zing* 3/3
Qian Yingyi 5/5
Miao Jianhua# 2/2
Timpson Chung Shui Ming# 2/2
* Joined the committee with effect from June 28, 2006
# Ceased to be a member with effect from June 28, 2006
Strategy Committee
On June 28, 2006, the original powers and functions of the Strategic Planning
Committee were suitably adjusted and the committee was re-named as the Strategy
Committee.
The Strategy Committee is primarily responsible for reviewing the medium to
long-term strategies, annual operation plans and budgets and significant
investment plans of the Company. It also reviews and monitors the procedures and
system for the risk management of the Company and supervises the implementation
of our development strategies.
The committee is chaired by Mr. Zhang Chunjiang. Other members include: Dr. Tian
Suning, Mr. Zuo Xunsheng, Mr. Li Fushen, Mr. Jose Maria Alvarez-Pallete, Dr.
Qian Yingyi and Mr. Hou Ziqiang. Ms Li Liming resigned as a director and member
of the Strategy Committee on January 15, 2007.
In 2006, the Strategy Committee (including the Strategic Planning Committee)
held four meetings to discuss and review the proposal to amend its terms of
reference, the business plan and budget for 2007. It also discussed the
implementation of the Company's strategies and risk management as well as the
Company's medium to long-term strategies and adjustment to the strategy for the
southern region, which were submitted to the Board for consideration and
approval.
The attendance record of each member of the Strategy Committee (including the
Strategic Planning Committee) in 2006 is set out below:
Directors Attendance
Zhang Chunjiang (Chairman) 3/4
Tian Suning* 0/3
Zuo Xunsheng** 4/4
Li Liming 3/4
Jose Maria Alvarez-Pallete 3/4
Qian Yingyi 3/4
Hou Ziqiang 4/4
Zhang Xiaotie# 1/1
Jiang Weiping## 0/0
* Joined the committee with effect from June 28, 2006
** Joined the committee with effect from May 17, 2006
# Ceased to be member of the committee with effect from June 28, 2006
## Resigned as a director with effect from May 17, 2006 and ceased to be a
member of the committee
25
Supervision Committee
The Supervision Committee is primarily responsible for identifying any
disciplinary breach, violation of regulations and corrupt acts of the
middle-to-senior management by establishing and improving the supervisory system
and workflow and opening up channels for reporting such behaviors in accordance
with the Listing Rules and regulatory requirements. It urges the directors and
the middle-to-senior management as well as other staff to abide by the rules and
be conscious of self-discipline and faithfully discharge their duties.
The committee is chaired by Mr. Miao Jianhua. Other members include Mr. Zhang
Xiaotie, Mr. Timpson Chung Shui Ming, Mr. Victor Cha Mou Zing and Mr. Hou
Ziqiang.
In 2006, the Supervision Committee held two meetings and considered "the Terms
of Reference of the Supervision Committee", "the Code of Ethics for Directors",
"the Code of Ethics for Middle-to-Senior Management" and "the Measures Governing
the Receipt and Treatment of Allegations and Complaints of the Supervision
Committee", which were submitted to the Board for consideration and approval.
The attendance record of each member of the Supervision Committee in 2006 is set
out below:
Directors Attendance
Miao Jianhua 2/2
Zhang Xiaotie 2/2
Timpson Chung Shui Ming 2/2
Victor Cha Mou Zing 2/2
Hou Ziqiang 2/2
Share Transactions of Directors
In respect of the requirements for directors' share transactions, the Board has
adopted the provisions of the Model Code under Appendix 10 to the Listing Rules
for the share transactions of Directors and has required directors to comply
with these provisions. The Company has received the confirmation from the
Directors that during the reporting period, all the Directors have complied with
these requirements. Also, in 2006, the Board came up with the Code of Ethics for
Directors and put forward compliance requirements for the directors' share
transactions.
Comparison between corporate governance requirements of the New York Stock
Exchange and the Hong Kong Listing
Rules
According to the Corporate Governance Standards set out in Section 303A of New
York Stock Exchange (NYSE) Listing Company Manual, foreign issuers listed in
NYSE (including China Netcom Group Corporation (Hong Kong) Limited) are required
to disclose major differences in requirements of corporate governance between
its place of incorporation and that of NYSE applicable to local US issuers. A
summary of such difference is available on the website of the Company at
http://www.china-netcom.com/English/inv/Corporate_Governance_Differences.htm
Internal Controls
The Board is responsible for the internal control system of the Company and has
the responsibility for reviewing its effectiveness. In 2006, the Board conducted
a review of the effectiveness of the internal control system of the Company.
The Company began to improve its internal control system on a Company-wide basis
in October 2004. The Company's internal control system was established based on
the current requirements of the Company after the Company had fully reformed and
reviewed the effectiveness of its internal control system relating to financial
reporting. The internal control system was established with reference to the
"Internal Control - Integrated Framework " issued in 1992 by the Committee of
Sponsoring Organization of the Treadway Commission ("COSO") and was closely
based on the actual situation of the Company.
As a result of the above, the Board found no significant issues in its internal
control system in 2006.
26
Shareholder Communications
In 2006, we continued to commit our efforts in improving both the scope and
quality of our information disclosure in order to enhance our operation
transparency. In 2006, the Company began to disclose key operating information
on a quarterly basis. In order to allow investors to have a better understanding
of our operation and to be able to forecast our development trend more
reasonably, in 2007, the Company plans to disclose the subscriber number of our
primary businesses on a monthly basis. This initiative will greatly increase the
transparency of our operations, so that investors can timely grasp the operation
situation and the result of the implementation Company's strategies, which will
minimize investment risks caused by information opacity.
In 2006, we continued to improve our communications with shareholders. Efforts
had been made to improve the quality of our response to the questions received
via our investors hotline and investors mail box, to increase the frequency and
quality of meeting between our management and investors, to improve the
user-friendliness of our investor relations website, to ensure the timely
disclosure of important information on the Company's website and to actively
take part in investor conferences held by major investment banks. In 2006, we
participated in over 200 investor conferences, interviewed nearly 250 investors.
Our Chairman, Chief Executive Officer and Chief Financial Officer had
participated in nearly 120 investor conferences.
General Meetings
The most recent general meeting was the two extraordinary general meetings held
on February 14, 2007 in the Ballroom, Island Shangri-la, Hong Kong. The major
items discussed at the meetings and the voting results are set out below:
-- Approval of the assets transfer agreement regarding the disposal of the
Company's assets, liabilities and operations in Guangdong Province and
Shanghai Municipality and the transactions contemplated thereunder
(99.9989%);
-- Approval of the revision of director's fees commencing from the financial
year of 2007 (99.999999%).
The above resolutions put to the shareholders were passed at the extraordinary
general meetings. The results of the voting by poll were published on the
Company's website, the website of the Hong Kong Stock Exchange and also by way
of announcement in Hong Kong newspapers.
The next general meeting will be the annual general meeting to be held on May
22, 2007.
Information relating to the details of shareholders, their shareholdings and the
Company's public float status are set out in the Report of the Directors in the
annual report.
There has been no change in the articles of association of the Company during
2006.
Performance of share price
Our ordinary shares are listed on The Stock Exchange of Hong Kong Limited, and
our shares are also listed and traded in the form of depositary shares on the
New York Stock Exchange.
The closing price of our ordinary shares on The Stock Exchange of Hong Kong
Limited on the last trading day in 2006 was HK$20.85 with a market
capitalization of HK$138.666 billion, an increase of 68.8% over the end of 2005.
In 2006, the average daily trading volume of our ordinary shares amounted to
10,023,041.67shares, an increase of 13.8% over 2005.
The closing price of our ADR on the last trading day in 2006 was US$53.52, an
increase of 65.0% over 2005, and the average daily trading volume amounted to
63,541.67, an increase of 31.9% over 2005.
27
Human Resources Development
In 2006, in order to accommodate our strategic goal of transforming into a
"Broadband communications and Multi-media Services Provider", the Company
further optimize in areas such as our organizational structure, operational
process, remuneration and performance evaluation as well as staff training, with
a view to enhancing the value of our human resources, improving job satisfaction
of our staff and continuously improving our capability in implementing our
strategies, so as to facilitate a successful transformation.
Employees
As of December 31, 2006, we had 140,747 full-time employees, representing an
increase of 1.67% over the same period of last year; 55,416 temporary staff ,
representing a decrease of 8.44% over the same period of last year.
Remuneration and performance evaluation
In 2006, with operations and staff incentive as the widing principles, we
devoted more efforts to refine our management of staff costs in a more precise
manner. We established a remuneration incentive system for our frontline sales
and maintenance staff. We implemented a quantitive performance management model,
which separates our strategic goal into small tasks and assign them to every
single staff at every level. These have ensured strategic synergy of the entire
organization with the effect of catalyzing a more proactive attitude among our
staff.
Furthermore, in order to better meet the needs of our operations and management,
the Company established in 2006 a unified performance-oriented remuneration
system based on different positions.
Staff development and training
The construction of a unified bureaucratic system and a model on capabilities
and caliber was important measure on our human resources in 2006, which
facilitated our business transformation. The new bureaucratic system is a
market-oriented mechanism to optimize deployment of our human resources and to
provide strong support for realization of our strategic goals. Also, the new
bureaucratic system has changed the mode of staff promotion based on
administrative decisions into two-way promotion channel. This will help plan and
guide the occupational development of our staff in a reasonable manner and
provide them with all-dimension development and promotion opportunities.
Our transformation and the rapidly evolving telecommunications industry drive
the staff training to be an effective way to further improve our staff's job
satisfaction and to facilitate our reform. In 2006, staff training sessions were
carried out to address issues including our strategic transformation,
improvement in expertise and learning from advanced international experience.
-- we conducted training sessions for 555 middle-to-senior level management
staff on financial knowledge and management transformation. Through the
training, they acquired systematic understanding of the significance, the
implications, the objectives and the steps of our transformation. The
training allows them to think from a new perspective, thus enhancing the
standard of our management to meet the needs of our transformation and
reforms;
-- we organized special training sessions attended by an aggregate of 1,600
persons, helping to enhance professionalism of the attendees in various
relevant professional areas.
-- To increase the staff's exposure to best management experiences overseas,
we made more frequent exchanges with well-known overseas telecommunications
operators. We entered into staff exchange agreements with Telefonica
Internacional, S.A., Hong Kong PCCW Limited and Korea Telecom. Eight middle
level employees were sent to work in other international operators to learn
from them advanced experiences including corporate governance, mobile
operations, sales and marketing, sales to key customers, network operation
and maintenance.
Establishment of the senior management team and nurturing of talents
The management of our provincial companies represents core strength in our
operations and management. In 2006, the Company adjusted and optimized the
composition of management and back-up teams based on their performance. We also
created a back-up team for our provincial company management with nearly 100
selected staff of high caliber as our talent pool.
System construction and management enhancement
Construction of a staff information system is an important method we used to
achieve our refined management of human resources and to increase management
efficiency. In 2006, our information management system for human resources
commenced operation. This will significantly improve the accuracy and timeliness
of interaction of staff-related data. The system has achieved the goal of
standardizing, unifying and enhancing transparency of our human management.
28
Future prospects
In 2007, the Company will implement in full force the unified bureaucratic
system, the capability and calibre model and the remuneration incentive system.
Meanwhile, we will further improve our recruitment system and strengthen
training of our management executives and core staff, thereby building up a team
with superb technical and execution skills to support our successful strategic
transformation.
29
Business Review
o High-growth businesses continued to grow at a rapid pace and accounted
for 26% of total revenues, representing an increase of 5.8 percentage
points over the same period of last year
o Broadband and other Internet-related services continued to grow
quickly, and the number of broadband subscribers reached 15.081
million, representing an increase of 31.4% over the same period of last
year
o Value-added businesses continued to enjoy robust growth with the number
of "Personalised Ring" subscribers reaching 15.766 million, translating
into a penetration rate 13.7%; the number of caller identification
subscribers reached 78.78 million, representing a penetration rate of
68.5%; and the volume of PHS short messages reached 7,815 million,
representing an increase of 15.3% over the same period of last year
o "CNC Connected" and ICT services provide business subscribers with
integrated telecommunications, IT and IT-related applications, allowing
us to secure our cooperative relationships with existing customers
further and to explore a new source for revenue growth
o CAPEX kept declining, and the CAPEX guidance for 2007 will represent
20.7% decrease from 2006.
Summary of Key Product lines
Fixed-line Broadband and Other Business and Data
Telephone Services Internet-related Services Communication Services ICT services
114.934 million subscribers 15.081 million subscribers Premium customer base Targeting corporate customers
(including PHS)
91.5% market share(1)(2) 87.5% broadband Leading provider Unique competitive strengths
market share(1)(2)
80.5% of revenue(3) 13.3% of revenue(3) 5.3% of revenue(3) 0.9% of revenue(3)
Decrease of 2.6%(3) 33.7% growth(3) 5.3% growth(3) --
(1) As of December 31, 2006
(2) In our northern service region
(3) Excluding upfront connection fees
In 2006, amid extremely imbalanced market competition, we accelerated our
strategic transformation towards becoming a "broadband communications and
multi-media services provider" under the theme of "innovations and
transformation". On one hand, we fully leveraged our advantages of fixed-line
multi-operations and ample network resources to provide bundled services to
maintain our existing customer base; and on the other hand, we fully leveraged
our abundant customer resources and the opportunities brought by the Government
policy of promoting informatization to intensify development and promotion of
our high-growth businesses. In 2006, the Company saw total revenue reached
RMB85,495 million (excluding upfront connection fees and discontinuing
operations.), of which continuing operations achieved revenues of RMB84,515
million (Unless otherwise specified, all data hereunder exclude upfront
connection fees and discontinuing operations.), representing an increase of 2.5%
over the same period of previous year. The high-growth businesses, including
broadband, value-added services, ICT and business & data communication services
are a major driver for revenue growth.
30
The following table illustrates the key operating statistics for 2006 and 2005:
2005 2006 Growth rate
Fixed-line subscribers ('000) 115,328 114,934 -0.3%
Including: PHS subscribers ('000) 27,337 27,334 -0.01%
Broadband subscribers ('000) 11,475 15,081 31.4%
Total usage (pulses in millions) 228,436 217,270 -4.9%
Excluding Internet dial-up usage (pulses in millions) 219,884 211,999 -3.6%
Internet dial-up usage (pulses in millions) 8,552 5,271 -38.4%
Domestic long distance calls (minutes in millions) 30,975 33,670 8.7%
International long distance calls (minutes in millions) 591 566 -4.2%
Number of ports for DDN (ports) 131,812 115,480 -12.4%
Number of ports for Frame Relay (ports) 43,519 41,448 -4.8%
Number of ports for ATM (ports) 4,212 6,441 52.9%
Digital circuits leased (x2Mbps) 129,989 171,249 31.7%
Volume of PHS short messages (in millions) 6,777 7,815 15.3%
"Personalised Ring" service subscribers ('000) 6,814 15,766 131.4%
Penetration rate for caller identification (%) 65.9% 68.5% 2.6%
Telephone information services (million minutes) 3,084 2,457 -20.3%
(1) International long distance call volume includes calls to Hong Kong, Macau
and Taiwan
Broadband and other Internet-related Services
The PRC government's enthusiasm in promoting information technology across the
country, coupled with gradual recognition by corporations of the value of
informatization and surging demand from households and individuals for Internet
content are driving rapid growth in broadband and Internet businesses in China.
In 2006, the Company continued to advance its business model for broadband
operation, with an "access + content" fee mechanism riding on a "PC + TV"
multi-terminal platform. This model helped drive the development of our
broadband businesses from various aspects, such as broadband access, broadband
contents and applications as well as IPTV. Our broadband businesses thus
maintained its rapid growth momentum and continued to be a major growth driver.
In order to enhance the penetration rate of our broadband operations, we adopted
the following measures:
-- selectively upgrading network speed;
-- introducing more diversified product and price offerings to satisfy the
customers in different niche markets;
-- making use of the first all-video website in China, "CNC MAX ", to
implement our bundled "access + contents" marketing strategy; and
-- promoting bundled broadband and traditional voice services and introducing
bundled products such as "Family Affections Online" and "Affections
Unlimited"
31
Through the above measures, we successfully maintained strong growth momentum in
our broadband businesses. In 2006, we added a net of 3.61 million subscribers to
broadband subscriber base, boosting the total to 15.081 million, representing a
year-on-year increase of 31.4% . We still maintain a 87.5% market share in our
northern service regions.
Unit: '000 subscribers 2004 2005 2006
Number of broadband subscribers 8,492.4 11,475.2 15,080.8
Including: DSL 5,956.2 8,568.4 11,378.9
LAN 2,533.2 2,904.2 3,698.2
Northern service region 8,146.4 11,036.2 14,428.6
Including: DSL 5,939.2 8,529.2 11,287.9
LAN 2,207.2 2,507.0 3,140.6
Southern service region 346 439 652.2
Including: DSL 17.0 39.2 91.0
LAN 326.0 397.2 557.6
We believe that the development in broadband contents and applications is
crucial to maintain sustainable growth in our broadband business. In 2006, the
Company established "China Netcom Group Broadband Online Limited Corporation", a
wholly-owned subsidiary specially designated for broadband content and
applications. We officially launched the first all-video broadband website "CNC
MAX". "CNC MAX" blends into local content platforms run by our branches in each
province, evolving into an "access + contents" combined fee mechanism. In 2006,
"CNC MAX" and branch websites in each province hosted a high volume of live
broadcast and featured activities, including the World Cup, NBA and "Starlight
on spot". These activities attracted patronage from a large number of
web-surfers, consequently developed among them a habit of paid viewing. In
addition, we established good strategic working relationships with mainstream
content providers such as Sina, Google, Shanda, Jiuzhou and Youdu, thereby
laying a solid basis for making "CNC MAX" a content-rich website.
In 2006, the Company leveraged its status as an official partner of the Olympic
Games to develop the "2008 Broadband Hotels" services based on our commitment to
deliver a "Broadband Olympics". By the end of 2006, we had converted 1,267
hotels into "2008 Broadband Hotels". We conducted a marketing campaign titled
"Broadband Carnival, Where All the Funs Are" to promote our broadband businesses
under the "Access + Contents + Olympic Elements" bundled sales mode.
In 2006, the Company spent more efforts in promoting its comprehensive
information services for corporate customers, especially small and medium size
enterprises. We provided them comprehensive communication and information
services including information technology applications, basic communication
products. In the course of delivering these services and value-added services,
we satisfied their demand for "external communication + internal information
technology applications" and at the same time achieved rapid growth in our
broadband access and broadband contents and application businesses.
Our IPTV business also achieved a breakthrough in its development in 2006. In
addition to Harbin, in July 2006 the Company was granted a right to provide IPTV
services in five cities, including Heihe and Moudanjiang of Heilongjiang,
Shenyang, Dalian and Panjin of Liaoning. In 2006, through joint efforts with the
Government, the Company provided information technology services for the rural
areas based on IPTV technology in Henan province. The model under which these
services were being provided won the recognition of relevant government
authorities and will be promoted in other regions in 2007. By the end of 2006,
the number of IPTV subscribers reached 144.5 thousand, representing an increase
of 201% over the same period of last year.
32
Fixed-line Telephone Services
In 2006, as domestic mobile operators launched service packages at competitive
prices, the migration from fixed line to mobile communications intensified,
posing an acute challenge to monolithic fixed-line operators. In 2006, the
number of our local fixed-line subscribers was 114.934 million, down by 0.3%
over the same period of the previous year. This was the first time the Company
experienced negative growth in its fixed line subscriber base. This was a result
of a combination of intensifying mobile substitution and a change in our
subscriber management strategy. The Company had put more effort in terminating
services available to invalid subscribers. In 2006, our local voice traffic also
declined. Stripping out dial-up internet access, the Company handled 211,999
pulses of million, down 3.6% over the same period of last year.
In order to maintain our leading position in local telephone operations, the
Company exploited its advantage of multi-services fixed network and rich network
resources and launched different bundled operations targeting different customer
segments:
o For urban subscribers, we provided with bundled services labelled "Family
1+" and "Unified Number" with both fixed-line and mobile functionalities;
o For campus subscribers, we offered "New Sunshine" service to provide more
SMS and family calls;
o For rural subscribers, we offered the "Economical Phone", a bundled voice
and value-added service, which does not charge monthly fees to encourage
higher voice traffic and value-added-service usage.
These service offerings slowed down migration of customers away from the fixed
line network and stimulated voice traffic to some extent. However, limited by
the pace at which we upgraded our network to embrace intelligent functionalities
and other supporting infrastructure, these bundled services were yet to be
launched on a large scale in our service regions. Upon completion of the
upgrading construction, these bundled services will be rolled out across our
service regions, mitigating the declines in our local voice communications
services.
Unit: '000 Subscribers 2004 2005 2006
Fixed-line subscribers 108,079 115,328 114,934
Northern service region 107,571 114,658 113,972
Including: Residential 70,638 70,273 68,803
Business 9,251 10,725 10,946
PHS 22,124 27,329 27,316
Public telephones 5,558 6,331 6,907
Southern service region 508 670 962
As mobile operators launched aggressive tariff packages, the tariff advantage of
PHS was diminishing. In 2006, our PHS business focused more on niche markets and
was used as a core element in our bundled services. PHS was being marketed as an
extension of our fixed-line telephone service in our sales programs. By the end
of 2006, the number of PHS subscribers of the Company amounted to 27.334
million, roughly level to that of the same period of last year.
Value-added Services
In 2006, the strategy for our value-added services was to increase the
penetration rate of our existing value-added services and to accelerate
development of new services in our product mix. In 2006, our value-added
services continued to enjoy rapid growth.
o The number of "Personalised Ring" subscribers was 15.766 million, up
approximately 131.4% over the same period of last year, of which, the
number of fixed-line "Personalised Ring" subscribers was 8.917 million, up
480.9% from the same period of last year.
o The volume of SMS sent through PHS was approximately 7,815 million pulses,
representing an increase of 15.3% over the same period of last year.
o The penetration rate of caller identification service was 68.5%, 2.6
percentage points higher than the same period of last year.
33
In 2006, we introduced more varieties to our value-added services, including
"Phone Navigation", "Phonemate" and "Concealed Number". New value-added services
not only satisfied new demand from customers but also stimulated the usage of
voice traffic through our fixed line network and significantly enhanced the
revenue per line subscriber. Upon completion of upgrading our network to allow
intelligent functionalities, new value-added services can be rolled out on a
large scale in the service regions of the Company.
While fixed-line voice services were suffering from mobile substitution,
value-added services became an important force in stabilizing voice traffic
through the fixed-line network, as they brought about growth in revenue. They
also constituted an effective means to enhance utilization of our customer
resources. The growth in value-added services to some extent lessened effects of
the decline in ARPU from the traditional local fixed-line telephone businesses.
Long Distance Services
Unit: million minutes 2004 2005 2006
Domestic long distance calls 29,366 30,975 33,670
Including: Traditional network 15,546 15,979 18,612
VOIP 13,820 14,996 15,058
Northern service region 27,047 27,775 28,809
Including: Traditional network 15,087 15,653 17,327
VOIP 11,960 12,122 11,482
Southern service region 2,319 3,200 4,861
VOIP 1,860 2,875 3,576
In 2006, as we implemented aggressive sales and marketing programs to stimulate
long distance voice traffic, the total usage volume of our long distance calls
increased by 8.5% over last year. The increase in volume of long distance calls
mainly came from the growth in volume of domestic long distance calls. In 2006,
domestic long distance voice traffic increased by 8.7% over the same period of
the previous year. Since international long distance voice traffic was battered
by substitution by Voice over Internet Protocol (VoIP), it decreased by 4.2%
over the same period of the previous year.
Unit: million minutes 2004 2005 2006
International long distance calls 471 591 566
Including: Traditional network 158 173 187
VOIP 313 418 379
Northern service region 339 352 324
Including: Traditional network 148 156 144
VOIP 191 196 180
Southern service region 132 239 242
VOIP 122 221 199
34
Business and Data Communications Services
2004 2005 2006
Number of ports
DDN (ports) 150,630 131,812 115,480
Frame Relay (ports) 43,078 43,519 41,448
ATM (ports) 4,816 4,212 6,441
Leased line bandwidth
DDN (x64kbps) 319,323 205,064 200,138
Frame Relay (x128kbps) 82,395 177,016 196,597
ATM (x2Mbps) 23,262 12,316 16,890
MPLS VPN (x2Mbps) 125 311 498
Leased circuit bandwidth (x2Mbps) 91,103 129,989 171,249
Corporate customers (x2Mbps) 56,363 100,387 147,459
Carrier customers (x2Mbps) 34,740 29,602 23,790
Data businesses enjoyed robust development from high demand for information
services from government administration related needs, namely e-Government, city
security and traffic monitoring system; centralized data processing for
financial institutions, needs for IT-related services from logistics- and
manufacturing-related industries. These had become the propelling forces for
more demands for basic data communication services, broadband and data
value-added services. Therefore, the Company has taken an initiative to explore
the enterprise market with a view to fully leverage our location in the capital
city, our network resources, our innovative capability and our capability to
provide one-stop solutions, securing our leading position in the enterprise
market and pushing forward with our strategic transformation.
In 2006, under the "CNC Connected" label, we introduced comprehensive
communication and IT services to enterprise customers. While we continued to
develop our business, we also paid more attention to improving quality of
services to our customers. This helped us to meet the demand for integrated
information services from business customers. As we fostered closer relations
with customers, we also stimulated the appetite of business customers for more
communication and IT applications. This in turn contributed to strengthening our
competitive advantage in the enterprise market.
In 2006, our leased circuit bandwidth was 171,249 X2M, representing a huge
increase of 31.7% over last year.
ICT Services
In order to better leverage our existing customer relationships, to strengthen
our advantage in communication technology and brand name, to secure our leading
position in the business consumer market and to explore new sources of revenue
growth, the Company started in 2006 to develop the business development model
for ICT services.
Through ICT services, we provide integrated services of system integration,
software development, management applications and fixed-line communication.
o We provide custodian service to small and medium size enterprises through
our proprietary "IT Platform for Small and Medium Enterprises";
o We provide comprehensive system consulting and industry application system
services to large enterprises;
o We provide LAN services and outsourcing services to governmental customers.
While ICT services allow us to meet the increasing demand of corporate customers
for IT informatization services, they also help us foster closer business
relations with our corporate customers, thereby retaining our customers more
effectively and bringing about more growth potential for our business.
In 2006, revenue from our ICT services reached RMB788 million.
35
Branding
In 2006, in line with our strategy of "stablizing traditional fixed-line
services and making active efforts to explore high value-added services", the
Company promoted and built our brand name in systematic fashion.
o Merging with the concept of Olympic sportsmanship, we promoted our core
brand name concept of "A Broadbanden World" on a full scale;
o Targeting at stablizing our traditional fixed-line services, we launched
several bundling brands, such as "Family 1+", "Economical Phone" and "New
Sunshine";
o Tapping the demand for IT services from public and corporate customers, we
launched "CNC MAX", "CNC Connected" and "2008 Broadband Hotels".
By making use of the opportunities brought about by the Olympic Games, we
launched full-scaled promotion campaigns for these brand names via advertising
and featured activities. These promotion campaigns effectively raised the brand
awareness and reputation of the Company, thereby laying a solid basis for the
sales and marketing of the Company's products and business development.
Marketing and Customer Service
In 2006, our sales and marketing systems, which comprise major account managers,
community managers, sales outlets, 10060 telephone marketing and online
marketing and other channels underwent important improvements.
o The sales and marketing system headed by community managers underwent
further improvements. Six types of professional sales and marketing teams
comprising public customer managers, business managers and network
development managers were set up. By the end of 2006, thanks to the efforts
of regional network development managers, the accumulated rate of newly
subscribed customers by the newly established networks reached 96.2%,
greatly secured our share in new markets.
o In line with the promotion of ICT services among business customers, we
highly emphasized the "Structural Sales and Marketing Model", which
organically combined frontline sales, back office support, branding and
experience presentation and implemented the "Complete process, All
Directions" model of sales and marketing, thus revolutionizing the previous
simple model of sales and marketing. The new model of sales and marketing
achieved remarkable results in the promotion of products such as "CNC
Connected".
o 10060 customer service, acceptance for handling and proactive sales and
marketing underwent significant improvement. At present, the volume of
acceptance for handling of the 10060 service accounted for 25% of the total
volume of acceptance for handling.
36
Network Construction
In 2006, our network construction was carried out to ensure the smooth
implementation of our Company strategic transformation, the improvement of
capital investment efficiency, sustainable growth of high growth businesses and
the retention of traditional fixed-line businesses.
In 2006, we continued to increase our capital expenditures for broadband and
Internet services. The capital expenditures in broadband and internet service
increased by 38.7% and its share in total capital expenditures increased to
18.6% up 5.5 percentage points from last year.
On the other hand, the Company fosters its control over investment in PHS
business. The capital expenditures for the PHS network decreased from RMB4,784
million in 2005 to RMB2,748 million in 2006, representing a decrease of 42.6%
and its share in total capital expenditures decreased by 7.2% from last year.
The capital expenditures for the PHS network was mainly for the optimization of
networks and construction of the platform for value-added services, so as to
enhance the loyalty of existing subscribers and ARPU.
Regarding our strategic transformation, we have been preparing for network
transformation and implemented commercial tests for new technologies and
services, these steps strengthened our network technologies and supporting
capabilities and accelerate evolution of our networks. We carried out the
construction of the double-plane long distance exchange network, the
large-customer network and the telecommunication IP carrier network. Meanwhile,
our IPv6 project has completed initial trials and our ASON project is currently
under trial run.
37
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Overview
On June 2, 2006, the Group entered into an agreement with a third party to
dispose 100% interests in Asia Netcom Corporation Limited ( Asia Netcom) at a
consideration of US$168.84 million and the disposal was completed on August 22,
2006. The results and cash flows of the operations of the Asia Netcom and its
subsidiaries (ANC Group) have been presented as discontinued operations pursuant
to the Hong Kong Financial Reporting Standard No. 5 "Non-current assets held for
sale and discontinued operations" issued by the Hong Kong Institute of Certified
Public Accountants. Accordingly, the comparative figures for 2005 in the
consolidated income statement and cash flow statement have been re-stated.
Unless otherwise specified, the following analysis is made on the basis of
continuing operations.
Our revenue for 2006 amounted to RMB86,921 million. Operating expenses amounted
to RMB67,562 million. Operating profit amounted to RMB19,980 million, and profit
for the year from continuing operations amounted to RMB11,141 million. If
including profit for the year from discontinued operations of RMB1,819 million,
our net profit would amount to RMB12,960 million, and our basic earnings per
share would amount to RMB1.95. Capital expenditure, which is effectively
controlled, amounted to RMB26,474 million, and our free cash flow(1) amounted to
RMB7,476 million.
If excluding upfront connection fees of RMB2,406 million, our revenue for 2006
would amount to RMB84,515 million, representing an increase of 2.5% from 2005.
EBITDA amounted to RMB43,182 million. Operating profit amounted to RMB17,574
million, and profit for the year from continuing operations amounted to RMB8,735
million. If profit for the year from discontinued operations of RMB1,819 million
is included, our net profit would amount to RMB10,554 million.
(1) Free Cash flow refers to Cash-flow from operating activities of continuing
operations net of our capital expenditure.
The following table sets out the operating revenue, operating expenses,
operating profit and net profit (based on amount and percentage of total
revenue)
Year ended December 31
2005 2006
Percentage of Percentage of
Amount revenues Amount revenues
(RMB in millions, except percentage data)
Revenue 85,861 100% 86,921 100%
Including: upfront connection fees 3,405 4% 2,406 3%
Operating expenses 65,130 76% 67,562 78%
Other income -- -- 621 1%
Operating profit 20,731 24% 19,980 23%
Deficit on revaluation of fixed assets -- -- 1,524 2%
Profit for the year from continuing operations 14,114 16% 11,141 13%
Profit/(loss) for the year from discontinued operations (226) -- 1,819 --
Profit for the year 13,888 -- 12,960 --
38
Revenue
Sources of our revenue consist of revenues from fixed-line telephone services,
broadband and other Internet-related services and business and data
communication services.
Our revenue for 2006 amounted to RMB86,921 million, of which upfront connection
fees amounted to RMB2,406 million. Excluding upfront connection fees, our
revenue for 2006 would amount to RMB84,515 million, representing a growth of
RMB2,059 million or 2.5% from RMB82,456 million in 2005. The growth primarily
reflected increase in broadband services, value-added services, information and
communication technology services and income from interconnection and leased
line services.
The following table illustrates a breakdown of our revenue and their percentages
of total revenue in 2005 and 2006.
Year ended December 31
2005 2006
Percentage Percentage
Amount of revenue Amount of revenue
(RMB in millions, except percentage data)
Fixed-line telephone services Local:
Local usage fees 24,582 28.6% 22,274 25.6%
Monthly fees 18,261 21.3% 16,689 19.2%
Upfront installation fees 1,442 1.7% 1,369 1.6%
Subtotal 44,285 51.6% 40,332 46.4%
Domestic long-distance 10,260 11.9% 10,185 11.7%
International long-distance 1,180 1.4% 1,160 1.3%
Value-added services 4,000 4.7% 5,421 6.2%
Interconnection fees 7,783 9.0% 8,400 9.7%
Upfront connection fees 3,405 4.0% 2,406 2.8%
Subtotal 70,913 82.6% 67,904 78.1%
Broadband services 7,824 9.1% 10,556 12.1%
Other Internet-related services 591 0.7% 692 0.8%
Subtotal 8,415 9.8% 11,248 12.9%
39
Year ended 31 December
2005 2006
Percentage Percentage
Amount of revenue Amount of revenue
(RMB in millions, except percentage data)
Business and data communication services
Managed data 1,656 1.9% 1,505 1.8%
Leased line 2,596 3.0% 2,974 3.4%
Subtotal 4,252 4.9% 4,479 5.2%
Information and communication technology services -- -- 788 0.9%
Other services 2,281 2.7% 2,502 2.9%
Total 85,861 100.0% 86,921 100.0%
Fixed-line telephone services
Local telephone services - Revenue from our local telephone services (including
PHS services) comprises local usage fees, monthly fees and upfront installation
fees.
Revenue from our local telephone services amounted to RMB40,332 million in 2006,
representing a decrease of RMB3,953 million, or 8.9%, from RMB44,285 million in
2005. Revenue from local telephone accounted for 46.4% of our total revenue in
2006, representing a decrease of 5.2 percentage points from 2005. In 2006,
competition in the telecommunications market was even more intense with an
increasing trend of mobile substitution, leading to a decrease in fixed-line
service customer number and the volume of local usage. The decreasing number of
fixed-line service customers, decreasing usage volume of local calls, the
adjustments in inter-district tariff and the downward adjustments of our
realized tariff were the main causes of the decrease in revenue from local
telephone services.
Local usage fees - Usage fees for local services include local usage fees
charged for local telephone calls and VoIP long distance calls and usage fees
for dial-up Internet access.
Revenue from local usage fees amounted to RMB22,274 million in 2006,
representing a decrease of RMB2,308 million, or 9.4%, from RMB24,582 million in
2005. In 2006, the usage volume of local calls amounted to 217.27 billion
pulses, representing a decrease of 11.17 billion pulses, or 4.9%, from 228.44
billion pulses in 2005. The decline in revenue of local usage fees was mainly
attributable to reduced usage volume of local calls and the decrease in our
realized tariff as a result of the policy to adjust the interconnection tariff
as well as market competition.
Monthly fees - Monthly fees represent the fixed amount of service charges to our
customers for using our fixed-line telephone services.
Revenue from our monthly fees amounted to RMB16,689 million in 2006,
representing a decrease of RMB1,572 million, or 8.6%, from RMB18,261 million in
2005. The revenue decline was mainly attributable to the decrease in total
number of customers in the service regions of the Company and the decrease in
our realized tariff.
Upfront installation fees - Upfront installation fees represent the amortized
amount of the upfront fees received for installation of fixed-line telephone
services. These upfront installation fees are amortized over the expected
customer relationship period, which is currently estimated to be ten years.
Revenue from our upfront installation fees amounted to RMB1,369 million in 2006,
representing a decrease of RMB73 million, or 5.1%, from RMB1,442 million in
2005. This was principally attributable to upfront installation discount offered
to new subscribers and the slow-down in the growth of our subscriber base in the
recent year.
40
Long-distance services - Our revenue from long-distance services consists of
usage fees for domestic and international long-distance calls.
Our revenue from our domestic long-distance calls amounted to RMB10,185 million
in 2006, which was at a similar level as RMB10,260 million in 2005. The usage
volume of domestic long-distance calls was 33,670 million minutes, representing
an increase of 2,695 million minutes, or 8.7%, from 30,975 million minutes in
2005, but our actual realized tariff experienced a decrease.
Revenue from our international long-distance calls amounted to RMB1,160 million
in 2006, representing a decrease of RMB20 million, or 1.7%, from RMB1,180
million in 2005. The usage volume of international long-distance calls was 566
million minutes in 2006, representing a decrease of 25 million minutes, or 4.2%,
from 591 million minutes in 2005. The decrease in revenue was mainly
attributable to the decrease in usage volume.
Value-added services - Revenue from our value-added services consists of fees
that we charge our customers for the provision of caller identification, PHS
short messages, ring tone, telephone information services, tele-conferencing and
other value-added services.
Revenue from our value-added services in 2006 amounted to RMB5,421 million in
2006, representing an increase of RMB1,421 million, or 35.5%, from RMB4,000
million in 2005. Value-added services revenue generated from fixed-line
telephone and wireless telephone has become one of our main sources of revenue
growth for the Company. In 2006, the number of subscribers for caller
identification services amounted to 78.78 million, and penetration rate amounted
to 68.5% of the core services of the Company, while the number of PHS short
message amounted to 7,815 million in 2006, representing a year-to-year increase
of 15.3%, the number of ring tone customers amounted to 15,766 thousand,
representing a year-to-year increase of 131.4%.
Interconnection services - Revenue from our interconnection services represents
interconnection fees charged to other telecommunication carriers and associates
for the interconnection of both local and long-distance calls.
Revenue from our interconnection services amounted to RMB8,400 million in 2006,
representing an increase of RMB617 million, or 7.9%, from RMB7,783 million in
2005. The growth in revenue was mainly due to increase in the interconnection
fees from other domestic and international telecom carriers, and increase in
revenue from settlement of interconnection fees with associates.
Upfront connection fees - Upfront connection fees represent the amortized amount
of the upfront fees for the initial activation of fixed-line telephone services,
which the Company amortizes over the expected customer relation period of 10
years. Starting from July 2001, the Company ceased to charge upfront connection
fees so that the revenue will continue to decline in the coming years until they
are amortized completely.
Revenue from our upfront connection fees amounted to RMB2,406 million in 2006,
decreased by RMB999 million, or 29.3%, from RMB3,405 million in 2005.
Broadband services
Our broadband services refer to revenue generated from DSL, LAN and
broadband-related value-added services.
Revenue from our broadband services amounted to RMB10,556 million in 2006,
representing an increase of RMB2,732 million, or 34.9%, from RMB7,824 million in
2005. The growth in revenue from broadband services was mainly attributable to
the sustained expansion of our subscriber base and enriched broadband content
services. At the end of 2006, the number of our broadband services subscribers
was 15,081 thousand, representing an increase of 3.61 million, or 31.4%, from
11,475 thousand at the end of 2005.
Other Internet-related services
Other Internet-related services of the Company refer to revenue generated from
the provision of Internet dial-up service (other than communication fees) and
dedicated Internet access services.
Revenue from our other Internet-related services amounted to RMB692 million in
2006, representing an increase of RMB101 million, or 17.1%, from RMB591 million
in 2005. The growth in revenue was mainly due to the significant increase of the
internet private access revenue. However, the increase was offset by the
decrease of the narrowband dial-up access revenue.
41
Business and data communications services
Managed data services - Revenue from our managed data services represents fees
that we charge for DDN, frame relay, ATM, MPLS VPN and X.25 services.
Revenue from our managed data services amounted to RMB1,505 million in 2006,
representing a decrease of RMB151 million, or 9.1%, from 1,656 million in 2005,
which was mainly due to the decrease in our actual realized tariff.
Leased line services - Revenue from our leased line services represents fees
that we receive from our business and carrier customers for leasing circuit
capacity to them, including the lease of digital circuit, digital trunk lines
and optic fibers.
The operating revenue from our leased line services amounted to RMB2,974 million
in 2006, representing an increase of RMB378 million, or 14.6%, from RMB2,596
million in 2005. This was mainly due to the robust demand from government and
corporate customers and group customers for their cross-regional networks, and
the continued growth in leased digital circuit broadband.
Revenue from Information and Communications Technology Services
Revenue from information and communications technology services - Information
and communications technology services refer to the extended integrated services
such as the development and integration of the group customer end system and
software, maintenance and consulting as well as leasing, which rely on
established customer relationship and communication services.
Our information and communications technology services help us prevent the
revenue from our traditional businesses from declining and retain our existing
customers. In 2006, revenue from information and communications technology
services amounted to RMB788 million.
Other services - Revenue from other services includes revenue from service and
maintenance fees, lease payments for non-telecommunication equipment and revenue
from sales of products.
The revenue from other services amounted to RMB2,502 million in 2006,
representing an increase of RMB221 million, or 9.7%, from RMB2,281 million in
2005. The increase in revenue was mainly due to the increase in businesses such
as the maintenance of equipment for customers and project construction by
leveraging off our technological strengths.
Operating Expenses
The key components of our operating expenses are depreciation and amortization
expenses, network, operations and support expenses, selling, general and
administrative expenses, staff costs and other operating expenses. Our operating
expenses amounted to RMB67,562 million in 2006, an increase of RMB2,432 million,
or 3.7%, from RMB65,130 million in 2005.
For the year ended 31 December
2005 2006
Percentage Percentage
Amount of revenue Amount of revenue
(RMB in millions, except percentage data)
Depreciation and amortization expenses 24,919 29.0% 25,608 29.5%
Network, operations and support expenses 13,465 15.7% 14,383 16.5%
Selling, general and administrative expenses 13,322 15.5% 13,366 15.4%
Staff costs 12,034 14.0% 12,151 14.0%
Other operating expenses 1,390 1.6% 2,054 2.4%
Total operating expenses 65,130 75.8% 67,562 77.7%
42
Depreciation and amortization expenses
Our depreciation and amortization expenses amounted to RMB25,608 million in
2006, representing an increase of RMB689 million, or 2.8%, from RMB24,919
million in 2005. It was mainly due to the increase in the total of fixed assets
and intangible assets for which the Company made provision for depreciation and
amortization.
Network, operations and support expenses
Network, operations and support expenses primarily consist of repair and
maintenance expenses incurred in connection with the operation of our
telecommunications networks, interconnection fees, utility expenses and
installation fees for additional access lines put in service each year. These
expenses amounted to RMB14,383 million in 2006, representing an increase of
RMB918 million, or 6.8%,from RMB13,465 million in 2005. The increase in network,
operations and support expenses was mainly due to the gradual increase of
interconnection fees as a result of the increase in the interconnection volume
between the company and other carriers and associates. In addition, the costs of
both the power and fuel consumed by our equipment also increased.
Selling, general and administrative expenses
Our selling, general and administrative expenses amounted to RMB13,366 million
in 2006, representing an increase of RMB44 million, or 0.3%, from RMB13,322
million in 2005. Selling expenses was mainly due to the decrease in the growth
in the number of new PHS customers and the decrease in the cost of developing
customers from our cost control. However, such decrease was offset by the cost
of retaining customers and the increase in sales and marketing channels. Our
general and administrative expenses was mainly due to the decrease in provision
of bad debt by RMB135 million. However, it was offset by the increase in
expenses like consulting fee, maintenance fee and utility expenses.
Staff costs
Staff costs primarily consist of expenses for salary and benefits, contributions
to pension plans and etc.
Our staff costs amounted to RMB12,151 million in 2006, representing an increase
of RMB117 million, or 1.0%, from RMB12,034 million in 2005. In 2006, the Company
took a step further to improve our system to allocate staff costs and their
distribution, and increase the compensation to front-line staff, making the
staff cost structure more reasonable.
Other operating expenses
Other expenses amounted to RMB2,054 million in 2006, representing an increase of
RMB664 million, or 47.8%, from RMB1,390 million in 2005. The increase was mainly
due to our enhanced efforts in developing the information and communications
technology services, which resulted in a significant increase in the related
cost.
Operating profit before interest income, dividend income and deficit on
revaluation of fixed assets
Our operating profit before interest income, dividend income and deficit on
revaluation of fixed assets amounted to RMB19,980 million in 2006, representing
a decrease of RMB751 million, or 3.6%, from RMB20,731 million in 2005. If the
effect of amortized income of upfront connection fee is excluded, our operating
profit before interest income, dividend income and deficit on revaluation of
fixed assets would amount to RMB17,574 million in 2006, representing an increase
of RMB248 million, or 1.4%, from 17,326 million in 2005.
Deficit on revaluation of fixed assets
Individual classes of our fixed assets as at December 31, 2006 excluding
pre-paid land lease fee and buildings were appraised by independent valuer in
China, on a depreciated replacement cost basis. The value of such fixed assets
was determined at RMB147,573 million. The net deficit arising on the revaluation
was RMB453 million, the net deficit was split between a credit to the
revaluation reserve amounting to RMB1,071 million and an expense to the profit
and loss account of RMB1,524 million for the year.
43
Finance costs
In 2006, our finance costs amounted to RMB3,888 million, representing an
increase of RMB541 million, or 16.2%, from RMB3,347 million in 2005, of which
interest payout increased by RMB320 million and net exchange gain decreased by
221 million.
The Company acquired the telecommunication assets and businesses of four
provinces including Shanxi in October 2005, and the consideration of the
acquisition included deferred payment of RMB9,800 million. Interest expenses
attributable to deferred payment increased by RMB392 million from 2005, which
was the main cause for the increase in interest expenses.
In 2006, the Company also had loans in Japanese Yen of RMB276 million in nominal
value and loans in Euro of RMB435 million in nominal value. In 2006, Euro
appreciated against Renminbi, and the Japanese Yen depreciated less than it did
in 2005, both of which represented the main reasons for the decrease in net
exchange gain.
Taxation
Our statutory taxation rate in the PRC is 33%, and our income tax for 2006
amounted to RMB3,559 million, representing an effective taxation rate of 24.2%,
an increase of 4.6% from the effective taxation rate of 19.6% in 2005.
The increase in effective taxation rate as compared to 2005 was mainly due to
the fact that the Company made up the accumulated losses before the
reorganization with its profit in 2005, resulting in the reduction of income tax
by RMB837 million. The effective taxation rate was lower than the statutory
taxation rate, mainly because income such as upfront connection fees is exempt
from income tax.
Profit for the year from continuing operations
Our profit for the year from continuing operations amounted to RMB11,141 million
in 2006, representing a decrease of RMB2,973 million, or 21.1%, from RMB14,114
million in 2005; excluding the effect of the income from upfront connection
fees, our profit for 2006 amounted to RMB8,735 million, representing a decrease
of RMB1,974 million, or 18.4% from RMB10,709 million in 2005. The main reason
for the decrease was that the deficit on revaluation of fixed assets of RMB1,524
million mentioned above was recognized as an expense.
Profit for the year from discontinued operations
Profit for the year from discontinued operation in 2006 amounted to RMB1,819
million as a result of our disposal of Asia Netcom.
Of that amount, the net loss of Asia Group prior to the completion date amounted
to RMB59 million, and the net investment gain from the disposal of the net
assets of Asia Netcom amounted to RMB1,878 million.
Consolidated profit for the year
Our consolidated profit including discontinued operations for 2006 amounted to
RMB12,960 million. Excluding the upfront connection fee, our profit for 2006
amounted to RMB10,554 million, representing an increase of RMB71 million, or
0.7%, from RMB10,483 million in 2005.
Profit for the year reconciled to US GAAP
Our consolidated profit for 2006 determined under US GAAP was RMB10,886 million.
Our profit for 2006 determined under US GAAP was lower than that under Hong Kong
GAAP. This was principally due to a revaluation deficit of RMB25,778 million in
2003 taken to the carrying value of our assets under Hong Kong GAAP and the
revaluation deficit of RMB11,318 million in 2004, which resulted in lower
depreciation charges recorded of RMB4,619 million under Hong Kong GAAP compared
to under US GAAP. At the same time, a revaluation deficit of RMB 1,524 million
was taken to the carrying value of our assets under the Hong Kong GAAP, while
there is no revaluation deficit under US GAAP.
44
Capital expenditure
The following table sets forth our total actual and planned capital expenditure*
for the periods indicated:
(RMB millions)
2005 27,247
2006 26,474
2007 (planned) 21,000
* Capital expenditure includes cash paid towards the purchase of fixed assets,
construction in progress, prepayment for leased network capacity and
prepayment for leased land.
Our capital expenditure in 2006 amounted to RMB26,474 million, representing a
decrease of RMB773 million, or 2.8%, from RMB27,247 million in 2005, which was
mainly due to our emphasis on enhancing the utilization rate of our existing
network and our implementation of a policy which focuses on cost-effectiveness,
which reasonably reduced capital expenditure. In 2006, we continued to increase
our investment in broadband and Internet, and we also accordingly reduced our
investment in PHS and fixed-line telephone.
We expect that we will further reduce our capital expenditure in 2007, which is
estimated at RMB21,000 million. Many factors can affect the timing, amount and
nature of our capital expenditure, including the overall economic environment,
customer demand, technology development and other related factors. Our estimated
capital expenditure has a definite degree of uncertainty, and the future actual
capital expenditure may deviate from the estimated amount.
We anticipate that we will meet our capital expenditure requirements with cash
generated from operating activities, short-term and long-term loans, debentures
and other borrowings and equity financing. We consider that we shall have
sufficient capital to meet our future capital expenditure requirements.
Cash flow and capital resources
Cash flow
The following table sets out our cash flow for the periods indicated
For the year ended
December 31,
2005 2006
(RMB in millions)
Net cash inflow from operating activities 33,483 33,950
Net cash outflow from investment activities (24,296) (25,973)
Net cash outflow from financing activities (14,764) (6,447)
Net cash inflow/outflow from discontinued operations (130) 1,165
Net cash inflow/(outflow) (5,707) 2,695
Our net cash inflow from operating activities in 2006 amounted to RMB33,950
million, representing an increase of RMB467 million, or 1.4%, from RMB33,483
million in 2005.
Our net cash outflow from investment activities in 2006 amounted to RMB25,973
million, representing an increase of RMB1,677 million, or 6.9%, from RMB24,296
million in 2005. The reason for which the net cash outflow from investment
activities in 2006 was higher than that in 2005 was mainly that in 2005 we had
more cash flow as we had sold certain short-term investments.
Our net cash outflow from financing activities in 2006 amounted to RMB6,447
million, representing a decrease of RMB8,317 million, or 56.3%, from RMB14,764
million in 2005, which was mainly due to the fact that repayment of loans to
financial institutions in 2006 was less than in 2005.
45
Our cash inflow from discontinued operations amounted to RMB1,165 million,
representing an increase of RMB1,295 million in cash outflow from RMB130 million
in 2005, the main reason for which is that we received RMB1,340 million as
consideration for Asia Netcom.
For these reasons, our net cash inflow in 2006 amounted to RMB2,695 million,
representing an increase of RMB8,402 million in cash outflow from RMB5,707
million in 2005.
Working capital
As at December 31, 2006, the shortfall of our working capital amounted to
RMB72,743 million, a decrease of RMB11,157 million or 13.3% in shortfall from
RMB83,900 million in 2005. The decrease in shortfall of working capital was
mainly due to the decrease in short-term loans of the Company.
Indebtedness
Our indebtedness as at the dates indicated:
For the year ended
31 December
2005 2006
(RMB in millions)
Short term loans 47,341 30,980
Short term commercial papers -- 9,811
Current portion of long term bank loans and other loans 6,846 7,304
Long term bank and other loans net of current portion 18,143 23,219
Deferred consideration, current portion 1,960 1,960
Deferred consideration net of the current portion 7,840 5,880
Total indebtedness 82,130 79,154
As at December 31, 2006, our total indebtedness amounted to RMB79,154 million,
representing a decrease of RMB2,976 million or 3.6% from RMB82,130 million as at
the end of 2005. The source of capital for the repayment was the cash inflow
from operating activities. As at the end of 2006, loans in Renminbi ,US Dollar,
Euro and Japanese Yen accounted for 98.3%, 0.9%, 0.5% and 0.3% of the company
total indebtedness respectively.
As at December 31, 2006, the proportion of our short-term indebtedness was
63.2%, representing a decrease of 5.2% from 68.4% at December 31, 2005. The
decrease in the proportion of our short-term indebtedness because the Company
reduced the size of short term loans for optimization of capital structure.
As at December 31, 2006, our debt to capital ratio * was 47.4%, representing a
decrease of 2.7 percentage points from 50.1% as at December 31, 2005. Our
financial position was further improved.
* Debt to capital ratio refers to the ratio of our total indebtedness to the
sum of our total indebtedness, shareholders' equity and balance of deferred
revenue.
As at December 31, 2006, our aggregate unutilized credit facilities amounted to
RMB115,588 million in total.
46
Contractual obligations and commitments
The following table sets forth our aggregate payments as at December 31, 2006 in
respect of contractual obligations and commercial commitments in the years to
come:
Payments Due (by stages as indicated)
RMB(millions)
Total 2007 2008 2009 2010 2011 Thereafter
Short-term loans 30,980 30,980 -- -- -- -- --
Long-term loans 30,523 7,304 6,596 9,545 89 89 6,900
Operating leases
commitments 2,353 734 313 283 261 245 517
Capital commitments 2,833 2,746 86 1 -- -- --
Total contractual
cash indebtedness 66,689 41,764 6,995 9,829 350 334 7,417
Market risks and risk management
Market risks are the risks of loss of financial instruments held or issued by us
for non-trading purposes arising from adverse changes in market prices,
including adverse charge in interest rates and foreign exchange rates. The
Company is subject to various risks in the normal course of its business,
including market risks associated with interest rate movements and exchange rate
movements on non-Renminbi denominated assets and liabilities.
Foreign exchange risk
We conduct our business primarily in Renminbi, which is our booking and
reporting currency. Fluctuations in Renminbi exchange rates may adversely affect
the value, translated or converted into United States dollars or Hong Kong
dollars (which are pegged to the US dollars), of our net assets, earnings and
any declared dividends.
We are exposed to foreign currency risk primarily as a result of our foreign
currency borrowings for the purchase of telecommunication equipment from
overseas suppliers in the past. In addition, we receive some of our revenue from
our international telecommunications services and pay related expenses in
foreign currencies. As a result, our foreign currency exposure relates to our
foreign currency-denominated businesses and, to a limited extent, cash and cash
equivalents denominated in foreign currencies.
We have entered into currency swap agreements and foreign exchange forward
contracts designed to mitigate our exposure to foreign currency risks and may
continue to do so in future.
Interest rate risk
The People's Bank of China has the sole authority in the PRC to establish the
official interest rates for Renminbi-denominated loans. Financial institutions
in the PRC set their effective interest rates within the range established by
the People's Bank of China. Interest rates and payment methods in the PRC on
loans denominated in foreign currencies are set by the financial institutions
based on interest rate changes in the international financial market, cost of
funds, risk levels and other factors.
We are subject to risks arising from fluctuations in interest rates on our
debts. The majority of our liabilities are loans from banks in the PRC. Rise in
interest rates will increase the cost of new borrowings and interest expenses of
outstanding floating rate liabilities. Accordingly, fluctuations in interest
rates can lead to significant fluctuations in the fair value of these
instruments.
47
Report of the Directors
The directors are pleased to present their annual report together with the
audited financial statements for the year ended December 31, 2006.
Principal activities
The Group is a dominant provider of fixed-line telephone services, broadband,
other internet-related services, and business and data communications services
in ten northern municipalities and provinces in China, namely Beijing
Municipality, Tianjin Municipality, Hebei Province, Henan Province, Shandong
Province, Liaoning Province, Heilongjiang Province, Jilin Province, Neimenggu
Autonomous Region and Shanxi Province. The principal activity of the Company is
investment holding.
In 2006, the Group also provided telecommunications services to selected
business and residential customers in two southern municipality and province,
namely Guangdong Province and Shanghai Municipality in China, and operated an
extensive network and offered international data services in the Asia Pacific
region. After the completion of the disposal of 100% equity interest in Asia
Netcom Corporation Limited ("Asia Netcom") in August 2006, the Group no longer
operates network and offers international data services in the Asia Pacific
region. After the completion of the disposal of the Group's telecommunications
assets, liabilities and business operations in Guangdong Province and Shanghai
Municipality on February 28, 2007, the Group no longer provides
telecommunications services in such two southern municipality and province.
The turnover of the Group during the financial year consisted primarily of
income generated from the provision of fixed-line telecommunications and related
services.
Major customers and suppliers
The Group's aggregate sales attributable to its five largest customers did not
exceed 30 per cent. of the Group's total sales in 2006.
The Group's aggregate purchases from its five largest suppliers did not exceed
30 per cent. of the Group's total purchases in 2006.
Subsidiaries
Particulars of the Company's subsidiaries as at December 31, 2006 are set out in
note 26 to the financial statements.
Financial statements
The results of the Group for the year ended December 31, 2006 and the Company's
and the Group's financial positions as at that date are set out in the financial
statements on pages 77 to 144.
Dividends
The Company has always held in the highest regard for the interests of and
returns achieved for its shareholders. Having taken into account such factors as
our results of operations, cash flows, financial condition, future prospects,
and statutory and regulatory restrictions on the payment of dividend by the
Company, the Board recommends payment of a final dividend of HK$0.553 per share
for the financial year ended December 31, 2006. The dividend payout ratio for
2006 is 35%. If the relevant resolution relating to declaration of dividend is
passed, the dividend will be distributed on or about June 12, 2007 to
shareholders whose names are registered on the Company's shareholders' register
on May 22, 2007.
Charitable donations
Donations made by the Group during the year amounted to RMB0.53 million (2005:
RMB 0.8 million).
Fixed assets
Changes of the fixed assets of the Group and the Company during the year are set
out in note 20 to the financial statements.
48
Bank and other loans
Particulars of bank and other loans of the Group as at December 31, 2006 are set
out in note 29 to the financial statements.
Share capital and share option scheme
Details of the Company's share capital and share option scheme are set out in
note 34 and note 35 respectively, to the financial statements. Information on
the share option scheme can also be found in the paragraphs "Share option
scheme" below.
Purchase, sale or redemption of the Company's listed securities
During the year, neither the Company nor any of its subsidiaries purchased, sold
or redeemed any of the Company's listed securities.
Reserves
Changes to the reserves of the Company and the Group during the year are set out
in the consolidated statement of changes in equity and in note 36 to the
financial statements.
Financial summary
A summary of the audited results and of the audited assets and liabilities of
the Group for the last five financial years is set out on pages 152 to 154.
Connected Transactions
As at December 31, 2006, China Netcom Group, as the ultimate controlling
shareholder of the Company, beneficially owned 69.88% of the Company's issued
share capital. China Netcom Group is therefore a connected person of the
Company. On September 12, 2005, China Netcom Group, CNC China and China Netcom
Group New Horizon Communications Corporation Limited ("New Horizon
Communications", an indirect wholly-owned subsidiary of the Company) entered
into certain connected transaction agreements to regulate the continuing
connected transactions between China Netcom Group and its subsidiaries or
associates (other than the Group) on one hand and the Group on the other in
respect of the Group's operation in 12 provinces, autonomous regions and
municipalities in China. CNC China completed its merger with New Horizon
Communications on November 3, 2006 ("Merger"). Pursuant to the aforesaid
connected transaction agreements, all New Horizon Communications' rights and
obligations under the agreements were taken over by CNC China after the Merger
and the agreements remained effective between China Netcom Group and CNC China.
Therefore, certain ongoing transactions between CNC China and New Horizon
Communications (CNC China alone as one party after the Merger) on the one hand
and China Netcom Group and its subsidiaries or associates (other than the Group)
on the other ("Continuing connected transactions relating to CNC China and New
Horizon Communications") were conducted in accordance with the provisions of the
connected transaction agreements entered into on September 12, 2005.
The Company established China Netcom Group System Integration Limited
Corporation ("China Netcom System Integration") as an indirect wholly-owned
subsidiary in April 2006. China Netcom System Integration entered into certain
transactions with China Netcom Group (and its subsidiaries), and on November 7,
2006, China Netcom System Integration entered into a connected transaction
agreement ("Information and Communications Technology Agreement") with China
Netcom Group.
On June 30, 2004, Asia Netcom, a former wholly-owned subsidiary of the Company,
entered in certain transactions and a series of connected transaction agreements
with East Asia Netcom Ltd. ("EANL"), a connected person of the Company by virtue
of being an indirect wholly-owned subsidiary of China Netcom Group. On June 2,
2006, a share purchase agreement was entered among the Company, China Netcom
Corporation International Limited ("CNCI", a wholly-owned subsidiary of the
Company), and two third parties, pursuant to which CNCI sold 100% of its equity
interests in Asia Netcom. The share sale was completed on August 22, 2006. After
completion of the share sale, transactions between Asia Netcom and EANL will no
longer constitute continuing connected transactions of the Company under the
Rules Governing the Listing of Securities on The Stock Exchange of Hong Kong
Limited (the "Listing Rules").
49
These transactions between CNC China, New Horizon Communications and China
Netcom Group, between China Netcom System Integration and China Netcom Group,
and between Asia Netcom and EANL (the "Continuing Connected Transactions")
constitute continuing connected transactions of the Company under the Listing
Rules. Details of the Continuing Connected Transactions are set out below and in
note -- to the financial statements. For the financial year ended December 31,
2006, the Continuing Connected Transactions have not exceeded their respective
upper limits set by the Hong Kong Stock Exchange. In respect of all the
connected transactions of the Company as stated in this report, the Company has
complied with the disclosure requirements under the Listing Rules in force from
time to time.
Continuing connected transactions relating to CNC China and New Horizon
Communications
Domestic Interconnection Settlement Agreement
Pursuant to the Domestic Interconnection Settlement Agreement:
New Horizon Communications, CNC China (New Horizon Communications and CNC China
are collectively referred to as the "Combined Operating Group") and China Netcom
Group agreed to interconnect the network of China Netcom Group on the one hand
and that of the Combined Operating Group on the other and settle the charges
received in respect of domestic long distance voice services within their
respective service regions on a quarterly basis.
For domestic long distance voice services between China Netcom Group and the
Combined Operating Group, the telephone operator in the location of the calling
party makes a settlement payment to the telephone operator in the location of
the called party at the rate of RMB0.06 per minute (in case where the call
terminates within the network of either China Netcom Group or the Combined
Operating Group) or RMB0.09 per minute (in case where the call terminates
outside the network of either China Netcom Group or the Combined Operating
Group).
The rates of RMB0.06 per minute and RMB0.09 per minute mentioned above shall be
adjusted with reference to the relevant standards, tariffs or policies
formulated by the relevant regulatory authorities in China from time to time.
International Long Distance Voice Services Settlement Agreement Pursuant to the
International Long Distance Voice Services Settlement Agreement:
CNC China and China Netcom Group agreed to interconnect the networks of China
Netcom Group and CNC China and settle the charge received in respect of
international long distance voice services on a quarterly basis.
For outbound international calls, China Netcom Group reimburses CNC China for
any amount it has paid to overseas telecommunications operators. The revenues
received by China Netcom Group less the amount paid to overseas
telecommunications operators are shared between China Netcom Group and CNC China
in proportion to the estimated costs incurred by China Netcom Group and the
Combined Operating Group in connection with the provision of outbound
international long distance voice services.
For inbound international calls, the revenues received by CNC China from
overseas telecommunications operators (other than the Company and its controlled
entities) less the amount paid to China Netcom Group at the rate of RMB0.06 per
minute (in case where the call terminates within the network of China Netcom
Group) or RMB0.09 per minute (in case where the call terminates within the
network of other operators) are shared between China Netcom Group and CNC China
in proportion to the estimated costs incurred by China Netcom Group and the
Combined Operating Group in connection with the provision of inbound
international long distance voice services.
The rates of RMB0.06 per minute and RMB0.09 per minute mentioned above shall be
adjusted with reference to the relevant standards, tariffs or policies
formulated by the relevant regulatory authorities in China from time to time.
Property Leasing Agreement
Pursuant to the Property Leasing Agreement:
(i) The Combined Operating Group leases to China Netcom Group some certain
properties located throughout the Combined Operating Group's service
regions, for use as offices and other ancillary purposes; and
(ii) China Netcom Group leases to the Combined Operating Group some certain
properties located throughout the Combined Operating Group's service
regions, for use as offices, telecommunications equipment sites and other
ancillary purposes.
50
The charges payable by Combined Operating Group and by China Netcom Group are
based on market rates or the depreciation and maintenance charges in respect of
each property, provided such depreciation and maintenance charges shall not be
higher than the market rates. The charges are payable quarterly in arrears and
are subject to review every year to take into account the then prevailing market
rates of the properties leased in that year.
Property Sub-leasing Agreement
Pursuant to the Property Sub-leasing Agreement:
China Netcom Group agreed to sub-let to Combined Operating Group certain
properties owned by and leased from independent third parties, for use as
offices, telecommunications equipment sites and other ancillary purposes.
The amounts payable by Combined Operating Group under the Property Sub-leasing
Agreement are the same as the rental charges and other fees (including
management fees) payable by China Netcom Group to the relevant third parties.
Master Sharing Agreement
Pursuant to the Master Sharing Agreement:
(i) The Combined Operating Group will provide customer relationship
management services for large enterprise customers of China Netcom Group;
(ii) The Combined Operating Group will provide network management services to
China Netcom Group;
(iii) The Combined Operating Group will share with China Netcom Group the
services provided by administrative and managerial staff in respect of
central management of the business operations, financial control,
operation and maintenance of network, human resources and other related
matters of both the Combined Operating Group and China Netcom Group;
(iv) The Combined Operating Group will provide to China Netcom Group
supporting services such as billing and settlement provided by the
business support centre;
(v) China Netcom Group will provide to the Combined Operating Group
supporting services, including telephone card production, development and
related services and IC card inter-provincial and inter-network clearing
services;
(vi) China Netcom Group will provide to the Combined Operating Group certain
other shared services, including advertising, publicity, research and
development, business hospitality, maintenance and property management;
and
(vii) China Netcom Group will provide certain office space in its headquarters
to the Combined Operating Group for use as its principal executive
office.
(viii) The Combined Operating Group and China Netcom Group will share the
revenues received by China Netcom Group from other operators whose
networks interconnect with the Internet backbone network of China Netcom
Group and will share the monthly connection fee that China Netcom Group
pays to the State Internet Switching Centre.
The Combined Operating Group and China Netcom Group own certain equipment and
facilities forming the Internet backbone network of China Netcom Group. This
Internet backbone network interconnects with the networks of other operators.
Such interconnection generates revenue which is settled with China Netcom Group
and shared between China Netcom Group and the Combined Operating Group under the
Master Sharing Agreement.
The services set out in paragraphs (i) to (vii) above and the revenue and fee
set out in paragraph (viii) above are shared between the Combined Operating
Group and China Netcom Group on an on-going basis from time to time and the
aggregate costs incurred by the Combined Operating Group or China Netcom Group
for the provision of the services set out in paragraphs (i) to (vii) above and
the revenue and fee receivable and payable by China Netcom Group as referred to
in paragraph (viii) above are apportioned between the Combined Operating Group
and China Netcom Group according to their respective total assets value as shown
in their respective financial statements on an annual basis.
51
Engineering and Information Technology Services Agreement
The Engineering and Information Technology Services Agreement governs the
arrangements with respect to the provision of certain engineering and
information technology-related services to the Combined Operating Group by China
Netcom Group, which include planning, surveying and design services in relation
to telecommunications engineering projects, construction services in relation to
telecommunications engineering projects, supervision services in relation to
telecommunications engineering projects and information technology services.
The charges payable for engineering and information technology-related services
described above are determined with reference to market rates. In addition,
where the value of any single item of engineering design of supervision-related
service exceeds RMB0.5 million or where the value of any single item of
engineering construction-related service exceeds RMB2 million, the award of such
services will be subject to tender. The charges are settled between the Combined
Operating Group and China Netcom Group as and when the relevant services are
provided.
Materials Procurement Agreement
Pursuant to the Materials Procurement Agreement, the Combined Operating Group
may request China Netcom Group to act as its agent for the procurement of
imported and domestic telecommunications equipment and other domestic
non-telecommunications equipment, and may purchase from China Netcom Group
certain products, including cables, modems and yellow pages telephone
directories. China Netcom Group further agreed to provide to the Combined
Operating Group storage and transportation services related to the procurement
and purchase of materials or equipment.
Commission and/or charges for the domestic materials procurement services shall
not exceed the maximum rate of 3% of the contract value. Commission and/or
charges for the above imported materials procurement services shall not exceed
the maximum rate of 1% of the contract value. The price for the purchase of
China Netcom Group's products is determined with reference to the following
principles and limits (the "Pricing Principles"):
(a) the government fixed price;
(b) where there is no government fixed price but a government guidance price
exists, the government guidance price;
(c) where there is neither a government fixed price nor a government guidance
price, the market price; or
(d) where none of the above is applicable, the price to be agreed between the
relevant parties and determined on a cost-plus basis.
Commission charges for the storage and transportation services are determined
with reference to market rates.
Payments under the Materials Procurement Agreement will be made as and when the
relevant equipment or products have been procured and delivered.
Ancillary Telecommunications Services Agreement
The Ancillary Telecommunications Services Agreement governs the arrangements
with respect to the provision of ancillary telecommunications services to the
Combined Operating Group by China Netcom Group, which include certain
telecommunications pre-sale, on-sale and after-sale services, sales agency
services, printing and invoice delivery services, maintenance of telephone
booths, customers acquisition and servicing and other customers' services.
The charges payable for the services described above are determined with
reference to the Pricing Principles, and the service charges are settled between
the Combined Operating Group and China Netcom Group as and when the relevant
services are provided.
Support Services Agreement
Pursuant to the Support Services Agreement, China Netcom Group provides the
Combined Operating Group with various support services, including equipment
leasing (other than equipment covered under the Telecommunications Facilities
Leasing Agreement) and maintenance services, motor vehicles services, security
services, basic construction agency services, research and development services,
employing training services and advertising services and other support services.
The charges payable for the services described above are determined with
reference to the Pricing Principles, and are settled between the Combined
Operating Group and China Netcom Group as and when relevant services are
provided.
52
Telecommunications Facilities Leasing Agreement
Pursuant to the Telecommunications Facilities Leasing Agreement, China Netcom
Group leases inter-provincial fiber-optic cables within the Combined Operating
Group's service regions to the Combined Operating Group, and leases certain
international telecommunications resources (including international
telecommunications channel gateways, international telecommunications service
gateways, international submarine cable capacity, international land cables and
international satellite facilities) to the Combined Operating Group, and China
Netcom Group leases certain other telecommunications facilities required by the
Combined Operating Group for its operations.
The rental charges and service charges for the leasing of inter-provincial
fibre-optic cables, international telecommunications resources and other
telecommunications facilities are based on the annual depreciation charges of
such fibre-optic cables, resources and telecommunications facilities provided
that such charges shall not be higher than market rates. The Combined Operating
Group shall be responsible for the on-going maintenance of such inter-provincial
fibre-optic cables and international telecommunications resources. The Combined
Operating Group and China Netcom Group shall determine and agree on which party
is to provide maintenance services to the other telecommunications facilities
leased by China Netcom Group to the Combined Operating Group based on the
latter's operational requirements. Unless otherwise agreed by the Combined
Operating Group and China Netcom Group, such maintenance service charges shall
be borne by the Combined Operating Group. If China Netcom Group shall be
responsible for maintaining the other telecommunications facilities that it
leases to the Combined Operating Group based on the latter's operational
requirements, the Combined Operating Group shall pay to China Netcom Group the
relevant maintenance service charges which shall be determined with reference to
market rates. Where there are no market rates, the maintenance charges shall be
agreed between the parties and determined on a cost-plus basis. The net rental
charges and service charges due to China Netcom Group under the
Telecommunications Facilities Leasing Agreement will be settled between the
Combined Operating Group and China Netcom Group on a quarterly basis.
Continuing Connected Transaction Relating to China Netcom System Integration
Information and Communications Technology Agreement
Pursuant to Information and Communications Technology Agreement:
(i) China Netcom System Integration (and its subsidiaries) provides
information and communications technology services to China Netcom Group
(and its subsidiaries (other than the Group)), which include the system
integration services, software development services, operational
maintenance services, consultancy services, equipment leasing-related
services and product sales and distribution related services.
(ii) China Netcom System Integration will also subcontract services ancillary
to the provision of information communication technology services, namely
the system installation and configuration services, to the subsidiaries
and branches of China Netcom Group in China Netcom Group's southern
service region in the PRC.
The charges payable for the services provided under the Information and
Communications Technology Agreement, are determined with reference to the
following pricing principles and limits:
(i) The government fixed price;
(ii) Where there is no government fixed price but a government guidance price
exists, the government guidance price; or
(iii) Where there is neither a government price nor a government guidance
price, the market price.
In relation to the charges payable for the services provided under the
Information and Communications Technology Agreement that are to be determined
with reference to the market price:
(a) If the value of any single item of system installation and configuration
services provided by China Netcom Group (and its subsidiaries) to China
Netcom System Integration (and its subsidiaries) exceeds RMB0.3 million,
the award of such services will be subject to tender; or
(b) If the value of any single item of system integration, software
development, operational maintenance, consultancy and equipment
leasing-related services exceeds RMB0.5 million, or where the value of
any single item of product sales and distribution related services
exceeds RMB2 million, the award of such services will be subject to
tender.
53
Continuing connected transactions relating to Asia Netcom
Capacity Purchase Agreement
Asia Netcom and its subsidiaries receive from EANL and its subsidiaries a
certain amount of long-term telecommunications capacity on the submarine
network. The purchased capacity consists of (i) an initial fixed amount of
capacity; (ii) an additional amount of capacity up to a maximum figure to be
activated upon written notice to EANL; and (iii) further additional amount of
capacity that may be ordered within three years following the date of the
Capacity Purchase Agreement.
The charges payable by Asia Netcom to EANL for the initial capacity and charges
payable for the additional capacity activated are based on market rates
determined by reference to a similar transaction between Asia Netcom and a third
party in January 2004 ("Benchmark Transaction") duly adjusted to take into
account of advance receipt of payment prior to the delivery of the capacity. The
pricing of the further additional capacity is to be determined between Asia
Netcom and EANL prior to the placement of the actual order for such capacity.
In addition to the above charges, Asia Netcom pays EANL an annual operation and
maintenance fee equal to 4% of the total charges payable by Asia Netcom to EANL
for the capacity activated and ordered under the Capacity Purchase Agreement (in
so far as such capacity has not been terminated) which is based on current
market rate.
Capacity Lease Agreement
Pursuant to the Capacity Lease Agreement with EANL, Asia Netcom and its
subsidiaries lease from EANL and its subsidiaries a fixed amount of capacity on
EANL's telecommunications network, and may order additional lease capacity from
EANL and its subsidiaries.
EANL and its subsidiaries agreed to permit Asia Netcom or any of its
subsidiaries to interconnect its communications system with the leased capacity,
and to connect such amount of capacity to the facilities of its backhaul
suppliers and/or local exchange carrier. Furthermore, upon request by Asia
Netcom, EANL and its subsidiaries are to use their best efforts to provide to
Asia Netcom or its subsidiaries with local connectivity with end-users in
jurisdictions where Asia Netcom or its subsidiaries are not otherwise authorised
to provide services.
The charges payable by Asia Netcom to EANL for the initial lease capacity are
determined based on market rates by reference to the Benchmark Transaction, as
adjusted to take into account the particular circumstances under the Capacity
Lease Agreement. The pricing for any additional lease capacity is to be agreed
by Asia Netcom and EANL prior to the order for such capacity. These charges are
payable quarterly in arrears.
The connections charges payable by Asia Netcom to EANL is the pro rata share of
reasonable and actual expenses incurred by EANL in making such connections. The
local connectivity charges payable by Asia Netcom to EANL is EANL's lowest
wholesale price without discount, or, if the local connectivity is provided by
an unrelated carrier, the amount charged to EANL by such unrelated carrier,
without surcharge. Such charges for local connectivity are payable quarterly in
arrears.
Management Services Agreement
Pursuant to the Management Services Agreement, Asia Netcom and its subsidiaries
provide EANL and its subsidiaries with certain services, including government
and corporate affairs services, treasury services, financial services,
information technology services, legal and corporate secretarial services, tax
services, payment services, and comprehensive engineering and operation services
in relation to the submarine network.
The charges payable for the above services (except for the payment services) are
determined on the basis of costs plus reasonable profits, but cannot exceed the
market price for the provision of such services.
The charges payable for the payment services are the amounts required to
reimburse all payments made by Asia Netcom and its subsidiaries on behalf of
EANL and its subsidiaries in performing such services.
54
In the opinion of the independent non-executive directors, the Continuing
Connected Transactions were entered into by the Group:
(a) in the ordinary and usual course of its business;
(b) either on normal commercial terms or, where there are no sufficient
comparables, on terms no less favourable than the terms the Company could
have obtained from an independent third party; and
(c) in accordance with the relevant agreements governing such transactions and
on terms that are fair and reasonable and in the interests of the
shareholders of the Company as a whole.
The board of directors has received a letter from the auditors of the Company
stating that the Continuing Connected Transactions:
(A) have received the approval of the Company's board of directors;
(B) were carried out in accordance with the pricing policy as stated on pages
58 to 63 of this report;
(C) have been entered into in accordance with the relevant agreements governing
the Continuing Connected Transactions; and
(D) have not exceeded their respective upper limits set by the The Stock
Exchange of Hong Kong Limited ("Hong Kong Stock Exchange") for the
financial year ended December 31, 2006.
Directors
The directors for this financial year are:
Executive Directors
Zhang Chunjiang
Zuo Xunsheng (appointed on May 17, 2006)
Zhang Xiaotie
Miao Jianhua
Jiang Weiping (resigned on May 17, 2006)
Non-executive Directors
Tian Suning (re-designated as a non-executive
director on May 17, 2006)
Li Liming
Yan Yixun
Jose Maria Alvarez-Pallete
Mauricio Sartorius (appointed on December 19, 2006,
ceased to be the alternate
director to Mr. Jose Maria
Alvarez-Pallete on December 19,
2006)
55
Independent Non-executive Directors
John Lawson Thornton
Victor Cha Mou Zing
Qian Yingyi
Hou Ziqiang
Timpson Chung Shui Ming
Alternate Director
Hong Chen Jin (appointed on December 19, 2006)
(alternate to Mr. Jose Maria Alvarez-Pallete
and Mauricio Sartorius )
Notes:
(a) Mr. Li Fushen was appointed as an Executive Director of the Company on
January 15, 2007. (b) Ms. Li Liming resigned from her position as a
Non-Executive Director on January 15, 2007.
In accordance with Article 99 of the Company's Articles of Association, Dr. Qian
Yingyi, Mr. Hou Ziqiang, Mr. Yan Yixun, and Mr. Timpson Chung Shui Ming will
retire by rotation at the forthcoming annual general meeting of the Company and,
being eligible, offer themselves for re-election. In accordance with Article 103
of the Company's Articles of Association, Mr. Zuo Xunsheng, Mr Li Fushen and Mr.
Mauricio Sartorius will also retire at the forthcoming annual general meeting
and, being eligible, offer themselves for re-election.
The biographical details of the directors proposed for re-election at the
forthcoming annual general meeting ("Directors for Re-election") are set out on
pages 16 to 20. Except as disclosed in such biographical details, the Directors
for Re-election have not held any other directorships in any listed public
companies in the last three years. Further, except as noted in the biographical
details, none of the Directors for Re-election is connected with any directors,
senior management or substantial or controlling shareholders of the Company and,
except for the share options granted to the Directors for Re-election (other
than Dr. Qian Yingyi, Mr. Hou Ziqiang, Mr. Timpson Chung Shui Ming and Mr.
Mauricio Sartorius) as set out in the paragraph "Share option scheme" below,
none of them has any interests in the shares of the Company within the meaning
of Part XV of the Securities and Futures Ordinance ("SFO").
The service contracts for Mr. Zuo Xunsheng and for Mr. Li Fusheng do not provide
for a specified length of services. Dr. Qian Yingyi, Mr. Hou Ziqiang, Mr. Yan
Yixun, Mr. Timpson Chung Shui Ming and Mr. Mauricio Sartorius have not entered
into any service contract with the Company. Each of the Directors for
Re-election will be subject to retirement by rotation and re-election at annual
general meetings of the Company at least every three years. Each of such
directors (other than Executive Directors and all Non-Executive Directors
nominated by China Netcom Group) is entitled to an annual director's fee of
HK$200,000 as proposed by the board of directors and approved by the
shareholders of the Company at the extraordinary general meeting held on
February 14, 2007. Director's fees are payable on a time pro-rata basis for any
non full year's service. Such directors shall also be entitled to an additional
fee of HK$10,000 for each Board meeting which such directors attend. In
addition, Dr. Qian Yingyi is entitled to an additional annual fee of HK$220,000
as a member of the Audit Committee, the Nominating and Corporate Governance
Committee and the Strategy Committee and the chairman of the Compensation
Committee, Mr. Hou Ziqiang is entitled to an additional annual fee of HK$150,000
as a member of the Audit Committee, the Strategy Committee and the Supervision
Committee and Mr. Timpson Chung Shui Ming is entitled to an additional annual
fee of HK$170,000 as the chairman of the Audit Committee, a member of the
Compensation Committee and the Supervision Committee. Such directors shall also
be entitled to an additional fee of HK$5,000 for each committee meeting which
such directors attend. In addition, for the financial year ended December 31,
2006, Mr. Zuo Xunsheng and Mr. Li Fushen received annual basic salary of
RMB290,000 and RMB 261,000, respectively, plus a discretionary bonus and a
discretionary award of share options as determined by the Board with respect to
the directors' performance. The remuneration of these directors has been
determined with reference to the individual's duties, responsibilities and
experience, and to prevailing market conditions.
None of the Directors for Re-election has an unexpired service contract which is
not determinable by the Company or any of its subsidiaries within one year
without payment of compensation, other than under normal statutory obligations.
Save as disclosed herein, there are no other matters relating to the re-election
of the Directors for Re-election that need to be brought to the attention of the
shareholders of the Company nor there is any information to be disclosed
pursuant to any of the requirements of Rule 13.51(2) of the Listing Rules.
56
Directors' interests in contracts
No contract of significance to which the Company, its holding company, or any of
its fellow subsidiaries or subsidiaries was a party and in which a director of
the Company had a material interest, whether directly or indirectly, subsisted
at the end of the year or at any time during the year.
Directors' interest in competing businesses
China Netcom Group is engaged in fixed-line telecommunications business and
other related businesses in the PRC and Asia-Pacific which are similar to that
of the Company. The executive directors of the Company also hold executive
positions with China Netcom Group. On September 6, 2004, China Netcom Group, the
Company and CNC China entered into a non-competition agreement, under which
China Netcom Group undertakes not to compete with the Company in the businesses
as prescribed in the agreement without the Company's prior written consent.
Mr. Zhang Chunjiang, the Company's executive director and Dr. Tian Suning, the
Company's non-executive director, have served as directors of PCCW Limited since
April 1, 2005. Mr. Jose Maria Alvarez-Pallete is a Director of the following
companies: Telefonica S.A., Telefonica Internacional, S.A, Telecomunicacoes de
Sao Paulo, S.A. (listed on the Stock Exchanges of Sao Paulo and New York),
Compania de Telecomunicaciones de Chile, S.A. (listed on the Stock Exchanges of
Santiago de Chile and New York), Telefonica de Espana, Telefonica Moviles S.A.
(listed on the Stock Exchanges of Madrid and New York), Telefonica Moviles
Espana, Telefonica Data, Telefonica Internacional, Telefonica de Argentina
(listed on the Stock Exchanges of Buenos Aires and New York), Telefonica CTC
Chile, Telefonica de Peru S.A.A. (listed on the Stock Exchange of Lima),
Compania de Telefonos de Chile Transmisiones Regionales, Telefonica Larga
Distancia de Puerto Rico, elesp and Cointel. In addition, he is a member of the
Supervisory Board of Cesky Telecom (a company listed on the Stock Exchange of
Prague). Mr. Mauricio Sartorius became the Chief Representative Officer of Asia
of Telefonica Internacional on January 1, 2005. Ms. Hong Chen Jin has been an
alternate director to both Mr. Jose Maria Alvarez-Pallete and Mr. Mauricio
Sartorius since December 19, 2006 and was appointed deputy general manager of
the Asia Representative Office of Telefonica Internacional in early 2005. Apart
from the above, none of the directors of the Company is or was interested in any
business, apart from the Company's business, that competes or competed or is or
was likely to compete, either directly or indirectly, with the Company's
business at any time during the 2006 financial year up to and including the date
of this report.
Directors' and chief executive's interest and short positions in shares,
underlying shares and debentures
Certain directors and the chief executive of the Company personally hold options
to subscribe for ordinary shares of the Company. Details of such options are
disclosed under the paragraph "Share option scheme" below. These share options
were granted to the relevant directors and the chief executive pursuant to the
terms of the share option scheme adopted by the Company.
Apart from those disclosed herein, as at December 31, 2006, none of the
directors nor the chief executive of the Company had any interests or short
positions in any of the shares, underlying shares or debentures of the Company
or any of its associated corporations (within the meaning of the SFO) that is
required to be recorded and kept in the register in accordance with section 352
of the SFO, any interests required to be notified to the Company and the Stock
Exchange pursuant to the Model Code for Securities Transactions by Directors of
Listed Issuers ("Model Code").
Emolument policy
The emolument policy of the Company has always been operation-centred and
performance-oriented, in order to provide the support for the achievement of the
Company's strategic objectives and promote the Company's long-term development.
Employees are remunerated with a combination of a fixed salary, a
performance-based salary and a long-term incentive scheme in the form of a share
option scheme for eligible employees, details of which can be found in the
paragraph "Share option scheme" below.
57
The Company has established Compensation Committee, which is responsible for
making recommendations to the Board on the Company's emolument policy in
relation to all directors, the chief executive officer and other senior
management. The Compensation Committee, on behalf of the Board, determines the
remuneration packages of executive directors and senior management, and make
recommendations to the Board on the remuneration of non-executive directors. In
making such determination, the Compensation Committee considers factors such as
salaries payable by comparable companies, the time commitment and
responsibilities involved in the relevant position, employment conditions
elsewhere in the group of companies to which the Company belongs and the
desirability of performance-based remuneration with reference to corporate goals
and objectives resolved by the Board from time to time. No director is involved
in deciding his or her own remuneration.
Each of Mr. Zhang Chunjiang, Mr. Zuo Xunsheng, Mr. Zhang Xiaotie, Mr. Miao
Jianhua and Dr. Tian Suning (all of them being existing directors of the
Company) and Ms. Li Liming and Mr. Jiang Weiping (being former directors of the
Company) have voluntarily waived their entitlement to directors' fees for the
years of 2005 and 2006. The total waived director's fees for the years of 2005
and 2006 amount to RMB1.666 million and RMB1.526 million respectively.
Employee retirement benefits
Particulars of the employee retirement benefits of the Group are set out in note
4(p)(i) and note 14 to the financial statements.
Share option scheme
The shareholders of the Company passed a resolution on September 30, 2004 to
approve and adopt the share option scheme (the "Share Option Scheme"). On
December 6, 2005, the Board convened a meeting and made minor amendments to the
Share Option Scheme. The shareholders of the Company passed a resolution at an
extraordinary general meeting held on May 16, 2006 to approve certain changes to
the rules of Share Option Scheme so that the benefits to the grantees under the
Share Option Scheme are closely aligned to the performance of the Company and
the individual grantees.
The main contents of the amended Share Option Scheme are as follows:
(a) Purpose of the Share Option Scheme
The purpose of the Share Option Scheme is to provide the Company with a
means to incentivise its middle-to-senior management, to attract and retain
talent and to encourage other eligible participants to enhance the value of
the Company.
(b) Participants of the Share Option Scheme
The directors may invite any person belonging to any of the following
classes of participants to take up options to subscribe for the ordinary
shares of the Company:
(i) The directors (including executive directors and non-executive
directors but not independent non-executive directors);
(ii) Members of the middle-to-senior management; and
(iii) Such class of "specialised professionals" identified by the
Compensation Committee.
For the purpose of sub-paragraph (b)(iii) above, "specialised
professionals" means such professionals or management staff or technical or
marketing staff holding important positions that are important to the
development of the Group's business. The Compensation Committee has the
right to interpret "specialised professionals" and identify them.
58
(c) Maximum number of shares and effective options
(i) The maximum number of shares which may be allotted and issued upon
the exercise of all outstanding options granted and yet to be
exercised under the Share Option Scheme and any other share option
scheme must not in aggregate exceed 30 per cent. of the shares of the
Company then in issue.
(ii) The total number of shares which may be allotted and issued upon the
exercise of all options to be granted under the Share Option Scheme
must not in aggregate exceed 10 per cent. of the shares in issue
immediately after the completion of the global offering of shares
(and American depositary shares) of the Company in November 2004 (the
"General Scheme Limit").
(iii) Subject to (c)(i) above, the Company may seek approval of the
shareholders in general meeting to refresh the General Scheme Limit
and may seek separate approval of the shareholders in general meeting
to grant options beyond the General Scheme Limit.
(iv) "Effective Options" means the share options granted under the Share
Option Scheme, irrespective of whether such options are exercisable
in accordance with the relevant vesting schedule; and "Vesting
Schedule" means the arrangement whereby options can be exercised by
batch in accordance with the timetable pre-determined by the Share
Option Scheme.
(d) As at the latest practicable date prior to the printing of this report, the
total number of securities available for issue under the Share Option
Scheme is 176,193,900, representing 2.65%. of the issued share capital of
the Company as at that date.
(e) Maximum entitlement of each participant
Unless otherwise approved by the shareholders in general meeting, the total
number of shares issued and which may fall to be issued upon the exercise
of the options granted under the Share Option Scheme (including both
exercised or outstanding options) to any participant in any 12-month period
shall not exceed 0.2 per cent. of the issued share capital of the Company
on the date of grant.
(f) Minimum period for which an option must be held before it can be exercised
With respect to the share options granted prior to the listing of the
Company's shares on the Stock Exchange, there is a minimum period of 18
months from the later of the date of grant or the date of the listing of
the shares on the Stock Exchange before an option can be exercised; with
respect to the share options granted after the listing of the Company's
shares on the Stock Exchange, there is a minimum period of 24 months from
the later of the date of grant or the date of the listing of the shares on
the Stock Exchange before an option can be exercised.
(g) Period within which the shares must be taken up under an option
Any option shall lapse if not exercised within 6 years from the later of
the date of grant or the date of the listing and commencement of trading of
the shares on the Stock Exchange.
(h) The basis of determining the exercise price for shares
The exercise price is a price determined by the Board or the Compensation
Committee but shall not be less than the highest of: (i) the closing price
of the shares on the Stock Exchange on the date of grant; (ii) the average
closing price of shares on the Stock Exchange for the five trading days
immediately preceding the date of grant; and (iii) the nominal value of the
shares.
(i) Consideration
No consideration is payable on acceptance of the grant of an option.
(j) The remaining life of the Share Option Scheme
Unless otherwise terminated by the Board of Directors in exercise of its
powers in accordance with the rules governing the Share Option Scheme, the
Share Option Scheme will remain in force for a period of 10 years
commencing on the date on which the Share Option Scheme is adopted.
59
(k) Amendment to and termination of the Share Option Scheme
(i) The Board of the Company may amend any of the provisions of the Share
Option Scheme and the terms of the options at any time.
(ii) Any alterations to the matters set out in the Listing Rules and
alterations which are to the advantage of existing or future grantees
of options shall only be made with the approval of shareholders at
general meeting.
(iii) Any alterations to the terms and conditions of the Share Option
Scheme which are of a material nature shall be approved by the
shareholders of the Company at general meeting, except where the
alterations take effect automatically under the existing terms of the
Share Option Scheme.
(iv) Any change to the authority of the Board in relation to alteration of
the terms of the Share Option Scheme shall be approved by
shareholders of the Company at general meeting. The amended Share
Option Scheme or the terms thereof shall comply with the relevant
requirements of the Listing Rules.
(v) During the effective term of the Share Option Scheme, the Board may
at any time terminate the Share Option Scheme or decide not to grant
any options under the Share Option Scheme, and in such event the
options granted under this Scheme (to the extent not already
exercised) may still be exercisable pursuant to the rules of the
Share Option Scheme or may be cancelled by the Board pursuant to
rules thereof.
(vi) The Share Option Scheme will be terminated upon the expiry of its
effective term and any new share option scheme to be adopted by the
Board shall be approved by the shareholders of the Company at general
meeting.
The Company has granted share options under the Share Option Scheme prior to its
listing on the Hong Kong Stock Exchange and on December 6, 2005. The
shareholders of the Company also passed a resolution at an extraordinary general
meeting held on May 16, 2006 to approve the relevant amendments to the terms of
share options granted to reflect the amended rules of the Share Option Scheme.
60
As at December 31, 2006, the directors, chief executive and employees of the
Company had the following personal interests in options to subscribe for shares
of the Company granted under the Share Option Scheme.
No. of shares
involved in No. of shares No. of shares No. of shares
the options involved in involved in acquired on
outstanding the options the options exercise of Price per share
at the outstanding cancelled options payable for
beginning of at the end of Date of the during during the exercise
the year the year grant of the options the year the year of the options
(HK$)
Directors
Zhang Chunjiang 920,000 920,000 October 22, 2004 -- -- 8.40
Zuo Xunsheng 800,000 480,000 October 22, 2004 -- 320,000 8.40
Zhang Xiaotie 800,000 480,000 October 22, 2004 -- 320,000 8.40
Miao Jianhua 700,000 420,000 October 22, 2004 -- 280,000 8.40
Tian Suning 920,000 920,000 October 22, 2004 -- -- 8.40
Li Liming 700,000 420,000 October 22, 2004 -- 280,000 8.40
Yan Yixun 590,000* 354,000 October 22, 2004 -- 236,000 8.40
(1) Employees and other
persons granted with
options after the date
of listing of the
Company's shares
on the Hong Kong
Stock Exchange 79,320,000 79,034,200 December 6, 2005 285,800 -- 12.45
(2) Employees and other
persons granted with
options before the date
of listing of the
Company's shares
on the Hong Kong
Stock Exchange 151,273,000* 93,618,700 October 22, 2004 1,975,800 55,678,500 8.40
Total 236,023,000 176,646,900 2,261,600 57,114,500
Notes:
* Mr. Yan Yixun has made a commitment that all after-tax proceeds from the
sale of shares acquired on the exercise of his options will be donated to
the disadvantaged groups in society and people and groups in need of
donation.
** The number of shares involved in the options outstanding at the beginning
of the year included the share options granted to Mr. Jiang Weiping
involving a total of 700,000 shares. Mr. Jiang Weiping resigned as
executive director of the Company on May 17, 2006, and he continues to
serve as the general manager of the human resources department of the
Company.
61
(a) The total number of shares involved in the options outstanding represents
2.65 per cent. of the issued share capital of the Company as at the latest
practicable date prior to the printing of this report.
(b) Grantees of the share options granted on October 22, 2004 are entitled to
exercise the options in the following periods:
(i) in respect of 40 per cent. of the options granted, from May 17, 2006
to November 16, 2010;
(ii) in respect of a further 20 per cent. of the options granted, from May
17, 2007 to November 16, 2010;
(iii) in respect of a further 20 per cent. of the options granted, from May
17, 2008 to November 16, 2010; and
(iv) In respect of the remaining 20 per cent. of the options granted, from
May 17, 2009 to November 16, 2010.
(c) Grantees of the share options granted on December 6, 2005 are entitled to
exercise the options in the following periods:
(i) in respect of 40 per cent. of the options granted, from December 6,
2007 to December 5, 2011;
(ii) in respect of a further 20 per cent. of the options granted, from
December 6, 2008 to December 5, 2011;
(iii) in respect of a further 20 per cent. of the options granted, from
December 6, 2009 to December 5, 2011; and
(iv) In respect of the remaining 20 per cent. of the options granted, from
December 6, 2010 to December 5, 2011.
(d) During the year ended December 31, 2006, no share option was granted by the
Company under the Share Option Scheme.
Details of share options exercised during the period:
Weighted average
closing price
per share
immediately Number of shares
before dates of involved in
Period during which options were exercised Exercise price exercise of options Proceeds received the options
(HK$) (HK$) (HK$)
From May 17, 2006 to December 29, 2006 8.40 14.46 479,761,800 57,114,500
Apart from the foregoing, at no time during the year ended December 31, 2006 was
the Company, any of its holding companies or subsidiaries or fellow
subsidiaries, a party for any arrangement to enable the directors or senior
management of the Company or any of their spouses or children under eighteen
years of age to acquire benefits by means of the acquisition of shares in or
debentures of the Company or any other body corporate.
62
Substantial shareholders' and other persons' interests and short positions in
shares and underlying shares
The Company has been notified of the following interests in the Company's issued
shares as at December 31, 2006 amounting to 5 per cent. or more of the ordinary
shares in issue:
Percentage of
Number of ordinary shares interested total issued
directly indirectly share capital (%)
China Network Communications Group Corporation -- 4,945,148,000(1)(2) 74.36%
China Netcom Group Corporation (BVI) Limited 4,647,449,014(1) 297,698,986(1)(2) 74.36%
AllianceBernstein L.P. -- 332,783,700 5.00%
Notes:
(1) China Network Communications Group Corporation ("China Netcom Group")
beneficially owns 4,647,449,014 shares held by its wholly owned subsidiary,
China Netcom Group Corporation (BVI) Limited ("CNC BVI") and 1 share held
by CNC Cayman, Limited, a wholly owned subsidiary of CNC BVI. The
percentage of total issued share capital beneficially held by China Netcom
Group is 69.88%.
(2) China Netcom Group is deemed under the SFO to be interested in 297,698,985
shares held by CNC BVI as trustee on behalf of certain shareholders.
Apart from the foregoing, as at December 31, 2006 no person or corporation had
any interest in 5 per cent. or more of or any short position in the issued share
capital of the Company as recorded in the registers required to be kept under
section 336 of the SFO.
Public Float
As at the date of this report, the Company has maintained the prescribed public
float of not less than 23 per cent. of the issued share capital of the Company
pursuant to the Listing Rules and as agreed with the Hong Kong Stock Exchange,
based on the information that is publicly available to the Company and within
the knowledge of the directors of the Company.
Auditors
A resolution for the reappointment of PricewaterhouseCoopers as auditors of the
Company shall be proposed at the forthcoming annual general meeting.
By order of the board
Zhang Chunjiang
Chairman
Hong Kong, April 2, 2007
63
Notice of Annual General Meeting
Notice is hereby given that the Annual General Meeting of China Netcom Group
Corporation (Hong Kong) Limited will (the "Company") be held on May 22, 2007 at
3:00 p.m. in The Ballroom, Island Shangri-la, Hong Kong for the following
purposes:
As Ordinary Business:
1 To receive and consider the financial statements for the year ended
December 31, 2006 and the Reports of the Directors and the Auditors.
2 To declare a final dividend for the year ended December 31, 2006.
3 To elect Directors.
4 To re-appoint Auditors and authorise the Directors to fix their
remuneration.
And as Special Business, to consider and, if thought fit, to pass the following
as ordinary resolutions:
ORDINARY RESOLUTIONS
5 "THAT:
(a) subject to paragraph (b) below, the exercise by the Directors during
the Relevant Period of all the powers of the Company to purchase
shares of US$0.04 each in the capital of the Company including any
form of depositary receipt representing the right to receive such
shares ("Shares") be and is hereby generally and unconditionally
approved;
(b) the aggregate nominal amount of Shares which may be purchased on The
Stock Exchange of Hong Kong Limited or any other stock exchange on
which securities of the Company may be listed and which is recognised
for this purpose by the Securities and Futures Commission of Hong Kong
and The Stock Exchange of Hong Kong Limited pursuant to the approval
in paragraph (a) above shall not exceed or represent more than 10 per
cent. of the aggregate nominal amount of the share capital of the
Company in issue at the date of passing this Resolution, and the said
approval shall be limited accordingly;
(c) for the purpose of this Resolution "Relevant Period" means the period
from the passing of this Resolution until whichever is the earlier of:
(1) the conclusion of the next annual general meeting of the Company;
(2) the expiration of the period within which the next annual general
meeting of the Company is required by law to be held; and
(3) the revocation or variation of the authority given under this
Resolution by an ordinary resolution of the shareholders of the
Company at a general meeting."
6 "THAT a general mandate be and is hereby unconditionally given to the
Directors to exercise full powers of the Company to allot, issue and deal
with additional shares in the Company (including the making and granting of
offers, agreements and options which might require shares to be allotted,
whether during the continuance of such mandate or thereafter) provided
that, otherwise than pursuant to (i) a rights issue where shares are
offered to shareholders on a fixed record date in proportion to their then
holdings of shares; (ii) the exercise of options granted under any share
option scheme adopted by the Company; or (iii) any scrip dividend or
similar arrangement providing for the allotment of shares in lieu of the
whole or part of a dividend in accordance with the Articles of Association
of the Company, the aggregate nominal amount of the shares allotted shall
not exceed the aggregate of:
(a) 20 per cent. of the aggregate nominal amount of the share capital of
the Company in issue at the date of passing this Resolution, plus
64
(b) (if the Directors are so authorised by a separate ordinary resolution
of the shareholders of the Company) the nominal amount of the share
capital of the Company repurchased by the Company subsequent to the
passing of this Resolution (up to a maximum equivalent to 10 per cent.
of the aggregate nominal amount of the share capital of the Company in
issue at the date of passing this Resolution).
Such mandate shall expire at the earlier of:
(1) the conclusion of the next annual general meeting of the Company;
(2) the expiration of the period within which the next annual general
meeting of the Company is required by law to be held; and
(3) the date of any revocation or variation of the mandate given under
this Resolution by an ordinary resolution of the shareholders of the
Company at a general meeting."
7 "THAT the Directors be and they are hereby authorised to exercise the
powers of the Company referred to in the resolution set out in item 6 in
the notice of this meeting in respect of the share capital of the Company
referred to in paragraph (b) of such resolution."
By order of the Board
Li Fushen
Mok Kam Wan
Joint Company Secretaries
Hong Kong, April 10, 2007
Notes:
1 Any member entitled to attend and vote at the above Meeting is entitled to
appoint one or more proxies to attend and, on a poll, vote in his stead. A
proxy need not be a member of the Company.
2 In order to be valid, a form of proxy together with the power of attorney
or other authority (if any) under which it is signed, or a notarially
certified copy thereof, must be deposited at the Company's registered
office at Room 6701, The Center, 99 Queen's Road Central, Hong Kong at
least 48 hours before the time for holding the above Meeting. Completion
and return of a form of proxy will not preclude a member from attending and
voting in person if he is subsequently able to be present.
3 The Board of Directors has recommended a final dividend for the year ended
December 31, 2006 of HK$0.553 per share and, if such dividend is declared
by the members passing Resolution 2, it is expected to be paid on or about
June 12, 2007 to those shareholders whose names appear on the Company's
register of members on May 22, 2007.
4 The register of members of the Company will be closed from May 17, 2007 to
May 22, 2007 (both days inclusive), during which period no transfer of
shares in the Company will be effected. In order to qualify for the
proposed final dividend, all transfers, accompanied by the relevant share
certificates, must be lodged with the Company's registrar, Computershare
Hong Kong Investor Services Limited, Rooms 1712-1716, 17th Floor, Hopewell
Centre, 183 Queen's Road East, Wan Chai, Hong Kong, not later than 4:30
p.m. on May 16, 2007.
5 Concerning Resolution 5 above, the Directors wish to state that they will
exercise the powers conferred thereby to repurchase shares of the Company
in circumstances which they deem appropriate for the benefit of the
shareholders. The Explanatory Statement containing the information
necessary to enable the shareholders to make an informed decision on
whether to vote for or against the resolution to approve the repurchase by
the Company of its own shares, as required by the Rules Governing the
Listing of Securities on The Stock Exchange of Hong Kong Limited will be
set out in a separate letter from the Company to be enclosed with the 2006
Annual Report.
65
Auditor's Report
To the shareholders of China Netcom Group Corporation (Hong Kong) Limited
(incorporated in Hong Kong with limited liability)
We have audited the consolidated financial statements of China Netcom Group
Corporation (Hong Kong) Limited (the "Company") and its subsidiaries (together,
the "Group") set out on pages 77 to 144, which comprise the consolidated and
Company balance sheets as at December 31, 2006, and the consolidated income
statement, the consolidated statement of changes in equity and the consolidated
cash flow statement for the year then ended, and a summary of significant
accounting policies and other explanatory notes.
Directors' responsibility for the financial statements
The directors of the Company are responsible for the preparation and the true
and fair presentation of these consolidated financial statements in accordance
with Hong Kong Financial Reporting Standards issued by the Hong Kong Institute
of Certified Public Accountants, and the Hong Kong Companies Ordinance. This
responsibility includes designing, implementing and maintaining internal control
relevant to the preparation and the true and fair presentation of financial
statements that are free from material misstatement, whether due to fraud or
error; selecting and applying appropriate accounting policies; and making
accounting estimates that are reasonable in the circumstances.
Auditor's responsibility
Our responsibility is to express an opinion on these consolidated financial
statements based on our audit and to report our opinion solely to you, as a
body, in accordance with section 141 of the Hong Kong Companies Ordinance and
for no other purpose. We do not assume responsibility towards or accept
liability to any other person for the contents of this report.
We conducted our audit in accordance with Hong Kong Standards on Auditing issued
by the Hong Kong Institute of Certified Public Accountants. Those standards
require that we comply with ethical requirements and plan and perform the audit
to obtain reasonable assurance as to whether the financial statements are free
from material misstatement.
An audit involves performing procedures to obtain audit evidence about the
amounts and disclosures in the financial statements. The procedures selected
depend on the auditor's judgment, including the assessment of the risks of
material misstatement of the financial statements, whether due to fraud or
error. In making those risk assessments, the auditor considers internal control
relevant to the entity's preparation and true and fair presentation of the
financial statements in order to design audit procedures that are appropriate in
the circumstances, but not for the purpose of expressing an opinion on the
effectiveness of the entity's internal control. An audit also includes
evaluating the appropriateness of accounting policies used and the
reasonableness of accounting estimates made by the directors, as well as
evaluating the overall presentation of the financial statements.
We believe that the audit evidence we have obtained is sufficient and
appropriate to provide a basis for our audit opinion.
Opinion
In our opinion, the consolidated financial statements give a true and fair view
of the state of affairs of the Company and the Group as at December 31, 2006 and
of the Group's profit and cash flows for the year then ended in accordance with
Hong Kong Financial Reporting Standards and have been properly prepared in
accordance with the Hong Kong Companies Ordinance.
PricewaterhouseCoopers
Certified Public Accountants
Hong Kong, April 2, 2007
66
Consolidated Income Statement
For the year ended December 31, 2006
Year ended December 31
Note 2006 2005
RMB million RMB million
Restated
Note 2
Continuing operations:
Revenues 7 86,921 85,861
Operating expenses
Depreciation and amortization (25,608) (24,919)
Networks, operations and support (14,383) (13,465)
Staff costs 14 (12,151) (12,034)
Selling, general and administrative (13,366) (13,322)
Other operating expenses (2,054) (1,390)
Total operating expenses 8 (67,562) (65,130)
Other income 621 --
Interest income 132 131
Dividend income -- 29
Deficit on revaluation of fixed assets 20(c) (1,524) --
Profit from operations 18,588 20,891
Finance costs 9 (3,888) (3,347)
Profit before taxation 14,700 17,544
Taxation 10 (3,559) (3,430)
Profit for the year from continuing operations 11,141 14,114
The notes on pages 86 to 144 are an integral part of these consolidated
financial statements.
67
Year ended December 31
Note 2006 2005
RMB million RMB million
Restated
Note 2
Discontinued operations:
Profit /(loss) for the year from discontinued
operations 251,819 (226)
Profit for the year 12,960 13,888
Dividends proposed after the balance sheet date 12 3,695 3,196
Earnings per share for profit from continuing
operations attributable to shareholders of the
Company for the year
Basic earnings per share 13 RMB1.68 RMB2.14
Diluted earnings per share 13 RMB1.67 RMB2.13
Earnings/(loss) per share for profit/(loss) from
discontinued operations attributable to
shareholders of the Company for the year
Basic earnings/(loss) per share 13 RMB0.27 RMB(0.03)
Diluted earnings/(loss) per share 13 RMB0.27 RMB(0.03)
Earnings per share for profit attributable to
shareholders of the Company for the year
Basic earnings per share 13 RMB1.95 RMB2.11
Diluted earnings per share 13 RMB1.94 RMB2.10
The notes on pages 86 to 144 are an integral part of these consolidated
financial statements.
68
Consolidated Balance Sheet
As at December 31, 2006
As at December 31
Note 2006 2005
RMB million RMB million
Assets
Current assets
Cash and bank deposits 16 7,571 4,895
Accounts receivable 17 8,283 7,401
Inventories and consumables 18 416 472
Prepayments, other receivables and other current assets 19 1,437 1,484
Due from holding companies and fellow subsidiaries 30 352 247
Total current assets 18,059 14,499
Non-current assets
Fixed assets 20 168,044 168,663
Construction in progress 21 6,355 6,822
Lease prepayments 22 2,364 1,949
Intangible assets 23 1,588 1,393
Deferred tax assets 33 3,459 3,480
Other non-current assets 24 3,966 6,034
Total non-current assets 185,776 188,341
Total assets 203,835 202,840
The notes on pages 86 to 144 are an integral part of these consolidated
financial statements.
69
As at December 31
Note 2006 2005
RMB million RMB million
Liabilities and equity
Current liabilities
Accounts payable 27 17,654 16,719
Accruals and other payables 28 3,056 3,905
Short term commercial papers 29(a)(i) 9,811 --
Short term bank loans 29(a)(ii) 30,980 47,341
Current portion of long term bank and other loans 29(b) 7,304 6,846
Due to ultimate holding company and fellow subsidiaries 30 7,519 8,990
Current portion of deferred revenues 31 7,733 7,975
Current portion of provisions 32 3,736 4,029
Taxation payable 3,009 2,594
Total current liabilities 90,802 98,399
Net current liabilities (72,743) (83,900)
Total assets less current liabilities 113,033 104,441
Non-current liabilities
Long term bank and other loans 29(b) 23,219 18,143
Due to ultimate holding company and fellow subsidiaries 30 5,880 7,840
Deferred revenues 31 6,198 10,925
Provisions 32 2,586 3,174
Deferred tax liabilities 33 1,156 1,324
Other non-current liabilities 16 25
Total non-current liabilities 39,055 41,431
Total liabilities 129,857 139,830
Financed by:
Share capital 34 2,199 2,181
Reserves 71,779 60,829
Shareholders' equity 73,978 63,010
Total liabilities & equity 203,835 202,840
The notes on pages 86 to 144 are an integral part of these consolidated
financial statements.
Zuo Xunsheng Li Fushen
Director Director
The notes on pages 86 to 144 are an integral part of these consolidated
financial statements.
70
Balance Sheet - Company
As at December 31, 2006
As at December 31
Note 2006 2005
RMB million RMB million
Assets
Current assets
Cash and bank deposits 16 1,772 540
Due from subsidiaries 26 9,411 573
Prepayments, other receivables and other current assets 19 268 27
Total current assets 11,451 1,140
Non-current assets
Investments in subsidiaries 26 62,937 58,577
Total assets 74,388 59,717
Liabilities and equity
Current liabilities
Accruals and other payables 28 136 93
Due to subsidiaries 26 12,754 12,820
Due to ultimate holding company -- 150
Total current Liabilities 12,890 13,063
Net current liabilities (1,439) (11,923)
Total assets less current liabilities 61,498 46,654
Financed by:
Share capital 34 2,199 2,181
Reserves 36 59,299 44,473
Shareholders' equity 61,498 46,654
Total liabilities & equity 74,388 59,717
The notes on pages 86 to 144 are an integral part of these consolidated
financial statements.
Zuo Xunsheng Li Fushen
Director Director
71
Consolidated Statement of Changes in Equity
For the year ended December 31, 2006
Attributable to equity holders of the Company
Share Share Capital Statutory Revaluation Other Retained Total
capital premium reserve reserve reserve reserve earnings equity
RMB RMB RMB RMB RMB RMB RMB RMB
million million million million million million million million
(Note 34)
Balance as at January 1, 2005 2,181 42,750 283 723 4,735 5,866 8,224 64,762
Transfer to statutory reserve (Note 11) -- -- -- 6,783 -- -- (6,783) --
Appropriation to statutory reserve (Note 11) -- -- -- 1,044 -- -- (1,044) --
Transfer to retained earnings -- -- -- -- (1,731) (96) 1,827 --
Currency translation differences -- -- -- -- -- (56) -- (56)
Movement of deferred tax recognized in equity
(Note 33) -- -- -- -- 1,097 843 (2,174) (234)
Transfer from retained earnings to other
reserve due to the Acquisition of New
Horizon -- -- -- -- -- 1,040 (1,040) --
Net income/(expense) recognized directly in
equity -- -- -- 7,827 (634) 1,731 (9,214) (290)
Profit for the year -- -- -- -- -- -- 13,888 13,888
Total income recognized for 2005 -- -- -- 7,827 (634) 1,731 4,674 13,598
Contributions from owner -- -- -- -- -- -- 68 68
Distributions to owner -- -- -- -- -- -- (930) (930)
Dividend for 2004 distributed during 2005
(Note 12) -- -- -- -- -- -- (259) (259)
Net assets distributed to owner in accordance
with reorganization for the Acquisition of
New Horizon -- -- -- -- -- -- (1,533) (1,533)
Consideration for the Acquisition of New
Horizon (Note 1) -- -- -- -- -- (12,800) -- (12,800)
Share-based payments -- -- 104 -- -- -- -- 104
Balance as at December 31, 2005 2,181 42,750 387 8,550 4,101 (5,203) 10,244 63,010
The notes on pages 86 to 144 are an integral part of these consolidated
financial statements.
72
Attributable to equity holders of the Company
Share Share Capital Statutory Revaluation Other Retained Total
capital premium reserve reserve reserve reserve earnings equity
RMB RMB RMB RMB RMB RMB RMB RMB
million million million million million million million million
(Note 34)
Balance as at January 1, 2006 2,181 42,750 387 8,550 4,101 (5,203) 10,244 63,010
Transfer to statutory reserve (Note 11) -- -- -- 2,406 -- -- (2,406) --
Appropriation to statutory reserve
(Note 11) -- -- -- 855 -- -- (855) --
Transfer to retained earnings -- -- -- -- (1,933) (51) 1,984 --
Revaluation surplus (Note 20) -- -- -- -- 1,071 -- -- 1,071
Currency translation differences (i) -- -- -- -- -- (79) -- (79)
Movement of deferred tax recognized in
equity (Note 33) -- -- -- -- (353) -- -- (353)
Net income/(expense) recognized directly
in equity -- -- -- 3,261 (1,215) (130) (1,277) 639
Profit for the year -- -- -- -- -- -- 12,960 12,960
Total income recognized for 2006 -- -- -- 3,261 (1,215) (130) 11,683 13,599
Dividend for 2005 distributed during
2006 (Note 12) -- -- -- -- -- -- (3,196) (3,196)
Exercise of share options (Note 34) 18 545 (73) -- -- -- -- 490
Share-based payments -- -- 75 -- -- -- -- 75
Balance at December 31, 2006 2,199 43,295 389 11,811 2,886 (5,333) 18,731 73,978
(i) Including accumulated currency translation differences realized upon
disposal of ANC Group amounting to RMB29 million (See Note 37(c))
The notes on pages 86 to 144 are an integral part of these consolidated
financial statements.
73
Consolidated Statement of Cash Flow
For the year ended December 31, 2006
Year ended December 31
Note 2006 2005
RMB million RMB million
Restated
Note 2
Cash flows from operating activities
Net cash inflows from operations 37(a) 41,050 40,632
Interest received 132 131
Dividends received -- 29
Interest paid (3,564) (3,244)
Profits tax paid (3,668) (4,065)
Cash inflow from operating activities of continuing operations 33,950 33,483
Cash inflow from operating activities of discontinued operations 25 183 74
Net cash inflow from operating activities 34,133 33,557
Cash flows from investing activities
Purchase of fixed assets and construction in progress (25,978) (26,967)
Prepayments for leased network capacity (318) --
Prepayments for leased land (178) (280)
Sale of fixed assets 126 49
Sale of other investments -- 2,874
Net decrease in time deposits with maturity over three months -- 28
Other income 375 --
Cash outflow from investing activities of continuing operations (25,973) (24,296)
Cash inflow/(outflow) from investing activities of discontinued operations 25982 (312)
Net cash outflow from investing activities (24,991) (24,608)
Cash flows from financing activities
New bank loans and other loans 89,002 77,578
Issuance of short term commercial papers 9,676 --
Repayment of bank loans (98,512) (85,289)
Capital element of finance lease payments (1,347) (909)
Payment of prior year distribution to owner (600) (1,566)
Payment to ultimate holding company for the Acquisition of New Horizon (1,960) (3,000)
Dividends payment (3,196) (259)
Loans to fellow subsidiaries and related parties -- (1,319)
Issuance of shares upon exercise of share options 490 --
Cash outflow from financing activities of continuing operations (6,447) (14,764)
Cash inflow from financing activities of discontinued operations 25 -- 108
Net cash outflow from financing activities (6,447) (14,656)
The notes on pages 86 to 144 are an integral part of these consolidated
financial statements.
74
Year ended December 31
Note 2006 2005
RMB million RMB million
Restated
Note 2
Cash flows from continuing operations 1,530 (5,577)
Cash flows from discontinued operations 1,165 (130)
Increase/(decrease) in cash and cash equivalents 2,695 (5,707)
Cash and cash equivalents at beginning of year 4,874 10,581
Cash and cash equivalents at end of year 16 7,569 4,874
The notes on pages 86 to 144 are an integral part of these consolidated
financial statements.
75
Notes to the Consolidated Financial Statements
1 The Group and its principal activities
Background of the Group
China Netcom Group Corporation (Hong Kong) Limited (the "Company") was
incorporated in the Hong Kong Special Administrative Region ("Hong Kong")
of the People's Republic of China ("PRC") on October 22, 1999 as a limited
liability company under the Hong Kong Companies Ordinance. The shares of
the Company were listed on The Stock Exchange of Hong Kong Limited on
November 17, 2004 and the ADSs of the Company were listed on The New York
Stock Exchange Inc. on November 16, 2004. Prior to a reorganization
conducted for the listing of the shares of the Company (the "Listing
Reorganization"), the Company's ultimate holding company was China Netcom
(Holdings) Company Limited ("China Netcom Holdings").
The Company, China Netcom Holdings and China Network Communications Group
Corporation (the "China Netcom Group") underwent reorganization on June 30,
2004. China Netcom Group, established by the State Council of the PRC
("State Council") in May 2002, was formed under a restructuring plan
approved by the State Council based on the fixed line telecommunication
section from the Northern operations originally operated by China
Telecommunication Corporation ("China Telecom Group"). Immediately after
the Listing Reorganization, China Netcom Group became the ultimate holding
company of the Group and the Company and its subsidiaries (the "Group")
owned the assets and liabilities of fixed line telecommunications
businesses originally owned by China Netcom Group in the six northern
provinces and municipalities (namely Beijing Municipality, Tianjin
Municipality, Hebei Province, Liaoning Province, Shandong Province and
Henan Province) and two southern province and municipality (namely Shanghai
Municipality and Guangdong Province) in the PRC and the assets and
liabilities of fixed line telecommunications business in Asia Pacific
Region originally owned by the Group.
Pursuant to a resolution passed at the extraordinary general meeting of the
shareholders on October 25, 2005, the Company acquired the principal
telecommunications operations, assets and liabilities in the four Northern
provinces/autonomous region, namely Shanxi Province, Neimenggu Autonomous
Region, Jilin Province and Heilongjiang Province from China Netcom Group.
In anticipation of the acquisition, China Netcom Group established China
Netcom Group New Horizon Communications Corporation (BVI) Limited ("New
Horizon (BVI)") and China Netcom Group New Horizon Communications
Corporation Limited ("New Horizon Communications"). China Netcom Group's
fixed line telecommunications businesses in the four northern
provinces/autonomous region were transferred to New Horizon (BVI) through a
group restructuring. Upon the completion of the acquisition of the entire
interest of New Horizon (BVI) and New Horizon Communications from China
Netcom Group (hereinafter the "Acquisition of New Horizon'), the Company
controlled the fixed line telecommunications businesses in the four
Northern provinces/autonomous region. On November 3, 2006, New Horizon
Communications was deregistered and its operations were merged into the
Company's wholly owned subsidiary, China Netcom (Group) Company Limited
("CNC China"). The Group leased from China Netcom Group the
inter-provincial fiber-optic cables of the service regions the Group
operates in the PRC and which had been retained from China Netcom Group.
After taking into consideration the financial position and prospects of the
acquired businesses and the conditions of the capital market, the
consideration for Acquisition of New Horizon was determined at RMB12,800
million. The consideration consists of an initial cash payment of RMB3,000
million and deferred payments of RMB9,800 million. The deferred payments
will be settled in half-yearly installments over five years. The interest
charged on the deferred payments is to be calculated at 5.265% per annum.
Following the Listing Reorganization and the Acquisition of New Horizon,
the Group is the dominant provider of fixed line telephone services,
broadband, other internet-related services, and business and data
communications services in ten northern provinces, municipalities and
autonomous region, namely Beijing Municipality, Tianjin Municipality, Hebei
Province, Liaoning Province, Shandong Province, Henan Province, Shanxi
Province, Neimenggu Autonomous Region, Jilin Province, and Heilongjiang
Province. The Group also provides telecommunications services to selected
business and residential customers in two southern municipality and
province, namely Shanghai Municipality and Guangdong Province in the PRC.
76
1 The Group and its principal activities (continued)
Background of the Group (continued)
The Group is also the holder of licenses that are necessary to own and
operate the assets held outside the PRC in such key countries and regions
such as United States, Hong Kong and Japan.
The Group's PRC operations are subject to the supervision of and regulation
by the PRC Government. The Ministry of Information Industry ("MII"),
pursuant to the authority delegated by the State Council, is responsible
for formulating the telecommunications industry policies and regulations
(the "Telecommunications Regulations").
Under the Telecommunications Regulations, all telecommunications operators
in the PRC must obtain a telecommunications service operating license from
the MII or from the provincial telecommunications administrations.
Providers of value-added services within a single province are required to
obtain licenses from provincial telecommunications administrations.
Providers of basic telecommunications services and providers of value-added
services in two or more provinces, autonomous regions and municipalities
are required to obtain licenses from the MII. CNC China, the Group's
principal operating subsidiary in China, as an indirect subsidiary of China
Netcom Group, has the right to operate the Group's telecommunications
business in twelve service regions under the authorization of China Netcom
Group, which holds the license required for operating the Group's
telecommunications businesses in the PRC.
On June, 2, 2006, the Group entered into an agreement with third party
buyers to dispose of its entire interest in the Asia Netcom Corporation
Limited (the "ANC Group") for an aggregate cash consideration of US$168.84
million, at fair value determined by both parties. The transaction was
completed on August 22, 2006.
Currently, the Group's principal services consist of:
o Fixed line telephone services (including the personal handy phone
system (PHS) services), comprising:
(a) Local, domestic long distance and international long distance
services;
(b) Value-added services, including caller identity, telephone
information services; and
(c) Interconnection services provided to other domestic
telecommunications service providers including the fellow
subsidiary owned by China Netcom Group operating outside the
twelve service regions;
o Broadband services and other Internet-related services;
o Information Communications Technology Services, including system
integration, software development, maintenance services, consultancy
services, product sales and agency services, and equipment leasing
services;
o Business and data communications services, including integrated
regional data and voice communications services.
77
2 Basis of presentation
The financial statements have been prepared in accordance with Hong Kong
Financial Reporting Standards ("HKFRS"), Hong Kong Accounting Standards
("HKAS") and interpretations issued by the Hong Kong Institute of Certified
Public Accountants ("HKICPA"). They have also been prepared in accordance
with the disclosure requirements of the Companies Ordinance and Rules
Governing the Listing Securities on The Stock Exchange of Hong Kong
Limited. They have been prepared under the historical cost convention
modified by the revaluation of certain fixed assets as explained in the
accounting policies in Note 4 below, and on a going concern basis.
A significant percentage of the Group's funding requirements is achieved
through short term borrowings. Consequently, the balance sheet indicates a
significant working capital deficit. In the past, a substantial portion of
the Group's short term borrowings have been rolled over upon maturity. In
addition, on July 20, 2006, the Group issued commercial papers to raise
additional funding of RMB10 billion. Based on the Group's history of
obtaining finance, its relationships with its bankers and its operating
performance, the board of directors consider that the Group will continue
to be able to roll over such short term financing, or will be able to
obtain sufficient alternative sources of financing to enable it to operate
and meet its liabilities as and when they fall due.
Since the Group disposed of the ANC Group during the year, in accordance
with HKFRS 5"Non-current assets held for sale and discontinued operations"
issued by the HKICPA, the results and cash flows of the operations of the
ANC Group have been presented as discontinued operations. The 2005
comparative figures in the income statement and statement of cash flow are
restated accordingly.
3 Changes in accounting policies
In 2006, the Group adopted certain revised HKFRSs which are relevant to its
operations as listed below.
o HKAS 21(Amendment) - Net investment in a Foreign Operation
o HKAS 39(Amendment) - Cash Flow Hedge Accounting for Forecast
Intragroup Transactions
o HKAS 39(Amendment) - Fair Value Options
o HKAS 39(Amendment) and HKFRS 4(Amendment) - Financial guarantee
contracts
The adoption of these new and revised HKFRSs by the Group did not have any
significant impact on its results of operations and financial position.
The HKICPA has also issued a number of new and revised HKFRSs which are
relevant to the Group's operation as set out below which are effective for
accounting periods beginning on or after January 1, 2007. The Group has not
early adopted these new or revised HKFRSs in the financial statements for
the year ended December 31, 2006. The Group has commenced an assessment of
the impact of these new and revised HKFRSs, but is not yet in a position to
state whether these new and revised HKFRSs would have a significant impact
on its results of operations and financial position.
o HKFRS 7 - Financial Instruments : Disclosures
o HKAS 1 (Amendment) - Presentation of Financial Statements: Capital
Disclosure
o HK(IFRIC) - Int 8 - Scope of HKFRS 2
o HK(IFRIC) - Int 10 - Interim Reporting and Impairment
78
4 Principal accounting policies
(a) Basis of consolidation
Acquisitions of businesses under common control are accounted for
using merger accounting in accordance with Accounting Guideline 5
issued by HKICPA. The acquired assets are stated at carrying amounts
as if the assets have been held by the Company from the beginning of
the earliest period presented.
Acquisitions of subsidiaries from third parties are accounted for
using acquisition accounting. The results and financial positions of
such subsidiaries acquired or disposed of during the year are included
in the consolidated income statements from the effective date of
acquisition or up to the effective date of disposal, as appropriate.
When a subsidiary is disposed, the difference between the proceeds
from the disposal of the subsidiary and its carrying amount as of the
date of disposal, including the cumulative amount of any exchange
differences that relates to the subsidiary recognized in equity is
recognized in the consolidated income statement as the gain or loss on
the disposal of the subsidiary.
All significant intercompany transactions and balances within the
Group are eliminated on consolidation.
(b) Subsidiaries
Subsidiaries are those entities in which the Company, directly or
indirectly, controls the composition of the board of directors,
controls more than half the voting power or holds more than half of
the issued share capital.
In the Company's balance sheet, the investments in subsidiaries are
stated at cost less provision for impairment losses. The results of
subsidiaries are accounted for by the Company on the basis of
dividends received and receivables.
(c) Revenue recognition
(i) The Group's revenues are recognized as follows:
o Revenues derived from local, domestic long distance ("DLD")
and international long distance ("ILD") telephone usage,
which vary depending on the day, the time of day, the
distance and duration of the call and the tariffs, are
recognized when the services are provided to customers.
o Monthly telephone service fees are recognized in the period
during which the telephone services are provided to
customers.
o Upfront connection and installation fees received are
deferred and recognized over the expected customer
relationship period of 10 years. With effect from July 1,
2001, no further upfront fees for connection were charged to
customers.
o Revenues from the sale of prepaid calling cards are deferred
and recognized as the cards are consumed by customers.
o Revenues from PHS bundled service contracts are recognized
as local, DLD, or ILD service fees according to the type of
usage and on a systematic basis to match the pattern of
usage of the PHS services by customers. PHS bundled service
contracts comprise the provision of PHS services and
handsets to customers, under which customers either prepay a
certain amount of service fee or commit to spend a minimum
monthly service fee for a designated period in order to
receive a free handset (see Note 4(r)(ii) for the policy on
accounting for the cost of the handset).
o Revenues from value-added communication services such as
call waiting, call diverting and caller number display are
recognized when the services are provided to customers.
79
4 Principal accounting policies (continued)
(c) Revenue recognition (continued)
(i) The Group's revenues are recognized as follows: (continued)
o Revenues from the provision of broadband and other
Internet-related services and managed data services are
recognized when the services are provided to customers.
o Revenue from information communication technologies services
are recognized when goods are delivered to the customer
(which generally coincides with the time when the customer
has accepted the goods and the related risks and rewards of
ownership have been transferred to the customer) or when
services are rendered to customer.
o Interconnection fees from domestic and foreign
telecommunications operators are recognized when the
services are rendered as measured by the minutes of traffic
processed.
o Lease income from the leasing of lines and customer-end
equipment is recognized over the term of the lease. Lease
income from other domestic telecommunications operators and
business customers for the usage of the Group's fixed line
telecommunications networks is measured by the number of
lines leased and the agreed upon rate per line leased. The
lease arrangements are primarily determined on a year to
year basis.
(ii) Interest income
Interest income is recognized on a time proportion basis, taking
into account the principal amounts outstanding and the interest
rates applicable.
(iii) Dividend income
Dividend income is recognized when the right to receive payment
is established.
(d) Interest expenses
Interest expenses attributable to the acquisition, construction or
production of an asset that necessarily takes a substantial period of
time to get ready for its intended use or sale are capitalized as part
of the cost of that asset.
All other interest expenses are charged to the consolidated income
statement in the year in which they are incurred.
(e) Interconnection charges
Interconnection charges represent amounts incurred for the use of
other telecommunications operators' networks for facilitating the
completion of calls that originate from the Group's fixed line
telecommunications networks. Interconnection charges are recognized on
an accrual basis. Interconnection charges with domestic operators and
the fellow subsidiaries of the Group are accrued based on actual
amounts, while those with overseas operators are accrued based on the
actual amounts, if known, or the Group's estimates.
80
4 Principal accounting policies (continued)
(f) Translation of foreign currencies
(i) Functional and presentation currency
Items included in the financial statements of each of the Group's
entities are measured using the currency of the primary economic
environment in which the entity operates ("the functional
currency").
(ii) Transactions and balances
Transactions in foreign currencies are translated at exchange
rates ruling at the transaction dates. Monetary assets and
liabilities expressed in foreign currencies at the balance sheet
dates are translated at rates of exchange ruling at the balance
sheet dates. Exchange differences arising in these cases are
dealt with in the consolidated income statements
(iii) The Group
The results and financial position of all the group entities that
have a functional currency different from the presentation
currency are translated into the presentation currency as
follows:
o Assets and liabilities for each balance sheet presented are
translated at the closing rate at the date of that balance
sheet;
o Income and expenses for each income statement are translated
at average exchange rates (unless this average is not a
reasonable approximation of the cumulative effect of the
rates prevailing on the transaction dates, in which case
income and expenses are translated at the dates of the
transactions); and
o All resulting exchange differences are recognized as a
separate component of equity.
On consolidation, exchange differences arising from the
translation of the net investment in foreign entities, and of
borrowings and other currency instruments designated as hedges of
such investments, are taken to shareholders' equity. When a
foreign operation is sold, such exchange differences are
recognized in the income statement as part of the gain or loss on
disposal.
(g) Cash and cash equivalents
Cash and cash equivalents, comprising cash on hand, deposits held at
call with banks and cash investments with original maturities of three
months or less are carried at cost.
(h) Accounts receivable and other receivables
Accounts and other receivables are recognized initially at fair value
and subsequently measured at amortized cost using the effective
interest method, less provision for impairment. A provision for
impairment of accounts and other receivables is established when there
is objective evidence that the Group will not be able to collect all
amounts due according to the original terms of receivables. The amount
of the provision is the difference between the asset's carrying amount
and the present value of estimated future cash flows, discounted at
the effective interest rate. The amount of the provision is recognized
in the income statement.
81
4 Principal accounting policies (continued)
(i) Inventories and consumables
Inventories comprise mainly telephone handsets and are stated at the
lower of cost and net realizable value on a first-in, first-out basis,
after provisions for obsolescence. Net realizable value is the
estimated selling price in the ordinary course of business, less
applicable variable selling expenses.
Consumables consist of materials and supplies used in maintaining the
Group's telecommunication networks and are charged to the income
statement when brought into use. Consumables are valued at cost less
any provision for obsolescence.
(j) Lease prepayments
(i) Lease prepayments for land
Lease prepayments for land represent payments for land use
rights. Lease prepayments for land are stated at cost initially
and expensed on a straight line basis over the lease period.
(ii) Lease prepayments for network capacity
Lease prepayments for network capacity represent payments for
network capacity on an indefeasible right of use basis for the
own use of the Company. Lease prepayments for network capacity
are stated at cost initially and expensed on a straight line
basis over the lease period.
(k) Fixed assets
(i) Construction-in-progress
Construction-in-progress represents buildings, telecommunications
networks plant, transmission and switching equipment under
construction and pending installation, and is stated at cost less
impairment losses. Cost comprises direct costs of construction
including borrowing costs attributable to the construction during
the period of construction. When the asset being constructed
becomes ready for use, the construction-in-progress is
transferred to the appropriate category of fixed assets.
(ii) Other fixed assets
Fixed assets are initially stated at cost less accumulated
depreciation and accumulated impairment losses. Historical cost
includes expenditure that is directly attributable to the
acquisition of the items. The subsequent costs are included in
the assets' carrying amount or recognized as a separate asset, as
appropriate, only when it is probable that future economic
benefits associated with the item will flow to the Group and the
cost of the item can be measured reliably. Any other costs
incurred in restoring fixed assets are charged to the income
statement as incurred.
Buildings subsequent to initial recognition are stated at cost
less accumulated impairment losses and depreciated over their
expected useful lives.
82
4 Principal accounting policies (continued)
(k) Fixed assets (continued)
(iii) Revaluations
Fixed assets other than buildings are carried at their revalued
amounts. Revalued assets are stated at fair value as of the
revaluation date less accumulated depreciation. When an item of
fixed asset is revalued, any accumulated depreciation at the date
of the revaluation is restated proportionately together with the
change in the gross carrying amount of the asset so that the
carrying amount of the asset after revaluation equals its
revalued amount.
Increases in valuation are credited to the revaluation reserve.
Decreases in valuation are first set off against any revaluation
surplus on earlier valuations in respect of the same item and
thereafter are debited to operating profit. Any subsequent
increases are credited to operating profit up to the amount
previously debited. Each year the difference between depreciation
based on the revalued carrying amount of the asset expensed in
the income statement and depreciation based on the asset's
original cost is transferred from the revaluation reserve to
retained earnings.
Revaluations on fixed assets will be performed with sufficient
regularity by independent valuers and in each of the intervening
years valuations will be undertaken by executives of the Group.
(iv) Depreciation
Fixed assets are depreciated at rates sufficient to write off
their costs or revalued amounts less accumulated impairment
losses and estimated residual values over their estimated useful
lives on a straight-line basis. The principal useful lives are as
follows:
Buildings 8-30 years
Telecommunications networks and equipment 5-10 years
Furniture, fixture, motor vehicles and other
equipment 5-10 years
The useful lives and estimated residual values are reviewed and
modified periodically at every balance sheet date.
(v) Gain or loss on sale of fixed assets
The gain or loss on disposal of a fixed asset is the difference
between the net sales proceeds and the carrying amount of the
relevant asset, and is recognized in the income statement, except
where the fixed asset is carried at valuation. The relevant
portion of the revaluation reserve realized in respect of
previous valuations is transferred to retained earnings and is
shown as a movement in reserves.
(l) Impairment of assets
Assets that are subject to amortization are reviewed for impairment
whenever events or changes in circumstances indicate that the carrying
amount may not be recoverable. An impairment loss is recognized for
the amount by which the asset's carrying amount exceeds its
recoverable amount. The recoverable amount is the higher of an asset's
fair value less costs to sell and value in use. For the purpose of
assessing impairment, assets are grouped at the lowest levels for
which there are separately identifiable cash flows (cash-generating
units).
83
4 Principal accounting policies (continued)
(m) Assets held under leases
(i) Finance leases
Leases of assets where the Group has substantially all the risks
and rewards of ownership are classified as finance leases.
Finance leases are capitalized upon commencement of the lease at
the lower of the fair value of the leased assets and the present
value of the minimum lease payments. Each lease payment is
allocated between the liability and finance charges so as to
achieve a constant rate on the finance leases balance
outstanding. The corresponding rental obligations, net of finance
charges, are included in current and non-current borrowings. The
interest element of the finance cost is recognized in the income
statement over the lease period so as to produce a constant
periodic rate of interest on the remaining balance of the
liability for each period.
(ii) Operating leases
Leases in which a significant portion of the risks and rewards of
ownership are retained by the lesser are classified as operating
leases. Payments made under operating leases (net of any
incentives received from the lesser) are expensed in the income
statement on straight-line basis over the period of the lease.
(n) Intangible assets
(i) Purchased software
Expenditure on purchased software is capitalized and amortized
using the straight-line method over the expected useful lives of
the software, which vary from two to five years.
(ii) Sponsorship fee
The sponsorship fee for the 2008 Beijing Olympic Games has been
capitalized and amortized on a straight-line basis over 4 years,
being the estimated beneficial period under the sponsorship
program. The cost of the intangible asset is calculated based on
the expected cash payment and the fair value of the services to
be provided
(o) Provisions
Provisions are recognized when the Group has a present legal or
constructive obligation as a result of past events, it is probable
that an outflow of resources will be required to settle the
obligation, and a reliable estimate of the amount can be made.
Provisions are not recognized for operating loss arising from future
periods.
Where there are a number of similar obligations, the likelihood that
an outflow will be required in settlement is determined by considering
the class of obligations as a whole. A provision is recognized even if
the likelihood of an outflow with respect to any one item included in
the same class of obligations may be small.
84
4 Principal accounting policies (continued)
(p) Employee benefits
(i) Pension obligations
(a) Employees in the PRC are entitled to retirement benefits
equal to a fixed proportion of their salary at their normal
retirement age which is paid by the PRC government. As
stipulated by the regulations of the PRC, the subsidiaries
in the PRC make contributions to the basic defined
contribution pension plans organized by their respective
municipal governments under which they are governed. The
Group is required to make such contributions to these plans
at a rate of 20% of the salaries, bonuses and certain
allowances of the employees. The Group has no other material
obligation for post-retirement benefits beyond these
payments as they fall due. Payments made under these plans
are expensed as incurred.
(b) The Group also operates a mandatory provident fund scheme
("the MPF scheme") under the Hong Kong Mandatory Provident
Fund Schemes Ordinance for employees employed under the
jurisdiction of the Hong Kong Employment Ordinance. The MPF
scheme is a defined contribution retirement scheme
administered by independent trustees. Under the MPF scheme,
the employer and its employees are each required to make
contributions to the scheme at 5 percent of the employees'
relevant income, subject to a cap of monthly relevant income
of HK$20,000.
(ii) Early retirement benefits
Early retirement benefits are recognized as expenses when the
Group reaches agreement with the relevant employees for early
retirement.
(iii) Employee housing benefits
One-off cash housing subsidies paid to PRC employees are charged
to the consolidated income statements in the year in which it is
determined that the payment of such subsidies is probable and the
amounts can be reasonably estimated (see Note 32).
PRC full-time employees of the Group participate in various
government-sponsored housing funds. The Group contributes on a
monthly basis to these funds based on certain percentages of the
salaries of the employees. The Group's liability in respect of
these funds is limited to the contributions payable in each
period. Contributions to these housing funds are expensed as
incurred.
(iv) Share option scheme
The Group operates an equity-settled, share-based compensation
plan. The fair value of the employee services received in
exchange for the grant of the options is recognized as an
expense. The total amount to be expensed over the vesting period
is determined by reference to the fair value of the options
granted, excluding the impact of any non-market vesting
conditions (for example, profitability and sales growth targets).
Non-market vesting conditions are included in assumptions about
the number of options that are expected to become exercisable. At
each balance sheet date, the entity revises its estimates of the
number of options that are expected to become exercisable. It
recognizes the impact of the revision of original estimates, if
any, in the income statement, and a corresponding adjustment to
equity over the remaining vesting period.
(q) Deferred taxation
Deferred taxation is provided in full, using the liability method, on
temporary differences arising between the tax bases of assets and
liabilities and their carrying amounts in the financial statements.
Taxation rates enacted or substantially enacted at the balance sheet
date are used to determine deferred taxation. Deferred tax assets are
recognized to the extent that it is probable that future taxable
profit will be available against which the temporary differences can
be utilized.
85
4 Principal accounting policies (continued)
(r) Other non-current assets
(i) Deferred installation costs
The direct incremental costs associated with the installation of
fixed line services are deferred and expensed to the income
statement over the expected customer relationship period of 10
years except when the direct incremental costs exceed the
corresponding upfront installation fees. In such cases, the
excess of the direct incremental costs over the installation fees
are recorded immediately as expenses in the income statement.
(ii) Subscriber acquisition costs
The cost of handsets given to customers under bundled service
contracts are deferred as subscriber acquisition costs and
expensed to the income statement on a systematic basis to match
with the pattern of the customer service income over the contract
period.
(iii) Prepaid network capacities
Prepayments for the network capacities purchased on an
indefeasible rights to use ("IRU") basis for resale are
capitalized and expensed over the corresponding lease period.
(s) Derivative financial instruments
Derivative financial instruments are stated at fair value on the
balance sheet. Realized and unrealized gains and loses arising from
change in the fair value are included in the income statement in the
period in which they arise.
(t) Discontinued operation
A discontinued operation is a component of the Group that may be a
major line of business or geographical area of operations that has
been disposed or is held for sale. The result of that component is
separately reported as "discontinued operations" in the income
statement. The comparative income statement is restated as if the
operation had been discontinued from the start of the comparative
period. The assets, liabilities and minority interests of such
component classified as "discontinued operations" or "held for sale"
is presented separately in the assets, liabilities and minority
sections, respectively, of the consolidated Balance Sheet.
86
4 Principal accounting policies (continued)
(u) Contingent liabilities
A contingent liability is a possible obligation that arises from past
events and whose existence will only be confirmed by the occurrence or
non-occurrence of one or more uncertain future events not wholly
within the control of the Group. It can also be a present obligation
arising from past events that is not recognized because it is not
probable that outflow of economic resources will be required or the
amount of obligation cannot be measured reliably.
A contingent liability is not recognized but is disclosed in the notes
to the financial statements when an outflow of economic benefits is
less than probable but not remote. When a change in the probability of
an outflow occurs such that the outflow is probable, the contingent
liability will then be recognized as a provision.
A contingent asset is a possible asset that arises from past events
and whose existence will be confirmed only by the occurrence or
non-occurrence of one or more uncertain events not wholly within the
control of the Group. A contingent asset is disclosed when an inflow
of economic benefits is probable but only recognized in income
statement when realized.
(v) Segmental reporting
Business segments provide services that are subject to risks and
returns that are different from other business segments. Geographical
segments provide services within a particular economic environment
that is subject to risks and returns that differ from those of
components operating in other economic environments. Currently the
Group has one business segment, the provision of fixed line
telecommunications services. Less than 10% of the Group's assets and
operations are located outside the PRC. Accordingly, no business and
geographical segment information is presented.
(w) Earnings per share ("EPS") and per American Depository Shares ("ADS")
Basic EPS is computed by dividing net profit attributable to ordinary
shareholders by the weighted average number of ordinary shares
outstanding during the year.
Diluted EPS is computed by dividing net profit attributable to
shareholders by the weighted average number of ordinary and dilutive
ordinary equivalent shares outstanding during the year. Dilutive
ordinary equivalent shares consist of ordinary shares issuable upon
the exercise of outstanding stock options using the treasury stock
method.
Earnings per ADS is computed by multiplying the EPS by 20, which is
the number of shares represented by each ADS.
87
5 Critical accounting estimates and judgments
Estimates and judgments are continually evaluated and are based on
historical experience and other factors, including expectations of future
events that are believed to be reasonable under circumstances.
(a) Critical accounting estimates and assumptions
The Group makes estimates and assumptions concerning the future. The
resulting accounting estimates will, by definition, seldom equal the
related actual results. The estimates and assumptions that have a
significant risk of causing a material adjustment to the carrying
amounts of assets and liabilities within the next financial year are
discussed below:
(i) Depreciation of property, plant and equipment
The property, plant and equipment of the Group are depreciated at
rates sufficient to write off their costs or revalued amounts
less accumulated impairment losses and estimated residual values
over their estimated useful lives on a straight-line basis. The
Group reviews the useful lives periodically to ensure that the
method and rates of depreciation are consistent with the expected
pattern of economic benefits from property, plant and equipment.
The Group estimates the useful lives of the property, plant and
equipment as set out in Note 4(k)(iv) based on the historical
experience with similar assets, taking into account anticipated
technological changes. The depreciation expenses in the future
periods will change if there are significant changes from
previous estimates.
(ii) Revaluation of property, plant and equipment
Apart from buildings and lease prepayments for land which are
carried at cost, other property, plant and equipment are carried
at revalued amounts, being the fair value at the date of
revaluation, less subsequent accumulated depreciation and
impairment. Property, plant and equipment of the Group was
revalued as of December 31, 2006 on a depreciated replacement
cost basis by an independent valuer. If the revalued amounts
differ significantly from the carrying amounts of the property,
plant and equipment in the future, the carrying amounts will be
adjusted to the revalued amounts. The key assumptions made to
determine the revalued amounts include the estimated replacement
costs and the estimated useful lives of the property, plant and
equipment. This will have an impact on the Group's future
results, since any subsequent decreases in valuation are set off
first against increases on earlier valuations in respect of the
same item and thereafter are charged as an expense to the income
statement and any subsequent increases are credited as income to
the income statement up to the amount previously charged then to
equity. In addition, the depreciation expense in future periods
will change as the carrying amounts of such property, plant and
equipment change as a result of the revaluation.
(iii) Impairment of non-current assets
At each balance sheet date, the Group considers both internal and
external sources of information to assess whether there is any
indication that non-current assets, including property, plant and
equipment, are impaired. If any such indication exists, the
recoverable amount of the assets is estimated and an impairment
loss is recognized to reduce the carrying amount of the assets to
its recoverable amount. The recoverable amount is the higher of
value in use or net selling price. Estimated values in use are
determined based on estimated discounted future cash flows of the
cash generating unit at the lowest level to which the asset
belongs. Key assumptions made to determine the estimated
discounted future cash flows include the estimated future cash
flow, estimated growth rate and the estimated weighted average
cost of capital of the Group. Such impairment losses are
recognized in the income statement, except where the asset is
carried at valuation and the impairment loss does not exceed the
revaluation surplus for that same asset, in which case the
impairment loss is treated as a revaluation decrease and charged
to the revaluation reserve, Accordingly, there will be an impact
to the future results if there is a significant change in the
recoverable amounts of the non-current assets.
88
5 Critical accounting estimates and judgments (continued)
(a) Critical accounting estimates and assumptions (continued)
(iv) Revenue recognized for upfront connection and installation fees
The Group defers the recognition of upfront customer connection
and installation fees and amortizes them over the expected
customer relationship period of 10 years. The related direct
incremental installation costs are deferred and amortized over
the same expected customer relationship period of 10 years,
except when the direct incremental costs exceed the corresponding
installation fees, the excess amounts are immediately written off
as an expense to the income statement. The Group estimates the
expected customer relationship period based on the historical
customer retention experience and after factoring in the expected
level of future competition, the risk of technological or
functional obsolescence to the Group's services, technological
innovation, and the expected changes in the regulatory and social
environment. If the Group's estimate of the expected customer
relationship period changes as a result of increased competition,
changes in telecommunications technology or other factors, the
amount and timing of recognition of the deferred revenues may
change for future periods.
(v) Provision for doubtful debts
The Group maintains an allowance for doubtful debts for estimated
losses resulting from the inability of its customers to make the
required payments. The Group makes its estimates based on the
aging of its accounts receivable balances, customer's
creditworthiness, and historical write-off experience. If the
financial condition of its customers were to deteriorate, actual
write-offs might be higher than expected, and the Group would be
required to revise the basis of making the allowance and its
future results would be affected.
(vi) Fair value
The Group estimates the fair value of its financial assets and
financial liabilities including accounts receivable, prepayments,
other receivables and other current assets, accounts payable, and
bank and other loans for disclosure purposes by discounting its
future contractual cash flows at the estimated current market
interest rate that is available to the Group for similar
financial instruments. The future disclosed values will change if
there are changes in the estimated market interest rate.
(b) Critical judgments in applying the entity's accounting policies
(i) Accounting for business combinations under common control
The Group completed the Acquisition of New Horizon on October 31,
2005. The Acquisition of New Horizon is a business combination
under common control. The Group adopted merger accounting to
account for the business combination under common control as the
Group believes that the financial statements prepared under
merger accounting are more relevant to those transactions.
(ii) Recognition of revenues and costs under PHS bundled service
contracts
The Group provides PHS services, which is an extension of the
local wireline telecommunications services, to customers.
Promotional packages comprise the bundled provision of PHS
services and handsets to customers, under which customers either
prepay a certain amount of service fee or commit to spend a
minimum monthly service fee for a designated period of time in
order to receive a free handset. The total revenues received or
receivable are recognized as deferred revenue. The cost of
handsets provided to customers is treated as deferred customer
acquisition costs, to the extent that they are recoverable
through profits made from future service fees. Such deferred
revenue and deferred costs are amortized to the income statement
on a systematic basis to match the shorter of the pattern of
usage of the related service and the minimum non-cancelable
contract period. If the pattern of the usage of the PHS services
by the customer changes in the future, the amortization period of
the revenue and costs will change accordingly, which will have an
impact on future results.
89
6 Financial risk management
(a) Financial risk factors
The Group's activities expose it to a variety of financial risks:
market risk (including currency risk, cash flow interest rate risk,
and fair value interest-rate risk), credit risk and liquidity risk.
(i) Foreign exchange risk
As at December 31, 2006 and 2005, the Group had foreign currency
denominated bank balances amounting to RMB1,946 million and
RMB1,098 million respectively. As at December 31, 2006 and 2005,
the Group had foreign currency denominated bank loans amounting
to RMB1,432 million and RMB1,998 million respectively.
(ii) Cash flow and fair value interest rate risk
The Group is exposed to changes in interest due to its long-term
debt obligation. The Group enters into debt obligations to
support general corporate operations including capital
expenditures, acquisitions, and working capital needs. Borrowings
at variable interest rates expose the Group to cash flow interest
rate risk. Borrowings issued at fixed interest rates expose the
Group to fair value interest rate risk. The bank loans issued at
variable and fixed interest rates are disclosed in Note 29 of
these financial statements.
(iii) Credit risk
The carrying amount of accounts receivable included in the
balance sheet represents the Group's exposure to credit risk in
relation to its financial assets. The Group's receivables are
unsecured to the extent they are not covered by security
deposits. The Group believes that adequate provision for
uncollectible account receivable has been made.
(iv) Liquidity risk
A significant percentage of the Group's funding requirements is
achieved through short term borrowings, and the balance sheet
indicates a significant working capital deficit. Please refer to
Note 2 for the details.
(b) Fair value estimation
The fair value of financial instruments traded in active markets is
based on quoted market prices at the balance sheet date. The quoted
market price used for financial assets held by the Group is the
current bid price; the appropriate quoted market price for financial
liabilities is the current ask price.
The carrying value less estimated credit adjustments of trade
receivables and payables are assumed to approximate their fair values.
The fair value of financial liabilities for disclosure purposes is
estimated by discounting the future contractual cash flows at the
current market interest rate that is available to the Group for
similar financial instruments.
90
7 Revenues
Revenues represent the turnover of the Group and are derived from the
provision of fixed line telecommunications and related services, net of the
PRC business taxes and government levies. The Group's revenues by business
nature can be summarized as follows:
Year ended December 31
2006 2005
RMB million RMB million
Restated
Note 2
Revenues
Local usage fees 22,274 24,582
Monthly telephone services 16,689 18,261
Upfront installation fees 1,369 1,442
DLD usage fees 10,185 10,260
ILD usage fees 1,160 1,180
Value-added services 5,421 4,000
Interconnection fees 8,400 7,783
Upfront connection fees 2,406 3,405
Broadband services 10,556 7,824
Other Internet-related services 692 591
Managed data services 1,505 1,656
Leased line income 2,974 2,596
Information communication technologies services 788 --
Other services 2,502 2,281
Total 86,921 85,861
91
8 Operating expenses by nature
Operating expenses mainly represent:
Year ended December 31
2006 2005
RMB million RMB million
Restated
Note 2
Staff cost 12,151 12,034
Depreciation and amortization 25,608 24,919
Maintenance cost 4,688 4,689
Miscellaneous taxes and fees 282 252
Customer installation cost 1,161 1,157
Interconnection charges 4,332 3,487
Advertising and promotion expenses 933 926
Sales channel cost 2,643 2,304
Subscriber acquisition and retention cost 3,686 4,308
Auditor's remuneration 61 34
Bad and doubtful debt expenses 1,009 1,144
Operating leases 2,208 2,109
9 Finance costs
Year ended December 31
2006 2005
RMB million RMB million
Restated
Note 2
Interest expenses on:
- Bank and other loans wholly repayable within five years 3,305 3,589
- Bank and other loans wholly repayable after more than five years 325 177
- Deferred consideration related to Acquisition of New Horizon 479 87
4,109 3,853
Less: Interest expenses capitalized in construction in progress (233) (297)
3,876 3,556
Exchange gain, net (8) (229)
Bank charges 20 20
3,888 3,347
Interest expenses were capitalized in construction
in progress using the following annual interest rates 4.71%-5.28% 4.17%-4.97%
92
10 Taxation
Year ended December 31
2006 2005
RMB million RMB million
Restated
Note 2
PRC enterprise income tax ("EIT") 4,039 3,581
Overseas profit tax 20 11
Deferred taxation (Note 33) (500) (162)
Taxation charges 3,559 3,430
The provision for PRC EIT is calculated based on the statutory income tax
rate of 33% on the assessable profit of each of the entities now comprising
the Group in the PRC as determined in accordance with the relevant income
tax rules and regulations in the PRC.
Taxation on profits derived from certain subsidiaries outside the PRC,
including Hong Kong, has been calculated on the estimated assessable profit
at the rates of taxation ranging from 17.50% to 34.00%, prevailing in the
countries in which those entities operate.
The reconciliation between the Group's actual tax charge and the amount
which is calculated based on the weighted average statutory tax rate is as
follows:
Year ended December 31
2006 2005
RMB million RMB million
Restated
Note 2
Profit before taxation 14,700 17,544
Weighted average statutory tax rate 33% 33%
Tax calculated at the weighted average statutory tax rate 4,851 5,790
Non-taxable income (Note (a) below) (1,216) (1,499)
Utilization of tax losses not recognized in previous years (Note (b) below) -- (837)
Expenses not deductible for tax purposes 64 69
Tax losses not recognized 26 55
Others (166) (148)
Tax charge 3,559 3,430
Note (a) Non-taxable income comprises primarily upfront connection fees
charged to customers which are amortized over the customer
relationship.
Note (b) Prior to 2005, a deferred tax asset arising from certain tax
losses was not recognized as it was uncertain at that time,
following the change of a subsidiary's tax registration district,
that the taxable loss could be utilized at the previous period end
date.
93
11 Profit attributable to shareholders
(a) For the year ended December 31, 2006, profit attributable to
shareholders includes current year profit of RMB17,475 million (2005:
RMB126 million), which has been recognized in the financial statements
of the Company.
(b) The Company's subsidiary, CNC China is registered as a foreign
investment enterprise in the PRC. In accordance with the Articles and
Association of CNC China, it is required to provide for certain
statutory reserves, namely, general reserve and staff bonus and
welfare fund, which are appropriated from profits after tax but before
any dividend distribution.
CNC China is required to allocate at least 10% of their profit after
tax determined under PRC GAAP to the general reserve fund until the
cumulative amounts reach 50% of the registered capital. The statutory
reserve can only be used, upon obtaining approval from the relevant
authority, to offset accumulated losses or increase capital.
Accordingly, CNC China appropriated approximately RMB855 million to
the general reserve fund for the year ended December 31, 2006 (2005:
RMB1, 044 million).
(c) According to a PRC tax approval document issued by the Ministry of
Finance and State Administration of Taxation to the Group, the Group's
upfront connection fees are not subject to EIT and an amount equal to
the upfront connection fees recognized in the retained earnings should
be transferred from retained earnings to a statutory reserve. For the
year ended December 31, 2006, the Company has made an appropriation of
RMB9,189 million to the statutory reserve (2005 : RMB6,783 million).
12 Profit distributions
Year ended December 31
2006 2005
HK$ million RMB million HK$ million RMB million
Final dividend proposed after
balance sheet date of HK$0.553 per
share (2005 : HK$0.466 per share) 3,678 3,695 3,073 3,196
Dividend distributed during the year 3,073 3,196 245 259
In the meeting of the board of directors held on April 2, 2007, the
directors proposed a final dividend of HK$0.553 per ordinary share for the
year ended December 31, 2006. Dividends proposed after the balance sheet
date have not been reflected as a dividend payable and will be reflected as
an appropriation in the 2007 financial statements.
94
13 Earnings per share
Basic earnings per share is computed using the weighted average number of
ordinary shares outstanding during the year. Diluted earnings per share is
computed using the weighted average number of ordinary shares and potential
ordinary shares outstanding during the year.
The following table sets forth the computation of basic and diluted
earnings per share:
Year ended December 31
2006 2005
in RMB million, except share and
per share data
Restated
Note 2
Numerator:
Profit/ (loss) for the year
- Continuing operations 11,141 14,114
- Discontinued operations 1,819 (226)
12,960 13,888
Denominator:
Weighted average number of ordinary shares outstanding
and shares used in computing basic earnings per share 6,615,520,381 6,593,529,000
Diluted equivalent shares arising from share options 51,955,496 34,112,723
Shares used in computing diluted earnings per share 6,667,475,877 6,627,641,723
Basic earnings/(loss) per share (RMB)
- Continuing operations 1.68 2.14
- Discontinued operations 0.27 (0.03)
- Profit for the year 1.95 2.11
Diluted earnings/(loss) per share (RMB)
- Continuing operations 1.67 2.13
- Discontinued operations 0.27 (0.03)
- Profit for the year 1.94 2.10
95
14 Staff cost including directors' remuneration
Year ended December 31
2006 2005
RMB million RMB million
Restated
Note 2
Wages, salaries and welfare 10,792 10,747
Contributions to pensions 1,359 1,285
Early retirement benefits -- 2
Total 12,151 12,034
15 Directors' and senior management's emoluments
(a) Directors' emoluments
The following table set out the emoluments paid to the Company's
directors during the year of 2006:
Year ended December 31, 2006
RMB thousand
Basic salaries,
housing
allowances,
other
allowances Contributions
and benefits Share based to retirement
Directors' name Fees(a) in kind Subtotal compensation schemes Total
Zhang Chunjiang -- 763 763 312 19 1,094
Zuo Xunsheng (i) -- 746 746 272 19 1,037
Zhang Xiaotie -- 671 671 272 19 962
Li Fushen (ii) -- 671 671 272 19 962
Miao Jianhua -- 671 671 238 19 928
Jiang Weiping (iii) -- 453 453 238 19 710
Li Liming (iv) -- 420 420 238 19 677
Tian Suning (v) -- -- -- 312 -- 312
Yan Yixun 251 -- 251 200 -- 451
John Lawson Thornton 409 -- 409 -- -- 409
Victor Cha Mou Zing 453 -- 453 -- -- 453
Qian Yingyi 545 -- 545 -- -- 545
Hou Ziqiang 483 -- 483 -- -- 483
Timpson Chung
Shui Ming 460 -- 460 -- -- 460
Jose Maria
Alvarez-Pallete 317 -- 317 -- -- 317
Mauricio Sartorius (vi) 9 -- 9 -- -- 9
Total 2,927 4,395 7,322 2,354 133 9,809
The fees disclosed above include RMB2,350 thousand paid to independent
non-executive directors.
96
15 Directors' and senior management's emoluments (continued)
(a) Directors' emoluments (continued)
The following table set out the emoluments paid to the Company's
directors during the year ended December 31, 2005:
Year ended December 31, 2005
RMB thousand
Basic
salaries,
housing
allowances,
other Fees Contributions
Fees allowances and waived Share based to retirement
Directors' name (a) benefits in kind (a) Subtotal compensation schemes Total
Zhang Chunjiang 261 1,077 (261) 1,077 564 16 1,657
Tian Suning 261 1,244 (261) 1,244 564 -- 1,808
Zhang Xiaotie 261 396 (261) 396 490 16 902
Miao Jianhua 261 622 (261) 622 429 16 1,067
Jiang Weiping 309 611 (309) 611 429 16 1,056
Li Liming 313 565 (313) 565 429 16 1,010
Keith Rupert Murdoch(vii) 219 -- -- 219 362 -- 581
Yan Yixun 261 -- -- 261 362 -- 623
John Lawson Thornton 365 -- -- 365 -- -- 365
Victor Cha Mou Zing 361 -- -- 361 -- -- 361
Qian Yingyi 417 -- -- 417 -- -- 417
Hou Ziqiang 413 -- -- 413 -- -- 413
Timpson Chung Shui Ming 333 -- -- 333 -- -- 333
Jose Maria Alvarez-Pallete
(viii) 95 -- -- 95 -- -- 95
Total 4,130 4,515 (1,666) 6,979 3,629 80 10,688
The fees disclosed above include RMB1,889 thousand paid to independent
non-executive directors.
97
15 Directors' and senior management's emoluments (continued)
(a) Directors' emoluments (continued)
Note:
(a) On December 6, 2006, according to the directors' discretion,
Zhang Chunjiang, Zuo Xunsheng ,Zhang Xiaotie, Miao Jianhua, Jiang
Weiping, Li Liming and Tian Suning waived their emoluments for
the years ended December 31 2006 and 2005 totalling RMB1,526
thousand and 1,666 thousand respectively. Details of the waivers
are as follows: Zhang Chunjiang RMB251 thousand (2005: RMB261
thousand), Zuo Xunsheng RMB158 thousand (2005: Nil), Zhang
Xiaotie RMB251 thousand (2005: RMB261 thousand), Miao Jianhua
RMB251 thousand (2005: RMB261 thousand), Jiang Weiping RMB94
thousand (2005: RMB309 thousand), Li Liming RMB270 thousand
(2005: RMB313 thousand), Tian Suning RMB251 thousand (2005:
RMB261 thousand).
(i) Appointed in May 2006 (ii) Appointed in January 2007 (iii)
Resigned in May 2006 (iv) Resigned in January 2007
(v) Re-designated as non-executive Directors in May 2006 (vi)
Appointed in December 2006 (vii) Resigned in September 2005.
(viii) Appointed in September 2005.
(b) Five highest paid individuals
The five individuals whose emoluments were the highest for the
year ended December 31, 2006 includes 2 directors (2005: 2) whose
emoluments are reflected in the analysis presented above. The
emoluments payable to the remaining individuals are as follows:
Year ended December 31
2006 2005
RMB thousand RMB thousand
Basic salaries, housing allowances, other allowances and benefits
in kind 2,013 4,458
Share based compensation 816 1,471
Contributions to retirement schemes 57 33
Total 2,886 5,962
The number of the remaining individuals whose emoluments fell
within the following bands is set out as follows:
Year ended December 31
2006 2005
Nil - RMB1,004,700 (equivalent of Nil - HK$ 1,000,000) 3 --
RMB1,004,701 - RMB1,507,050
(equivalent of HK$1,000,001 - HK$1,500,000) -- 2
RMB1,507,051 - RMB2,009,400
(equivalent of HK$1,500,001 - HK$2,000,000) -- --
RMB2,009,401 - RMB2,511,75
(equivalent of HK$2,000,001 - HK$2,500,000) -- --
RMB2,511,751 - RMB3,014,100
(equivalent of HK$2,500,001 - HK$3,000,000) -- 1
98
16 Cash and bank deposits
Group Company
As at December 31 As at December 31
2006 2005 2006 2005
RMB million RMB million RMB million RMB million
Cash and cash equivalents 7,569 4,874 1,772 540
Time deposits with original
maturities over three months 2 21 -- --
Total cash and bank deposits 7,571 4,895 1,772 540
Effective interest rate of time
deposits with original
maturities over three months
(% per annum) 0.72 0.72 -- --
Included in cash and bank deposits as of December 31, 2006 and 2005 are RMB
denominated balances kept in the PRC amounting to RMB5,625 million and
RMB3,797 million respectively. The conversion of RMB denominated balances
into foreign currencies and the remittance of bank balances and cash out of
the PRC are subject to the rules and regulation of foreign exchange control
promulgated by the PRC government.
Included in the bank deposits were deposits in state-owned banks amounting
to RMB7,422 million at December 31, 2006 (2005: RMB4,791 million). For the
year ended December 31, 2006, interest income earned from these state-owned
banks deposits amounted to RMB121 million (2005 : RMB124 million).
99
17 Accounts receivable
Amounts due from the provision of fixed line telecommunications services to
residential and business customers are due within 30 days from the date of
billing. Residential customers who have accounts overdue by more than 90
days will in normal circumstances have their services disconnected.
Accounts receivable from other telecommunications operations and customers
are due between 30 to 90 days from the billing date.
The ageing analysis of accounts receivable based on the billing date is as
follows:
As at December 31
2006 2005
RMB million RMB million
0-30 days 5,744 5,446
31-90 days 1,557 1,556
Over 90 days 2,326 2,053
Total 9,627 9,055
Less: Allowance for doubtful debts (1,344) (1,654)
Net carrying amounts 8,283 7,401
The movement of allowance for doubtful debts is as follows:
As at December 31
2006 2005
RMB million RMB million
Balance at beginning of year 1,654 1,412
Additional provisions 1,002 1,169
Less: Write-offs (1,246) (927)
Disposal of ANC Group (66) --
Balance at end of year 1,344 1,654
The carrying value of accounts receivable approximates their fair values
based on cash flows discounted using a rate based on the average short-term
borrowing rate of 6.12% (December 31, 2005: 5.58%).
Included in the accounts receivable are amounts due from other state-owned
telecommunication operators amounting to RMB1,079 million on December 31,
2006. (December 31, 2005: RMB1,003 million).
18 Inventories and consumables
As at December 31
2006 2005
RMB million RMB million
Telephone handsets and other customer end-products held for resale, at cost 155 144
Consumables, at cost 261 328
Total 416 472
100
19 Prepayments, other receivables and other current assets
Group Company
As at December 31 As at December 31
2006 2005 2006 2005
RMB million RMB million RMB million RMB million
Prepaid expenses, deposits and
other current assets 808 999 15 15
Other receivables 629 485 253 12
Total 1,437 1,484 268 27
Included in the other current assets is deferred subscriber acquisition
costs of RMB274 million (2005: RMB324 million).
The carrying value of prepayments and other receivables approximates their
fair values based on cash flows discounted using a rate based on the
average short-term borrowing rate of 6.12% (2005: 5.58%).
20 Fixed assets
Telecommunications Furniture, fixture,
networks and motor vehicles and
Buildings equipment other equipment Total
RMB million RMB million RMB million RMB million
Cost/valuation:
Balance at January 1, 2005 25,967 264,383 13,788 304,138
Reclassifications 818 (4,981) 4,163 --
Additions 413 975 490 1,878
Transferred from construction in progress 1,659 23,106 2,053 26,818
Disposals/write off (48) (1,940) (541) (2,529)
Distributed to owner upon
reorganization for the Acquisition
of New Horizon (1,759) (1,242) (183) (3,184)
Balance at December 31, 2005 27,050 280,301 19,770 327,121
Accumulated depreciation:
Balance at January 1, 2005 (5,382) (124,673) (7,186) (137,241)
Reclassifications (354) 1,170 (816) --
Charge for the year (956) (21,541) (2,157) (24,654)
Disposals/write off 4 1,662 451 2,117
Distributed to owner upon
reorganization for the Acquisition
of New Horizon 487 743 90 1,320
Balance at December 31, 2005 (6,201) (142,639) (9,618) (158,458)
Net book value at
December 31, 2005 20,849 137,662 10,152 168,663
Net book value at January 1, 2005 20,585 139,710 6,602 166,897
101
20 Fixed assets(continued)
Telecommunications Furniture, fixture,
networks and motor vehicles and
Buildings equipment other equipment Total
RMB million RMB million RMB million RMB million
Cost/valuation:
Balance at January 1, 2006 27,050 280,301 19,770 327,121
Additions 52 755 635 1,442
Transferred from construction in progress 688 21,449 2,621 24,758
Disposals/write off (5) (1,947) (543) (2,495)
Disposal of ANC Group (172) (636) (45) (853)
Fixed assets revaluation deficit, net -- (10,659) (3,588) (14,247)
Balance at December 31, 2006 27,613 289,263 18,850 335,726
Accumulated depreciation:
Balance at January 1, 2006 (6,201) (142,639) (9,618) (158,458)
Depreciation charge for the year (995) (21,842) (2,282) (25,119)
Disposals/write off 3 1,315 443 1,761
Disposal of ANC Group 51 261 28 340
Fixed assets revaluation deficit, net -- 11,778 2,016 13,794
Balance at December 31, 2006, (7,142) (151,127) (9,413) (167,682)
Net book value at
December 31, 2006 20,471 138,136 9,437 168,044
Net book value at January 1, 2006 20,849 137,662 10,152 168,663
102
20 Fixed assets (continued)
(a) The net book value of assets held under finance lease is as follows:
Telecommunications Furniture, fixture,
networks and motor vehicles and
Buildings equipment other equipment Total
RMB million RMB million RMB million RMB million
As at December 31, 2006 -- 2,000 62 2,062
As at December 31, 2005 1 2,551 109 2,661
The depreciation charge on assets held under finance lease amounted to
RMB351 million in the year ended December 31, 2006 (2005: RMB367
million).
(b) The analysis of the cost or revaluation of the fixed assets of the
Group is as follows:
Telecommunications Furniture, fixture,
networks and motor vehicles and
Buildings equipment other equipment Total
RMB million RMB million RMB million RMB million
December 31, 2006
Cost 27,613 -- -- 27,613
Valuation -- 289,263 18,850 308,113
27,613 289,263 18,850 335,726
December 31, 2005
Cost 27,050 -- -- 27,050
Valuation -- 280,301 19,770 300,071
27,050 280,301 19,770 327,121
103
20 Fixed assets (continued)
(c) As required by the PRC rules and regulations relevant to the Listing
Reorganization, each class of fixed assets other than buildings and
prepayments for land as at December 31, 2003 was valued by Beijing
China Enterprise Appraisal Co. Ltd. (the "PRC valuer"), an independent
valuer registered in the PRC, on a depreciated replacement cost basis.
The value of such assets in the PRC injected into the Group was
determined at RMB122,456 million. Such revalued amounts served as the
tax base of the assets with immediate effect. The surplus on
revaluation of certain fixed assets of RMB2,982 million was credited
to the revaluation reserve while the deficit arising from the
revaluation of certain fixed assets of RMB25,778 million was
recognized as an expense for the year ended December 31, 2003.
For the Listing Reorganization, valuations of buildings and the lease
prepayments for land of the Group were also performed. The surplus
value of such assets was determined at RMB6,967 million. Such amounts
served as the tax base for such assets with immediate effect. Details
have been set out in Note 33(iii).
As required by the PRC rules and regulations relevant to the
Acquisition of New Horizon, each class of fixed assets, other than
buildings and lease prepayments for land in the PRC, acquired as at
December 31, 2004, was valued by the PRC valuer, on a depreciated
replacement cost basis. The value of such acquired assets in the PRC
was determined at RMB42,879 million. Such amounts served as the tax
base for such assets with immediate effect. The surplus on revaluation
of certain fixed assets of RMB3,863 million was credited to the
revaluation reserve while the deficit arising from the revaluation of
certain fixed assets of RMB11,318 million was recognized as an expense
for the year ended December 31, 2004.
For the Acquisition of New Horizon, valuations of buildings and the
lease prepayments for land were also performed. The surplus value of
such assets was determined at RMB2,553 million. Such amounts served as
the tax base for such assets with immediate effect. Details have been
set out in Note 33(iii).
According to the group's accounting policies, each class of fixed
assets of the Group other than buildings as at December 31, 2006 has
been revalued by the PRC valuer on a depreciated replacement cost
basis. The value of such fixed assets was determined at RMB147,573
million. The net deficit arising on the revaluation was RMB453
million, the net deficit was split between a credit to the revaluation
reserve amounting to RMB1,071 million and an expense to the profit and
loss account of RMB1,524 million for the year.
The respective carrying amounts of the telecommunication networks and
equipment and furniture, fixtures, motor vehicles and other equipment
would have been RMB153,368 million and RMB11,651 million as at
December 31, 2006 and RMB158,193 million and RMB11,233 million as at
December 31, 2005 had they been stated at cost less accumulated
depreciation.
Regarding the revaluation of fixed assets carried out at December 31,
2006, the carrying amounts of these fixed assets and, where
applicable, the corresponding revalued amounts of these assets are as
follows:
Historical Revaluation Revaluation Revalued
carrying amount surplus deficit amount
RMB million RMB million RMB million RMB million
At December 31, 2006
Telecommunication networks
and equipment 137,017 9,048 (7,929) 138,136
Furniture, fixtures, motor
vehicles and other equipment 11,009 436 (2,008) 9,437
148,026 9,484 (9,937) 147,573
104
21 Construction in progress
As at December 31
2006 2005
RMB million RMB million
Balance at beginning of year 6,822 10,597
Additions 24,863 23,258
Transferred to fixed assets (24,758) (26,818)
Transferred to intangible assets (572) --
Distributed to owner in accordance with the Acquisition of New Horizon -- (215)
Balance at end of year 6,355 6,822
22 Lease prepayment
As at December 31
2006 2005
RMB million RMB million
Lease prepayments for land (i) 2,046 1,949
Lease prepayments for network capacity (ii) 318 --
2,364 1,949
(i) Lease prepayments for land
This represents land use rights held in the PRC and their net book
value is analyzed as follows:
As at December 31
2006 2005
RMB million RMB million
Held for
Lease of between 10 to 50 years 2,024 1,933
Lease of less than 10 years 22 16
2,046 1,949
105
22 Lease prepayment (continued)
(i) Lease prepayments for land (continued)
The movement of the lease prepayments for land is as follows:
As at December 31
2006 2005
RMB million RMB million
Balance at beginning of year 1,949 1,746
Additions 165 280
Amortization for the year (68) (37)
Distributed to owner in accordance with the Acquisition of New Horizon -- (40)
Balance at end of year 2,046 1,949
(ii) Lease prepayments for network capacity The net book value is analyzed
as follows:
As at December 31
2006 2005
RMB million RMB million
Held for
Lease of between 10 to 50 years 318 --
Balance at end of year 318 --
The movement of the lease prepayments for network capacity is as
follows:
As at December 31
2006 2005
RMB million RMB million
Balance at beginning of year -- --
Additions 318 --
Amortization for the year -- --
Balance at end of year 318 --
106
23 Intangible assets
Negative Purchased Sponsorship
goodwill software fees Total
RMB million RMB million RMB million RMB million
Cost:
Balance at January 1, 2005 3 1,250 -- 1,253
Additions -- 663 540 1,203
Balance at December 31, 2005 3 1,913 540 2,456
Accumulated amortization:
Balance at January 1, 2005 (3) (702) -- (705)
Amortization for the year -- (223) (135) (358)
Balance at December 31, 2005 (3) (925) (135) (1,063)
Net book value at January 1, 2005 -- 548 -- 548
Net book value at December 31, 2005 -- 988 405 1,393
Cost:
Balance at January 1, 2006 3 1,913 540 2,456
Additions -- 94 -- 94
Transferred from construction in progress -- 572 -- 572
Write off (3) (692) -- (695)
Balance at December 31, 2006 -- 1,887 540 2,427
Accumulated amortization
Balance at January 1, 2006 (3) (925) (135) (1,063)
Amortization for the year -- (336) (135) (471)
Write off 3 692 -- 695
Balance at December 31, 2006 -- (569) (270) (839)
Net book value at January,1, 2006 -- 988 405 1,393
Net book value at December 31, 2006 -- 1,318 270 1,588
24 Other non-current assets
As at December 31
2006 2005
RMB million RMB million
Installation costs 3,525 4,197
Prepaid network capacity -- 1,454
Others 441 383
3,966 6,034
107
25 Discontinued operations
On June, 2, 2006, the Group entered into an agreement with third party
buyers to dispose of its entire interest in the ANC Group for an aggregate
cash consideration of US$168.84 million, at fair value determined by both
parties. The disposal was completed on August 22, 2006. The gain on
disposal amounted to RMB1, 878 million. The results and cash flows of the
ANC Group for the year ended December 31, 2006 are presented as
discontinued operations.
The income statement and cash flow statement related to the ANC Group are
as follows:
For the period
from January 1, For the year
2006 ended
to August 22, December 31,
Note 2006 2005
RMB million RMB million
Discontinued operations:
Revenues 980 1,371
Expenses (1,038) (1,598)
Loss before taxation (58) (227)
Taxation (1) 1
Loss for the period/year of discontinued operations (59) (226)
Gain on disposal of discontinued operations 1,878 --
Profit/(loss) for the period/year from discontinued operations 1,819 (226)
For the period
from January 1, For the year
2006 ended
to August 22, December 31,
Note 2006 2005
RMB million RMB million
Discontinued operations:
Net cash inflow from operating activities 183 74
Cash outflow from investing activities (182) (312)
Cash inflow from disposal of ANC Group 37(c) 1,164 --
Net cash outflow for investing activities 982 (312)
Net cash inflow from financing activities -- 108
Cash flows from discontinued operations 1,165 (130)
108
26 Investments in subsidiaries
Company
As at December 31
2006 2005
RMB million RMB million
Investment cost in subsidiaries 62,937 58,577
Due from subsidiaries (Note (b)) 9,411 573
Due to subsidiaries (Note (c)) (12,754) (12,820)
59,594 46,330
Notes:
(a) As at December 31, 2006, the Company has direct interests in the
following principal subsidiary, which is a private company:
Percentage
of equity
interest Principal
Place and date attributable activities
of incorporation/ to the and place
Company name establishment Registered capital Company of operation
Directly held:
China Netcom (Group) PRC, RMB65,308 million 100% Provision of
Company Limited August 6, 1999 network
(Note (i)) communication
services in the PRC
(i) The company is a wholly owned foreign enterprise established in
the PRC. The accounts of the company for the years ended December
31, 2005 and 2006 were audited by PricewaterhouseCoopers Zhong
Tian CPAs Limited Company.
(b) The balances are unsecured, non-interest bearing and have no fixed
repayment terms.
(c) Deferred payments arising from the Acquisition of New Horizon have
been transferred to CNC China at the carrying amount. The balance is
non-secured, non interest bearing and has no fixed repayment terms.
109
27 Accounts payable
As at December 31
2006 2005
RMB million RMB million
0-30 days 5,762 6,281
31-60 days 2,236 1,796
61-90 days 1,449 1,297
91-180 days 2,989 1,940
Over 180 days 5,218 5,405
Total 17,654 16,719
Included in accounts payable are amounts due to other state-owned
telecommunications operators amounting to RMB97 million on December 31,
2006.(2005: RMB48 million).
28 Accruals and other payables
Group Company
As at December 31 As at December 31
2006 2005 2006 2005
RMB RMB RMB RMB
million million million million
Accrued expenses 549 872 136 93
Other payables 2,507 3,033 -- --
Total 3,056 3,905 136 93
29 Bank and other loans
(a) (i) On July 20, 2006, the Group issued RMB10 billion one-year
unsecured commercial papers in the PRC capital market and raised
net cash proceeds of RMB9,676 million from this offering. The
commercial papers are interest bearing at 3.35%.
(ii) The short term bank loans on December 31, 2006 were unsecured and
comprise:
As at December 31
2006 2005
Currency Interest rate and final maturity RMB million RMB million
RMB denominated Interest rates ranging from 4.86% to 5.51% per
annum with maturity through
December 26, 2007 30,980 47,341
The carrying values of short term bank loans approximate their fair
values which are based on cash flows discounted using a rate based on
the borrowing rate of 4.86%-5.51% (December 31, 2005: 4.70%-5.02%).
Included in the short-term bank loans were loans from state-owned
banks amounting to RMB29,700 million as at December 31, 2006 (December
31, 2005: RMB46,541 million).
110
29 Bank and other loans (continued)
(b) The Group's long term bank and other loans comprise:
As at December 31
2006 2005
Note RMB million RMB million
Long term bank loans (i) 29,560 22,734
Finance lease obligations (ii) 963 2,255
30,523 24,989
Less: Current portion (7,304) (6,846)
23,219 18,143
The carrying values of the current portion of long term bank loans
approximate their fair values which are based on cash flows discounted
using a rate based on the borrowing rate of 6.12% (December 31, 2005:
5.58%).
Included in the long term bank loans were loans from state-owned banks
amounting to RMB29,560 million as at December 31, 2006 (2005:
RMB22,685 million).
(i) Long term bank loans
As at December 31
2006 2005
RMB million RMB million
Loans
Unsecured 29,220 22,414
Secured 340 320
Total 29,560 22,734
Less: Current portion (6,446) (5,579)
Long term loans 23,114 17,155
111
29 Bank and other loans (continued)
(b) The Group's long term bank and other loans comprise: (continued)
(i) Long term bank loans (continued)
The Group's long term bank loans were repayable as follows:
As at December 31
2006 2005
RMB million RMB million
Within one year 6,446 5,579
In the second year 6,491 7,774
In the third to fifth year, inclusive 9,723 5,886
After the fifth year 6,900 3,495
29,560 22,734
As at December 31
Currency Interest rate and final maturity 2006 2005
RMB million RMB million
Bank loan
Renminbi denominated Interest rates ranging from
2.40% to 10.08% per
annum with maturity through
December 20, 2019 28,128 20,736
US Dollar denominated Interest rates ranging from
1.25% to 6.44% per
annum with maturity through
October 31, 2039 721 1,241
Japanese Yen denominated Interest rate is 2.12% per annum
with maturity through
January 7, 2014 276 327
Euro denominated Interest rates ranging from
0.50% to 7.35% per
annum with maturity
through March 15, 2034 435 430
29,560 22,734
112
29 Bank and other loans (continued)
(b) The Group's long term bank and other loans comprise: (continued) (i)
Long term bank loans (continued)
As at December 31, 2006, bank loans of RMB340 million (December
31, 2005: RMB320 million) were secured by the following:
o Corporate guarantees granted by China Netcom Group to the
extent of RMB65 million (December 31, 2005: RMB75 million);
and
o Corporate guarantees granted by third parties to the extent
of RMB275 million (December 31, 2005: RMB245 million).
(ii) Finance lease obligations
As at December 31
2006 2005
RMB million RMB million
Obligation under finance leases 963 2,255
Less: current portion (858) (1,267)
105 988
The accumulated finance lease obligation as at
December 31, 2006 amounted to RMB963 million.
(2005: RMB2,255 million).
The interest rates charged on finance lease are ranging from2.68%
to 6.83% with maturity through December 8, 2008 (2005: 2.50% to
5.70% with maturity through December 8, 2008).
113
29 Bank and other loans (continued)
(b) The Group's long term bank and other loans comprise: (continued) (ii)
Finance lease obligations (continued)
The Group's liabilities under finance leases are analyzed as
follows:
As at December 31
2006 2005
RMB RMB
million million
Within one year 888 1,319
In the second year 106 903
In the third to fifth year, inclusive -- 106
994 2,328
Less: future finance charges on finance leases (31) (73)
Present value of finance lease liabilities 963 2,255
The present value of finance lease liabilities
is as follows:
Within one year 858 1,267
In the second year 105 885
In the third to fifth year, inclusive -- 103
963 2,255
(c) The fair value of the Group's non-current portion of long term bank
and other loans at December 31, 2006 and 2005 were as follows:
As at December 31
2006 2005
RMB million RMB million
Long term bank loans 21,209 15,571
Finance lease obligations 85 958
21,294 16,529
The fair value is based on cash flows discounted using rates based on
the borrowing rates of ranging from 3.75% to 8.33% (December 31, 2005:
2.54% to 6.12%).
114
30 Amount due from/(to) holding companies and fellow subsidiaries
As at December 31
2006 2005
Note RMB million RMB million
Current:
Due from ultimate holding company (a) 173 89
Due from other holding companies (a) 3 1
Due from fellow subsidiaries (a) 176 157
Total 352 247
Due to ultimate holding company
-Deferred consideration (b) 1,960 1,960
-Others (a) 3,282 3,877
Due to fellow subsidiaries (a) 2,277 3,153
Total 7,519 8,990
Non-current
Due to ultimate holding company
-Deferred consideration (b) 5,880 7,840
Total 5,880 7,840
Note:
(a) These are interest free, unsecured and have no fixed terms of
repayment.
(b) Balance represents the deferred payments arising from the Acquisition
of New Horizon outstanding at year end. The balance is charged at
interest rate of 5.265 % per annum with final maturity through June
30, 2010. The deferred payment is analyzed as follows:
As at December 31
2006 2005
RMB million RMB million
Within one year 1,960 1,960
In the second year 1,960 1,960
In the third to fifth year, inclusive 3,920 5,880
Total 7,840 9,800
115
31 Deferred revenues
As at December 31
2006 2005
RMB million RMB million
Balance at beginning of year
-upfront connection fees 5,505 8,910
-upfront installation fees 6,769 7,638
-advances from network capacity sales 2,354 2,173
-prepaid telephony services 4,272 4,143
18,900 22,864
Additions for the year
-upfront connection fees -- --
-upfront installation fees 357 573
-advances from network capacity sales 236 461
-prepaid telephony services 30,360 24,435
30,953 25,469
Reductions for the year
-upfront connection fees (2,406) (3,405)
-upfront installation fees (1,359) (1,442)
-advances from network capacity sales (2,590) (280)
-prepaid telephony services (29,567) (24,306)
(35,922) (29,433)
Included: Disposal of the ANC Group
- advances from network capacity sales (2,450) --
- prepaid telephony services (144) --
(2,594) --
Balance at end of year
- upfront connection fees 3,099 5,505
- upfront installation fees 5,767 6,769
- advances from network capacity sales -- 2,354
- prepaid telephony services 5,065 4,272
13,931 18,900
Representing:
- Current portion 7,733 7,975
- Non-current portion 6,198 10,925
13,931 18,900
116
32 Provisions
Early retirement One-off cash
benefits housing subsidies Total
RMB million RMB million RMB million
Note a Note a & b
As at January 1, 2006 3,763 3,440 7,203
Additional provisions -- -- --
Payments during the year (626) (255) (881)
As at December 31, 2006 3,137 3,185 6,322
Analysis of total provisions:
-Current portion 551 3,185 3,736
-Non-current portion 2,586 -- 2,586
3,137 3,185 6,322
As at January 1, 2005 4,192 3,509 7,701
Additional provisions 2 -- 2
Payments during the year (431) (69) (500)
As at December 31, 2005 3,763 3,440 7,203
Analysis of total provisions:
-Current portion 589 3,440 4,029
-Non-current portion 3,174 -- 3,174
3,763 3,440 7,203
(a) Certain staff quarters, prior to 1998, have been sold to the Group's
employees, subject to a number of eligibility requirements, at
preferential prices. In 1998, the State Council issued a circular
which stipulated that the sale of quarters to employees at
preferential prices should be terminated. In 2000, the State Council
issued a further circular stating that cash subsidies should be made
to certain eligible employees following the withdrawal of the
allocation of staff quarters. However, the specific timetable and
procedures for the implementation of these policies were to be
determined by individual provincial or municipal government based on
the particular situation of the provinces or municipality.
Based on the relevant detailed local government regulations
promulgated, certain entities within the Group have adopted cash
housing subsidy plans. In accordance with these plans, for those
eligible employees who had not been allocated with quarters or who had
not been allocated with quarters up to the prescribed standards before
the discounted sales of quarters were terminated, the Group is
required to pay them one-off cash housing subsidies based on their
years of service, positions and other criteria. Based on the available
information, the Group estimated the required provision for these cash
housing subsidies amounting to RMB4,142 million, which was charged to
the consolidated income statement in the year ended December 31, 2000
when the State Council circular in respect of cash subsidies was
issued.
117
32 Provisions (continued)
(b) Pursuant to the Listing Reorganization and the Acquisition of New
Horizon, if the actual payments required for these subsidies and early
retirement benefits differ from the amount provided as at June 30,
2004 and June 30, 2005, China Netcom Group will bear any additional
payments required or will be paid the difference if the actual
payments are lower than the amount provided.
33 Deferred taxation
Movements of the deferred tax assets and liabilities are as follows:
Balance on Recognized Balance on Balance on
December 31, in income Recognized December 31,
2005 statement in equity 2006
Note RMB million RMB million RMB million RMB million
Deferred tax assets
Deferred revenue, primarily
advances from customers 170 (43) -- 127
Temporary differences from
allowance for doubtful debts 350 (36) -- 314
Unrecognized revaluation
surplus and deficit (iii) 2,861 (51) -- 2,810
Others 99 109 -- 208
Balance at end of year 3,480 (21) -- 3,459
Deferred tax liabilities
Interest capitalized (1,261) 472 -- (789)
Depreciation of fixed assets (i) -- 52 (353) (301)
Others (63) (3) -- (66)
Balance at end of year (1,324) 521 (353) (1,156)
The amounts in the consolidated
balance sheet are as follows:
Deferred tax assets to be recovered
after more than 12 months 2,906 2,860
Deferred tax liabilities to be settled
after more than 12 months (1,190) (1,014)
118
33 Deferred taxation (continued)
Balance at Recognized Balance at
December 31, in income Recognized Recognized December 31,
2004 statement in equity in equity 2005
Note RMB RMB RMB RMB RMB
million million million million million
Note (ii) Note (iii)
Deferred tax assets
Deferred revenue, primarily
advances from customers 208 (29) (9) -- 170
Temporary differences from
allowance for doubtful debts 398 245 (293) -- 350
Unrecognized revaluation
surplus and deficit (iii) 2,114 (96) -- 843 2,861
Provision for early
retirement benefits 597 (99) (498) -- --
Depreciation of fixed assets 325 95 (420) -- --
Others 162 (10) (53) -- 99
Balance at end of year 3,804 106 (1,273) 843 3,480
Deferred tax liabilities
Interest capitalized (1,489) 32 196 -- (1,261)
Others (87) 24 -- -- (63)
Balance at end of year (1,576) 56 196 -- (1,324)
The amounts in the consolidated balance sheet are as follows:
Deferred tax assets to be recovered
after more than 12 months 2,997 2,906
Deferred tax liabilities to be settled
after more than 12 months (1,318) (1,190)
119
33 Deferred taxation (continued)
Notes:
(i) According to the Group's accounting policy as set out in note
4(k), the fixed assets other than buildings of the Group were
revalued by the PRC valuer on a depreciated replacement cost
basis as disclosed in note 20. The revalued amounts are not used
to determine the tax bases of these assets in the future years.
Accordingly, the Group's deferred tax liabilities on the balance
sheet decreased by RMB150million. The net reduction comprised
RMB353 million, being the deferred tax liabilities originated
from the revaluation surplus of fixed assets which was debited to
revaluation reserves, offset by RMB503 million, being the
deferred tax assets originated from the revaluation deficit of
fixed assets which was credited to profit and loss for the year.
(ii) In connection with the Listing Reorganization and the Acquisition
of New Horizon, certain of the Group's telecommunication networks
and equipment and furniture, fixtures, motor vehicles and other
equipment were revalued as at December 31, 2003 and 2004. Such
revalued amounts determine the tax bases for these assets for
future years. In addition, except for the item described in Note
(iii) below, the tax bases of certain assets and liabilities have
been adjusted to the revalued amounts incorporated as the
carrying values in the balance sheet.
In connection with the Acquisition of New Horizon, the Group's
net deferred tax assets were subsequently reduced by RMB1,077
million (comprising deferred tax assets of RMB1,273 million and
deferred tax liabilities of RMB196 million), and this decrease
was recorded as a debit to owners' equity upon the date of the
Reorganization on June 30, 2005. The RMB1,077 million deduction
comprises RMB1,097 million, being deferred tax liabilities
originating from the revaluation surplus of fixed assets recorded
and credited to revaluation reserves offset by RMB2,174 million
deferred tax assets debited to retained earnings.
(iii) In addition, in order to determine the tax bases used for future
years after the Listing Reorganization and the Acquisition of New
Horizon, the Group's up-front prepayments for the leasehold land
and buildings were revalued for PRC tax purposes as at December
31, 2003 and 2004. However, the resulting revaluations of the
up-front prepayments made for the leasehold land and buildings
were not incorporated into the consolidated financial statements.
As a result, deferred tax assets were subsequently recorded with
corresponding increases in owners' equity upon the Listing
Reorganization on June 30, 2004 and the Acquisition of New
Horizon on June 30, 2005. In the opinion of the directors, it is
more likely than not that the Group will realize the benefits of
the deferred tax asset after making reference to the historical
taxable income of the Group. The amount is to be transferred to
retained earnings upon the corresponding realization of the
underlying deferred tax assets.
During the Listing Reorganization, the leasehold land and
buildings had a net surplus on revaluation of RMB6,967 million as
at December 31, 2003. As explained in the preceding paragraph, a
deferred tax asset of RMB2,355 million was subsequently recorded
with a corresponding increase in owner's equity upon the Listing
Reorganization on June 30, 2004.
During the Acquisition of New Horizon, the leasehold land and
buildings had a net surplus on revaluation of RMB2,553 million as
at December 31, 2005. As explained above, a deferred tax asset of
RMB843 million was subsequently recorded with a corresponding
increase in owner's equity upon the Acquisition on June 30, 2005.
The amount of transfer to retained earnings from unrecognized
revaluation surplus and deficit for the year ended December 31,
2006 was RMB51 million. (Year 2005: RMB96 million).
120
34 Share capital
Authorized
Ordinary shares of US$0.04 each Convertible preference shares of US$0.04 each Total
RMB RMB RMB
No of shares US$ Million No of shares US$ Million US$ Million
As at January 1,
2005 and 2006,
and December 31,
2006 25,000,000,000 1,000,000,000 8,277 7,741,782 309,671 3 1,000,309,671 8,280
Issued
Ordinary shares of US$0.04 each Convertible preference shares of US$0.04 each Total
RMB RMB RMB
No of shares US$ million No of shares US$ Million US$ Million
As at January 1,
2005 and 2006 6,593,529,000 263,741,160 2,181 -- -- -- 263,741,160 2,181
Exercise of share
option (Note) 57,114,500 2,284,580 18 -- -- -- 2,284,580 18
As at December 31,
2006 6,650,643,500 266,025,740 2,199 -- -- -- 266,025,740 2,199
Note: As at December 31, 2006, 40% of the 156,703,000 First Grant options
(note 35) outstanding at January 1, 2006 were exercisable, of which
57,114,500 options (2005: Nil) were exercised during the year with
an exercise price of HK$8.40. The total consideration received
amounting to RMB490 million and the portion exceeds the nominal
value of the shares issued was recorded as share premium of the
Company.
35 Share option scheme
A share option scheme was approved pursuant to a directors' resolution on
September 30, 2004 ("Share Option Scheme"). Share options are granted to
directors of the Company and to certain employees of the Group at the
directors' discretion. Share options can be exercised at least 18 months
from the later of the date of grant or the date of the listing of the
shares of the Company on the Hong Kong Stock Exchange and subject to
certain vesting restrictions on timing.
On October 22, 2004, 158,640,000 share options with an exercise price of
HK$8.40 each were granted to the directors of the Company and certain
employees of the Group (the "First Grant").
Pursuant to the Company's share option plan, the Company granted
158,640,000 options to certain of its directors and employees, immediately
prior to the closing of its global offering, to subscribe for its ordinary
shares at the initial public offering price under the Hong Kong public
offering, excluding brokerage and trading fees, and transaction and
investor compensation levies. The First Grant has an exercise period of six
years from the date of grant.
On December 6, 2005, the board of directors approved the granting of
79,320,000 shares of share options to certain management personnel and
other professional personnel designated by the Compensation Committee of
the newly acquired four northern provinces/autonomous region. ("Second
Grant").
121
35 Share option scheme (continued)
The grant date fair value of the share options granted in the First Grant
is determined by the Black-Scholes model based on the following
assumptions: expected dividend pay-out ratio of 35%, expected vesting
period of 5 years, expected volatility rate of 23.6% and risk-free interest
rate of 4.3%. The weighted average fair value of the share options on grant
date was determined as HK$ 1.22 per share (RMB1.28 per share). The grant
date fair value of the share options granted in the Second Grant is
determined by the Black-Scholes model based on the following assumptions:
expected dividend pay-out ratio of 35%, expected vesting period of 4 years,
expected volatility rate of 21.46% and risk-free interest rate of 4.3%. The
weighted average fair value of the share option on grant date was
determined as HK$1.28 per share (RMB1.34 per share). The model that decided
the weighted average fair value of the share options and the assumptions
mentioned above are subjective, and the changes of these subjective
assumptions could affect the weighted average fair value of the share
option. Therefore, Black-Scholes model may not reliably calculate the
weighted average fair value of the share options.
Modifications to certain clauses of the share options schemes already
granted were approved on May 16, 2006, pursuant to a resolution of the
Extraordinary General Meeting. The modifications were mainly related to
eligibility of the participants, number of options and exercise vesting
schedules, rights upon cessation of employment, death and loss of capacity,
performance targets, and cancellation of options. The modifications did not
have significant impact to the financial statements.
The movement of the share options granted during the year is summarized
as follows :
No. of share options
Weighted average
closing price per
share at respective
As at As at days immediately
January 1, December 31, Exercise before the exercises
2005 Granted Exercised Lapsed Cancelled 2005 price of options
HK$ HK$
First Grant 157,720,000 -- -- -- 1,017,000 156,703,000 8.4 --
Second Grant -- 79,320,000 -- -- -- 79,320,000 12.45 --
No. of share options
Weighted average
closing price per
share at respective
As at As at days immediately
January 1, December 31, Exercise before the exercises
2006 Granted Exercised Lapsed Cancelled 2006 price of options
HK$ HK$
First Grant 156,703,000 -- 57,114,500 300 1,975,500 97,612,700 8.4 14.46
Second Grant 79,320,000 -- -- -- 285,800 79,034,200 12.45 --
122
36 Reserves - Company
Share premium Capital reserve Retained earnings Total
RMB million RMB million RMB million RMB million
As at January 1, 2005 42,750 3,000 (1,248) 44,502
Profit for the year -- -- 126 126
Dividends distributed during
the year (Note 12) -- -- (259) (259)
Share based payments -- 104 -- 104
As at December 31, 2005 42,750 3,104 (1,381) 44,473
Profit for the year -- -- 17,475 17,475
Dividends distributed during
the year (Note 12) -- -- (3,196) (3,196)
Share based payments -- 75 -- 75
Exercise of share options 545 (73) -- 472
As at December 31, 2006 43,295 3,106 12,898 59,299
123
37 Consolidated cash flow statements
(a) Reconciliation of profit before taxation to net cash flows generated
from the operating activities of continuing operation.
Year ended December 31
2006 2005
RMB million RMB million
Restated
Note 2
Profit before taxation 14,700 17,544
Depreciation of fixed assets and amortization of intangible assets 25,540 24,882
Lease prepayments for land 68 37
Amortization of deferred revenues (33,137) (29,482)
Deferred costs charged to the income statements 1,002 2,473
Deficit on revaluation of fixed assets 1,524 --
Bad and doubtful debts 1,009 1,148
Loss on disposal of fixed assets 606 360
Share-based compensation 75 104
Other income (621) --
Dividend income -- (29)
Interest income (132) (131)
Interest expense 3,876 3,556
Foreign exchange gain (8) (229)
Operating cash flow before working capital changes 14,502 20,233
Increase in accounts receivable (2,135) (1,398)
Decrease in inventories and consumables 54 768
Decrease in prepayments, other receivables and other current assets 252 775
Increase in other non-current assets (343) (529)
Increase/(decrease) in accounts payable 1,221 (3,277)
Decrease in accruals and other payables (3,115) (1,374)
Increase in deferred revenues 30,614 25,434
Net cash inflow generated from operating activities of continuing operations 41,050 40,632
124
37 Consolidated cash flow statements (continued)
(b) Major non-cash transactions
During 2005, the Group paid RMB3,000 million out of the total
consideration for the Acquisition of the New Horizon. The remaining
balance of RMB9,800 million was recognized as a deferred payment and
is included in amounts due to the ultimate holding company. During the
year ended December 31, 2006, payments made in respect of the purchase
were RMB1,960 million, the unpaid balance at December 31, 2006 was
RMB7,840 million.
During 2005, the Group entered into finance lease arrangements in
respect of newly acquired fixed assets with a total capital value at
the inception of the lease of RMB338 million.
(c) Net investment gain from disposal of ANC Group
On June 2, 2006, the Group entered into an agreement to dispose of its
entire interest in the ANC Group for a consideration of US$168.84
million. The disposal was completed on August 22, 2006. At the
completion date, the net liabilities of the disposed ANC Group
comprised:
As at
August 22, 2006
RMB million
Net liabilities disposed of (excluding the cash
and cash equivalents) :
Accounts receivable and other current assets 504
Fixed assets and other non-current assets 1,997
Current portion of deferred income (308)
Accounts payable and other current liabilities (592)
Non-current portion of deferred income (2,286)
Exchange differences realised (29)
Net liabilities (714)
Gain on disposal 1,878
Net cash inflow from disposal of ANC Group 1,164
Satisfied by :
Cash consideration 1,344
Less : Cash and cash equivalents of ANC (180)
Net cash inflow 1,164
125
38 Banking facilities
As at December 31, 2006 and 2005, the utilized and unutilized banking
facilities are as follows:
Group Company
As at December 31 As at December 31
2006 2005 2006 2005
RMB million RMB million RMB million RMB million
Amount utilized 60,541 70,075 -- --
Amount unutilized 115,588 104,731 -- --
Aggregate banking facilities 176,129 174,806 -- --
39 Commitments
(a) Capital commitments
As at As at
December 31, December 31,
2006 2005
RMB million RMB million
Contracted but not provided for
- Leasehold land and buildings 26 215
- Telecommunication networks and equipment 2,502 1,357
- Others 5 112
Total 2,533 1,684
Authorized but not contracted for
- Leasehold land and buildings -- 1
- Telecommunication networks and equipment 300 112
- Others -- --
300 113
126
39 Commitments (continued)
(b) Operating lease commitments
The Group has future minimum lease payments under non-cancelable
operating leases in respect of premises and equipment as follows:
As at As at
December 31, December 31,
2006 2005
RMB million RMB million
Not later than one year 734 583
Later than one year and not later
than five years 1,102 527
Later than five years 517 186
Total 2,353 1,296
40 Related party transactions
All state-controlled enterprises, their subsidiaries, their key management
and their close family, and their employees represent related parties of
the Group as defined by HKAS 24. China Netcom Group, the Group's parent
company, is a state-controlled enterprise directly controlled by the PRC
government which controls different state-owned enterprises driving the
economy of the PRC. The Group is the dominant fixed line telecommunications
service provider in northern China by virtue of its historical monopoly
over these services. As a result, the Group has extensive transactions
including sales to, purchases of services, goods and fixed assets from,
leasing of assets from and banking transactions with other state-owned
parties in its ordinary course of business. These transactions are carried
out at terms similar to those obtained by other state-owned parties and
have been reflected in the financial statements.
The Group's operations are subject to the supervision of and regulation by
the PRC Government. The Ministry of Information Industry (MII), pursuant to
the authority delegated by the PRC's State Council, is responsible for
formulating the policies and regulations for the telecommunications
industry in China, including granting licenses, allocating frequency
spectrum, formulating interconnection and settlement arrangements between
telecommunications operators, enforcing industry regulations and reviewing
tariffs for domestic services. Other PRC governmental authorities also
regulate tariff policies, capital investment and foreign investment in the
telecommunications industry.
As a state-owned telecommunication operator, the Group has extensive
transactions with other state-owned telecommunication operators in its
ordinary course of business. These transactions are carried out in
accordance with the rules and regulations stipulated by the MII of the PRC
Government and disclosed below.
The Group has extensive transactions with other members of the China Netcom
Group. It is possible that the terms of the transactions between the Group
and other members of the China Netcom Group are not the same as those that
would result from transactions with other related parties or wholly
unrelated parties.
Management believes that meaningful information relative to related party
disclosures has been adequately disclosed.
127
40 Related party transactions (continued)
Year ended
December 31
2006 2005
Notes RMB million RMB million
Emolument of key management
- salaries and welfare and contributions to retirement scheme (i)13 23
Interconnection fees
- from fellow subsidiaries (iv)(b) 381 251
- from other state-owned telecommunications operators (iv)(b) 6,726 6,442
Subtotal 7,107 6,693
Interconnection charges
- to fellow subsidiaries (iv)(b) 820 611
- to other state-owned telecommunications operators (iv)(b) 1,758 1,475
Subtotal 2,578 2,086
Rental income from properties leased to fellow subsidiaries(iv)(a),(iv)(c) 2 --
Purchase of materials
- from fellow subsidiaries (iv)(a),(iv)(c) 1,170 1,298
- from other related companies (iv)(a),(iv)(c) 122 231
Subtotal 1,292 1,529
Receipt of engineering, project planning, design,
construction and information technology services
- from fellow subsidiaries (iv)(a),(iv)(b) 2,178 2,236
- from other related companies (iv)(a),(iv)(b) 368 413
Subtotal 2,546 2,649
Ancillary telecommunications support services
- from fellow subsidiaries (v),(iv) 350 435
- from other related companies (v),(iv) 58 51
Subtotal 408 486
128
40 Related party transactions (continued)
Year ended
December 31
2006 2005
Notes RMB million RMB million
Payment of operating lease rentals of premises
- to fellow subsidiaries (iv)(a),(iv)(c) 680 655
Property sub-lease rentals to fellow subsidiaries (iv)(a),(iv)(c) 15 15
Common corporate services income from
ultimate holding company (vi) 121 89
Common corporate services expenditure paid
to ultimate holding company (vi) 448 279
Support services received
- from ultimate holding company (vii), (iv) 2 2
- from fellow subsidiaries (vii), (iv) 712 888
- from other related companies (vii), (iv) 23 264
Subtotal 737 1,154
Telecommunications rental income from
other state-owned telecommunications operators (iv)(b) 1,327 1,271
Payment for lease of Telecommunications facility
- to ultimate holding company (viii) 75 85
- to fellow subsidiaries (viii) 307 215
Subtotal 382 300
Payment for purchase of long-term telecommunications
capacity to fellow subsidiaries (ix),(xii) 36 117
Payment for lease of long-term telecommunications
capacity to fellow subsidiaries (x),(xii) 65 84
Management fee received from fellow subsidiaries (xi),(xii) 23 39
Information communication technologies service received
- from ultimate holding company (xix),(iv) 2 --
- from fellow subsidiaries (xix),(iv) 34 --
Subtotal 36 --
129
40 Related party transactions (continued)
Notes:
(i) Represents the emoluments paid to all of the directors and the top
management of the Group, who are considered as the related parties of
the Group.
(ii) The Group entered into finance lease arrangements with a related
party, details have been set out in Note 29 (b)
(iii) Related party represents the non-listed investors of the fellow
subsidiaries.
(iv) Priced based on one of the following three criteria:
(a) market price;
(b) prices based on government guidance; or
(c) cost plus basis.
(v) Represents provision of ancillary telecommunications support services
to the Group by the fellow subsidiaries and the related companies.
These services include certain telecommunications pre-sale, on-sale
and after-sale services, certain sales agency services, the printing
and delivery of invoice services, the maintenance of certain
air-conditioning, fire alarm equipment and telephone booths and other
customer services.
(vi) The Group entered into a Master Service Sharing agreement with China
Netcom Group pursuant to which expenses associated with common
corporate services is allocated between the Group and China Netcom
Group based on total assets as appropriate.
(vii) Represents the support services provided to the Group by the fellow
subsidiaries and the related companies. These support services include
equipment leasing services, motor vehicles services, safety and
security services, conference services, basic construction agency
services, equipment maintenance services, employee training services,
advertising services, printing services and other support services.
(viii) The Group entered into a Telecommunications Facilities Leasing
Agreement with China Netcom Group pursuant to which the Group leases
the international telecommunications facilities and inter-provincial
transmission optic fibers from China Netcom Group. The lease payment
is based on the depreciation charge of the assets.
(ix) The Group entered into a Capacity Purchase Agreement with East Asia
Netcom Limited ("EANL"), a wholly owned subsidiary of China Netcom
Croup, pursuant to which the Group receives certain amounts of
long-term telecommunications capacity from China Netcom Group at
market prices as set out in the Capacity Purchase Agreement.
(x) The Group entered into a Capacity Lease Agreement with EANL, pursuant
to which the Group leases certain amount of capacity of China Netcom
Groiup's telecommunications network at market rates as set out in the
Capacity lease Agreement.
(xi) The Group entered into a Management Services Agreement with EANL,
pursuant to which the Group provides certain management services to
China Netcom Group either on a cost reimbursement basis or on the
basis of cost plus reasonable profits not exceeding the market price
as set out in the Management Service Agreement.
(xii) Due to the disposal of ANC Group on August 22, 2006, the Capacity
Purchase Agreement, the Capacity Lease Agreement and the Management
Services Agreement between the Group and East Asia Netcom Ltd (a
formerly wholly owned subsidiary of China Netcom Group) were no longer
related party transactions to the Group after August 22, 2006.
(xiii) In addition, pursuant to the Listing Reorganization and the
Acquisition of New Horizon, China Netcom Group have agreed to hold and
maintain, for the Group's benefit, all licenses received from the MII
in connection with the Restructured Businesses transferred to the
Group. The licenses maintained by China Netcom Group were granted by
the MII at nil or nominal costs. To the extent that China Netcom Group
incurs a cost to maintain or obtain licenses in the future, the
Company has agreed reimburse China Netcom Group for any such expense.
(xiv) China Netcom Group has also agreed to indemnify the Group in
connection with any tax and deferred tax liabilities not recognized in
the financial statements of the Group arising from transactions prior
to the date of Listing Reorganization and the Acquisition of New
Horizon in relation to the business of the Group prior to the
Acquisition of New Horizon and the business of the acquired four
provinces/autonomous region respectively.
130
40 Related party transactions (continued)
Notes: (continued)
(xv) As at December 31, 2006, China Netcom Group granted corporate
guarantees to the Group as set out in Note 29(b).
(xvi) China Netcom Group, the Group's ultimate holding company, entered
into an agreement (the "Sponsorship Agreement") with Beijing
Organization Committee ("BOCOG") which designated China Netcom
Group as the exclusive fixed-line telecommunications services
partner in the People's Republic of China ("PRC") to sponsor the
2008 Beijing Olympic Games. China Netcom Group allocated the
sponsorship fee to its members based on the estimated future
benefits derived from the Sponsorship Agreement to respective
members and the Group has contributed a portion of the required
support under the Sponsorship Agreement through providing cash to
BOCOG amounting to RMB0.54 billion. Accordingly, an intangible
asset and a payable to the ultimate holding company of the said
amount have been recognized on the Group's balance sheet.
(xvii) As at December 31, 2006, the Group has balances with other
state-owned telecommunication service providers, cash deposited
in and loans granted from state-owned banks as set out in Notes
17, 27, 16 and 29 respectively.
(xviii) For the year ended December 31, 2006, the deferred consideration
in respect of the Acquisition of New Horizon paid to China Netcom
Group amounted to RMB1,960 million, and the balance of the
deferred consideration amounted to RMB7,840 million (2005:
RMB9,800 million). The related interest charged for the year
ended December, 31 2006 amounted to RMB567 million (2005: RMB87
million).
(xix) China Netcom System Integration, an indirect wholly owned
subsidiary of the Company, entered into an Information and
Communications Technology Agreement on November 7, 2006 with
China Netcom Group. Pursuant to the Information and
Communications Technology Agreement, China Netcom System
Integration (and its subsidiaries) will provide Information
Communications Technology Services to China Netcom Group. China
Netcom System Integration will also subcontract services
ancillary to the provision of Information Communications
Technology Services, namely the System Installation and
Configuration Services to the subsidiaries and branches of China
Netcom Group in China Netcom Group's southern service region in
PRC.
(xx) On December 31, 2006, the Group acquired certain fixed assets
from China Netcom Group at a consideration of RMB81 million.
41 Significant subsequent events
(i) On January 15, 2007, CNC China entered into an assets transfer
agreement with its ultimate holding Company, China Netcom Group.
Pursuant to the agreement, CNC China agreed to dispose of its
assets and liabilities in relation to its telecommunications
operations in Guangdong Province and Shanghai Municipality
branches in the PRC for consideration of RMB3.5 billion. China
Netcom Group assumed an aggregate principal amount of RMB3
billion of debt which was due and owing from the Guangdong and
Shanghai branches of the Group to independent third parties upon
completion of the disposal. On February 14, 2007, the independent
shareholders passed an ordinary resolution to approve the
disposal. The disposal was completed on February 28, 2007 upon
the approval granted from MII. The Group expects to recognise a
pre-tax gain amounted to approximately RMB0.95 billion and the
gain will be reported as part of the discontinued operations for
the year ending December 31, 2007.
(ii) After the balance sheet date the directors proposed a final
dividend. Further details are disclosed in Note 12.
(iii) On March 16, 2007, the National People's Congress approved the
new PRC Enterprise Income Tax Law ("New Income Tax Law"). This
legislation reduces the enterprise income tax rate for domestic
enterprises from 33% to 25% with effect from 2008. The tax rate
reduction will also affect the carrying value of the net deferred
tax assets of the Group's domestic operations as HKAS 12 requires
deferred tax items to be written down to reflect future
realization at the newly enacted tax rate of 25% upon approval by
the National People's Congress. The financial impact will be
reflected in the financial statements for the year ending
December 31, 2007. The Group cannot reasonably estimate the
financial impact of the New Income Tax Law to the Group at this
stage as the implementation measures to the New Income Tax Law
was not yet finalized.
42 Ultimate holding party
The ultimate holding company is China Netcom Group which is owned and
controlled by PRC Government.
43 Approval of financial statements
The financial statements were approved by the Board of Directors on April
2, 2007.
131
Supplementary Information for American Depositary Share Holders
The consolidated financial statements of the Group have been prepared in
accordance with HKFRS, which differs in certain material respects from those
prepared under generally accepted accounting principles in the United States
("U.S.GAAP"). Differences between HKFRS and U.S.GAAP, which may have significant
impacts on the consolidated net income/(loss) and the consolidated shareholders'
equity are described below.
The effect on net profit/ (loss) of significant differences between HKFRS and
U.S.GAAP for the years ended December 31, 2004, 2005 and 2006 is as follow:
Year ended December 31
2004 2005 2006 2006
Restated Restated
Note Note 2 Note 2
RMB million except per share data US$ million
except per
share data
Consolidated profit
for the year under HKFRS
Profit after taxation for the year
from continuing operations 3,410 14,114 11,141 1,427
(Loss) /profit after taxation for the year
from discontinued operations (711) (226) 1,819 233
2,699 13,888 12,960 1,660
U.S.GAAP adjustments:
Revaluation of fixed assets (a) 11,318 -- 1,524 195
Depreciation of revalued fixed assets (a) (3,529) (5,110) (4,619) (592)
Others 14 -- -- --
Tax effect on the above adjustments (b) (2,570) 1,687 1,021 131
Consolidated profit for the year under U.S.GAAP
Profit after taxation for the year
from continuing operations 8,643 10,691 9,067 1,161
(Loss)/profit after taxation for the year
from discontinued operations (711) (226) 1,819 233
7,932 10,465 10,886 1,394
132
Year ended December 31
2004 2005 2006 2006
Restated Restated
Note Note 2 Note 2
RMB million except per share data US$ million
except per
share data
Shares used in computing basic
earnings per share 5,623 6,594 6,616 6,616
Shares used in computing diluted
earnings per share 5,630 6,628 6,667 6,667
Earnings per share for profit from continuing
operations attributable to shareholders of
the Company for the year under U.S GAAP
Basic earnings per share under U.S.GAAP RMB1.54 RMB1.62 RMB1.37 USD0.18
Diluted earnings per share under U.S.GAAP RMB1.54 RMB1.61 RMB1.36 USD0.17
(Loss)/earnings per share for (loss)/profit
from discontinued operations attributable
to shareholders of the Company for the year
under U.S GAAP
Basic (loss)/earnings per share under U.S.GAAP RMB(0.13) RMB(0.03) RMB0.27 USD0.03
Diluted (loss)/earnings per share under U.S.GAAP RMB(0.13) RMB(0.03) RMB0.27 USD0.03
Earnings per share for profit attributable to
shareholders of the Company for the
year under U.S GAAP
Basic earnings per share under U.S.GAAP RMB1.41 RMB1.59 RMB1.64 USD0.21
Diluted earnings per share under U.S.GAAP RMB1.41 RMB1.58 RMB1.63 USD0.20
133
The effect on shareholders' equity of significant differences between HKFRS and
U.S.GAAP as at 31, December 2004, 2005 and 2006 is as follows:
At December 31
2004 2005 2006 2006
Restated Restated
Note Note 2 Note 2
RMB million US$ in
million
Consolidated shareholders' equity under HKFRS 64,595 63,010 73,978 9,474
U.S.GAAP adjustments:
Revaluation of fixed assets (a) 30,251 30,251 30,704 3,932
Depreciation of revalued fixed assets (a) (3,529) (8,639) (13,258) (1,698)
Difference in distribution to owner
upon Listing Reorganization (c) 166 -- -- --
Tax effect on the above adjustments (b) (8,819) (7,132) (5,757) (737)
Consolidated shareholders'
equity under U.S.GAAP 82,664 77,490 85,667 10,971
On June 2, 2006, the Group entered into an agreement with third party buyers to
dispose of its 100% interest in the ANC Group and the transaction was completed
on August 22, 2006. In accordance with HKFRS 5 "Non-current assets held for
sales and discontinued operations" issued by the HKICPA, the results and cash
flows of the operations of the ANC Group for the year ended December 31, 2006
are presented as discontinued operations. Accordingly, certain comparative
figures of 2005 have been restated.
(a) Revaluation of fixed assets
In the Listing Reorganization, certain classes of fixed assets of the Group
were revalued as at December 31, 2003. The revaluation was performed based
on the depreciated replacement costs of the fixed assets and was not based
upon the expected future cash flows of the fixed assets. The revaluation
resulted in a charge of RMB25,778 million to the Group's consolidated
income statement for the year ended December 31, 2003 with respect to the
reduction in carrying amounts of certain fixed assets below their
historical cost bases. In addition, a surplus arising from the revaluation
of certain other fixed assets totaling RMB2,982 million has been credited
to the revaluation reserve.
In 2005, the Group acquired telecommunications business and assets of the
four northern provinces/autonomous region from China Netcom Group as set
out in Note 1 to the Group's financial statements. The acquired fixed
assets were revalued as at December 31, 2004. The revaluation was performed
based on the depreciated replacement costs of the fixed assets and was not
based upon the expected future cash flows of the fixed assets. The
revaluation resulted in a charge of RMB11,318 million to the Group's
consolidated income statement for the year ended December 31, 2004 with
respect to the reduction in carrying amounts of certain fixed assets below
their historical cost bases. In addition, a surplus arising from the
revaluation of certain other fixed assets totaling RMB3,863 million has
been credited to the revaluation reserve.
134
(a) Revaluation of fixed assets (continued)
According to the Group's accounting policy under HKFRS as set out in Note 4
(k) (iii), certain classes of fixed assets of the Group were revalued at
December 31, 2006.The revaluation was performed based on the depreciated
replacement costs for fixed assets and was not based upon the expected
future cash flows of the fixed assets. The revaluation resulted in a charge
of RMB1,524 million to the Group's consolidated income statement for the
year ended December 31, 2006 with respect to the reduction in carrying
amounts of certain fixed assets below their historical cost bases. In
addition, a surplus arising from the revaluation of certain other fixed
assets totaling RMB1,071million has been credited to the revaluation
reserve. The effect of the reduction in depreciation of the revalued assets
amounted to RMB4,619 million in the year ended December 31, 2006 (2005:
RMB5,110 million, 2004: RMB3,529 million).
Under U.S.GAAP, the carrying values of fixed assets are stated at their
historical cost less accumulated depreciation and impairment loss without
making reference to their respective depreciated replacement cost. An
impairment loss on fixed assets is recorded under U.S.GAAP if the carrying
value of such assets exceeds its future undiscounted cash flows resulting
from the use of the assets and their eventual disposition. The future
undiscounted cash flows of the Group's fixed assets, whose carrying amounts
were reduced in connection with the Reorganization, exceed the historical
costs of such fixed assets and, therefore, no impairment of such assets is
recognized under U.S.GAAP. Accordingly, the deficit on revaluation of fixed
assets charged to the Group's consolidated income statements and the
surplus credited to the revaluation reserve recorded under Hong Kong GAAP
and the corresponding effect on the depreciation of the revalued assets in
the subsequent periods are reversed for U.S.GAAP purposes.
(b) Deferred income tax
The amounts included in the reconciliation show the income tax effects of
the differences between Hong Kong GAAP and U.S.GAAP as described above.
HKFRS requires recognition of a deferred tax asset only to the extent that
recovery of the deferred tax asset is probable, whereas U.S. GAAP requires
full recognition of deferred tax assets, reduced by an appropriate
valuation allowance if the recovery is less than 50% likely. Recognition of
deferred tax asset previously not recognized under HKFRS is presented as a
reversal of the valuation allowance under U.S. GAAP.
(c) Goodwill and negative goodwill
Under HKFRS, before January 1, 2005, goodwill on acquisition was included
in intangible assets and amortized using the straight-line method over its
estimated useful life of no more than twelve years. Negative goodwill is
presented in the same balance sheet classification as goodwill and
recognized in the income statement over the remaining weighted average
useful life of the related fixed assets.
On January 1, 2005, the Group adopted HKFRS 3 - "Business Combinations"
issued by the HKICPA. Goodwill can no longer be amortized and is tested
annually for impairment, as well as when there are indications of
impairment. If the fair value of the net assets acquired in a business
combination exceeds the consideration paid (i.e. an amount arises which
would have been known as negative goodwill under the previous accounting
policy), the excess is recognized immediately in the consolidated income
statement as it arises. According to the transitional provision of HKFRS3,
the Group should not retrospectively adjust the financial statements issued
in previous years.
Under U.S.GAAP, goodwill is not amortized but tested for impairment
annually and whenever events or circumstances occur indicating that
goodwill might be impaired. When negative goodwill results from an
acquisition, the acquirer must reassess whether all acquired assets and
assumed liabilities have been identified and properly valued and then
allocate negative goodwill to certain acquired non-monetary assets on a pro
rata basis as applicable. Any remaining unallocated negative goodwill must
be recognized immediately as an extraordinary gain.
135
After the Listing Reorganization, the value of the fixed assets transferred
to China Netcom Group under HKFRS was higher than that under U.S.GAAP by
RMB166 million due to the different treatment of the negative goodwill
arising from the acquisition of Asia Global Crossing. The negative goodwill
of RMB166 million was included in the balance sheet under HKFRS while
offset against certain fixed assets under U.S.GAAP and the fixed assets had
been distributed to the owner in accordance with the Reorganization plan.
Accordingly, the amount distributed to the owner under U.S.GAAP was lower
than that under HKFRS by RMB166 million.
On January 1, 2005, the balance of negative goodwill under HKFRS was
credited directly to the shareholders' equity upon the adoption of HKFRS 3
and the GAAP difference ceased to exist from then.
(d) Presentation of revenue
Under HKFRS, revenues are presented net of the PRC business taxes and
government levies which amounted to RMB2,493 million, RMB2,421 million and
RMB2,450 million for the years ended December 31, 2004, 2005 and 2006
respectively.
Under U.S.GAAP, EITF 06-3 "How Taxes Collected from Customers and Remitted
to Governmental Authorities Should Be Presented in the Income Statement
(That is, Gross versus Net Presentation)" a company can make an accounting
policy decision to present revenues gross of taxes (included in revenues
and costs) or on a net basis (excluded from revenues).
(e) Presentation of depreciation expenses
Under HKFRS, depreciation expense can be excluded from "Network, operations
and support" and separately disclosed on the face of income statement.
Under U.S.GAAP, "Network, operations and support" expenses should include
charges for depreciation of property, plant and equipment and amortization
of intangible assets. Industry practice adopted by the Chinese
telecommunications sector is to present these costs of operations net of
depreciations charges. In such circumstances, U.S.GAAP requires such facts
to be highlighted on the face of the income statement.
(f) Presentation of amortization of subscriber acquisition costs
Under Hong Kong GAAP, amortization of capitalized subscriber acquisition
costs, being RMB2,602 million, RMB1,887 million and RMB739 million for the
years ended December 31, 2004, 2005 and 2006 respectively is classified as
selling expenses due to the marketing and promotional nature of the
expenditure.
Under U.S.GAAP, amortization of subscriber acquisition costs needs to be
included in the item "Network, operations and support" expense for the
Company.
Other U.S.GAAP disclosures
(a) Comprehensive income
U.S.GAAP requires that all items that are required to be recognized as
components of comprehensive income (including cumulative translation
adjustment) be reported in a separate financial statement. There are no
material differences between total recognized gains and losses for the
periods shown in the Consolidated Statements of Changes in Equity presented
under HKFRS and U.S.GAAP comprehensive income, except for the differences
between HKFRS and U.S.GAAP profit attributable to shareholders shown above.
(b) Recent HK Accounting Pronouncements
The HKICPA has issued a number of new and revised HKFRSs and HKFRS
Interpretations ("HKFRS - Ints"), and HKAS and HKAS Interpretations ("HKAS
- Ints") as set out in Note 3 to the Group's financial statements which are
effective for accounting periods beginning on or after January 1, 2007. The
Group has not early adopted these new and revised standards and
interpretations in the financial statements for the year ended December 31,
2006. The Group has commenced an assessment of the impact of these new and
revised standards and interpretations, but is not yet in a position to
state whether these new and revised standards and interpretations would
have a significant impact on its results of operations and financial
position.
136
(c) Recent U.S. Accounting Pronouncements
EITF 06-3
In March 2006, the Emerging Issues Task Force ("EITF") issued EITF Issue
06-3, "How Sales Taxes Collected From Customers and Remitted to
Governmental Authorities Should Be Presented in the Income Statement."
("Issue 06-3"). This Issue discussed how entities are to adopt a policy of
presenting any tax assessed by a governmental authority that is both
imposed on and concurrent with a specific revenue-producing transaction
between a seller and a customer in the income statement on either a gross
or net basis. If taxes are significant, an entity should disclose its
policy of presenting taxes and the amounts of taxes. The guidance is
effective for periods beginning after December 15, 2006. The Group has
early adopted EITF 06-3 on a retrospective basis and made the accounting
policy decision to present such taxes on a net basis which is consistent
with HKFRS.
FIN 48
In June 2006, the FASB issued FASB Interpretation Number 48, Accounting for
Uncertainty in Income Taxes - an interpretation of FASB Statement No. 109
(FIN 48). The interpretation clarifies the accounting for uncertainty in
income taxes and utilizes a two-step approach. The first step is to
determine whether it is more likely than not that a tax position accounted
for under SFAS 109 will be sustained upon examination, with the presumption
that the position will be examined. The second step is to measure the
amount of benefit to recognize in the financial statements. The tax
position is measured at the largest amount of benefit that is greater than
50% likely of being realized upon ultimate settlement. The Group is
evaluating the impact this interpretation will have on its financial
statements.
SFAS 157
In September 2006, the FASB issued SFAS 157, Fair Value Measurement. SFAS
157 defines fair value, establishes a framework for measuring fair value,
and enhances disclosures about fair value measurements. The adoption of
SFAS 157 will be effective for financial statements issued for fiscal years
beginning after November 15, 2007, and interim periods within those fiscal
years. The Group is evaluating the impact adopting SFAS 157 will have on
its financial statements.
137
Other U.S.GAAP disclosures (continued)
(c) Recent U.S. Accounting Pronouncements (continued)
SAB 108
In September 2006, the SEC released Staff Accounting Bulletin No. 108,
Considering the Effects of Prior Year Misstatements when Quantifying
Misstatements in Current Year Financial Statements (SAB 108). SAB 108
provides guidance on the SEC's views regarding quantifying the materiality
of financial statement misstatements, including misstatements that were not
material to prior years' financial statements. SAB 108 is effective for
fiscal years ending after November 15, 2006. The Group does not consider
that the application of this guidance have a material effect on our
financial position, results of operations, or cash flows.
SFAS 159
In February, 2007, the FASB issued SFAS 159 "The Fair Value Option for
Financial Assets and Financial Liabilities--Including an amendment of FASB
Statement No. 115". This statement permits all entities to choose to
measure many financial instruments and certain other items at fair value at
specified election dates. SFAS 159 will be effective as of the beginning of
an entity's first fiscal year that begins after November 15, 2007. The
Group is currently evaluating the effect that the adoption of this
statement will have on its consolidated results of operations and financial
condition but does not expect it to have a material impact.
138
Financial Summary
Consolidated Balance Sheet information prepared under Hong Kong Financial Reporting Standards
As at December 31,
2006 2005 2004 2003 2002
RMB million RMB million RMB million RMB million RMB million
Fixed assets 168,044 168,663 166,897 181,638 190,752
Construction in progress 6,355 6,822 10,597 18,049 21,301
Other non-current assets 11,377 12,856 14,468 15,728 12,448
Cash and bank deposits 7,571 4,895 10,633 7,430 7,899
Other current assets 10,488 9,604 13,822 13,236 12,881
Total assets 203,835 202,840 216,417 236,081 245,281
Short-term bank loans 30,980 47,341 44,882 47,991 36,590
Accounts payable 17,654 16,719 21,125 20,195 18,934
Other current liabilities 42,168 34,339 40,037 50,164 41,493
Long-term bank and other loans 23,219 18,143 26,052 30,172 40,404
Deferred revenues 6,198 10,925 13,988 17,585 19,744
Other non-current liabilities 9,638 12,363 5,738 16,312 18,345
Total liabilities 129,857 139,830 151,822 182,419 175,510
Minority Shareholder's equity -- -- -- 3 4
Shareholders' equity 73,978 63,010 64,595 53,659 69,767
Total liabilities and
shareholders' equity 203,835 202,840 216,417 236,081 245,281
139
Consolidated Cash Flow information prepared under the Hong Kong Financial Reporting Standards
Year ended December 31,
2006 2005 2004 2003 2002
RMB million RMB million RMB million RMB million RMB million
Restated Restated
Continuing operations:
Net cash inflow from
operating activities 33,950 33,483 34,127 30,917 30,012
Net cash outflow from
investing activities (25,973) (24,296) (28,474) (34,875) (34,219)
Purchase of fixed assets and
construction in progress,
repayments for leased land (26,474) (27,247) (28,027) (36,450) (34,186)
Net cash inflow/(outflow)
from financing activities (6,447) (14,764) (2,246) 3,595 3,212
Discontinued operations:
Cash flows from
discontinued operations 1,165 (130) (199) -- --
Increase/(decrease) in cash and
cash equivalents 2,695 (5,707) 3,208 (363) (995)
140
Consolidated Income Statement information prepared under Hong Kong Financial Reporting Standards
Year ended December 31,
2006 2005 2004 2003 2002
RMB million RMB million RMB million RMB million RMB million
Restated Restated
Note 2 Note 2
Continuing operations:
Revenues 86,921 85,861 82,281 77,598 70,675
Local usage fees 22,274 24,582 24,858 24,685 23,229
Monthly fees 16,689 18,261 17,964 16,476 14,987
Upfront installation fees 1,369 1,442 1,568 1,267 1,147
DLD usage fees 10,185 10,260 11,266 11,425 10,947
ILD usage fees 1,160 1,180 1,285 1,543 1,478
Value-added services 5,421 4,000 2,993 2,095 1,140
Interconnection fees 8,400 7,783 6,453 4,980 3,814
Upfront connection fees 2,406 3,405 4,346 5,122 5,596
Broadband service 10,556 7,824 5,307 2,928 2,468
Other Internet-related service 692 591 1,075 1,418 214
Managed data service 1,505 1,656 1,584 1,617 1,501
Leased line income 2,974 2,596 2,591 2,883 2,805
International telecommunications
services 788 -- -- -- --
Other services 2,502 2,281 991 1,159 1,349
Operating expense (67,562) (65,130) (64,194) (65,372) (58,324)
Depreciation and amortization (25,608) (24,919) (24,873) (26,800) (24,796)
Network, operations and support (14,383) (13,465) (13,092) (15,108) (14,665)
Staff cost (12,151) (12,034) (11,630) (10,945) (9,035)
Selling, general and administrative (13,366) (13,322) (12,617) (10,322) (7,927)
Other operating expense (2,054) (1,390) (1,982) (2,197) (1,901)
Other income 621 -- -- -- --
Interest income 132 131 68 95 110
Dividend income -- 29 17 45 78
Deficit on revaluation of fixed assets (1,524) -- (11,318) (25,778) --
Profit from operations 18,588 20,891 6,854 (13,412) 12,539
Financial cost (3,888) (3,347) (3,769) (4,296) (4,131)
Share of loss of associated
companies/jointly
controlled entity -- -- (1) (416) (1)
Profit before taxation 14,700 17,544 3,084 (18,124) 8,407
Taxation (3,559) (3,430) 326 7,217 (1,789)
Profit after taxation 11,141 14,114 3,410 (10,907) 6,618
Minority interests -- -- -- 1 --
Profit for the year 11,141 14,114 3,410 (10,906) 6,618
Discontinued operations:
Profit /(loss) for the year from
discontinued operations 1,819 (226) (711) -- --
Profit for the year 12,960 13,888 2,699 (10,906) 6,618
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