lattelekom group consolidated annual report for … activities and business review in 2004...

Lattelekom GroupConsolidated Annual Reportfor the year ended 31 December 2004

(according to International Financial Reporting Standards)

Riga, 24 February 2005

REPORT OF THE MANAGEMENT

The Management Board of SIA Lattelekom (Lattelekom) presents the report and consolidated financial accounts of the Group for thefinancial year ended 31 December 2004.

Principal activities and business review

In 2004 Lattelekom was the largest service provider in the fixed electronic communications market in Latvia.

Lattelekom continues investments in modernization of the electronic communications network. At the end of 2004 the digitalizationrate reached 89.7% (88.7% at the end of 2003). All telephone lines in Riga region have been cut over to the digital network.

The overall traffic volume in the year under review was 1.75 billion minutes or by 2.5% lower compared to 2003. The drop incounted traffic to large extent is due to customer migration from fixed to mobile network, resulting in reduced number of telephonelines and also the traffic.

At the end of 2004 the number of telephone lines totalled to 631 thousand, being by 3.5% less compared to the previous year.

In 2004 Lattelekom started to offer new tariff plans in order to develop more favourable electronic communications service usageterms for the customers. The most popular of those among residential customers were the “Home Tariffs”, while businesscustomers favoured “Business Calls” and “Business Tariffs”. In the year under review the company regularly offered to its customersdiscounts on international and national call tariffs and tariffs on calls from payphones as well as reduced Internet Dial-Up tariffs onweekends.

The number of permanent Internet connections more than doubled during the year under review. This substantial growth was dueto improvements in service functionality and quality, changes in pricing policy, and efficient advertising campaigns.

In 2004 Lattelekom continued popularization of the wireless Internet technology and expansion of the public wireless Internet areasin Latvia; at the end of the period under review their number in cafes, hotels, gas stations and other public hotspots throughoutLatvia reached 100 (50 in 2003).

Lattelekom operator service provider Contact Centre 118 is the leader of the information services market in Latvia. Expanding itsbusiness area, in 2004 Contact Centre 118 started offering of contact servicing possibilities to international companies in Latvia andalso Sweden and Germany.The number of contacts serviced increased by 25.9% compared to the previous year.

Share Capital

At the end of 2004 the share capital of Lattelekom was LVL 146,079,000, consisting of 146,079,000 shares with a par value of LVL1. The Republic of Latvia owns 74,498,000 shares with the total nominal value of LVL 74,498,000, representing approximately 51%of the share capital. TILTS Communications A/S owns 71,581,000 shares with the total nominal value of LVL 71,581,000, representingapproximately 49% of the share capital. TILTS Communications A/S is indirectly owned by TeliaSonera AB.

Subsidiaries and associated companies

Lattelekom owns 23% of the share capital of SIA Latvijas Mobilais Telefons, one of the two mobile telecommunications serviceoperators in Latvia, as well as 100% of the share capital of SIA Lattelekom Sakaru Sistēmas, which is involved in sales and maintenanceof customer premises telecommunications and IT equipment.Lattelekom Group owns 50% of the shares of A/s First Closed Pension Fund, however, all risks and benefits apply to pension planmembers only.

Results of operations

Information on financial performance of SIA Lattelekom and the Group in 2004 is disclosed in the financial review on pages 8 to 10,which forms part of this report.

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Proposal on payment of dividends

Pursuant to the Latvian law “On Limited Liability Companies”, prior to re-registration with the Commercial Register Lattelekom hadto create a statutory undistributable reserve of at least 5% of the annual profit. As at the end of 2004 the balance of the reservewas LVL 5.309 million. Since the Commercial Law does not require setting up of such reserves, the Management Board ofLattelekom proposes to transfer LVL 2.507 million from this reserve to the reserve for unrealised income from associatedundertakings, and to allocate the balance to distributable profit. Lattelekom Management Board proposes to distribute LVL 30.881 million as a dividend to shareholders, including all distributable profit forthe year 2004 in the amount of LVL 20.869 million and all retained distributable profit for prior years in the amount of LVL 10.012 million.

Changes in the Company’s Management and the charter

On 15 January 2004 expired the Management Agreement between TILTS Communications A/S and Lattelekom SIA.According to theManagement Agreement, since 1994 the day-to-day management of the Company had been delegated to TILTS Communications A/S.The Board of Directors of the Company dismissed Leena Suhonen from the position of the Chief Executive Officer on 30 April 2004and approved Nils Melngailis Chief Executive Officer of Lattelekom effective from 1 May 2004.To ensure compliance of the Company’s Charter with the requirements of the Commercial Law, Lattelekom ExtraordinaryShareholders Meeting held on 10 December 2004 made the decision on registration of the Company with the Commercial Register,approved the new version of the Charter and elected the Management Board and the Supervisory Council of the Company. On 17December 2004 the Company was registered with the Commercial Register. The new Charter of the Company establishes a twolevel management system of the Company, realised by the Management Board and the Supervisory Council.

Supervisory Council

The following persons served as Board Directors in 2004:G. Strautmanis (reappointed to the position of the Chairman of the Board of Directors on 28 May 2004), J. Grēviņš, K. Krēsliņš, V. Šutko, G. Stūris, I. Biļinskis (resigned on 30 May 2004), Erik Sverker Reinhold Teodor Hallberg, Timo Sakari Virtanen, Mats Göran Salomonsson (appointed on 5 March 2004), Eva Annika Christiansson, Nils Kennet Rodne, Bo Valdemar Magnusson (resigned on 4 March 2004).On 10 December 2004, Extraordinary Shareholders Meeting of Lattelekom elected the following members of the SupervisoryCouncil of the limited liability company “Lattelekom”: Gundars Strautmanis (Chairman of the Supervisory Council), Jānis Grēviņš,Kārlis Krēsliņš, Viesturs Šutko, Gundars Stūris, Edmunds Krastiņš, Erik Sverker Reinhold Teodor Hallberg, Timo Sakari Virtanen,Mats Göran Salomonsson, Arūnas Šikšta, Sune Sven Morgan Ekberg.

Information on the Supervisory Council members elected on 10 December 2004 is disclosed on pages 5 to 6.

Management Board

On 10 December 2004, Extraordinary Shareholders Meeting of Lattelekom elected the following members of the Management Board:N. Melngailis (Chairman of the Management Board), A. Ločmelis, B. Paegle, V. Vancovičs, I. RoneThe Management Board as an executive institution of the Company acted for less than one month in the year under review.

Information on Management Board members elected on 10 December 2004 is disclosed on page 7.

Disclosable interests

No members of Lattelekom Management Board or members of their families or legal entities controlled by them own or haveinterests in shares or share options in Lattelekom or its subsidiaries. Management Board members did not have any interest incontracts or arrangements involving Lattelekom.

Responsibility of the Management Board members in respect of the Annual Report

The Management Board is responsible for preparing Lattelekom financial statements and consolidated financial statements from thebooks of prime entry of the Group companies for each financial period that present fairly the state of affairs of Lattelekom and theGroup as at the end of each financial period and the results of operations and cash flows for the period.

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The Management Board confirms that appropriate accounting policies have been used and applied consistently, and reasonable andprudent judgments and estimates have been made in the preparation of the financial statements on pages 12 to 33 for 2004. TheManagement Board confirms that applicable International Financial Reporting Standards have been applied and that the financialstatements have been prepared on a going concern basis.

The Management Board is responsible for keeping proper accounting records, for taking reasonable steps to safeguard the assetsof the Group, and to prevent and detect any fraud and other irregularities.

Regulatory affairs

Due to Latvia’s EU membership and the need to implement a range of norms under the EU Directives, the state introduced a rangeof changes in the industry legislation. On 1 May 2004, the Cabinet of Ministers (CM) Regulations No.304 “ElectronicCommunications Law”, passed in accordance with the procedure under Clause 81 of the Satversme of the Republic of Latvia, cameinto effect. The Saeima passed the law on 28 October 2004, with several hundreds of changes and amendments. Until the approvalof new regulatory acts of the secondary legislation, the previously issued acts and obligations remain effective as far as they are notat variance with the new law. The new law envisages imposing of special liabilities on operators in the specific market in theregulation of electronic communications only after the analysis of the markets (7 retail and 11 wholesale markets) and withconsideration to the competition problems identified as a result of the analysis.

By liberalizing the industry, the Public Utility Commission has promoted competition through approval of regulatory terms and passingof decisions that are favourable to the new entrants in the market. E.g., in 2004 the Commission reviewed the time schedule for theCompany’s obligation to introduce carrier pre-selection service for local calls (1st half of 2005), imposed an additional obligation tointroduce carrier selection and carrier pre-selection service for calls to mobile. In the same way, based on the Regulator’s decisionand the regulations, from 1 May 2004 Lattelekom introduced local loop unbundling. In total, more than 300 individual licenses andgeneral permits for commercial activity in the electronic communications industry have been issued or registered in Latvia.

In 2004 the Commission recognized Lattelekom as a company having significant market power in the market of fixed voice telephonywith the market share exceeding 90%, in the leased line market with more than 70% market share, and together with LMT andTELE 2, also in the interconnections market where the Company had more than 15% market share. Lattelekom, performing itsobligations of a company with significant market power in the market of interconnections, submitted an Interconnection ReferenceOffer for 2004, which was approved by the Commission, and which in distinction from the previous year’s offer included reductionof interconnection tariffs in average by approximately 15%.

In 2004, 8 new operators wished to interconnect their electronic communications networks with Lattelekom’s public fixedtelecommunications network. Lattelekom now has a total of 15 interconnection agreements signed.

In 2004 Lattelekom also performed the Universal Service Obligations, which obliged the Company to provide local, national andinternational voice telephony services, data transmission with speed from 9600 Kbit/s, ensuring of access to one directory inquiryservice provider, and also to payphone services.

Lattelekom introduced the methodology for calculation and allocation of the costs of telecommunications services and submitted tothe Commission an audited report on separation of accounting and the service cost calculation services provided. The results showthat there is a lack of balance in voice telephony service tariffs. The Commission set all the tariff regulation parameters included inthe Methodology for calculation of the telecommunications service tariffs on 28.10.2004. The Commission established a tariffregulation price cap of two years starting from 01.11.2004. At the same time, restrictions were set to increase of certain servicetariffs (monthly subscription fee – 0%; call connection charge – 0%), which limit tariff rebalancing.

Risk management

Lattelekom is exposed to a number of risks due to the nature of its business and the market in which it operates. The most significant riskscausing adverse effect on Lattelekom’s future operations include such strategic risks as the economical and political situation in the country,regulatory decisions, increased competition, outdating technologies, as well as changing customer habits. Operational risks are related tothe company’s participation in large and complicated projects, performance of the Company’s IT systems, third party deliveries.Extremely important for the Company are staff related risks. The third most important group includes financial risks related to liquidityand overdue customer debts. Management procedures of the financial risks related to liquidity of the Group, exchange or interest ratefluctuations, and related parties’ transactions are set out in Note 25 to the financial statements “Financial Risk Management”.

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Each Lattelekom’s organizational unit is involved in identification and evaluation of risks and development of action plans in order toeliminate, decrease or delegate to third parties risks that might have adverse effect on the company’s property, employees, financesor performance indicators. In order to avoid any financial losses in case of risk materialization, part of the risks is insured. Currentlythere is an insurance coverage in place for the property, business interruption, third party liability and employees’ risk.

Arbitration

In March 2004 a settlement was reached in the arbitration proceedings between TILTS Communications A/S and the Republic of Latviaover performance of the Umbrella Agreement, which was the basis for establishing the joint venture Lattelekom. The arbitrationproceedings and their settlement have to no extent affected the financial situation of the company during the period under reviewor resulted in any future financial obligations for the Company.

Significant events after the end of period under review

There have been no events subsequent to end of the period under review that could materially affect the financial statements forthe year ended 31 December 2004.

Future development of the company

The telecommunications industry in Latvia and the world is undergoing an unprecedented process of changes. The fixed voicetelephony market continues the downward trend. Mobile, fixed and voice over IP converge as a result of the increased demand andtechnological development. At the same time, the demand for data transmission, Internet and IT services is growing rapidly.Residential customers and households request a wider range of services, at the same time demanding that the services are easy tounderstand and use. Companies, on turn, are increasingly striving for one communications and IT service provider.

With consideration to the market trends, Lattelekom has based its strategy on utilization of the Company’s competitive advantages inorder to strengthen its leading position in the market. Lattelekom is one of the strongest brands in Latvia, and with increased customersatisfaction, its recognizability continues to improve. Lattelekom will continue to use its customer base and its market identity toensure a wider range of services for the growing market of the Internet users. The Company will expand its offer portfolio in bothresidential customer and household, and business segments to ensure further increase of customer satisfaction and their loyalty.

In the residential customer and household segment Lattelekom is working to include mobile telephony and TV services in thecustomer offers. At the same time Lattelekom is planning to expand the range of IT services for companies, to offer integrated ITand telecommunications solutions to small and medium enterprises, as well as in cooperation with the partners in Lithuania andEstonia to provide integrated IT&T services at Pan-Baltic level. Enlargement of the offer portfolio will be achieved through allianceswith other market players and also investments in infrastructure and acquisitions.

Reorganization of Lattelekom Group will be continued to be able to react to the market trends more quickly and to continuereduction of the Company’s considerable fixed costs by transforming a part of them into variable costs. With consideration to thesuccessful Contact Centre operations until now, Lattelekom is planning to establish a separate subsidiary for provision of contactcentre and other business process services. In the same way, Lattelekom is planning to divest Network Maintenance Division as anindependent legal entity with its own brand name.

Auditors

The audit of financial statements set out on pages 11 to 35 was carried out by the audit firm SIA Ernst & Young Baltic in accordancewith Latvian legislation and International Standards on Auditing.


Gundars StrautmanisChairman of Supervisory Council

SIA Lattelekom

Nils MelngailisChairman of Management Board

SIA Lattelekom

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SUPERVISORY COUNCIL

Gundars Strautmanis is the Chairman of Lattelekom Supervisory Council since 10 December 2004. Mr.G.Strautmanis has been a Member of the Board of Directors and the president of Lattelekom since the foundation of thecompany. Mr.G. Strautmanis is a Professor at Riga Technical University, Member of the Council of Latvian Employers’Confederation, Academician of the International Academy of Telecommunications and a member of the Board of Directorsof Junior Achievement-Latvia.

Kārlis Krēsliņš is Lattelekom Supervisory Council member since 10 December 2004. He joined Lattelekom Board ofDirectors in July 2002. Mr.K.Krēsliņš is the Associate professor of Stockholm School of Economics in Riga, he has beeninvolved in international research projects, made presentations at international conferences and seminars and is the author ofseveral publications. From 1993 till 1997 he was completing PhD as well as teaching seminars and practical sessions at theDepartment of Information Studies, Loughborough University, UK..

Jānis Grēviņš is Lattelekom Supervisory Council member since 10 December 2004. He joined Lattelekom Board ofDirectors in July 2002. Since April of 2003 Mr. J. Grēviņš is the Director of Riga Business School at Riga Technical University.He is also teaching and conducting research on the effects of modern communication means in project management. From1998 till 2003 Mr.J. Grēviņš studied for his Ph.D. and worked as a project coordinator at the School of Management of theUniversity at Buffalo, State University of New York, USA.

Gundars Stūris is Lattelekom Supervisory Council member since 10 December 2004. He joined Lattelekom Board ofDirectors in March 2003. From 1997 till 2002 Mr. G. Stūris was Board member and Senior Vice-president in the joint stockcompany Latvijas Krājbanka. From 1998 till 2002 he was Board member (including Deputy Chairman of the Board) at RigaStock Exchange.

Viesturs Šutko is Lattelekom Supervisory Council member since 10 December 2004. He joined Lattelekom Board ofDirectors in December 2002. Mr. V. Šutko was a director of ”R un I DEMO” SIA till January 2003 and until 1998 he was aPresident of Advertising and Information Agency R&I. From 1995 till 1997 he was Board member and Head of MarketingDepartment in Latvian Industrial Bank.

Edmunds Krastiņš is Lattelekom Supervisory Council member since 10 December 2004. Mr. E. Krastiņš is Counsellor to the Minister of Finance and the Minister of Culture, Member of the Riga City Council and Commissioner of the Riga FreePort, as well as a member of the Board of Directors of the Nordic Investment Bank. Mr. E. Krastiņš is also a Board memberof the Education Foundation “New Academy”.

Gundars Strautmanis Kārlis Krēsliņš Jānis Grēviņš

Gundars Stūris Viesturs Šutko Edmunds Krastiņš

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Timo Sakari Virtanen is Lattelekom Supervisory Council member since 10 December 2004. He joined LattelekomBoard of Directors in 2000. From 2003 he is Senior Advisor in TeliaSonera NDB. From year 2000 to 2002 Mr.T. Virtanen wasSonera’s Baltic Group Director in Helsinki responsible for Sonera’s fixed network operations in the Baltic countries. In1998–1999 Mr. T.Virtanen was Managing Director of a Sonera's joint venture in Germany. Before that he held several othermanagerial positions with Sonera.

Erik Sverker Reinhold Teodor Hallberg is Lattelekom Supervisory Council member since 10 December2004. He is also Deputy Chairman of the Supervisory Council. Mr.E.Hallberg joined Lattelekom Board of Directors in March2003. From 2003 he is SVP & Head of MA Baltic Countries, TeliaSonera AB. In 2002 he headed the Telia Mobile AB’s operationsin Finland as well as held the position VP & Head of Unit Partner Services Nordic, Telia Mobile AB. Between 1981–1999Mr.E.Hallberg held several positions in the international IT, telecommunications and finance sector and between 1999–2000he held a number of other managerial positions within Telia Mobile AB.

Mats Göran Salomonsson is Lattelekom Supervisory Council member since 10 December 2004. He joinedLattelekom Board of Directors in March 2004. From January 2003 he is CFO of Norway, Denmark & the Baltic countries,TeliaSonera AB. In 2002 he was CFO of Telia Mobile AB and in 2001–2002 Mr. M. Salomonsson was VP Marketing and Salesand Country Manager of Telia Mobile Sweden. In 1996–2001 he served as CFO and later Managing Director of Telia Nära ABin Sweden. Between 1973–1995 Mr. M.Salomonsson served in several international companies in financial and managingpositions, both in Sweden and abroad.

Sune Sven Morgan Ekberg is Lattelekom Supervisory Council member since 10 December 2004. Since 1st ofDecember 2004 Mr. M. Ekberg is holding the position of Senior Vice president andHead of Marketing and Technology withinthe Profit Centre NDB (Norway, Denmark and Baltic countries). He has been active in the telecom industry since 1964 inSweden and also in international markets. Functions he has held have included engineering and marketing management on theexecutive level. Mr. M.Ekberg has also helddirector’s position in a number of Supervisory Boards in Sweden, Europe and USA.

Arūnas Šikšta is Lattelekom Supervisory Council member since 10 December 2004. Since January 2004 he holds aposition of CEO of Lietuvos telekomas. Previously from 2000 till November of 2003 Mr. A. Šiksta held a position of theChairman of the Board and Head of Administration of AB "Bank "Hansabankas". During 1996–2000 he held a number ofmanagerial positions within Hansabank and Agricultural Bank of Lithuania and between 1989–1996 he worked for VilniusMunicipality, Open Society Fund Lithuania and was heading a Lithuanian – Dutch joint venture.

Timo Sakari Virtanen

Eriks Sverker Reinhold TeodorHalberg

Mats GöranSalomonsson

Sune Sven Morgan Ekberg Arūnas Šikšta

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MANAGEMENT BOARD

Nils Melngailis is a Lattelekom Management Board member since December 10, 2004. He is also the Chief ExecutiveOfficer of the Company. Previously was IBM Business Consulting Partner, Nordic region, PriceWaterhouseCoopers Partner,London, Central and Eastern Europe. He was the Manager of IBM Business Research Office, Europe, Middle East and Africa,directly responsible for financial management services in the Nordic region. He acted as a Management Board member ofIBM Business Consulting, Nordic Region, and a member of International Business Research Management team.

Andis Ločmelis is a Lattelekom Management Board member since December 10, 2004. He is also the Chief FinancialOfficer of the Company. From November 2002 to March 2004 he worked for Baltic Beverages Holding Baltic Group (Aldaris,Saku, Svyturys-Utenos) as Vice President Finance & IT. He was responsible for the Group’s Pan-Baltic Business planning andbudgeting and reporting systems development and maintenance, Performance Management systems development andmaintenance, BBH Baltic Group Treasury Management, ERP systems alignment and other tasks. Parallel to this assignment,from May 1999 to March 2004 he worked in Aldaris brewery as Finance & IT Director.

Valdis Vancovičs is a Lattelekom Management Board member since December 10, 2004. He is also the NetworkDirector. He has worked in telecommunications industry since 1992, and since the end of 1994 in Lattelekom. He has attainedthe educationof Multi-Channel Transmission Systems Engineer, Master’s Degree in Engineering Sciences, as well as MBA inBusiness Administration,completed a one year’s training course at Cable&Wireless College in UK. He has worked in Lattelekomorganizing international telecommunications services, participated in organization of the customer credit control function, and forthree years has managed Carrier Business and Wholesale Unit, since 2004 manages the Network Services. Prior to approval asa member of Lattelekom Management Board, for one year performed the responsibilities of the member of the SupervisoryCouncil of LMT.

Ingrīda Rone is a Lattelekom Management Board member since December 10, 2004. She is also the Human ResourcesDirector of the Company. Her professional career of the latest year was related to HR Management. She has a bachelor’s degreein Psychology and master’s degree in Business Administration from Riga International School of Economics and BusinessManagement. Prior to employment in Lattelekom she was the Personnel Manager of A/S Laima and A/S Staburadze, SIA Pepsi ColaGeneral Bottlers Latvia and SIA Vērdiņš.

Baiba Paegle is a Lattelekom Management Board member since December 10, 2004. She is also the CommercialDirector of the Company. Her professional experience of the last nine years is related solely to Lattelekom.Over the yearsshe has taken various positions: Call Center Manager, Business Customer Service Department Manager, Corporate CustomerService Director, and now Commercial Director. Regardless of the changes in the business model and volumes, the area ofher activities and responsibility still remains customer service, sales and marketing.

Nils Melngailis Andis Ločmelis

Valdis Vancovičs Ingrīda Rone Baiba Paegle

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FINANCIAL REVIEW*

Introduction

Year 2004 in Latvia was marked by joining the European Union and rapid economic development. The growth of GDP isforecast around 8.5% (7.5% in 2003). Because of certain price adjustments after joining the EU, the global increase in oilprices and other macroeconomic factors, the inflation in Latvia reached 7.3% over the calendar year, in comparison with only3.6% in 2003. Prices of telecommunications services, though, remained stable over the past several years, while prices ofmobile services even decreased by 1% in 2004. Telecommunications services became relatively more affordable both forresidential and business customers.

For Lattelekom year 2004 was already the second year of working in a liberalized telecommunications market, although manyregulatory rules and mechanisms were not fully functional yet. In 2004 the number of equivalent fixed lines serviced byLattelekom decreased only by 3.5%, mainly as a result of residential customers’ migration to mobile services, while numberof business customers’ lines continued to grow.

Lattelekom’s revenues decreased by 6.2% in comparison with 2003, because the new fixed line operators and mobileoperators took away some share of the previous Lattelekom’s international and domestic telecommunications traffic.However, despite the inflated prices of inputs, the company was also able to significantly reduce operating expenditure, thusmaintaining stable EBITDA margin of 49%. Because of lower depreciation and amortisation charges the operating marginimproved from 16.3% in 2003 to 19.5% in 2004.

The consolidated net profit figure for the year 2004 was LVL 33.5 million, an increase by 23% over the previous year. In theeconomic and market environment described above, Lattelekom’s results of operations are considered successful.

Revenue

Consolidated revenue of Lattelekom Group was LVL 131.4 million in 2004, which is by 6.2% or LVL 8.7 million lower than inthe previous year. The decrease in revenue was experienced mainly in international telephone services (minus 23%). Revenuefrom domestic telephone services also decreased by6.1%, while revenue from other telecommunicationsservices increased by 6.3% mainly due to the two-foldincrease in the number of internet connections.

In 2004 the revenue structure of Lattelekom Groupcontinued to change towards smaller proportion ofinternational services (13% of the annual revenue) andhigher proportion of other telecommunications services(22% of the annual revenue), while the share ofdomestic telecommunications services remained stableat 65%.

Operating results

The decline in revenue by LVL 8.7 million was significantly off-set by LVL 4.2 million lower costs (excluding depreciation). Asa result EBITDA (earnings before interest, tax, depreciation and amortization, and losses from disposals of assets) was LVL64.9 million (LVL 69.2 million in 2003), and EBITDA margin remained stable at 49%**

* All figures and comments refer to the consolidated results of Lattelekom Group, if not stated otherwise.

** EBITDA is included here as an indicator, which is commonly used in the telecommunications industry and investor community, althoughit is not a generally accepted accounting term and should not be construed as an alternative to operating profit and cash flow.

Revenue history(million LVL)

136.5

144.6145.3

140.0

131.4

2000 2001 2002 2003 2004

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Payments to other telecommunications operatorsdecreased by LVL 0.6 million due to the decline inoutgoing international traffic volume, which was partlyoff-set by higher interconnect payments to localoperators. Despite the salary revision in the last quarterof the year staff costs in 2004 were LVL 0.6 million lessthan in the previous year due to decreasing number ofemployees. There were LVL 1.4 million savings in otheroperating costs compared to the previous year, and LVL1.6 million savings in management fees, which werepreviously paid to TILTS Communications according theManagement Agreement.

In 2004 consolidated operating profit of Lattelekom increased by 12% to LVL 25.6 million. Along with the above-mentionedcost-saving factors, the growth of operating profit was also affected by LVL 5.4 million lower depreciation costs due to lowercapital expenditure volumes and sales of spare property items.

Financial items

Net finance costs of the Group were LVL 558 thousand in 2004 compared to LVL 66 thousand in 2003. The increase wasprimarily due to interest paid on private bonds issue during the first half of the year.

Financial performance of associated company

Lattelekom’s associate Latvijas Mobilais Telefons (LMT) reported excellent financial performance in 2004. During the yearunder review Lattelekom’s share of results of LMT, where Lattelekom holds 23% equity interest, increased by 31%.

Taxation

Current corporate income tax charge for 2004 was LVL 4.9 million (LVL 5.1 million in 2003). The currently enacted tax rateof 15% was used in the corporate income tax calculation for year 2004 (19% in 2003). The tax charge in the incomestatement was further reduced by the deferred tax gain of LVL 0.7 million due to the reversal of some temporary timingdifferences between tax value of assets and liabilities and their book value.

Lattelekom is among the largest tax payers in Latvia. LVL 28.6 million were paid in various taxes during 2004 in cash terms(LVL 28.8 million in 2003), including LVL 5.5 million of taxes paid on behalf of employees (LVL 6.5 million in 2003).

Profit

The consolidated profit for the financial year 2004 wasLVL 33.5 million, compared with the LVL 27.2 millionprofit in 2003. Return on capital employed increasedfrom 13.1% in 2003 to 16.6% in 2004.

Operating expenses before depreciation(million LVL)

75.2

78.2

82.0

72.6

68.4

2000 2001 2002 2003 2004

Net profit(million LVL)

23.324.7

21.8

27.2

33.5

2000 2001 2002 2003 2004

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Subsidiary

The consolidated results of Lattelekom for the year 2004 also include results of the subsidiary Lattelekom Sakaru Sistēmas(LSS). In the middle of 2004 LSS sold the chain of Teleparks retail outlets and concentrated on integrated telecommunicationsand IT services and sales and service of equipment. Total revenue of LSS in 2004 was LVL 6.8 million (LVL 7.0 million in 2003).Net result of LSS’s operations in 2004 was a profit of LVL 82 thousand (LVL 193 thousand in 2003).

Cash flow

Consolidated net cash flow from operating activities was LVL 70.7 million (LVL 73.5 million in 2003). As less cash was spenton investments in 2004, net cash flow before financing increased by 20% to LVL 55.9 million.

The good cash flow situation enabled Lattelekom to redeem LVL 25.6 million of bonds before their maturity date, to payrecord-high dividends of LVL 42.0 million to shareholders and still reduce borrowings by LVL 5.0 million. Equity ratio (equityto total assets) improved from 75 % at the end of 2003 to 85 % at the year-end 2004.

As at 31 December 2004 the Group had cash and equivalents of LVL 2.4 million (LVL 19.0 million in 2003). At the end of theyear LVL 26.4 million of current liabilities were outstanding. To ensure sufficient liquidity, in addition to cash balances, theGroup also has short-term credit facilities with a maximum credit limit of LVL 4.0 million and long-term credit facility with amaximum credit limit of USD 45 million. No amounts were drawn under any of these facilities as at the end of 2004.

Capital expenditure

Capital expenditure in 2004 was LVL 15.3 million,compared with LVL 22.5 million in 2003. This mainlyreflects investments into expansion of the datatransmission network and access network,implementation of the new billing system and furthernetwork modernisation. Cumulative capitalexpenditure since the beginning of modernisationprogramme in 1994 reached LVL 500 million by theend of 2004.

Capital expenditure(million LVL)

43.8

54.2 57.1

22.5

15.3

2000 2001 2002 2003 2004

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LATTELEKOM GROUP CONSOLIDATED INCOMESTATEMENT FOR YEAR ENDED 31 DECEMBER 2004

2004 2003 Note LVL'000 LVL'000

Revenue 1 131,370 140,040Other operating income 1 1,871 1,724

Payments to other telecommunications operators 2 (17,671) (18,226)Employee costs 3 (21,842) (22,431)Depreciation and amortisation 8,9 (39,648) (45,027)Other operating expenses 4 (28,848) (31,919)Gain/(loss) on disposal of assets 391 (1,303)Total operating expenses (107,618) (118,906)

Operating profit 25,623 22,858

Finance costs – net 5 (558) (66)Share of results of associates (net of tax) 11 12,571 9,601Profit before tax 37,636 32,393

Income tax 6 (4,176) (5,167)Net profit 33,460 27,226

Earnings per share (in LVL) 7 0,23 0,19

The notes on pages from 15 to 35 form an integral part of these consolidated financial statements.



SIA Lattelekom


SIA Lattelekom

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LATTELEKOM GROUP CONSOLIDATED BALANCESHEET AS AT 31 DECEMBER 2004

31.12.2004. 31.12.2003.Note LVL'000 LVL'000

Assets

Non-current assetsIntangible assets 8 6,738 8,345Property, plant and equipment 9 185,669 211,087Investments in associated companies 11 29,895 24,621Available-for-sale investments 12 – 296Receivables 13 103 56

222,405 244,405

Current assetsInventories 14 1,660 1,879Receivables net and prepayments 15 13,331 18,549Cash and cash equivalents 16 2,358 19,049

17,349 39,477

Non-current assets classified as held for sale 10 369 –17,718 39,477

Total assets 240,123 283,882

Equity and liabilities

Capital and reservesOrdinary share capital 146,079 146,079Reserves 22 17,336 13,795Retained earnings 40,670 52,751

204,085 212,625

Non-current liabilitiesBorrowings 16 – 32,602Deferred tax liabilities 6 9,101 9,843Other liabilities 18 488 558

9,589 43,003

Current liabilitiesTrade and other payables 19 12,291 16,145Borrowings 17 12,000 10,000Provisions 20 123 248Accruals for liabilities and charges 21 2,035 1,861

26,449 28,254

Total equity and liabilities 240,123 283,882

The notes on pages 15 to 35 form an integral part of these consolidated financial statements.



SIA Lattelekom


SIA Lattelekom

13

LATTELEKOM GROUP CONSOLIDATED STATEMENT OFCHANGES IN EQUITY FOR YEAR ENDED 31 DECEMBER 2004

Note Share Reserves Retained Totalcapital earnings LVL'000 LVL'000 LVL'000 LVL'000

Year ended 31 December 2003

Balance at 31 December 2002 146,079 10,679 37,991 194,749Earnings allocated to reserves 22 – 3,116 (3,116) –Dividends – – (9,350) (9,350)Net profit for the year 2003 – – 27,226 27,226Balance at 31 December 2003 146,079 13,795 52,751 212,625

Year ended 31 December 2004

Balance at 31 December 2003 146,079 13,795 52,751 212,625Earnings allocated to reserves 22 – 3,541 (3,541) –Dividends – – (4,200) (42,000)Net profit for the year 2004 – – 33,460 33,460Balance at 31 December 2004 146,079 17,336 40,670 204,085




SIA Lattelekom


SIA Lattelekom

14

LATTELEKOM GROUP CONSOLIDATED CASH FLOWSTATEMENT FOR YEAR ENDED 31 DECEMBER 2004

2004 2003Note LVL'000 LVL'000

Operating activitiesProfit before tax 37,636 32,393Adjustments for:• depreciation and amortisation 8,9 39,648 45 027• (gain)/loss on disposal of assets - net (391) 1,303• finance costs - net 626 1,450• income from associates 11 (12,571) (9,601)• foreign exchange difference (61) (1,315)Operating profit before working capital changes 64,887 69,257

Decrease in trade and other receivables 5,134 3,518Decrease in inventories 350 640Decrease in trade and other payables (1,138) (643)Cash generated from operations 69,233 72,772Dividends received 11 7,297 6,003Interest received 835 475Interest paid (including capitalised portion) (1,832) (2,343)Tax paid (4,879) (3,360)Net cash from operating activities 70,654 73,547

Investing activitiesPurchase of intangible assets (1,106) (1,169)Purchase of property, plant and equipment (16,688) (27,239)Proceeds from sale of property, plant, equipment and investments 3,047 1,627Net cash used in investing activities (14,747) (26,781)

Financing activitiesDividends paid (42,000) (9,350)Proceeds from borrowings 20,284 –Repayment of bonds (25,602) –Repayment of amounts borrowed (25,280) (5,000)Repayment of redeemable share capital – (23,329)Net cash used in financing activities (72,598) (37,679)

Net (decrease)/increase in cash and cash equivalents (16,691) 9,087

Cash and cash equivalents at the beginning of the year 19,049 9,962Cash and cash equivalents at the end of the year 16 2,358 19,049




SIA Lattelekom


SIA Lattelekom

15

General information

The principal activities of Lattelekom Group are provision of fixed network telecommunications services (telephone and callcentre services, data transmission and Internet) and information technology related services to both, business and residentialcustomers, as well as sales and servicing of telecommunications and data equipment. The number of employees of the Groupat the end of the year was 2,814.

The parent company of the Group, SIA Lattelekom (the Parent Company), was incorporated as a limited liability company on9 January 1992 with the registered address: 30 Valnu St., Riga, LV–1050, Latvia. The joint venture between the governmentof Latvia and TILTS Communications A/S, which is a wholly owned subsidiary within TeliaSonera Group, was established on14 January 1994. The Republic of Latvia owns 51% of the equity of Lattelekom, and TILTS Communications A/S owns 49%. During the year under review the company maintained its position as the leading telecommunications service provider in aliberalised fixed telecommunications market of Latvia in terms of turnover and number of customers.

SIA Lattelekom Sakaru Sistēmas (the Subsidiary) was established on 16 August 2000 with the registered address: 10 Barinu St.,Riga, LV–1002, Latvia, as a wholly owned Lattelekom SIA subsidiary, and the results of its operations have been consolidatedsince its formation. This is the only subsidiary of the Parent Company.

There are no publicly traded securities issued by the Group.

Statement of accounting policies

The principal accounting policies adopted in the preparation of these consolidated financial statements are set out below.

(a) Basis of preparationThese consolidated financial statements have been prepared in accordance with and comply with International FinancialReporting Standards (IFRS).

The amounts shown in these consolidated financial statements are derived from the Group companies’ accounting records,maintained in accordance with Latvian Accounting Regulations. The consolidated financial statements are prepared under thehistorical cost convention as modified by the revaluation of available-for-sale investments. All amounts shown in theseconsolidated financial statements are presented in thousands of Latvian Lats (LVL) unless stated differently. Balances disclosedas at 31 December reflect the position as at the close of business on that date.

The preparation of consolidated financial statements in conformity with IFRS requires the management to make estimatesand assumptions that affect the reported amounts of assets, liabilities, income and expenses, and disclosure of contingencies.The significant areas of estimation used in the preparation of the accompanying consolidated financial statements relate todepreciation, allowance for bad debts and inventories, and impairment evaluation. Although these estimates are based on themanagement’s best knowledge of current events and actions, the actual results may ultimately differ from those estimates.

Changes in accounting policiesIn 2004 the Group adopted the new IFRS 3 – Business Combinations, and revised IAS 36 – Impairment of Assets and IAS 38 –Intangible Assets. IFRS 3 applies to the accounting for business combinations for which the agreement date is on or after31 March 2004. Those revised standards are required to be applied from the date from which IFRS 3 is first applied.

The main features of the new and revised standards are that the business combinations within the scope of IFRS 3 must beaccounted for using the purchase method. The pooling of interest method is prohibited. Intangible assets acquired in abusiness combination must be recognised as assets separately from goodwill if they meet the definition of an asset, are eitherseparable or arise from contractual or other legal rights, and their fair value can be measured reliably. Identifiable assetsacquired, and liabilities and contingent liabilities incurred or assumed, must be initially measured at fair value. Goodwill andintangible assets with an indefinite useful life or not yet available for use, must be tested for impairment annually..

In 2004 the Group adopted also the new IFRS 5 – Non-current Assets Held for Sale and Discontinued Operations requiredto be applied for reporting periods beginning on or after 1 January 2005. IFRS 5 sets out the requirements for theclassification, measurement and presentation of non-current assets and disposal groups classified as held for sale anddiscontinued operations. Further information related to the adoption of the new standard is disclosed in accounting policiesNote (h) – Non-current assets held for sale.

LATTELEKOM GROUP NOTESTO THE CONSOLIDATED FINANCIAL STATEMENTS

16

The adoption of these new and revised standards had no significant impact on the financial position or results of the Group.

In 2004 the Group adopted also the following International Accounting Standards, which were revised and amended as aresult of International Accountings Standards Board’s Improvements project and introduction of the new standards:IAS 1 Presentation of Financial Statements;IAS 2 Inventories;IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors;IAS 10 Events after the Balance Sheet Date;IAS 16 Property, Plant and Equipment;IAS 17 Leases; IAS 21 The Effects of Changes in Foreign Exchange Rates;IAS 24 Related Party Disclosures;IAS 27 Consolidated and Separate Financial Statements; IAS 28 Investments in Associates;IAS 31 Interests in Joint Ventures;IAS 32 Financial Instruments: Disclosure and Presentation;IAS 33 Earnings per Share;IAS 39 Financial Instruments: Recognition and Measurement;IAS 40 Investment Property.

The changes in the accounting policies have not had a material effect on the results of operations, financial position and cashflows of the Group.

(b) Group accounting(i) SubsidiariesThe consolidated financial statements include subsidiaries that are controlled by the Parent Company. Control is presumedto exist where more than a half of the subsidiary’s voting rights are controlled by the Parent Company or it otherwise has thepower to exercise control over the operations. Subsidiaries are consolidated from the date on which control is transferredto the Group and are no longer consolidated from the date that control ceases. All intercompany transactions, balances andunrealised gains on transactions between the Group companies are eliminated as part of the consolidation process.

(ii) Associated companiesInvestments in associated companies are accounted for by the equity method of accounting. These are undertakings in whichthe Group holds from 20% to 50% of the voting rights and over which the Group exercises significant influence, but whichit does not control.

Equity method of accounting involves recognising in the income statement the Group’s share of the associate’s net profit orloss for the year and eliminating unrealised gains and unrealised losses on transactions between the Group and the associatedundertaking to the extent of the Group’s interest in the associates. Dividends received from the associate reduce the carryingamount of the investment. The Group’s interest in the associate is carried in the balance sheet at an amount that reflects itsshare of the net assets of the associate including any goodwill on acquisition. Investments in associated undertakings arereported as non-current assets in the Group’s balance sheet.

(c) Foreign currenciesThe functional and reporting currency of the Group is the Lat (LVL). All transactions denominated in foreign currencies areconverted into Lats at the Bank of Latvia rate of exchange prevailing on the day the transaction took place. Gains and lossesresulting from the settlement of such transactions and from the translation of monetary assets and liabilities denominated inforeign currencies are recognised in the income statement. At the year end foreign currency financial assets and liabilities aretranslated at the Bank of Latvia rate of exchange ruling at 31 December, and all associated exchange differences are dealt withthrough the income statement.


17

Exchange rates against the USD and EUR in the last two years have been:

2004 2003

Average (USD:LVL) LVL 0.5401 LVL 0.5712As at 31 December (USD:LVL) LVL 0.5160 LVL 0.5410

Average (EUR:LVL) LVL 0.6710 LVL 0.6452As at 31 December (EUR:LVL) LVL 0.7030 LVL 0.6740

Within the framework of Latvia's preparation for full-fledged membership in the Economic and Monetary Union, the Bank ofLatvia has fixed the peg rate of the Lat and the euro at 1 EUR = 0.702804 LVL effective since 1 January 2005.

(d) Research and developmentResearch costs are written off as incurred. Development costs are written off as incurred, except for major projects whereit is reasonably anticipated that the costs will be recovered through future commercial activities. Such development costs arecapitalised to the projects and written off over the life of property, plant and equipment for the particular project inaccordance with depreciation rates stated below.

(e) Intangible assetsCosts that are directly associated with identifiable software products that carry probable economic benefit exceeding the costand having a useful life beyond one year, are recognised as intangible assets and amortised using the straight-line method overtheir useful lives (3–5 years). Intangible assets comprise costs of trademark, computer software licences, the relatedimplementation services and capitalised staff costs of the software development team. Where the software is an integral partof the related hardware that cannot operate without that specific software, computer software is treated as property, plantand equipment.

All intangible assets are stated at historical cost less accumulated amortisation and any accumulated impairment losses.

Where an indication of impairment exists, the carrying amount of any intangible asset is assessed and written downimmediately to its recoverable amount, which is the higher of an asset’s net selling price and value in use, recognisingimpairment loss as an expense in the income statement. Review for impairment is carried out at each balance-sheet date. Therecoverable amount of an intangible asset not yet available for use is measured annually, irrespective of whether there is anyindication that it may be impaired. For the purposes of assessing impairment, assets are grouped at the lowest level for whichthere are separately identifiable cash flows.

(f) Property, plant and equipmentAll property, plant and equipment are stated at historical cost less accumulated depreciation and any accumulated impairmentlosses. Depreciation of tangible property, plant and equipment is calculated using the straight-line method to write off thecosts of each asset to their residual values over their estimated useful lives as follows:

Useful lives, years

Buildings 20–40Line plant 20–40Switching equipment 5–8Other telecommunications equipment 5–8Other fixed assets 3–7

Land is not depreciated as it is deemed to have an indefinite life.The useful life of an asset is reviewed at least at each financial year-end. Effect from a change in the estimated useful life of anasset is recognised prospectively by including it in a profit or loss in the current period and future periods.

Where the carrying amount of an asset is greater than its estimated recoverable amount, it is written down immediately toits recoverable amount, which is the higher of an asset’s net selling price and value in use, recognising impairment loss as anexpense in the income statement. Review for impairment is carried out at each balance-sheet date. For the purposes ofassessing impairment, assets are grouped at the lowest level for which there are separately identifiable cash flows. Entiretelecommunications network is considered as one cash generating unit.


18

Gains and losses on disposals are determined by comparing proceeds with the carrying amount, and are included in operatingprofit. Leasehold improvements are included within buildings and amortised over the shorter of the useful life of the buildingand the term of lease. Interest costs on borrowings to finance the construction of property, plant and equipment arecapitalised as part of the cost of the asset during the period of time that is required to complete and prepare the propertyfor its intended use. Operating expenses directly attributable to the construction of property, plant and equipment arecapitalised during the same period as interest costs using hourly rates that approximate operating costs incurred during oneman-hour of construction process.

(g) Investment propertyAs at 31 December 2004 the Group did not have property held exclusively for investment purposes.

(h) Non-current assets held for saleA non-current asset (or disposal group) is classified as held for sale if its carrying amount will be recovered principally througha sale transaction rather than through continuing use. For this to be the case the asset (or disposal group) must be availablefor immediate sale in its present condition subject only to terms that are usual and customary for sale of such asset and itssale must be highly probable. For the sale to be highly probable, the management must be committed to a plan to sell theasset and an active programme to locate a buyer and complete the plan must have been initiated. Non-current assets classified as held for sale are measured at the lower of its carrying amount and fair value less costs to sell.

(i) Financial instrumentsInvestments in other entities, where the ownership percentage is less than 20% and does not have significant influence, areclassified as available-for-sale financial assets. These are investments that have been made for business development purposes,are held for indefinite period of time and do not have fixed maturity. Such investments are reported as non-current assets.Purchases and sales of investments are recognised on the trade date, which is the date that the Group commits to purchaseor sell the asset. Cost of purchase includes transaction costs. Available-for-sale financial assets are carried at fair value. Gainsand losses arising from changes in the fair value of available-for-sale investments are recognised directly in equity, through thestatement of changes in equity, except for impairment losses and foreign exchange gains and losses, until the asset isderecognised; at which time the cumulative gain or loss previously recognised in equity is recognised in profit or loss.

The Group has made no investments, which would be classified as trading or held-to-maturity.

For financial assets carried at amortised cost, such as loans and receivables, an impairment or bad debt loss is recognised inthe income statement whenever it is probable that the Group will not collect all amounts due according to the contractualterms of loans or receivables. Reversal of impairment losses previously recognised is recorded when the decrease inimpairment loss can be objectively related to an event occurring after the write-down. The amount of the reversal is includedin the income statement. However, the increased carrying amount is only recognised to the extent it does not exceed whatamortised cost would have been had the impairment not been recognised.Financial instruments are reviewed for impairment at each balance sheet date.

(j) LeasesLeases of assets under which the lessee assumes substantially all the benefits and risks of ownership are classified as financeleases. All other leases are classified as operating leases.

(i) A Group company is a lessorWhen assets are leased out under an operating lease, income from operating leases is recognised in the income statement ona straight-line basis over the lease term. Initial direct costs incurred specifically to earn revenues from an operating lease areadded to the carrying amount of the leased asset and recognised as expense over the lease term on the same basis as thelease income.

If a Group company is a financial lessor, it reflects the asset in the balance sheet as a receivable at an amount equal to thepresent value of the lease payments. Lease income is recognised over the term of the lease on the basis of constant periodicrate of return.


19

(ii) A Group company is a lesseePayments made under operating leases are charged to the income statement on a straight-line basis over the period of thelease. If a Group company is a financial lessee, it recognises in the balance sheet the fixed asset as well as liabilities measuredas the lower of the fair value of the leased property and the present value of the minimum lease payments. Each leasepayment is allocated between the liability and finance charge so as to achieve a constant interest rate on the balance of liabilityoutstanding. The interest element of the finance cost is charged to the income statement over the lease period. The fixedasset acquired under a finance lease is depreciated over the shorter of the useful life of the asset and the lease term.

(k) InventoriesInventories are stated at the lower of cost and net realisable value. Cost is determined by the weighted average cost method.Where the net realisable value of inventories may have fallen below their average cost, an appropriate provision is madeagainst the inventory items concerned to reduce their value to net realisable value.

(l) Trade and other receivablesTrade and other receivables comprise items falling due within one year and are recorded in the balance sheet at their grossvalue, less provisions for impairment of receivables. The amount of provisions is the difference between the carrying amountand the recoverable amount. Doubtful receivables are provided for when the management identify the recovery of thespecifically identified trade receivables as doubtful. Bad debts are written off when identified. The bad and doubtful debtprovision also covers losses where there is objective evidence that probable losses are present in trade and other receivablesat the balance sheet date. These have been estimated based upon historical patterns of losses.

(m) Cash and cash equivalentsCash and cash equivalents comprise current accounts with banks, cash on hand, and deposits with banks with the remainingmaturity up to one month.

The cash flow statement has been prepared in accordance with the indirect method by adjusting profit before tax to reconcileit with cash flow from operating activities.

(n) BorrowingsAll borrowings are initially recognised at cost, being the fair value of the consideration received net of issue costs associatedwith the borrowing. After initial recognition, borrowings are subsequently measured at amortised cost using the effectiveinterest rate method. Gains and losses are recognised in the income statement as interest income/expense when the liabilitiesare derecognised through the amortisation process. The part of outstanding amount, which is due after more than 12 months,is included in non-current liabilities.

(o) Provisions for liabilities and chargesProvisions are recognised when the Group has a present legal or constructive obligation as a result of past events, and it isprobable that an outflow of resources embodying economic benefits will be required to settle the obligation, and the reliableestimate of the amount of the obligation can be made.

Provisions are measured in the balance sheet at the best estimate of the expenditure required to settle the present obligationat the balance sheet date. Provisions are used only for expenditures for which the provisions were originally recognised andare reversed if an outflow of resources is no longer probable.

Restructuring provisions comprise employee termination benefits, and are recognised in the period in which the Groupbecomes legally or constructively committed to payment. Costs related to the ongoing activities of the Group are notprovided in advance.

(p) ContingenciesContingent liabilities are not recognised in the financial statements. They are disclosed in the notes unless the possibility of anoutflow of resources embodying economic benefits is remote. A contingent asset is not recognised in the consolidatedfinancial statements, but disclosed in the notes when an inflow of economic benefits is probable.

(q) Pension benefitsThe Group operates a defined contribution pension plan. Monthly contributions are made to the non-profit joint stockcompany The First Closed Pension Fund (hereinafter – the Pension Fund) in favour of pension plan members in the amount of5% of each pension plan member’s salary. The Group recognises contributions to a defined contribution plan as an expensewhen an employee has rendered service in exchange for those contributions.


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(r) Deferred income taxesDeferred taxation is provided using the full liability method for all temporary differences arising between the tax bases ofassets and liabilities and their carrying value for financial reporting purposes. Deferred tax assets and liabilities are measuredat the tax rates that are expected to apply to the period when the asset is realised or the liability is settled, based on tax ratesthat have been enacted or substantively enacted by the balance sheet date.

Deferred tax assets are recognised to the extent that it is probable that future taxable profit will be available against whichthe temporary differences can be utilised.

Deferred income tax is provided on temporary differences arising on investments in subsidiaries and associated undertakings,except where the timing of the reversal of the temporary difference can be controlled and it is probable that the temporarydifference will not reverse in the foreseeable future.

The principal temporary differences arise from depreciation of property, plant and equipment and accrued expenses.

(s) Revenue recognition Revenue is recognised when products are delivered or services are rendered to customers or other telecommunicationsoperators. Telecommunications service revenue is recognised when the services are rendered based on usage of the networkand facilities. Sales revenue of prepaid phone and data transmission cards is recognised when telecommunications servicesare provided rather than at a point of sale. Revenue earned from connecting subscribers to the telecommunications networkis recognised upon service activation. Revenue includes unbilled calls, to the extent that they can be identified, and estimatedrevenues from domestic and foreign network operators based on rates negotiated directly with each of those administrations.When rendering billing and cash collection services, amounts collected on behalf of third parties are not recognised asrevenue. Income for provision of such services is recognised as revenue. Revenue is shown net of VAT and discounts.

Interest income is recognised on a time proportion basis, taking account of the principal outstanding and the effective rateover the period to maturity.

Dividends are recognised when the right to receive payment is established.

(t) Earnings per shareEarnings per share are calculated by dividing the net profit after taxation for the year by the average number of ordinaryshares in issue during the year. The average number of shares in issue during the year is weighted to take into account thetiming of the issue of new shares.

(u) DividendsDividends are recorded in the financial statements of the Group in the period in which they are approved by the Group’sshareholders.

(v) Events after the Balance Sheet dateThe amounts recognised in financial statements are adjusted to reflect post year-end events that provide additionalinformation about the Group’ s position at the balance sheet date (adjusting events). Post year end events that are notadjusting events are disclosed in the notes to the financial statements when material.


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Note 1

Revenue

2004 2003LVL'000 LVL'000

Revenue from international telephone services (1) 16,589 21,481Revenue from domestic telephone services (2) 84,875 90,420Revenue from other telecommunications services (3) 29,906 28,139Total 131,370 140,040

Other operating income (4) 1,871 1,724Total revenue and other operating income 133,241 141,764

(1) Revenue from international telephone services covers all revenue from international telephone traffic. Earnings attributedto the national system but derived from international inbound calls are included, and in 2004 they amounted to LVL 2.464million (LVL 4.566 million in 2003). This revenue is stated gross before out-payments to other telecommunicationsadministrations. (2) Revenue from domestic telephone services includes revenue from national calls and payphones, as well as installation andsubscription fees for telecommunications services. (3) Revenue from other telecommunications services includes interconnect revenue from local telecommunicationsoperators, revenue from the Internet, leased circuit lines, information technology related services, sales and servicing oftelecommunications and data equipment. (4) Revenue from other operating income includes income from business activities other than provision oftelecommunications services, such as income from sales of inventory and delayed payment interest.

Note 2

Payment to other telecommunications operators

2004 2003LVL'000 LVL'000

Foreign telecommunications operators 3,615 4,186Domestic telecommunications operators 14,056 14,040Total 17,671 18,226


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Note 3

Employee costs

2004 2003LVL'000 LVL'000

Salaries and wages 17,263 17,980Termination benefits 123 147Social insurance payments 4,189 4,405Pension costs – defined contribution plan 785 955Other benefits 518 534

22,878 24,021

Capitalised to non-current assets (see Note 8, 9b) (1,036) (1,590)Total 21,842 22,431

2004 2003

Number of staff at the end of the period 2,814 3,035Average number of permanent and temporary employees during the year 2,851 3,381

Note 4

Other operating expenses

2004 2003LVL'000 LVL'000

Sales and billing costs 7,262 8,893Bad debt expenses 1,377 958Cost of materials 1,194 1,166Rent, maintenance and utilities costs 4,774 4,853Network related technical costs 7,545 7,777Management and technology transfer fee 122 1,729General administration costs 6,000 7,255Land and property tax 695 632

28,969 32,097

Capitalised to non-current assets (see Note 9b) (121) (178)Total 28,848 31,919


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Note 5

Finance costs – net

2004 2003LVL'000 LVL'000

Interest expense:• bank borrowings 1,698 1,095• C-shares coupon – 1,231• other 3 4

capitalised to non-current assets (see Note 9b) (244) (415)1,457 1,915

Interest income (830) (465)

Net foreign exchange gain (69) (1,384)Total 558 66

Note 6

Income tax

2004 2003LVL'000 LVL'000

Current income tax 4,918 5,140Deferred tax (742) 27Total 4,176 5,167

Lattelekom applied the tax rate of 15% upon calculation of corporate income tax for the current year (19% in 2003).

Reconciliation of accounting and taxable profit and analysis of the tax charge

2004 2003LVL'000 LVL'000

Profit before tax 37,636 32,393

Tax calculated at 15% (in 2003 – at 19%) 5,645 6,155Adjusted for tax effect of:

• expenses not deductible for tax purposes 417 758• net income not subject to tax (1,886) (1,824)• changes in tax rates on deferred tax – 78

Total 4,176 5,167


24

The tax rate of 15% was applied to all temporary differences in the calculation of deferred tax as at 31 December 2004.

Movement in the deferred income tax account is as follows: 2004 2003LVL'000 LVL'000

At the beginning of the year 9,843 9,816Deferred tax (income)/expense (742) 27At the end of the year 9,101 9,843

Deferred income tax assets and liabilities are off-set as the income taxes relate to the same fiscal authority.

The following amounts are shown on the balance sheet:

2004 2003LVL'000 LVL'000

Deferred tax liability:• Accelerated tax depreciation 9,640 10,389

Deferred tax asset:• Accruals for costs and charges (539) (546)

Total net deferred tax liability 9,101 9,843

Note 7

Earnings per share

2004 2003

Net profit attributed to ordinary shares (LVL ‘000) 33,460 27,226Number of ordinary shares in issue 146,079,000 146,079,000Basic and diluted earnings per share (LVL) 0.23 0.19

The share capital according to the Charter of Incorporation of SIA Lattelekom currently amounts to 146,079,000 shares ofLVL 1 each.The Parent Company has no dilutive potential ordinary shares and therefore diluted earnings per share are the same as thebasic earnings per share.


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Note 8

Intangible assets

Software and Software software implementation

Trademarks licences in progress TotalLVL'000 LVL'000 LVL'000 LVL'000

Year ended 31 December 2003Opening net book value 26 5,445 4,560 10,031Additions – 1,572 (403)* 1,169Disposals – (267) – (267)Amortisation charge (6) (2,775) – (2,781)Impairment – 193 – 193Closing net book value 20 4,168 4,157 8,345

At 31 December 2003Cost 32 17,751 4,157 21,940Accumulated amortisation (12) (13,583) – (13,595)Net book value 20 4,168 4,157 8,345

Year ended 31 December 2004Opening net book value 20 4,168 4,157 8,345Additions 15 4,686 (3,595)* 1,106Disposals (18) (27) – (45)Amortisation charge (2) (2,667) – (2,669)Transfers – 1 – 1Closing net book value 15 6,161 562 6,738

At 31 December 2004Cost 15 21,906 562 22,483Accumulated amortisation – (15,745) – (15,745)Net book value 15 6,161 562 6,738

(*) Additions to Software implementation in progress are shown net of transfers to software in service.

The Additions to Intangible assets include the operating expenses, which are directly attributable to the implementation ofsoftware and are capitalised based on the hours spent on those projects. The total amount of expenses capitalised tointangible assets was LVL 279 thousand in 2004 (LVL 280 thousand in 2003) (see Note 3).


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Note 9

Property, Plant and Equipment

Other Land Switching telecom- Other Capital and Line- equip- munications fixed work in

buildings plant ment equipment assets progress TotalLVL'000 LVL'000 LVL'000 LVL'000 LVL'000 LVL'000 LVL'000

Year ended 31 December 2003Opening net book value 17,553 97,935 28,906 55,307 13,276 21,855 234,832Additions 1,320 15,276 2,496 12,320 1,607 (11,671)* 21,348Disposals (1,120) (29) (49) (849) (607) – (2,654)Depreciation charge (888) (7,528) (10,398) (18,402) (5,336) 113 (42,439)Transfers – – (6) 1 5 – –Closing net book value 16,865 105,654 20,949 48,377 8,945 10,297 211,087

At 31 December 2003Cost 24,775 147,450 100,098 113,306 34,703 10,298 430,630Accumulated depreciation (7,910) (41,796) (79,149) (64,929) (25,758) (1) (219,543)Net book value 16,865 105,654 20,949 48,377 8,945 10,297 211,087

Year ended 31 December 2004Opening net book value 16,865 105,654 20,949 48,377 8,945 10,297 211,087Additions 815 5,126 908 10,421 1,298 (4,357)* 14,211Disposals (1,118) (29) (42) (839) (252) – (2,280)Depreciation charge (980) (8,031) (7,642) (16,465) (3,862) 1 (36,979)Classified as held for sale (369) – – – – – (369)Transfers 1,140 (261) (14) (865) (1) – (1)Closing net book value 16,353 102,459 14,159 40,629 6,128 5,941 185,669

At 31 December 2004Cost 22,939 151,625 94,845 117,749 28,813 5,941 422,912Accumulated depreciation (6,586) (49,166) (80,686) (77,120) (23,685) – (237,243)Net book value 16,353 102,459 14,159 40,629 6,128 5,941 185,669

(*) Additions to Capital work in progress are shown net of transfers to assets in service.

The Net book value of land and buildings at 31 December 2004 includes cost of land of LVL 955 thousand (LVL 949 thousandin 2003). The Net book value of line plant as at 31 December 2004 includes purchased rights of use of international cablecapacity with a book value of LVL 728 thousand (LVL 803 thousand in 2003).

(a) Leasehold improvements Included in the land and buildings are the following amounts of leasehold improvements:

2004 2003LVL'000 LVL'000

Cost 1,187 1,308Accumulated depreciation (487) (527)Net book value 700 781

Commitments in respect of operating lease agreements are disclosed in Note 23b.


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(b) Capitalisation to property, plant and equipment The Additions to tangible property, plant and equipment include capitalised expenses incurred on capital expenditure projectsand capitalised based on the hours spent on those projects. The interest on loans taken to finance the assets in course ofconstruction is capitalised. The average rate of the interest capitalised was 4.85% during 2004 (4.71% in 2003). The totalamount of expenses capitalised to property, plant and equipment was LVL 1.122 million during 2004 (LVL 1.903 million in2003) (see Notes 3, 4, 5).

(c) Fully depreciated property, plant and equipmentA number of property, plant and equipment items that have been fully depreciated are still used in operations. The totaloriginal cost value of this property and equipment at the end of the year was LVL 56.484 million (LVL 95.144 million – in2003).

(d) Title to the assetsTitle to part of property held by the Parent Company has yet to be registered with the Land Registry. Altogether 77% (in2003 – 80%) of total property owned by the Parent Company have been registered with the Land Registry by 31 December2004. The proportion of property registered with the Land Registry decreased due to the sale of registered buildings duringthe 2004. It may take considerable amount of time before the Parent Company’s property rights are registered in accordancewith Latvian Civil Law due to necessity of obtaining adequate documentation concerning each property item. Themanagement does not expect this to inhibit the Group’s operations in the future.

Note 10

Non-current assets clasified as held for sale

In 2004, to optimize the use of Lattelekom's real estate property, the management made a decision to sell part of the buildingsowned by the company. 42 property objects were sold during 2004. Profit from the sale of the buildings was LVL 621thousand. As at December 31, 2004, 26 buildings designated for sale remained unsold. The value of these buildings ismeasured at the lower of their carrying amount and fair value less costs to sell. The fair value of each building was determinedas the market price based on evaluation by independent real estate property experts. In case, where carrying value of aparticular building exceeded its market value, the carrying value has been reduced accordingly. In total impairment loss of LVL125 thousand related to these buildings was recognised in the income statement. The value of the buildings held for sale asat December 31, 2004 was LVL 369 thousand.

Note 11

Investments in associated companies

2004 2003LVL'000 LVL'000

Opening carrying value 24,621 21,022Share of results before tax 14,569 11,826Share of tax (1,998) (2,224)Net share of results 12,571 9,602

Dividends received (7,297) (6,003)Closing carrying value 29,895 24,621

SIA Lattelekom holds 23% of the shares in SIA Latvijas Mobilais Telefons (LMT). There were no changes in the interests heldin the associated undertaking in 2004 or 2003.

LMT is a mobile communications operator in Latvia. The main activities of LMT are provision of mobile telecommunicationsservices, construction, operation and maintenance of mobile telephone networks and systems in Latvia (see Note 24).


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The following table illustrates summarised information on LMT

2004 2003LVL'000 LVL'000

Income statementRevenue 149,354 130,179Net profit 54,656 42,300

Balance sheetNon-current asset 85,589 83,952Current assets 61,057 36,800Total assets 146,646 120,752

Capital and reserves 129,978 107,047Non-current liabilities 3,142 3,272Current liabilities 13,526 10,433Total equity and liabilities 146,646 120,752

Note 12

Available-for-sale investmens

In 2004 the Group’s shareholding of 0.05% in Eutelsat S.A Ltd was sold and the difference between carrying amount andconsideration received was recognised in the income statement. Eutelsat is a company registered in France and is a providerof satellite capacity for broadcasting and video network services, corporate network solutions, broadband multimediaservices and mobile communications.

Note 13

Non-current receivables

The amount of LVL 103 thousand comprises receivables of LVL 75 thousand (LVL 38 thousand in 2003) related toconstruction of telecommunications network and LVL 28 thousand (LVL 18 thousand in 2003) long-term receivables fromfinancial leasing contracts with due date between 1 and 5 years. Subjects of leases are customer premises telecommunicationsequipment and PCs. Current portion of receivables from finance leases is included in short-term receivables (see Note 15).

Note 14

Inventories

2004 2003LVL'000 LVL'000

Inventory held for operating activities 1,499 1,303Goods held for re-sale 689 882Less: Provisions for slow moving and obsolete stock (528) (318)Prepayments for inventory – 12Total inventories 1,660 1,879


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Provisions for slow moving and obsolete stock and changes there included the following:

2004 2003LVL'000 LVL'000

Balance at the beginning of the year 318 392Charged to income statement during the year 385 174Inventories written-off (175) (248)Balance at the end of the year 528 318

Note 15

Recievables net and prepayments

2004 2003LVL'000 LVL'000

Trade receivables 11,160 13,351Receivables from other telecommunications operators 4,627 7,172Other receivables and prepayments 1,160 1,619Finance leases – not later than 1 year (see Note 13) 52 34Less: Provisions for bad and doubtful debts (4,145) (4,101)Prepaid expenses 477 474Total receivables and prepayments 13,331 18,549

Provisions for bad and doubtful debts and changes there included the following:

2004 2003LVL'000 LVL'000

Balance at the beginning of the year 4,101 6,853Charged to income statement during the year 1,377 958Debts written-off (1,333) (3,710)Balance at the end of the year 4,145 4,101

The average payment terms of accounts receivable is 45 days for foreign telecommunications operators, 30 days for localtelecommunications companies, and 15 days – for end-users of telecommunications service.

Note 16

Cash and cash equivalents

2004 2003LVL'000 LVL'000

Cash at bank and in hand 791 2,423Short-term bank deposit 1,567 16,626Total cash and deposits 2,358 19,049

In 2004 the weighted average annual interest rate on short-term bank deposits was 3.32% (2.70% in 2003) and thesedeposits had an average maturity of 8 days (7 days in 2003) (see Note 25). Changes in actual interest rates were in line withthe overall market changes.


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Note 17

Borrowings

2004 2003LVL'000 LVL'000

Non-current borrowingsBank borrowings with maturity between 1 and 2 years – 7,000Bonds – 25,602Total non-current borrowings – 32,602

Current borrowingsBank borrowings 12,000 10,000Total current borrowings 12,000 10,000Total borrowings 12,000 42,602

All bank borrowings at the end of year 2004 and 2003 were denominated in Lats and had been raised from Latvian banks.

In June 2004, Lattelekom exercised an option for early redemption of its private bond issue of the total amount of LVL 25.602million.

Undrawn borrowing facilities:

2004 2003LVL'000 LVL'000

Expiring within one year 4,000 2,000Expiring beyond one year 23,220 29,345

The facilities expiring within one year are annual facilities (overdrafts) maturing in 2005. The other facilities consist of a USD45 million committed multicurrency revolving credit facility. The multicurrency facility has been granted for four years untilJuly 2006, and is subject to semi-annual review for compliance with certain financial statement ratio covenants by the Group.

There are no pledges on assets for bank borrowings and borrowing facilities.

2004 2003LVL'000 LVL'000

Weighted average interest rates on borrowings 4.97% 4.65%

During 2004, the majority of credit facilities drawn down were borrowings in Lats subject to interest rates varying between3.53% and 5.40%. Changes in actual interest rates were in line with the overall market changes.

Note 18

Other Liabilities

2004 2003LVL'000 LVL'000

Deferred income 488 335Due to Pension Fund – contractual obligation to support administrative costs (see Note 19) – 223Total other liabilities 488 588


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Note 19

Trade and other payables

2004 2003LVL'000 LVL'000

Trade payables to other telecommunications operators 3,995 4,166Payables related to investments in non-current assets 1,114 3,736Other trade payables 2,706 3,630Due to Pension Fund – contractual obligation to support administrative costs 95 –Taxes and social insurance payments 731 1,492Current corporate income tax liabilities 89 51Deferred income – prepayments from customers 707 538Other payables and accruals 2,854 2,532Total trade and other payables 12,291 16,145

The average payment terms of accounts payable is 45 days for foreign telecommunications operators, 30 days for localtelecommunications companies and 30 days – for contractors and suppliers.

Note 20

Provosions

Termination benefits 2004 2003LVL'000 LVL'000

Balance at the beginning of the year 248 2,638Paid during the period (248) (2,572)Provision created during the year 123 182Total provisions 123 248

Note 21

Accruals for liabilities and charges

The amount of LVL 2.035 million represents accruals for employee annual bonuses, holiday benefits and related taxes (LVL1.861 million in 2003). Accruals for employee bonuses are made based on estimated level of achievement of the corporateand individual targets according to the Group’s bonus scheme.


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Note 22

Reserves

2004 2003LVL'000 LVL'000

Statutory reserve 5,309 4,073Restricted reserve related to associated companies 12,027 9,722Total reserves 17,336 13,795

The Latvian law On Limited Liability Companies provided that at least 5% of the annual net profit must be appropriated tostatutory reserve until this reserve reaches one third of the share capital.

The Commercial Law does notrequire setting up of such statutory reserve.Thus, following the company's registration withthe Commercial Register on 17 December 2004, the accumulated statutory reserve upon the resolution of the Shareholders'Meeting can be transferred to retained earnings.

According to the Latvian law On Annual Accounts of Companies the share of the results of associates net of tax and dividendsreceived is included in undistributable reserve “Unrealised income from associated undertakings” in the following year.

Note 23

Commitments

(a) Capital commitments

Capital expenditure contracted for deliveries of equipment and software at the balance sheet date but not recognised in thefinancial statements is as follows:

2004 2003LVL'000 LVL'000

Intangible assets 23 9Property, plant and equipment 811 336Total 834 345

(b) Commitments under operating leasesThe Group as a lessee has entered into property lease agreements. The total amount of annual lease expenses was LVL 0.759million in 2004 (LVL 0.849 million in 2003). At 31 December 2004 the future aggregate minimum lease payments under non-cancellable operating leases were as follows:

2004 2003LVL'000 LVL'000

Less then one year 48 57Between 1 and 5 years 183 174Total 231 231


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Note 24

Related party transactions

TILTS Communications A/S holds 49% of Lattelekom’s issued ordinary share capital.

TeliaSonera AB owns 100% of the shares of TILTS Communications A/S thus indirectly owning 49% of the shares of SIALattelekom. In addition, TeliaSonera AB holds 49% of the issued share capital of SIA Latvijas Mobilais Telefons.

The Republic of Latvia holds 51% of SIA Lattelekom issued ordinary share capital. Routine trading transactions with the Latviangovernment including its departments and agencies and transactions between state-controlled entities, which are providersof public utilities, are excluded from the scope of related party disclosures.

SIA Latvijas Mobilais Telefons (LMT) (SIA Lattelekom holding 23% of the shares) is an associated company since June 1997(see Note 10).Lattelekom Group owns 50% of the shares of A/S First Closed Pension Fund (Pension Fund). However Lattelekom is only anominal shareholder as all risks and benefits arising from its activities will accrue to Lattelekom’s employees – members of thepension plan.Transactions with related parties were “on arms length basis”. The following material transactions were carried out withrelated parties:

(a) Sales of services

2004 2003LVL'000 LVL'000

LMT (telecommunication services, interconnection fees) 4,265 5,597TeliaSonera Group (international telephone traffic) 1,293 1,270Pension Fund (telecommunications and IT services) 30 30State-controlled entities (IT services) 29 63

5,617 6,960

(b) Purchases of goods and services

2004 2003LVL'000 LVL'000

LMT (mobile telephone services, interconnection fee) 8,759 8,552TeliaSonera Group (international telephone traffic,

various services and equipment) 518 216TILTS Communications (consultancy services, management,

technology transfer and procurement services) 178 1,745State-controlled entities (premises rent, various services) 269 313

9,724 10,826


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(c) Outstanding balances arising from sale/purchase of goods/services

2004 2003LVL'000 LVL'000

Receivables from related parties:LMT 360 604TeliaSonera Group 523 408State-controlled entities 3 1

886 1,013

Payables to related parties:LMT 1,131 1,219TeliaSonera Group 159 70Pension Fund 95 223State-controlled entities – 15

1,385 1,527

(d) Key management remuneration

2004 2003LVL'000 LVL'000

Salaries 202 95Post – employment benefits (defined contribution pension plan) 7 3Other benefits 13 1Total 222 99

In 2003 according to the Management Agreement signed between Lattelekom and TILTS Communications A/S the managementof Lattelekom was performed and ensured by TILTS Communications A/S. The Management Agreement expired on 15 January2004. The management fee charged by TILTS Communications A/S was included in the other operating expenses.

No members of the Management Board, Supervisory Council or members of their families or legal entities controlled by themown or have interest in shares or share options of SIA Lattelekom.

Note 25

Financial risk management

Financial risks with respect to the Group’s liquidity, volatility in currency and interest rates and counter-party credit risk ismanaged by Lattelekom on a centralised basis.

Group’s daily operations give rise to financial risk exposure, primarily with respect to currencies and interest rates, which mayimpact directly the Group’s operating results and financial position. Lattelekom hedges risks from foreign currency exchangeand interest rate fluctuations through its normal operating and financing activities and, when deemed appropriate, throughthe use of derivative financial instruments.

The Group policy is to hedge net underlying exposures of all committed and anticipated currency transactions, and Lattelekomdoes not hold positions independent of these exposures. All borrowings and foreign exchange activities are undertaken tosupport underlying operating business transactions. The Group does not undertake any speculative transactions that wouldincrease its currency or interest rate exposure.


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(a) Financing and Liquidity riskAppropriate policies are in place to ensure that the Group has sufficient liquidity and is able to finance its operations withoutfunding constraints. Financing risk is reduced by spreading maturities of the Group’s loan portfolio over different years andby maintaining flexibility in funding by keeping committed credit lines available. Lattelekom has a four-year committedmulticurrency revolving credit facility of USD 45 million issued by a consortium of reputable international banks by 2006.Short-term liquidity is achieved through bank overdrafts.

In June 2004 Lattelekom exercised an option for early redemption of its LVL 25.602 million private issue bond (former B shareswhich were converted into debt in 2003). As at the end of the year, Lattelekom’s bank borrowings amounted to LVL 12.0million down from LVL 17.0 million in 2003.

(b) Currency riskThe Group is exposed to foreign exchange risk arising from various currency exposures, primarily with respect to GBP andUSD. Within the framework of Latvia's preparation for full-fledged membership in the Economic and Monetary Union, theBank of Latvia has fixed the peg rate of the lats and the euro at 1 EUR = 0.702804 LVL, and, since 1 January 2005, the foreignexchange risk in respect to EUR, which is the preferred currency in settlements with foreign business partners, is eliminated.

Trade accounts payable as at 31 December 2004 included aggregate payables of LVL 0.586 million (LVL 1.192 million in 2003)due in foreign currencies, which have been hedged by cash balances in foreign currencies. The excess balance of foreigncurrency cash of LVL 1.091 million (LVL 1.961 million in 2003) was accumulated in anticipation of expected futuretransactions, however it was not designated as a distinctive hedge and the effect of currency revaluation was accounted forin the income statement. As at the end of 2004, all Lattelekom’s borrowings were denominated in LVL (see Note 17).

(c) Interest rate riskThe Group’s sources of funds are primarily shareholder’s equity, cash flows from operating activities and to a lesser extentborrowings. The Group’s exposure to market risk from changes in interest rates relates to its debt obligations, sinceLattelekom’s bank borrowings and facilities are maintained on floating interest rates which are based on interbank marketrates and are in average fixed for a period of 3 months at various dates throughout the year. The privately issued bond of LVL25.602 million which was redeemed in June 2004 carried a fixed coupon. The weighted average interest rate on Lattelekom’sborrowings increased from 4.7% in 2003 to 5.0% in 2004 due to a higher overall level of reference rates in the local marketand the interest accrued on the LVL 25.602 million bonds beginning from January 2004 until the redemption of the bonds inJune (see Note 17).

Lattelekom’s short-term deposits are at fixed interest rates and mature within less than one month (see Note 16).

(d) Credit riskFinancial assets, which potentially subject the Group to concentrations of credit risk, consist principally of trade receivables,prepayments, cash at bank and short-term deposits. The Group has policies in place to ensure that sales of products andservices are made to customers with an appropriate credit history. Credit risk with respect to trade receivables is limited dueto the extent of the Group’s customer base. Trade receivables are presented net of allowances for doubtful debts. Derivativecounterparties and cash transactions are limited to local financial institutions with an appropriate credit standing. The Groupclosely monitors and limits the amount of credit exposure to any financial institution. There are no significant concentrationsof credit risk within the Group.

(e) Fair valuesThe carrying value of the financial assets and liabilities with a maturity of less than one year is assumed to approximate theirfair values. The fair value of remaining financial instruments is estimated by discounting the expected future cash flows to netpresent values using appropriate prevailing market interest rates available at the end of the period. Market interest rates applyto interest-bearing debt and the book value of these items is regarded as corresponding to their fair value. During the yearended 31 December 2004 the Group did not utilise any derivative financial instruments.


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Auditors’ report To the shareholders of SIA Lattelekom

We have audited the accompanying consolidated financial statements of SIA Lattelekom (the Parent Company) and itssubsidiary (hereinafter – the Group) for the year ended 31 December 2004, set out on pages 11 through 36, which comprisethe balance sheet, the statements of income, cash flows and changes in equity and the related notes. These financialstatements are the responsibility of the Parent Company’s management. Our responsibility is to express an opinion on thesefinancial statements based on our audit.

We conducted our audit in accordance with International Standards on Auditing issued by the International Federation ofAccountants. Those Standards require that we plan and perform the audit to obtain reasonable assurance about whether thefinancial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting theamounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used andsignificant estimates made by management, as well as evaluating the overall financial statement presentation. We believe thatour audit provides a reasonable basis for our opinion.

In our opinion, the financial statements referred to above give a true and fair view of the financial position of the Group as of31 December 2004, and of the results of its operations and its cash flows for the year then ended in accordance withInternational Financial Reporting Standards issued by the International Accounting Standards Board.

Ernst & Young Baltic SIALicense No. 17

Riga,24 February 2005

Diāna Krišjāne

Personal ID code: 250873-12964

Chairman of the Board

Gundars Ruža

Personal ID code: 310375-10517

Latvian Sworn Auditor

Certificate No. 137

lattelekom group consolidated annual report for … activities and business review in 2004...

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