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研究报告:电信服务业——时间就是金钱-060711

研报作者:GS 来自:GS 时间:2006-07-12 08:46:30
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July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 1 July 11,2006 China: Telecom Services Time is money Many scenarios all mold into one thesis Cutting through the web of uncertainty that surrounds the Chinese telecom sector, we believe the market can find consensus in the generalization that CM is the major share price beneficiary pre 3G licensing, CT and CNC’s fate may improve post licensing, and CU is largely a restructuring play. This “big picture” thesis, we believe, has not changed in the past two years. Timing expectation is the key price driver We believe timing expectations—rather than a change in the “big picture”—have driven such a wide disparity in the performance of the four telco stocks. The continued delay in official 3G licensing has led CM to outperform MSCIChina by 30% since January 2005. We expect more of the same We expect more of the same delays over the coming quarters. Submission of test results from the TD- SCDMA pre-commercial trials to the MII have been postponed repeatedly and may drag into 3Q-4Q. The MII may choose to extend the duration and scope of TD- SCDMA trials rather than grant licenses right away. The MII could delay licensing until mid 2007 and still have WCDMA 3G coverage by the Olympics— we believe TD- SCDMA expansion does not require formal licensing. Stock implications—shift preference to CM Our expectation of more delays leads us to upgrade CM to Buy for continued outperformance over the coming quarters. CM does face risks, such as unfavorable regulatory policy changes, a likely need to allow rivals to roam onto its 2G network, and increased competition. These are, however, some time away. In the meantime, though, CM should further widen its gap over its rivals. Our DCF-based target of HK$52 reflects 3G capex. CT and CNC may see upside surprises, but probably not soon We think that the market is pricing in value-destructive 3G scenarios for CT and CNC. Upside surprises may emerge at licensing—for example, we believe any TD- SCDMA capex will be borne by the parent company instead of the listco. CT/CNC may also receive significant policy assistance, but we fear the market will not give credit for this until licensing is imminent. CU is mainly a restructuring idea With no visibility on restructuring timing, CU lacks catalysts and poses limited room for more operational surprises after recent consensus upgrades post 1Q2006 – downgrade to Neutral. We see better risk/reward for this name closer to its book value—in the low HK$6s. RATINGANDTARGETPRICEUPDATE CMHKCUCTCNC Ticker 941.HK 762.HK 728.HK 906.HK New rating Buy Neutral Neutral Neutral New target (HK$) 52.007.202.7014.20 Current (HK$) 45.407.052.5314.00 Potential upside(%) 15% 2% 7% 1% Old rating Neutral Buy Neutral Neutral Old target (HK$) 40.00 8.00 2.85 13.90 2006EPE (x) 14.7 15.3 9.7 8.8 2007EPE (x) 13.3 14.0 9.8 8.7 2006EEV/EBITDA (x) 5.46 3.67 3.84 3.78 2007EEV/EBITDA (x) 4.74 3.31 3.65 3.64 2006EDiv. yield (%) 2.9% 2.0% 2.9% 4.2% 2007EDiv. yield (%) 3.4% 2.5% 2.9% 4.6% Valuation @ current price WHYREADTHISREPORT Rating preference change from CU to CM, new target prices, estimates, valuation methodologies Updated views on 3G outlook, timing estimates, standard adoption scenarios and regulatory assistance Differentiation between nearer-term and long-term risks and rewards within the sector Helen Zhu +852-2978-0048 | helen.zhu@gs.com Goldman Sachs (Asia) L.L.C. Hao Fei Chen, PhD +86(10)6535-3063 | haofei.chen@ghsl.cn Beijing Gao Hua Securities Company Limited Lucy Liu +852-2978-1466 | lucy.liu@gs.com Goldman Sachs (Asia) L.L.C. Analysts employed by non-US affiliates are not required to take the NASD/NYSE analyst exam. The Goldman Sachs Group, Inc. does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. Customers in the US can receive independent, third-party research on companies covered in this report, at no cost to them, where such research is available. Customers can access this independent research at .gs.com or call 1-866-727- 7000. For Reg AC certification, see the text preceding the disclosures. For other important disclosures go to /research/hedge.html. The Goldman Sachs Group, Inc. Global Investment Research July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 2 Table of contents A better question to ask is not just “How”, but “When” 3 China Mobile: Our new preferred pick for the coming quarters 18 CT/CNC: Room for positive surprises on 3G, but no catalysts until then 27 CU: Restructuring or else! 36 Appendix: Datahub for China telcos 47 EXPECTEDNEWSFLOW/EVENTS DATEEVENTCOMMENT August Chinese telco 1H2006 results Expect some upside to consensus estimates for CM post results; limited upside for CU estimates. We expect CT and CNC to post only low- single-digit yoy earnings growth. We expect no major announcements or changes on issues such as capex or dividend guidance. September/October TD-SCDMA pre-commercial trial results to be submitted to the MIIWe think the pre-commercial trial will continue to run to allow testing of new generations of TD-SCDMA equipment and inflow of additional TD-SCDMA handsets, especially for dual-mode. October Chinese telco 3Q2006 results We do not expect much deviation from current operating trends for all four telcos or noticeable improvements on the CDMA network post SKT investment. 4Q2006 MII may make some statements regarding TD-SCDMA maturity and trial test results We are skeptical that licensing will take place this year. We think the more likely outcome is that the pre-commercial trial is extended in duration and in scope, possibly to include other host cities of the 2008 Olympics Mid 2007 Likely deadline for 3G licensing, should the MII wish to have WCDMA coverage in China before the Olympics. No licensing deadline for TD- SCDMA coverage as this could be an ongoing process as part of the pre-commercial trial (which already involves 5 cities) We believe the degree to which this announcement may boost fixed-line player(s) share prices will depend on whether regulatory policy changes to assist newcomers are announced at the time of licensing or kept vague. We do expect some upside surprise for the fixed-line listcos, in that TD-SCDMA buildout will most likely be conducted at the parent company level. 2007-onward Possible CU asset sale and industry restructuring Timing of any such event remains highly uncertain as we believe the MII has de-coupled the issue of industry restructuring and 3G licensing. More clear indications of such a restructuring being imminent would make us more positive on CU. 1Q20083G rollout (of whichever technology or technologies)needs to reach a certain scale to allow optimization before Olympics (August 2008) Source: Company data, Goldman Sachs Research estimates. The prices in the body of this report are based on the market close of July 7,2006. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 3 A better question to ask is not just “How”, but “When” The Chinese telco sector is one of many uncertainties. We think that not just how but when a resolution emerges is now the pivotal factor in picking stocks. As we see continued delays in TD-SCDMA trials, and the emergence of a possible “back door” method to roll out TD-SCDMA without having to formally grant 3G licenses, we believe continued ambiguity could quite possibly extend China Mobile’s (CM) honeymoon period for another 6-12 months. We shift our current preference to CM (Buy), while noting that China Telecom (CT; Neutral) and China Netcom (CNC; Neutral)could see some upside surprises long term, and China Unicom (CU; Neutral) remains an interesting idea, but only if and when we have more visibility on restructuring. Controversy abounds, what can we agree on The same long list of questions, still without definitive answers Over the past few years, China’s telecom sector has generally come to be viewed by the market as cryptic and confounding. And it’s no wonder, as a myriad of questions, each with a number of feasible solutions, link up to form countless branches of possible outcomes. Some of the as-yet- unanswered questions include: How many 3G licenses will be issued When will 3G licenses be issued Will all of the licenses be nationwide, or might some be regional Will there be any breakup of CU’s network assets Which 3G standards will be adopted, and by which operators How will the government assist newcomers to gain market share ... and so on and so forth ... One could easily lose sleep pondering over the intricacies of each potential combination (and probability distribution) and the associated pros and cons for both the government (which more or less calls all of the shots), and the minority investor (which has minimal input but must deal with the consequences). The market as a whole has engaged in this guesswork exercise for years now—with some initial fervor, followed by a long period of apathy and frustration as the government continues to drag its feet on making a firm call. Take a step back and grasp the “big picture” thesis Without getting entangled in every single branch of the possibility tree, we think that, interestingly, there is (and probably has long been) actually a wide consensus on a few key “big picture” theses: (1) CM is the clear beneficiary of continued delays in formal licensing—as it continues to gain market share virtually unopposed in a still-high- growth mobile market. With 3G supposedly “just around the corner,” fixed-line operators are reluctant to recommence sizeable investments in PHS. Proactive price cuts by CM are resulting in faster expansion of the addressable market and still fairly stable ARPUs as elasticity kicks in. Meanwhile, price cuts are putting pressure on less-elastic CU subs, and expediting fixed-to-mobile substitution. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 4 (2) 3G licensing most benefits the fixed-line players—CT and CNC have been lobbying aggressively for mobile licensing for years now, in hopes that it would help to offset downward pressure on revenue from mobile substitution. While 3G licensing could very well mean the fixed-line player(s) taking on the TD-SCDMA standard, the market has largely already incorporated this into expectations (especially for CT, as we discuss in detail later in this note). Thus, taking on a reasonable assumption that delays in licensing timing do not dramatically lower the likelihood of being issued the TD-SCDMA license, CT and CNC would prefer earlier licensing as it spells a larger remaining untapped addressable market. CT and CNC could also see some positive surprises if the Ministry of Information Industry (MII, the regulator) implements some degree of policy assistance in support of newcomers. (3) CU’s long-term future hinges on restructuring –CU has put up some mighty struggles over the past four and a half years since it launched CDMA. At the end of the day though, CU is now left to suffer the fate of market share loss on both GSM and CDMA, while its listco CDMA business barely breaks even and the parent (which owns the CDMA network assets) continues to bleed (as CDMA depreciation far outweighs percentage-of- revenue-based leasing fees from the listco). In the current market environment, an organic “turnaround” looks to be a tall order as the company seems to have tried just about everything already. The best-case scenario for CU shareholders would be a sell-off of its GSM asset at a premium, to CT and/or CNC (i.e., an industry restructuring), in our view. A simple 3G licensing with no restructuring might or might not be positive for CU, as it means introduction of more competitive threats into the mobile space. We summarize the directional impact for each of the four listed stocks at different time points in Exhibit 1 below. Exhibit 1: “Big picture” directional impact by operator appears fairly uncontroversial, in our view CM is the clear winner pre-3G licensing, while CT/CNC are most eager for clarity/mobile licensing Before 3G licensing At 3G licensing If/when restructuring happens Long-term 2-3 years China Mobile Continue to gain market share Neutral unless stuck with TDQuicker introduction of new Likely to see advantages eroded away with regulation changes as CU performance is lack- Potential negative from asymmetrical regulation competition (rate of stock impact on whether new regulation is announced lustre and PHS adds slow (esp if policies announced up front) up front or adopted as needed China Unicom Neutral - no new competition Neutral - unless network Likely to sell off the GSM asset Neutral, could have some room for slight operational but under pressure from CM's breakup happens at the same time at a noticeable premium improvement tariff cutting Long term future for CDMA remains unclear China Telecom TD sentiment overhang remains, Potential upside surprise in Obtains GSM network but also operational results in-line parentco buildout of TD vs probably means saddled Likely to benefit from regulatory assistance at best listco buildout of TD with TD liability - negative for (vs current expectations) sentiment Could see new foreign investment China Netcom TD sentiment overhang remains, Potential upside surprise in regulatory could have slightly more room for policy changes to assist newcomers margin improvement vs CTPotential downside in confirming TD participation Source: Goldman Sachs Research. Every telco has its day—some just haven’t had many in recent memory ... Interestingly, despite rumors and speculation galore, we do not believe much of the content in Exhibit 1 above has really changed over the past year or two. We believe that share price performance of the past twelve months or so has largely been driven by shifts in views on timing, rather than by shifts in views on the general thesis. Further, we think that the call on timing will likely continue to act as a key share price driver. Only when we achieve better visibility on the formal licensing issue will CT and CNC see more share price support, in our view. CT & CNC: Provincial acquisition aside, severely lacking excitement Looking back on the share price performance of the four Chinese telcos over the past one and a half years, CM has been the clear outperformer (as licensing expectations were continuously pushed back), followed by CNC. We think what has set CNC apart from CT is: (1) CNC announced an asset July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 5 injection that was accretive to shareholders in September 2005; and (2) CNC has lower risk exposure to 3G standards versus CT (an issue we discuss in greater detail later in this product). Exhibit 2: CM and CNC have done better than CT and CU over the past 1.5 years Exhibit 3: CM has outperformed the HSI substantially over the past year The stock moved largely in parallel to the index in 2003 and 2004 40% 60% 80% 100% 120% 140% 160% 180% 1/ 3/ 05 2/ 3/ 05 3/ 3/ 05 4/ 3/ 05 5/ 3/ 05 6/ 3/ 05 7/ 3/ 05 8/ 3/ 05 9/ 3/ 05 10 /3 /0 5 11 /3 /0 5 12 /3 /0 5 1/ 3/ 06 2/ 3/ 06 3/ 3/ 06 4/ 3/ 06 5/ 3/ 06 6/ 3/ 06 7/ 3/ 06 CMCUCTCNCHang Seng Share rally in the run-up to asset injection for CNC Indexed price 1/3/2005 = 100% 0% 20% 40% 60% 80% 100% 120% 140% 160% 180% 1/ 1/ 20 02 3/ 1/ 20 02 5/ 1/ 20 02 7/ 1/ 20 02 9/ 1/ 20 02 11 /1 /2 00 2 1/ 1/ 20 03 3/ 1/ 20 03 5/ 1/ 20 03 7/ 1/ 20 03 9/ 1/ 20 03 11 /1 /2 00 3 1/ 1/ 20 04 3/ 1/ 20 04 5/ 1/ 20 04 7/ 1/ 20 04 9/ 1/ 20 04 11 /1 /2 00 4 1/ 1/ 20 05 3/ 1/ 20 05 5/ 1/ 20 05 7/ 1/ 20 05 9/ 1/ 20 05 11 /1 /2 00 5 1/ 1/ 20 06 3/ 1/ 20 06 5/ 1/ 20 06 7/ 1/ 20 06 CMHang Seng Under-performed as CU's CDMA launch and subsidies ate into share and surprised the market Out-performed as 3G licensing timing was increasingly pushed back. Operating results came in strongly as CU's add momentum slowed and CT/CNC pulled back on PHS investment Indexed price 1/1/2002 = 100% Source: Datastream. Source: Datastream. CM: Clear outperformance versus Hang Seng Index since mid 2005 CM’s strong share price trend has not been simply due to its correlation with the Hang Seng Index (HSI), in which it has a sizeable double-digit weighting. As Exhibits 3 and 4 show, CM traded in line with the HSI for two whole years, from around the bottom of the market in 2Q2003 to around 2Q2005. In the past four to five quarters, CM has managed to outperform the index by over 40%. CU: A narrow trading band CU’s share price saw a small bounce in 1Q2005 on the back of CT chairman Wang Xiaochu’s public comments about wishing to purchase the GSM network from CU. As timing visibility dimmed and the months passed, the market seemed to give up on this name and the share price held fairly flat until 2Q2006. We saw a relatively strong 1Q2006 result buoy the share price and consensus forecasts, but even with a sentiment boost from a tie-up with SKTelecom (SKT), CU’s price performance largely remains range-bound between HK$6 and HK$7 (see Exhibit 4). Over roughly 390 trading days from the beginning of 2005 until now, about 74% of days saw CU’s share price close between HK$6.2 and HK$6.8, while 88% of days saw CU’s share price close between HK$6 and HK$7 (see Exhibit 5). July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 6 Exhibit 4: Chinese telcos ytd share price performance Exhibit 5: CU trading has been largely range-bound between HK$6-7 60% 70% 80% 90% 100% 110% 120% 130% 140% 1/ 2/ 06 1/ 10 /0 6 1/ 18 /0 6 1/ 26 /0 6 2/ 3/ 06 2/ 11 /0 6 2/ 19 /0 6 2/ 27 /0 6 3/ 7/ 06 3/ 15 /0 6 3/ 23 /0 6 3/ 31 /0 6 4/ 8/ 06 4/ 16 /0 6 4/ 24 /0 6 5/ 2/ 06 5/ 10 /0 6 5/ 18 /0 6 5/ 26 /0 6 6/ 3/ 06 6/ 11 /0 6 6/ 19 /0 6 6/ 27 /0 6 7/ 5/ 06 CMCUCTCNCHang Seng CU share price bounces off a strong 1Q06 and as market looks for laggards in a liquidity rally SKT tie-up did not affect CU share price noticeably FY05 results period TD trial results date gradually pushed back, to July time frame TD trial results likely to see further delay Indexed price 1/2/2006 = 100% CU share price distribution Jan 2005 to date 11 7 2 13 20 37 60 56 4041 30 2423 17 10 212 4 11 0 10 20 30 40 50 60 70 5.55.65.75.85.966.16.26.36.46.56.66.76.86.977.17.27.37.47.57.67.77.87.9 HK$ oc cu rr en ce s Source: Datastream, Goldman Sachs. Source: Datastream, Goldman Sachs. What’s new Further delays to 3G licensing clarity; “definitive deadlines” blurred The MII has repeatedly dragged out 3G licensing timing over the years, and TD-SCDMA’s development maturity appears to be the main reason for past delays. With pre-commercial trial network deployment falling behind schedule and the widening of TD-SCDMA geographical coverage even without licensing, definitive boundaries on licensing seem to be shifting further down the timeline. Our current base-case scenario is a simultaneous licensing of WCDMA, CDMA2000, and TD-SCDMA around 2Q2007. Moreover, while we expect a slew of asymmetrical policies to assist the newcomers in the age of 3G, it remains unclear what the timing of such clarification might be—up front at licensing, or only after deployment. Chicken-and-egg problem—trying to break the vicious cycle The issue of tying 3G licensing to TD-SCDMA is a complicated one. The Chinese government very much wants to adopt its homegrown 3G technology but has also openly declared itself as “technology neutral” to the outside world (exemplified by Vice Minister Wu Yi’s comments during various overseas trips from 2004 to now). We believe the government is fully committed to adopting TD-SCDMA and to maximizing TD-SCDMA investment relative to WCDMA or CDMA2000 (i.e., pushing for a standalone network rather than a hybrid one). However, it prefers to grant licenses once TD-SCDMA has reached adequate maturity, so as to justify an “independent” and “commercial” technology selection by one of the operators and minimize corporate governance accusations. This creates a problem, however. The government hopes that extending licensing timing will allow the value chain to deliver a more stable product on the network side and better handset selection. But, at the same time, the value chain vendors (with the exception of vendors Datang Mobile, Td- tech and the chipset manufacturers that are exclusively dedicated to TD-SCDMA) are for the most part looking for assurances on TD-SCDMA’s deployment scale before sinking in substantial resources. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 7 Exhibit 6: Why TD-SCDMA maturity and 3G licensing is a chicken-and-egg problem Ensure product is ready, justify adoption decision externally Government funding of value chain (2001-current) TD-SCDMATD-SCDMAGenerous spectrum allocation 3G licensing maturity Frequent public support from high-ranking officials more sizeable orders Ensure govt commitment placed for equipment and capex/sub scale and handsets for use in the pre-commercial network (2006-onward) Source: Goldman Sachs Research. Over the past couple of years, the government has been trying to expedite the maturation of the TD-SCDMA value chain in order to break out of this chicken-and-egg cycle. The more significant moves made (as highlighted in the exhibit above) include: The National Development and Reform Commission (NDRC) has, over time, sunk hundreds of millions of Rmb worth of investment and long- term debt into the value chain. 3G spectrum allotment allowed for a generous 155mhz to be reserved for TD-SCDMA Various high-ranking officials have made numerous public appearances in support of TD-SCDMA The MII officially declared TD-SCDMA as China’s first 3G technology standard in January 2006 July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 8 Exhibit 7: TD-SCDMA development gaining momentum with government support O ct -9 9 Ju l-0 0 A pr -0 1 Ja n- 02 O ct -0 2 Ju l-0 3 A pr -0 4 Ja n- 05 O ct -0 5 Ju l-0 6 Jan.2006: MII officially named TD-SCDMA as the first 3G standard in China. Feb-May 2002: Phase 1 MTNet indoor test. May-Nov.2004: Phase 2 MTNet field test, product/network validation. Mar-June.2005: Phase 3 MTNet test: systems/indoor/outdoo r & applications tests. Since Mar.2006: Pre-commercial field trial of TDS in 3 cities (CT in Baoding, CNC in Qingdao and CM in Xiamen). Oct.2002: MII assigned 155MHz TDD spectrum for TD- SCDMA. Source: Goldman Sachs Research. These efforts have moved the value chain but are not enough, in our view, to help TD-SCDMA to close the gap with WCDMA. While TD-SCDMA products have certainly made leaps and bounds improvement over the past 12 to 24 months (maturation of the single-mode chipset, prototypes of the dual-mode chipset, improvements on the network equipment, etc.), WCDMA deployments and handset choices have probably tripled over the same period. We believe this is why the MII began to organize ongoing pre-commercial TD-SCDMA trial networks at the end of 2005. These trials require equipment and handsets in much larger quantities than ever needed before (e.g., for the smaller-scale MTNet field tests). We believe this step forward is meant to stimulate production of TD-SCDMA components and hasten greater investment in actual commercial production lines. For each of the five cities appointed to host the pre-commercial trial, we estimate roughly 200 base stations (each) and several thousand handsets are required. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 9 Exhibit 8: TD-SCDMA pre-commercial trial locations and participants China Mobile China Telecom China Netcom Vendors involved Beijing XXXXXXDatang / TD-tech Shanghai XXXXXXZTE Xiamen XXXZTE / TD-tech Qingdao XXXDatang / ZTE Baoding XXXDatang / TD-tech Source: Goldman Sachs Research. A good effort so far, but probably not quite there yet The TD-SCDMA pre-commercial trials have been ongoing since around March 2006, and were meant to conclude around the middle of the year. However, the rollout has not been as smooth as originally expected due to hiccups with cell sites, antenna sites, inadequate handset supply, etc. Exhibit 9 summarizes the key results and takeaways so far. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 10 Exhibit 9: Progress update on the TD-SCDMA pre-commercial trial Up to 100 base stations have been installed in each of Qingdao, Baoding and Xiamen. CT and CNC's installations fell behind schedule vs CM's given more problems with identifying cell sites. The MII assisted CT/CNC to colocate some base station with CM/CU's cell sites. Each of the operators are pushing ahead to try to avoid falling behind schedule by too much. As a result, vendors have not had much opportunity to focus on optimization issues. Voice telephony and major 2G-type features are working smoothly, including simple WAP-based wireless data functions. Video telephony can be realized on select handsets but actual picture quality varies. In a standstill test environment, a comparison with CDMA-1x network done in Qingdao showed that TD-SCDMA is quite stable and much faster in data transmission when there is no movement. Hand over problems continue to plague the operators, a problem that took WCDMA vendors up to 2-3 years to resolve fully Terminals continue to pose the biggest challenge. Single-mode TD-SCDMA handset selection and production scale are on the low side. Dual-mode (TD-SCDMA/GSM+GPRS) handsets are not yet tested on the pre-commercial network and will take some more time to be delivered by the vendors (local vendors particularly behind on this front, vs Samsung and LG). Most chipset vendors have only a manual switch dual-mode solution currently. Tri-mode (TD-SCDMA/GSM+GPRS/WCDMA) handsets are far away as chipsets are only in the development schedule for 2008 and onward Certain TD-specific technologies run into installation problems. For example, the smart antenna used in TD-SCDMA is a large flat panel - bigger and heavier than the usual GSM or WCDMA antennas. As a result, it is difficult to find appropriate places to locate these Interference is an issue with other technologies. TD-SCDMA is operating in the 2.0mhz spectrum now, in close proximity with WCDMA's 1.9mhz spectrum range. Actual implementation shows that interference remains a problem at times. Equipment and handset costs haven't seen any benefit from scale yet. Currently the vendors are selling equipment to the operators for very low margins. Despite this, limited production scale means higher per unit cost for TD-SCDMA vs WCDMA. The MII and operators are giving the equipment vendors some time to optimize networks in June and July before proceeding with the trials. Although the test was originally targeted to finish by the end of July, we expect the test may not finish until late August at best, and could even extend as late as October if the MII wants to complete all of its previously planned test agenda. Implementation lessons What we believe will happen Current status Technical results Source: Goldman Sachs Research To conclude, we believe that TD-SCDMA pre-commercial trial results will be submitted to the MII no earlier than the September/October time frame. It is unclear how long the MII would need to study the results before forming a conclusion, or whether such conclusion would be immediately communicated externally. We would be surprised to see any licensing news within 2006. The key TD-SCDMA vendors are expecting to ship a new generation of equipment to address some of the outstanding issues by 2Q2007, another reason why licensing could be further pushed back into next year, in our view (see Exhibit 10). July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 11 Exhibit 10: Timing outlook for key events in the China telco space 3G licensing within 2006 looks unlikely, in our view MII formalizes and announces Now TD-SCDMA trial 3G licensing decision results sent to the MII Restructuring 3 - 5 months Unclear If it happens, likely to be 6-12 months away or more Source: Goldman Sachs Research estimates. The “Olympics” deadline—how to meet this How does this affect China’s promise to offer 3G before the Olympics We believe that the government will continue to stand behind MIIMinister Wang Xudong’s repeated comments in 2005 that visitors to China will be able to experience 3G during the Beijing Olympics in 2008. This comment is perhaps the only official statement made to date by any government official that could set some boundaries for 3G licensing timing. We think the government would like to have TD-SCDMA available if possible, although this is not an absolute must given that the Minister did not, in his previous comments, explicitly specify the standard of 3G technology to be adopted. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 12 Exhibit 11: Countdown to 3G to meet the “Olympics” deadline 3Q064Q061Q072Q073Q074Q071Q082Q083Q08 WCDMA or Latest point for 3GNeed to finish Games run from Aug 8- CDMA2000 track licensing is mid 2007 rollout to leave Aug-24,2008 to a llow up 6-9 months' time for testing buildout time for WCDMA and optimization TD-SCDMA track Pre-commercial tria l Need to finish in five cities ongoing rollout to leave time for testing Could gradually expand tria l coverage and to include Olympic cities if desired optimization Source: Goldman Sachs Research. WCDMA rollout will not take very long. Counting backwards from the Olympics (August 2008), we believe that a WCDMA rollout of the major cities and eastern seaboard provinces (if this is indeed the government’s objective) can be compressed into nine or perhaps as few as six months (particularly if done by an existing player with cell sites in place or by a new player granted access to existing cell sites). Leaving roughly 3-4 months for optimization, etc., we believe the network needs to be in place by end 1Q2008 and thus licensing does not need to occur until mid 2007. TD-SCDMA rollout takes longer but does not necessitate licensing as a prerequisite. TD-SCDMA’s commercial maturity significantly lags that of WCDMA, and therefore would require a longer time to roll out and optimize to a usable state. However, a TD-SCDMA gradual rollout to offer Olympics coverage (if the government does decide to provide this—not a must, as we mentioned earlier, judging by Minister Wang’s comments) does not need formal 3G licensing as a prerequisite, in our view. Three of the seven cities to be involved in the Olympics (as mentioned on the Beijing Olympics 2008 website) are already hosting TD-SCDMA pre-commercial trial networks, and we would not expect Hong Kong’s licensing to go hand-in-hand with China’s. If the government wanted to cover the Olympic cities with TD-SCDMA by 2008, it would thus simply need to (as a minimum) gradually expand the scope of the pre-commercial trials to the remaining three cities of Tianjin, Shenyang, and Qinhuangdao. Exhibit 12: 2008 Olympic cities and current TD-SCDMA presence Cities Province Current TD coverage Beijing northern districts/city center Qingdao Shandong city-wide Hong Kong none Tianjin none Shanghai select districts Shenyang Jilin none Qinhuangdao Shandong none Source: Goldman Sachs Research. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 13 Why not give the TD-SCDMA license first Because there’s no need to! Granting a TD-SCDMA license six to twelve months earlier than WCDMA or CDMA2000 licenses is certainly a possibility that has been explored in the past. We think the key benefit to granting the TD-SCDMA license earlier is to give the technology a head start in adoption and deployment. The downside of such a move, however, would be the invitation of international scrutiny again on the issue of whether or not China is in fact “technology neutral”. Why invite criticism when gradual TD-SCDMA deployment can still take place even without an official license Of course, formal licensing is still best given its benefits to spurring the value chain, but if technology maturity has not reached a level sufficient to justify formal licensing, we believe an informal backdoor head start is the second- best option. Although it is the government and parent companies of CM, CT, and CNC that are funding the TD-SCDMA pre-commercial trial capex now (as opposed to the listcos), we do not think this makes much difference in the decision making. As we will discuss shortly, we believe that TD-SCDMA network capex would be funded by the parent companies anyway, even post licensing, with only the actual operation and subscribers at the listco level. The listco can set up a network leasing arrangement with its parent company, reminiscent of CU’s CDMA leasing structure. The government can continue to gradually expand the TD-SCDMA pre-commercial trial at its preferred pace with the view to eventually transferring all network assets to the parent company of the listed operator that will deploy the technology commercially. Regulatory assistance—again, when it is announced is key Through discussions with various operators, vendors, and industry players in the recent past, we believe it is highly likely that the MII will adopt regulation changes to assist mobile newcomers. Our view is that the MII is more likely to adopt policies that will not need to be phased out over time rather than ones that are “unnatural” in an industry’s natural progression towards deregulation. The degree of the impact on share price in the next 6-12 months will largely depend not on the details of the policies but rather on whether or not the policies are announced together with the 3G licensing. Many options to choose from. We understand from speaking to CT and CNC that they have applied for a myriad of regulatory changes to assist their entry into the mobile space (some general, some TD-SCDMA-specific in case they get that particular license). We believe the MII and other regulatory bodies are considering these and will be adopting some selectively, depending on how much assistance they believe is needed to provide for a more even competitive landscape. Some of the more likely policies are shown in Exhibit 13. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 14 Exhibit 13: Policy assistance possibilities for mobile newcomers Policies that developed markets naturally progress towards are highlighted in grey Potential policy Description Sub acquisition related Mobile number portability implementation Allow subs to retain their #s when changing operators Asymmetrical number portability Allow incumbents' subs to retain their #s when moving to newcomers, but not vice versa, similar to situation in Korea Market share cap CM/CU sub share capped at a certain level, similar to situation in Korea SAC or pricing limitation on incumbents Disallow incumbents to compete to their full capabilities on subscriber acquisition costs or tariff packages Fixed to mobile migration related Enable PHS roaming Allow current CT/CNCPHS services to roam from city to city - enables greater mobility Permit PHS/GSM dual-mode handset Allow CT/CNC to sell PHS/GSM dual mode handsets (long available overseas) to facilitate PHS migration to mobile Retain fixed line #s for mobile service Allow mobile subs to use previous PHS or fixed line #s for mobile services to facilitate migration Investment cost related 3G buildout network sharing Allow newcomers to build 3GBTS into existing players' cell sites/towers to save time and civil-works related capex 2G roaming for 3G greenfield players Allow newcomers to depend on 2G roaming where 3G coverage is sparse to more quickly balance out coverage quality gaps Fund TD buildout at parentco level Put the burden of TD-SCDMA capex at the parent company to ease earnings/CF impact in early years Operating cost related Asymmetrical IC for mobile Newcomers pay a lower price/min for outgoing minutes vs incoming; similar to situation in Korea Reduction of mobile-mobile ICKeep IC symmetrical but reduce absolute per minute rate (to benefit newcomers who are net payers of IC) - currently at Rmb 0.06/min Tax holidays for TD operators/profits TD-SCDMA profits not subject to tax, vs other services' profits subject to 25% corporate tax (2008+ GSChina research assumption) Subsidies/free duties for TD components Assist the TD-SCDMA value chain in reducing their production / components costs Source: Goldman Sachs Research. We believe the MII will pick the policies that are the natural progression as a market develops Which ones to take The MII could very well adopt any combination of the policies shown in order to bring more-effective competition into the China mobile space. We believe, however, that the MII is more likely to lean away from policies that would need to be gradually phased out/reversed over time—such as asymmetrical interconnection regimes, arbitrary market share caps, and the like. These are the types of methods adopted by the Korean regulator years ago and the process of phasing each out, now that LGT and KTF have more significant market standing, has been a painful and bumpy road. The policies highlighted in the above exhibit are more likely to be adopted, in our view. These are policies that would be phased in over time anyway, for most developed telecom industries. For example, currently the MII has an arbitrary ban against the sale of PHS/GSM dual mode handsets in China—an act that stifles the offering of a product that the end consumer in fact may have strong demand for. We think such restrictions are likely to be lifted in the 3G age. On something like interconnection rates—currently the mobile-to-mobile rate is Rmb0.06 per minute—CU is a net payer of interconnection to CM because CU has a smaller market share and thus sees more outgoing minutes than incoming ones. On this issue, the MII could consider the Korean method of imposing asymmetrical rates (say for example, CT receives Rmb0.10 per incoming minute from CM but has to pay only Rmb0.04 per outgoing minute to CM). But, more likely, we think the MII will keep the regime symmetrical but simply lighten the burden on smaller players by reducing the per-minute rate (say, to Rmb0.03 per minute instead). July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 15 Stock implications—all positives for CT/CNC, but time of announcement makes a big difference to the share price outlook It is difficult to quantify or forecast the degree of impact that policy assistance could bring to CT or CNC, as there are far too many variables in the equation. The exhibit below outlines our views on the possible policies to be adopted and the potential beneficiaries and detractors. Exhibit 14: Implications of policy assistance to key parties Most policies could be phased in at, or anytime after, licensing Policy Mainly benefits... At a cost to... Timing Mobile number portability implementation Newcomers (CT, CNC) Incumbent mobile operators (CM, CU) Takes 12-18 months to build database Enable PHS roaming Fixed line players (CT, CNC) Incumbent mobile operators (CM, CU) Anytime @ licensing or after Permit PHS/GSM dual-mode handset Fixed line players (CT, CNC) Incumbent mobile operators (CM, CU) Anytime @ licensing or after Retain fixed line #s for mobile service Fixed line players (CT, CNC) Incumbent mobile operators (CM, CU) Anytime @ licensing or after 3G buildout network sharing Fixed line players (CT, CNC) Incumbent mobile operators (CM, CU) At licensing time 2G roaming for 3G greenfield players Fixed line players (CT, CNC) Incumbent mobile operators (CM, CU) At licensing time Fund TD buildout at parentco level All listed telcos All parentcos At licensing time Reduction of mobile-mobile ICNet IC payers (newcomers, CU) CMAnytime @ licensing or after Tax holidays for TD operators/profits TD operators Ministry of Finance, govt Anytime @ licensing or after Subsidies/free duties for TD components TD operators/value chain Ministry of Finance, govt Anytime @ licensing or after Source: Goldman Sachs Research. Note that we believe that only the details of actual buildout funding or allowances (network sharing, etc.) that affect the buildout plan need to be announced at the time of licensing. While it would be certainly helpful to clarify other policy changes as well up front, it is unclear whether the government would do so early on. The MII may want to monitor newcomer progress for a while and then determine what policies to adopt, as was the case with the CUCDMA deployment (liberalization of tariffs and allowance of handset subsidies became de facto trends over time and there has never been any official announcement from the regulator)—this approach gives the regulator more flexibility but makes it more challenging for the newcomers to plan out their business case. The other possibility (and one that CT/CNC should be aggressively pushing for in our view) would be to clearly define key policies at the time of licensing, up front. Only the latter possibility would result in a more immediate re-rating of the CT and CNC stock upon licensing, in our view. The market is unlikely to give more than partial credit for assistance, before it is actually confirmed. We believe and recognize that the more time passes before regulatory policies are announced (and the stronger CM gets as a result), the more substantial eventual policy assistance to newcomers would need to be. This is indeed a longer-term issue for all of the players involved (and a rising risk for CM in some sense) but again, it all comes down to timing. CM extends its honeymoon for another 6-12 months We believe that CM is the right company to go with for the coming quarters because of the aforementioned timing issues on both licensing and crystallization of policy assistance to newcomers for 3G. Although the exact timetable is difficult to pinpoint, we feel that there is more likelihood of delays beyond our licensing time target of 2Q2007 than of advances. Exhibit 15 outlines our 12-month target price, rating, and valuation methodologies for the four Chinese telco names. We rate CM a Buy (upgraded from Neutral), and the other three stocks Neutral (CU downgraded from Buy). The reason that CT and CNC are not Sells is because we believe their valuation already reflects the bulk of risks they face, and that upside surprises on policy are likely if and when 3G licensing does take place. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 16 Exhibit 15: Target price at a glance and valuation methodology We shift our preference to CM from CU as timing visibility on restructuring is low CMHKCUCTCNC Target price 52.007.202.7014.20 Current price (July 7 close) 45.407.052.5314.00 Upside 15% 2% 7% 1% Rating Buy Neutral Neutral Neutral DCFDCFFixed DCF + Fixed DCF + (does not DCF of likely DCF of likely incorporate mobile scenario mobile scenario breakup for 6-12 months for 6-12 months premium given (TDS lease+no GSM) (TDS lease+no GSM) lack of timing Mobile value Mobile value visibility) -0.06/share -0.38/share Source: Goldman Sachs Research Our CM and CU targets are based on the DCF of the mobile businesses in their current form, incorporating 3G-related capex but no noticeable 3G- related uptick in ARPU. We do not incorporate CU’s breakup premium into its target price because we do not have sufficient visibility on the timing of such an event taking place (nor firm assurance that a breakup will happen, even though we believe it inevitably makes sense). For CT and CNC, we use their fixed-line business DCF and add on an estimated value of the mobile business, assuming a geographic split (CT in the South and CNC in the North) of 3G coverage running on a TD-SCDMA network leased from their parent companies. We will discuss the underlying assumptions and scenarios for each of these companies in detail in the subsequent sections of this report. Key risks to our positive view on CM are earlier-than-expected licensing and introduction of new competition. Key risks to CU are lower-than- expected usage elasticity to price cuts and any formal government denial of restructuring intentions. Key risks to CT and CNC are indefinite delays in obtaining a mobile presence, worsening mobile substitution, and an earlier-than-expected slowdown to broadband growth. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 17 Exhibit 16: DCF assumptions and values by company CT and CNCDCFs shown are for the core fixed-line business only DCF based on core business & associated assumptions CMHKCUCTCNC DCF valuation / share 52.04 7.23 2.78 14.65 Ke = 12.5% 13.6% 13.6% 13.6% Kd = 5.0% 5.0% 5.0% 5.0% t = 25.0% 25.0% 25.0% 25.0% Rf = 5.5% 5.5% 5.5% 5.5% ERP = 7.0% 7.0% 7.0% 7.0% B = 1.00 1.15 1.15 1.15 E(Rm) = 12.5% 12.5% 12.5% 12.5% WACC = 11.6% 11.6% 11.6% 11.6% Debt/capital 10.0% 20.0% 20.0% 20.0% (current debt/capital 06) 10.9% 27.5% 39.6% 50.7% Terminal growth core biz 2.0% 2.0% 1.0% 1.0% Source:.Goldman Sachs Research estimates. Exhibit 17: Long-term margin assumptions at a glance Avg 2006E 2007E 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E 2016E 2017E Revenue growth, recurring CM 6.0% 15.2% 11.8% 8.7% 6.9% 5.8% 5.1% 4.1% 4.0% 3.3% 3.2% 2.4% 1.8% CU 4.1% 8.5% 6.8% 6.7% 5.7% 4.8% 4.1% 3.3% 3.1% 2.1% 1.7% 1.1% 0.7% CT fixed core biz -0.3% 3.4% 0.9% 2.1% -0.1% -0.5% -0.7% -1.6% -2.4% -1.9% -1.5% -1.5% -0.4% CNC fixed core biz -0.2% 2.6% 2.3% 1.4% 0.3% -0.2% -1.5% -2.0% -2.2% -2.0% -1.1% -0.6% 0.2% EBITDA margin CM 49.1% 54.5% 54.0% 51.5% 50.0% 47.2% 46.7% 46.7% 47.4% 47.2% 47.6% 48.3% 48.5% CU 31.3% 35.1% 34.8% 34.2% 33.8% 32.8% 31.7% 30.8% 29.8% 29.1% 28.3% 28.0% 27.4% CT fixed core biz 46.9% 49.9% 49.3% 48.7% 48.0% 46.9% 46.6% 46.3% 46.1% 45.7% 45.3% 45.1% 45.1% CNC fixed core biz 47.6% 51.0% 50.1% 49.6% 48.6% 48.1% 47.9% 47.7% 47.0% 46.4% 45.7% 45.0% 44.3% Capex/sales CM 23.6% 29.6% 29.6% 30.5% 29.0% 28.0% 24.5% 22.5% 20.0% 18.0% 17.5% 17.0% 16.5% CU (excl CDMA sales) 26.0% 35.1% 36.0% 34.0% 31.0% 29.0% 27.0% 25.0% 23.0% 21.0% 19.0% 17.0% 15.0% CT fixed core biz 22.6% 30.8% 28.8% 27.3% 25.3% 23.8% 22.3% 21.3% 20.3% 19.3% 18.3% 17.3% 17.3% CNC fixed core biz 23.8% 31.7% 30.2% 28.7% 27.2% 25.7% 24.2% 22.7% 21.2% 19.7% 18.2% 17.7% 17.7% Source: Goldman Sachs Research estimates. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 18 China Mobile: Our new preferred pick for the coming quarters Despite its outperformance over the past year, we expect CM to continue to excel versus its Chinese telco peers for the coming quarters. Catalysts include further news of licensing delays, bounce-back in quarterly figures, and any positive macro news. Risks are largely regulation related and these could have a substantial negative impact on CM over time—but as mentioned earlier, we think the timing of the announcement is more likely to be later rather than sooner. Catalysts: More of the same please! There is no clearly-defined date or specific event that we believe will serve as the key catalyst for CM’s share price. However, this has been the case for the entire past year and a half and the stock has managed to rise 70.4% since January 2005. The most important thing for CM, in our view, is a continuation of the same factors that we have seen in the past—further news of TD-SCDMA trial progress (and thus licensing delays), gradually rising consensus estimates in light of low threat from CU, and any positive macro news that may buoy the local market. Further licensing delays: We will continuously monitor key indicators, including rollout progress of the TD-SCDMA pre-commercial networks in the various cities, shipment dates for various types of handsets to be tested, timing of report / conclusion submission to the MII, etc. It will also be important to keep an eye on the vendors and handset suppliers’ projected schedules for delivering the new generation of base stations and handsets in larger quantities. 2Q2006 and 3Q2006 results bounce-back: CM is scheduled to report 1H2006 detailed results in mid August. The company had a weak 1Q2006 as price per minute fell more than expected, leading to a sudden ARPU decline to Rmb86 (down 3% yoy and 7% qoq) as usage did not rise sufficiently to compensate. CM’s weak top line looked particularly surprising, as CU’s GSM business had a better-than-expected quarter during the same period. We believe, however, that CM’s implementation of price cuts in late 1Q2006 will result in positive surprises in 2Q2006—in the form of strong elasticity of usage and what we are already seeing come through in terms of stronger sub adds each month. Our full year estimates are now about 3% above consensus on earnings and we see room for upward revisions post 1H2006 results. We believe that the same price cuts will be more damaging to CU, whose customers have not demonstrated as clear a usage elasticity trend in the past. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 19 Exhibit 18: CM 1H2006 forecast highlights We forecast a recovery in 2Q2006E vs.1Q2006 Exhibit 19: CM’s subs have shown strong elasticity in the past We compared past qoq trends for voice price/minute vs. usage—average elasticity over the past six quarters is just over 100% (although 1Q2006 was weak) Consolidated income statement (RMB mn) 3Q05A 4Q05A 1Q06A 2Q06E 3Q06E 4Q06E Revenue 61,52166,97365,01568,90971,37074,589 Cash costs 28,16829,66329,23131,77732,81133,644 EBITDA 33,35337,31035,78437,13238,55940,945 EBITDA margin 54.2% 55.7% 55.0% 53.9% 54.0% 54.9% Other costs 20,52720,63021,42922,12822,95822,842 Net profits 12,82616,68014,35515,00415,60118,103 Net margin 20.8% 24.9% 22.1% 21.8% 21.9% 24.3% EPS (RMB) 0.650.840.720.750.780.91 Key operational data Subscribers (000) 234,875246,652260,640272,185284,383296,960 Net additions (000) 11,09111,78012,63412,89912,19812,577 Prepaid (000) 173,910185,341198,062210,557221,563233,637 Net adds (000) 10,76111,43112,01712,49511,71012,074 Postpaid (000) 60,96561,31162,57861,62862,82063,323 Net adds (000) 330349617404488503 ARPU (RMB) 89.492.786.086.285.585.5 MOU (mins/sub/month) 338.3349.3359.0367.3370.1373.8 ARPM (RMB) 0.2640.2650.2410.2350.2310.229 Total MOU (mn mins) 232,770252,290269,980293,531308,960325,978 Mobile data users (000) 196,740206,682227,200238,162248,835261,325 Mobile data users as % total subs 83.8% 83.8% 87.2% 87.5% 87.5% 88.0% SMS (bn) 62.8 71.1 81.6 80.3 90.9 91.1 SMS per average data subs 109.6 117.5 125.4 115.0 124.4 119.0 CMHK elasticity by quarter -12% -10% -8% -6% -4% -2% 0% 2% 4% 6% 8% 4Q041Q052Q053Q054Q051Q062Q06E Voice price/min MOUVoice ARPU Alternating weak quarters for elasticity. 2Q06E should look better Source: Company data, Goldman Sachs Research estimates. Source: Company data, Goldman Sachs Research estimates July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 20 Exhibit 20: CUGSM subs’ elasticity analysis Exhibit 21: CUCDMA subs’ elasticity analysis CUGSM elasticity -15% -10% -5% 0% 5% 10% 15% 2Q043Q044Q041Q052Q053Q054Q051Q062Q06E Voice price/min MOUVoice ARPU only quarter of >100% elasticity 1Q06 showed a rare price/min increase CUCDMA elasticity -12% -10% -8% -6% -4% -2% 0% 2% 4% 6% 2Q043Q044Q041Q052Q053Q054Q051Q062Q06E Voice price/min MOUVoice ARPU 2Q05 was the only one bright quarter in the past eight, but we expect some seasonal usage recovery in 2Q06 Exhibit 22: Expected margin progression ex write-off for CM Exhibit 23: Market share of new adds, CM vs. CU 57.1% 54.3% 54.7% 55.0% 54.4% 60.6% 57.0% 58.7% 55.8% 56.8% 0 20,000 40,000 60,000 80,000 100,000 120,000 140,000 160,000 1H04A 2H04A 1H05A 2H05A 1H06E 51% 52% 53% 54% 55% 56% 57% 58% 59% 60% 61% 62% Revenue EBITDA reported EBITDA ex write-off EBITDA margin % EBITDA ex write-off margin % Rmb mn 0 1,000 2,000 3,000 4,000 5,000 6,000 05 -0 1 05 -0 2 05 -0 3 05 -0 4 05 -0 5 05 -0 6 05 -0 7 05 -0 8 05 -0 9 05 -1 0 05 -1 1 05 -1 2 06 -1 06 -2 06 -3 06 -4 06 -5 50% 55% 60% 65% 70% 75% 80% 85% 90% CU's GSM net-adds CM's GSM net-adds CDMA net-adds CM's market share of net-adds ('000) Source: Company data. Source: Company data. Positive macro news resulting in fund inflows into HK/China: The Goldman Sachs Hong Kong and China strategy teams take a bullish view on these markets. Our index targets show double-digit potential upside and we hold optimistic assumptions on Rmb appreciation and corporate tax as shown in the exhibit below (see Thomas Deng’s July 2 product, Awaiting 2H06 catalysts, for more details). CM, as a double- July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 21 digit index weighting in both the Hang Seng Index (HSI) and MSCIChina, is typically a beneficiary of fund inflows. The stock has posted an average unadjusted beta of 1.6 against the HSI over the past three years, according to Bloomberg. Exhibit 24: GSChina team macro assumptions House views 1. Macro market Current GS target By date % upside Hang Seng Index 16,46018,000 12M 9% H-share index 6,8388,000 end 0617% 2. Currency Rmb/USD ex. rate forecast Current End 06 End 073M fwd 6M fwd 12M fwd 8.007.567.097.87.677.34 3. Tax rate Statutory corporate tax rate standardized at 25% starting 2008 Source: Goldman Sachs China Strategy Research estimates. Most major risks mitigated near-term CM does face dramatic regulatory risks in the longer-run, as we mentioned earlier. However, in the pre-3G era, we think some of the more significant risk factors have already played out. Capex and overseas investment were two key concerns of the past couple of years but the worst of each has passed for the listco, in our view. Technical factors related to index rebalancing may not be as harmful as they seem at the first glance. Capex risks lower as budget has already been dramatically increased repeatedly. One key downside of strong usage elasticity is that while it does not hurt ARPUs, rising usage minutes has resulted in repeated increases to the capex budget over the past three results meetings held by CM. In fact, the company increased its budget outlook so aggressively in the March 2006 meeting, that we feel even though the capex budget guidance is marked as “2G only”, the company has already baked in some 3G spend into these figures. Because it may be difficult to justify much 3G revenue upside in the future, we believe the company is hoping to minimize the amount of perceived incremental 3G capex as well. Comparing the historical and guided capex amount versus our new sub addition and incremental minutes forecasts, we think the current management capex guidance looks fairly reasonable. CM chairman Wang Jianzhou was quoted by Xinhua on July 4 as saying that there will be no need to raise the capex budget in 2006. Exhibit 25: Repeated capex increases in recent results meetings Exhibit 26: Capex per incremental sub or minute (US$ bn) 2003PF 2004PF 20052006E 2007E 2008E FY04 results meeting 7.27.87.86.55.5 1H05 results meeting 7.27.89.06.55.5 % increase 15% FY05 results meeting 7.27.88.910.49.89.5 % increase 0% 60% 77% 2003PF 2004PF 20052006E 2007E 2008E Capex (US$ bn) 7.27.88.910.49.89.5 Capex/new add (US$) 244.0204.3211.0207.0217.7232.8 Capex/incr minute (US$) 0.0360.0360.0370.0360.0350.037 Source: Company data, Goldman Sachs Research estimates. Source: Goldman Sachs Research estimates. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 22 In our CM forecast, we have assumed 2006 capex in line with company guidance but higher figures for 2007-onward as we include incremental portions for 3G spend. Note however that we have roughly allocated a smaller portion to 3G versus the current 2G capex guidance for the aforementioned reason. We would be surprised if, upon 3G licensing, CM announces an amended total capex plan that is significantly above the current level we are estimating. We have not factored in extra capex to support 2G roaming for 3G newcomers at the moment, but note that the leasing charges (to be ‘guided by the government most likely) should be sufficient to make the investment NPV breakeven for the CM listed company, in our view. We do not, however, expect the leasing charges to result in any positive NPV as we believe pricing will be set to favor and support newcomers. Exhibit 27: CM capex outlook Our 2007E and 2008E total capex estimates are 20%-40% above current 2G capex guidance from CM 6357625859 36 4248 49 2076 78 83 0 20 40 60 80 100 120 2006E 2007E 2008E 2009E 2010E 2G capex 3G capex Current guidance Rmb bn Source: Company data, Goldman Sachs Research estimates. Overseas investments look to be at the parent company level. We believe that as China’s most profitable player, CM is responsible for much of the government’s “going out” agenda in the telecom space. With a large cash pile and clear reluctance to hike dividends dramatically, we have been long worried about CM’s overseas acquisition agenda. These concerns were partly mitigated recently, however, due to three events. (1) CM’s failed bid for Pakistan Telecom in 2005 was done at the parent company level (Etislat eventually won the stake). (2) CM’s alleged (and July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 23 now aborted) discussions to acquire Millicom (as reported by Reuters, Dow Jones, Bloomberg, etc.) were not at the listco level either, but rather at the parent level. (3) News Corp recently sold its 19.9% stake in Phoenix TV to CM—again not the listco but rather a parent company entity. To date, the only listco acquisition has been of Peoples Telephone. CM justified the investment vehicle in this case as the target is: (a) directly related to the operations of the rest of the listco businesses (same mobile business, geographically adjacent to CMGuangdong operations); and (b): quite small in size. It currently appears to us that only Hong Kong-based mobile operators are likely to be acquired from the listco level in the foreseeable term. Hang Seng rebalancing effect more mild than it looks. HSIServices announced on June 30,2006 that it will move towards a new compilation and weighting methodology for the HSI in conjunction with incorporation of H-shares in August 2006. The Goldman Sachs strategy team believes that this could lead to index inclusion for a number of new names and associated weighting adjustments as well. Net net, we expect CM’s HSI weighting to fall from a current 16.8% to 10.1% by September 2007. Although this sounds dramatic at first, our strategy team’s calculations indicate impact to be limited to about 2.5-2.6 days’ worth of passive volumes in March and September 2007. See Kenneth Kok’s product of July 4, HSI to be float adjusted (part II) – the road ahead, for more details. Exhibit 28: HSI rebalancing impact on Chinese telco weightings and passive We assume that CCB, BOC, Foxconn and Hutchison Telecom are added to the index Avg daily turnover Weighting % % change Days trading volume in passive turnover (x) US$ mn Current 8-Sep-069-Mar-077-Sep-078-Sep-069-Mar-077-Sep-078-Sep-069-Mar-077-Sep-07 Total China Mobile 93.8216.8 17.3 13.6 10.1 0.5 (3.7) (3.5) 0.4 (2.6) (2.5) (4.8) China Unicom 11.211.7 1.7 1.4 1.0 0.0 (0.3) (0.4) 0.3 (2.2) (2.1) (3.9) China Netcom 13.671.7 1.8 1.4 1.0 0.1 (0.4) (0.4) 0.3 (1.8) (1.8) (3.3) Source: Goldman Sachs Research estimates. Being asked to deploy a standalone TD-SCDMA network is possible but likelihood is relatively low. We do believe that CM, as the clear market leader with much more financial and operational resources than all of its rivals, would be the best candidate for maximizing TD- SCDMA’s chances of success. However, we feel the possibility of CM being asked to deploy a standalone TD network on its own is now fairly low because: Having CM deploy TD-SCDMA will multiply the perception risk/reward balance for the technology, given CM’s prominence as the world’s largest mobile player by subscribers. In other words, a CM adoption means the government is upping its ante for its TD-SCDMA bet whereby success would bring abundant and unprecedented glory (establishing China as a technology powerhouse and leaving behind its ‘cheap labor’ image), but any hiccups or challenges will be similarly magnified. We think the government may only go down this route if and when it feels quite confident in TD-SCDMA’s success and maturity. This means that the later the TD-SCDMA licensing happens, the greater the possibility that the license goes to CM. However, we do not expect TD-SCDMA maturity to improve at a rate fast enough to warrant such a level of comfort in the foreseeable term. Granting the TD-SCDMA license to the fixed-line player(s) is a lower profile risk in contrast. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 24 TD-SCDMA value chain players have expressed to the regulators in the past that while they would be delighted to see CM roll out TD- SCDMA, they are concerned that CM may be less committed to a large scale TD-SCDMA rollout versus the fixed-line players. After all, CM already has a 2G presence and there is little demand for 3G applications; whereas the fixed-line players would be more incentivized to push TD aggressively. CM can be viewed as playing a role in supporting TD-SCDMA already in some sense—it remains the best positioned and looks to be the chosen player to carry out the government’s overseas M&A aspirations, and having to bear two sets of “service” responsibilities simultaneously may not be as feasible. As the Chinese government hopes to eventually export TD-SCDMA overseas to other markets where TDD unpaired spectrum has been allocated, CM is in some sense paving the way for TD-SCDMA indirectly by acquiring foreign players in preparation. We do, however, expect that CM (and perhaps also CU) will be asked by the government to grant 2G roaming onto their GSM networks when 3G new entrants launch services. This could very well go to erode returns for the existing players but we reiterate that such announcement is more likely to come later rather than earlier (together with formal licensing). Unexpected regulatory intervention pre-3G—seemingly low probability. The final major risk, in our view, is unexpected regulatory changes in the pre-3G licensing era. Possibilities here could include government intervention on tariffs, unusual shifts in significant personnel, or even measures as drastic as granting MVNO licenses to the fixed-line players for 2G. While these risks cannot be ruled out, we believe the MII is unlikely to implement drastic changes now because these policy decisions are likely “bundled” with 3G licensing and it is difficult to make an independent decision on such policy without having decided what will happen with 3G. Valuation and key assumptions We value CM shares at HK$50 based on one-year-forward DCF and a WACC of 11.4%. Our estimates already incorporate incremental 3G spend to a reasonable degree, in our view. Although CM’s share price performance has been up 22.4% year to date, due to continuous earnings expansion, the share price has not noticeably veered outside its past trading range bands. By end 2006, assuming no multiple expansion from the current level, CM should be trading at over HK$52 per share. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 25 Exhibit 29: CMPER band (1-yr forward) Exhibit 30: CMEV/EBITDA band (1-yr forward) 0 10 20 30 40 50 60 70 12 /3 1/ 20 01 4/ 30 /2 00 2 8/ 31 /2 00 2 12 /3 1/ 20 02 4/ 30 /2 00 3 8/ 31 /2 00 3 12 /3 1/ 20 03 4/ 30 /2 00 4 8/ 31 /2 00 4 12 /3 1/ 20 04 4/ 30 /2 00 5 8/ 31 /2 00 5 12 /3 1/ 20 05 4/ 30 /2 00 6 8/ 31 /2 00 6 12 /3 1/ 20 06 4/ 30 /2 00 7 8/ 31 /2 00 7 12 /3 1/ 20 07 4/ 30 /2 00 8 8/ 31 /2 00 8 Stock price 8X 10X 12X 15X HK $ 100 300 500 700 900 1,100 1,300 D ec -0 1 A pr -0 2 A ug -0 2 D ec -0 2 A pr -0 3 A ug -0 3 D ec -0 3 A pr -0 4 A ug -0 4 D ec -0 4 A pr -0 5 A ug -0 5 D ec -0 5 A pr -0 6 A ug -0 6 D ec -0 6 A pr -0 7 A ug -0 7 D ec -0 7 A pr -0 8 A ug -0 8 EV 3X 4X 5X 6X(HK$ bn) Source: Datastream, Goldman Sachs Research estimates. Source: Datastream, Goldman Sachs Research estimates. Comparing CM’s valuation to that of the top 10 HSI and H-share constituents, we find that valuations are generally in line, or below average if the oil/gas companies are excluded. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 26 Exhibit 31: CM valuation metrics vs. top 10 HSI and H-share constituents HSIStock Market cap Company rating (US$ mn) 2006E 2007E 2008E 2006E 2007E 2008E HSBCHoldings Neutral 197,196 4.6% 5.1% 5.7% 12.1 11.2 10.5 China Mobile Ltd. Buy 115,706 2.9% 3.4% 4.2% 14.7 13.3 11.9 CNOOCBuy 34,793 3.3% 3.2% 3.8% 9.3 10.7 8.3 Hang Seng Bank Sell 24,229 5.3% 5.6% 6.2% 16.8 15.8 14.6 Cheung Kong Holdings Buy 25,136 2.7% 3.1% 3.6% 8.6 14.5 11.3 Sun Hung Kai Properties Neutral 24,753 3.0% 3.3% 3.8% 16.4 14.7 13.3 BOCHong Kong (Holdings) Neutral 20,671 5.4% 5.9% 6.1% 12.5 12.5 11.9 CLPHoldings Neutral 14,172 5.0% 5.2% 5.5% 11.9 11.5 10.9 Hong Kong & China Gas Sell 12,253 4.2% 3.9% 3.1% 17.4 18.4 20.8 Average 4.1% 4.3% 4.7% 13.3 13.6 12.6 Average (exl China Mobile) 4.2% 4.4% 4.7% 13.1 13.7 12.7 HSCEIStock Market cap Company rating (US$ mn) 2006E 2007E 2008E 2006E 2007E 2008E PetroChina Buy 196,235 4.5% 4.2% 4.8% 9.9 10.8 9.4 China Mobile Ltd. Buy 115,706 2.9% 3.4% 4.2% 14.7 13.3 11.9 China Petroleum and Chemical Neutral 49,187 3.2% 3.1% 3.8% 8.7 8.9 7.3 China Life Insurance Company Neutral 42,549 0.5% 0.8% 1.2% 31.2 23.0 17.6 China Shenhua Energy Neutral 34,324 2.4% 2.6% 2.1% 14.4 13.4 16.5 Bank of Communications Neutral 29,362 2.2% 2.8% 3.4% 18.4 14.3 11.8 China Telecom Neutral 26,199 2.9% 2.9% 4.1% 9.7 9.8 9.8 Ping An Insurance Group Neutral 18,466 1.1% 1.6% 2.0% 27.3 18.7 14.7 Aluminum Corporation of China Neutral 8,512 5.7% 2.8% 1.6% 5.8 12.0 21.0 Huaneng Power International Sell 7,960 5.3% 5.5% 5.3% 11.6 11.3 11.6 Yanzhou Coal Mining Sell 3,594 2.9% 2.7% 3.5% 10.5 11.0 8.6 Average 3.1% 2.9% 3.3% 14.7 13.3 12.7 Average (exl China Mobile) 3.1% 2.9% 3.2% 14.7 13.3 12.8 Dividend yield (%) P/E (x) Dividend yield (%) P/E (x) Source: Datastream, Goldman Sachs Research estimates. Some operating risks on the upside, which we have not incorporated into our forecasts, include another surge in penetration upon implementation of micro-prepaid type of products and better-than-expected VAS and m-commerce take-up. How to play it We view macro-driven share price weakness as attractive entry points into CM stock, and would find the shares particularly compelling at the sub- HK$40 level. We believe CM shares will continue to deliver the best returns of the four Chinese telcos for the coming quarters and would consider a switch only when we feel timing for 3G licensing is more imminent. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 27 CT/CNC: Room for positive surprises on 3G, but no catalysts until then CT and CNC have been suffering from delays in obtaining a mobile presence for some time, but unfortunately, we believe, the suffering is likely to continue. Valuing the 3G business for companies is a difficult task but conceptually, our scenario analysis shows a much lower negative impact to fair value if the parent company builds networks and leases it to the listco, thereby presenting some upside to the market’s current expectations. We believe that in theory, CNC should face lower 3G- related risks versus CT, but given CNC’s recent share price ascent, CNC would be our trading sell in the short term. Fixed-line core business unexciting Having completed acquisitions of all provincial assets into their listcos, and suffering from limited growth avenues with no mobile presence, we have only lukewarm expectations for both CT and CNC’s core fixed-line businesses. We forecast low-to-mid-single-digit yoy earnings growth in 1H2006 (and FY2006) results for CT and CNC, as shown in the exhibits below. Mobile substitution is the key culprit behind the lackluster fixed-line outlook. We do have strong expectations for broadband growth and value-added services contributions from PHS (SMS, color ring, etc.) but, net- net, expect minimal core fixed-line earnings growth past 2006E-2007E. We do expect fixed-line earnings to start to decline slightly over time as the PHS product is gradually phased out of the market over the coming decade. Exhibit 32: CT 1H2006 expectations Exhibit 33: CNC 1H2006 expectations 1H052H051H06 yoy % hoh % Subs 202,400210,090219,9518.7% 4.7% Revenue 80,62081,90984,0724.3% 2.6% EBITDA 42,51839,30743,4822.3% 10.6% Net profit 11,2939,83811,7093.7% 19.0% 1H052H051H06 yoy % hoh % Subs 114,977115,328120,0824.4% 4.1% Revenue 41,61242,21542,8993.1% 1.6% EBITDA 22,67119,47822,8740.9% 17.4% Net profit 5,5624,9215,7964.2% 17.8% Source: Company data, Goldman Sachs Research estimates. Source: Company data, Goldman Sachs Research estimates. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 28 Exhibit 34: Mobile substitution is the main culprit behind fixed-line business stagnation - 20 40 60 80 100 120 140 160 180 200 Ja n- 03 M ar -0 3 M ay -0 3 Ju l-0 3 S ep -0 3 N ov -0 3 Ja n- 04 M ar -0 4 M ay -0 4 Ju l-0 4 S ep -0 4 N ov -0 4 Ja n- 05 M ar -0 5 M ay -0 5 Ju l-0 5 S ep -0 5 N ov -0 5 Ja n- 06 M ar -0 6 M ay -0 6 0% 10% 20% 30% 40% 50% 60% 70% 80% Local voice - Fixed line (bn pulse) Local voice - Mobile (bn minutes) mobile traffic as % of total (bn) Note: Takes on simplified assumption that one pulse is approximately one minute as no fixed-line minute data is available Source: MII. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 29 Exhibit 35: China market broadband estimates We think that a population penetration of ~9% by 2010E should be achievable Exhibit 36: Fixed-line and PHS estimates We expect the PHS product to peak in 2007E and fade out gradually by 2015E - 50,000 100,000 150,000 200,000 250,000 20 02 20 03 20 04 20 05 20 06 E 20 07 E 20 08 E 20 09 E 20 10 E 20 11 E 20 12 E 20 13 E 20 14 E 20 15 E 20 16 E 20 17 E 20 18 E 20 19 E 20 20 E 0% 2% 4% 6% 8% 10% 12% 14% 16% 18% 20% Net adds in the year BOY-total broadband subs Broadband population penetration ('000) - 50,000 100,000 150,000 200,000 250,000 300,000 350,000 400,000 450,000 20 03 20 04 20 05 20 06 E 20 07 E 20 08 E 20 09 E 20 10 E 20 11 E 20 12 E 20 13 E 20 14 E 20 15 E 20 16 E 20 17 E 20 18 E 20 19 E 20 20 E 0% 5% 10% 15% 20% 25% 30% 35% Copper line Nationwide PHS subs Total fixed line penetration rate Copper line penetration rate ('000) Source: MII data, Goldman Sachs Research estimates. Source: MII data, Goldman Sachs Research estimates. We value CT and CNC’s fixed-line core businesses at HK$2.75 and HK$14.6 respectively. The exhibit below shows the current trading multiples and multiples at DCF implied for CT and CNC July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 30 Exhibit 37: CT and CNC fixed-line core business at current multiples and at core business DCF Valuation at current price 7-Jul-06 Target Potential Market cap price (HK$) price (HK$) upside (%) (US$mn) 2006E 2007E 2008E 2009E 2006E 2007E 2008E 2009E 2006E 2007E 2008E 2009E 2006E 2007E 2008E 2009E China Mobile 45.4052.014.5115,70614.713.311.911.15.5 4.7 4.4 4.2 2.9 3.4 4.2 4.9 6.5 7.7 8.3 8.7 China Unicom 7.057.22.111,36215.314.012.912.63.7 3.3 2.9 2.4 2.0 2.5 3.1 3.6 6.0 7.1 9.9 14.4 China Telecom 2.5252.76.926,1999.79.89.810.43.8 3.7 3.4 3.2 2.9 2.9 4.1 4.3 6.2 7.5 8.9 10.5 China Netcom 14.0014.21.411,8358.88.78.58.83.8 3.6 3.5 3.4 4.2 4.6 5.3 5.7 5.9 5.8 7.5 8.5 Weighted average 13.512.411.410.95.04.44.13.82.93.34.24.86.47.58.59.4 AEJ telcos average 12.512.511.8 NA 5.34.84.5 NA 6.87.59.7 NA 10.410.512.8 NA % difference 8.3% -0.5% -3.7% NA -6.2% -8.5% -8.9% NA -57.3% -55.4% -56.7% NA -38.7% -28.7% -33.9% NA China average 12.411.6 NANA 5.65.2 NANA 2.83.0 NANANANANANA % difference -2.2% -1.1% NANA -25.1% -26.2% NANA 7.0% 11.4% NANANANANANA Valuation at core DCF value 7-Jul-06 Core DCFPotential Market cap price (HK$) value (HK$) upside (%) (US$mn) 2006E 2007E 2008E 2009E 2006E 2007E 2008E 2009E 2006E 2007E 2008E 2009E 2006E 2007E 2008E 2009E China Mobile 45.4052.0414.6132,62916.915.213.612.86.3 5.5 5.2 4.9 2.5 3.0 3.7 4.3 5.6 6.6 7.1 7.4 China Unicom 7.057.232.611,65215.714.413.312.93.7 3.4 3.0 2.5 1.9 2.4 3.0 3.5 5.9 7.0 9.7 14.0 China Telecom 2.5252.7810.128,84510.710.810.811.44.1 3.9 3.7 3.5 2.7 2.7 3.7 3.9 5.9 7.0 8.2 9.7 China Netcom 14.0014.654.612,3849.29.18.99.23.9 3.7 3.6 3.5 4.0 4.4 5.1 5.4 5.7 5.6 7.3 8.2 Weighted average 15.314.012.812.35.65.04.74.42.63.03.74.35.76.67.58.3 AEJ telcos average 12.512.511.8 NA 5.34.84.5 NA 6.87.59.7 NA 10.410.512.8 NA % difference 22.1% 12.0% 8.4% NA 6.6% 4.3% 4.4% NA -62.0% -60.2% -61.5% NA -45.6% -37.1% -41.7% NA China average 12.411.6 NANA 5.65.2 NANA 2.83.0 NANANANANANA % difference 22.9% 21.0% NANA 0.8% -3.7% NANA -7.0% -1.0% NANANANANANA FCF yield (%) (FCF/EV) P/E (X) EV/EBITDA (X) Dividend yield (%) FCF yield (%) (FCF/EV) P/E (X) EV/EBITDA (X) Dividend yield (%) Source: Goldman Sachs Research estimates. 3G could be value accretive or dilutive—we think network leasing is the likely outcome With 3G still some time away and abundant related uncertainties, it is difficult to make an accurate estimate of CT or CNC’s 3G fair value at present. We do, however, conceptually run five sets of potential outcome scenarios for each company according to varying standards and funding methods. These scenarios are all constructed on the premise that CT and CNC co-build a nationwide network, as opposed to two separate and overlapping nationwide networks. We believe this is the most likely assumption as the government is unlikely to jump to a four nationwide 3G licenses scenario and a combination of CNC and CU would be not only troublesome now, but also limiting to future options. In contrast, granting regional licenses to CT and CNC to share (across one technology standard platform) means not shocking the system by doubling the number of players up front, yet preserving the option to extend regional licenses to nationwide in 3-5 years’ time if desired. Scenario assumptions The five sample scenarios we tested are: 1. WCDMA build: Operator funds regional deployment from its own listco balance sheet. 2. Lease TD, no GSM network: Operator has no 2G existing network. Parent company embarks on TD buildout, leasing the network capacity back to listco at a discounted price to cushion earnings impact in early years. 3. Lease TD, with GSM: Operator is able to purchase CU’s GSM business. Parent company builds the TD network and leases to listco. 4. Build TD, no GSM network: Same as the second scenario above but assuming that the listco funds the TD-SCDMA capex from its own balance sheet July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 31 5. Build TD, with GSM: Same as (3) above but assuming the listco funds the TD-SCDMA capex from its own balance sheet We make general assumptions that: For the revenue line: It is easier to acquire subscribers of higher quality if CT/CNC are operating with either a WCDMA network or owns its own GSM business – we assume the same more favorable sub, churn and ARPU forecasts for cases 1,3 and 5 above For the cost line: Subscriber acquisition and retention costs should be higher for TD-SCDMA than they are for WCDMA (due to lack of familiarity with the product and probably fewer handset choices versus WCDMA), regardless of whether the network is built or leased and irrespective of whether the company owns a GSM network or not. SAC and retention assumptions across cases 2,3,4 and 5 are the same. For network leasing rates, this is set to zero for scenarios 1,4, and 5, while we use 25% of revenue as a proxy for cases 2 and 3. This level is slightly cheaper than the 30% CU currently pays to its parent company. We believe that share of revenue is a better and more likely lease rate determinant than per sub, as evidenced through CU’s leasing adjustments over the years. We have made the same sub growth, cost progression, ARPU, churn, lease rate, etc, assumptions for CT versus CNC. Scenario analysis output The exhibits below summarize our approximate findings. Exhibit 38: CT valuation by varying 3G scenarios Exhibit 39: CNC valuation by varying 3G scenarios SOTP valuation (HK$) 2006E 2007E 2008E Fixed line business on DCF 2.7810.710.810.8 Mobile business scenarios Fixed Mobile Total Vs. current price Assuming WCDMA build 2.780.493.2729% Assuming TD lease, no GSM 2.78 (0.06) 2.728% Assuming TD lease, GSM 2.780.192.9718% Assuming TD build, no GSM 2.78 (0.43) 2.34 -7% Assuming TD build, GSM 2.78 (0.02) 2.769% Market implied mobile 2.78 (0.25) 2.53 Implied target multiple SOTP valuation (HK$) 2006E 2007E 2008E Fixed line business on DCF 14.659.59.29.1 Mobile business scenarios Fixed Mobile Total Vs. current price Assuming WCDMA build 14.653.0817.7327% Assuming TD lease, no GSM 14.65 (0.38) 14.272% Assuming TD lease, GSM 14.651.2015.8513% Assuming TD build, no GSM 14.65 (2.72) 11.93 -15% Assuming TD build, GSM 14.65 (0.14) 14.514% Market implied mobile 14.65 (0.65) 14.00 Implied target multiple Source: Goldman Sachs Research estimates. Source: Goldman Sachs Research estimates. As the exhibits illustrate, we derive dramatically different values of the 3G business under the varying 3G assumptions. We are looking at FCF breakeven in around 2014E for the TD cases and 2012E for the WCDMA case, assuming service launches in 2008. Our WCDMA long-term EBITDA margin rises to the mid-40%. Our TD scenario with GSM forecasts reported EBITDA to peak out at around 10% (after a 25% of revenue leasing fee for the parent company build), and 35% margin, assuming self-build. Our TD scenario without GSM takes EBITDA margins up to about 26%. The charts below show a snapshot of CT’s sub, financials, FCF and margin progression under scenario 2: lease TD, no GSM. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 32 Exhibit 40: CTTD lease, no GSM case sub/ARPU/revenue progression Exhibit 41: CTTD lease, no GSM case key financials 7 16 25 35 44 53 62 69 7 99109997 67 63 60 57 54 51 49 46 0 10 20 30 40 50 60 70 80 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Subs (mn) 0.0 10.0 20.0 30.0 40.0 50.0 60.0 70.0 ARPURmb Subs Sub adds ARPU -122% -47% -24% -16% -9% -5% -3% 1% -97% -22% 1% 9% 16% 20% 22% 26% -10,000 -5,000 0 5,000 10,000 15,000 20,000 25,000 30,000 35,000 40,000 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Rmb mn -140% -120% -100% -80% -60% -40% -20% 0% 20% 40% Revenue EBITDA EBITEBITDA margin EBITDA margin adj for leasing Source: Goldman Sachs Research estimates. Source: Goldman Sachs Research estimates. Exhibit 42: CTTD lease, no GSM case FCF outlook No capex assumed under lease case, FCF breakeven after 7 years Exhibit 43: CTTD lease, no GSM case cost progression Adjusted EBITDA margin adds back leasing cost -3,385 -3,577 -3,298 -2,291 -1,565 -855 232 -855 232 -4,079 -1,565 -2,291 -3,298 -3,577 -4,079 -3,385 -4,500 -4,000 -3,500 -3,000 -2,500 -2,000 -1,500 -1,000 -500 0 500 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Rmb mn EBITDACapex FCF -122% -47% -24% -16% -9% -5% -3% 1% -97% -22% 1% 9% 16% 20% 22% 26% 0 5,000 10,000 15,000 20,000 25,000 30,000 35,000 40,000 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Rmb mn -140% -120% -100% -80% -60% -40% -20% 0% 20% 40% Lease fees SG&A/other D&AEBITDA margin EBITDA margin adj for leasing Source: Goldman Sachs Research estimates. Source: Goldman Sachs Research estimates. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 33 Please see similar outcome charts for the other scenarios for CT in the appendix of this report. CNC trend-lines are similar as we assume the same operating KPIs. Lease rate makes all the difference As one might expect, should the parent company build TD-SCDMA networks and lease them back to the listcos, listco economics and returns will depend heavily on leasing terms. We expect such terms to be attractive and note that there is potential upside risk to our 25% assumption. The exhibits below show the DCF and FCF margin variations for both CT and CNC on varying levels of leased rates as a percentage of revenue. Exhibit 44: CT lease rate sensitivity analysis Lease fee/ revenue DCF value 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E 10% 0.28 -107% -32% -9% -1% 6% 10% 12% 16% 15% 0.16 -112% -37% -14% -6% 1% 5% 7% 11% 20% 0.05 -117% -42% -19% -11% -4% 0% 2% 6% 25% (0.06) -122% -47% -24% -16% -9% -5% -3% 1% 30% (0.17) -127% -52% -29% -21% -14% -10% -8% -4% 35% (0.28) -132% -57% -34% -26% -19% -15% -13% -9% EBITDA / FCF margin Source: Goldman Sachs Research estimates. Exhibit 45: CNC lease rate sensitivity analysis Lease fee/ revenue DCF value 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E 10% 1.73 -107% -32% -9% -1% 6% 10% 12% 16% 15% 1.03 -112% -37% -14% -6% 1% 5% 7% 11% 20% 0.32 -117% -42% -19% -11% -4% 0% 2% 6% 25% (0.38) -122% -47% -24% -16% -9% -5% -3% 1% 30% (1.08) -127% -52% -29% -21% -14% -10% -8% -4% 35% (1.79) -132% -57% -34% -26% -19% -15% -13% -9% EBITDA / FCF margin Source: Goldman Sachs Research estimates. Room for upside surprises longer-term, we just do not know when Looking at where the share prices are now for CT and CNC, we see that the market is implicitly pricing in a negative 3G value somewhere in between the TD-build, no GSM case and TD-build, with GSM cases (see Exhibits 38 and 39). We further believe that the market is not factoring in much in the way of regulatory assistance for the fixed-line players in general. We could see potential upside surprises at licensing and during 3G rollout: We believe a parent company buildout is more likely. At the end of the day, we think that China wants to achieve its agendas with TD- SCDMA but also does not want to raise substantial corporate governance concerns. Doing a parent company buildout of TD-SCDMA networks and presenting the leasing opportunity to listcos at a very discounted lease rate is a good way to invest heavily in the homegrown technology July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 34 yet still justify the listcos’ “commercial choice” in selecting TD-SCDMA. The telecom operators’ parent companies have substantial balance sheets and ample funding capacity, so financing should not be a problem. We believe that a leasing structure would substantially enhance the value of the 3G venture to the listcos. We believe leasing rates may be more attractive than we have estimated. Quite possibly, we could envision a more favorable lease rate for TD-SCDMA networks versus that CU currently pays for the CDMA network. We think setting the lease rate as noticeably lower than CDMA’s would further demonstrate the government’s commitment to the product. We believe regulatory assistance has not been given any quantifiable credit. Less quantifiable but also relevant – we think the market is not really assuming much policy assistance to CT and CNC long-term. Should these come through (and in particular if they are announced upfront at the time of licensing), it could present a positive surprise. Unfortunately, we believe it will take some time for the market to actually give CT and CNC any credit for the above. We would only recommend investors with above-average time horizons to consider playing such long-term themes. We are integrating the “TD-SCDMA lease, no GSM” case as our base case In setting our target prices for CT and CNC, we are adding together the DCF valuation for the core fixed-line business and the DCF valuation of a 3G licensing on the TD-SCDMA leasing case, assuming no GSM network purchase. We do not believe the market is willing to assume that CT and CNC will be able to secure the GSM network assets of CU upon 3G launch. Moreover, if an acquisition does happen, we believe that pricing-wise, CT and CNC may need to share some of its “value creation” from owning the GSM assets with CU in setting the acquisition price. We will discuss these concepts and their implications for CU (which are more significant than implications to CT/CNC) in greater detail in the next section of this report. CT versus CNC—CNC has conceptually a lower risk profile, but the stock is nearing its trading range peak Between CT and CNC, we conceptually believe that CNC has a lower risk profile: CNC’s 3G standards risk is lower than CT’s. We believe that CT could end up bearing the TD-SCDMA project on its own, whereas CNC could only get involved on a partnership with CT, and not on a standalone nationwide basis. Exhibit 46 illustrates our view that two out of three most likely 3G standards outcomes involves CT adopting TD-SCDMA in some form, while only one out of three such scenarios involves CNC doing the same. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 35 Exhibit 46: CT vs. CNC 3G standards options CNC is unlikely to operate a nationwide TD-SCDMA network on its own 3G technology possibilities Funding TDSCDMA nationwide Parentco most likely, listco possible (4 licenses, CNC/CMW, CUCDMA) TDSCDMASouth only Parentco most likely, listco possible Most likely (3 licenses, CNCTDNorth, CMW, CUCDMA) WCDMAListco (3 or 4 licenses, CT/CNW, CMTD, CUCDMA) TDSCDMANorth Parentco most likely, listco possible Most likely (3 licenses, CTTDSouth, CMW, CUCDMA) WCDMAListco most likely, parentco possible (3 or 4 licenses, CTTD or CT/CNCW, CMTD or W, CUCDMA) CDMAListco (3 licenses, CNC/CUCDMA, CMTD or W, CTTD or W) China Telecom China Netcom Source: Goldman Sachs Research estimates. CT’s 3G capex could be nationwide while CNC’s will more likely remain limited to regional. Unless we have an unlikely four license scenario, CNC’s capex obligation will most likely remain limited to half of the country. CNC may have slightly more room for margin improvement. We are not expecting great things from either CT or CNC in terms of results but note that CNC may have a bit more room to cut costs versus CT, given its later listing and more recent asset injection. CNC is slightly cheaper on PER metrics. CNC trades at 2006E/2007EPERs of 8.8X and 8.7X, versus 9.7X and 9.8X for CT. CT and CNC’s EV/EBITDA for the same two years (recurring) are similar at 3.8X and 3.6X for CNC, versus 3.8X and 3.7X times for CT. Potential price support from Telefonica. In November 2005, Telefonica signed an MOU with CNC to potentially increase its shareholding in CNC from the current 5% up to 9.9%. This is a potential positive for the share price, but timing is unclear and we do not realistically expect Telefonica to purchase the additional 4.9% from existing shareholders or the open market until the 3G standards situation is finalized. We note that Telefonica has included the stake increase as part of its M&A budget to be used within 2006 and 2007. CNC looks like the better trading sell now, however Unlike CT, CNC’s share price has noticeably benefited recently from a re-rating of the HK/China market. At the current price level of over HK$14, CNC is not far from its historical peak of HK$15.45 on May 9,2006. Even though its valuation is not more expensive than CT’s, we think that the July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 36 market has generally accorded a bit of a multiple discount to the smaller player. At these levels, CNC looks like a better trading sell or short than CT, which continues to languish – having seen very little recovery from its 52-week lows and remains a good 20%+ below its ytd highs of just over HK$3 in early February. CU: Restructuring or else! We are shifting preference away from CU, because we think the current valuation already reflects achievable organic fundamental improvement, and that most of the sentiment-boosting news has already come out. We do still see potential for shareholder value creation should CU sell off its GSM network to the fixed-line players, and believe this will happen at some point. However, timing is highly uncertain and we feel it is increasingly likely that fixed-line players launch 3G with 2G roaming rather than getting their own 2G networks. Until we have greater visibility on this asset sale, CU’s price upside may be capped, although we do not expect it to fall below book value per share so long as restructuring remains a possibility. Achievable fundamental improvements likely already in the price Looking forward in the next few quarters, we feel that CU offers limited room for positive surprises in terms of its core fundamentals—2Q2006 results are unlikely to drive more earnings upgrades, we do not expect much new news on the foreign investment front now that the SKT tie-up has been announced, and valuations are already reflective of the core business. CU shares are most attractive in the low HK$6’s when downside to book value is more limited. 2Q2006 results unlikely to result in more consensus upgrades We have seen CU post a strong set of numbers in 1Q2006 and a slew of consensus upgrades to earnings on the back of the results. The GSM business was particularly strong during the quarter, helping to offset continued stagnant trends on the CDMA side. We believe that the market was taken by surprise by the unusually robust 1Q2006 trends. As can be seen in the appendix, consensus is not far from our 2006 earnings forecast of about Rmb5.9 bn. CU has completed 23% of this in 1Q2006 – roughly the same run-rate as we witnessed in 1Q2005. We expect 2Q2006 price and elasticity trends to mark a return to the “norm” as discussed earlier with relation to CM’s quarterly outlook. As such, likelihood for more consensus upward revisions is quite low in our view, while there may be room for downward revisions should 2Q2006 disappoint. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 37 Exhibit 47: CU's quarterly 2006 expectations Financials (Rmb mn) 3Q054Q051Q062Q06E 3Q06E 4Q06E Total revenues 22,03321,77122,90023,50623,96424,090 Cellular 20,24920,05021,13121,89222,32722,440 GSM 13,20013,29814,30614,62614,96814,971 CDMA 7,0496,7526,8247,2677,3597,469 LD, Data, Internet 1,140989937975888931 Sales of telecom products 644731832639749718 Total costs (19,777) (19,986) (20,679) (21,024) (21,587) (22,055) EBITDA 7,3597,0787,6667,9477,8477,787 EBITDA margin (%) 33.4% 32.5% 33.5% 33.8% 32.7% 32.3% Service EBITDA 7,5357,2977,8358,1698,0368,054 Service EBITDA margin (%) 35.2% 34.7% 35.5% 35.7% 34.6% 34.5% Depreciation and amortization (5,104) (5,293) (5,444) (5,466) (5,470) (5,752) Pre-tax profits 2,1371,5722,0312,2842,3531,897 Taxation (668) (440) (642) (683) (722) (582) Net profits 1,4691,1321,3891,6011,6311,314 EPS (Rmb) 0.117 0.090 0.110 0.127 0.130 0.105 Operating data 3Q054Q051Q062Q06F 3Q06F 4Q06F GSM GSM subs ('000) 92,23595,07297,906100,654103,474106,580 Net add for period ('000) 2,6222,8372,8342,7482,8203,106 GSMMOU (mn) 55,99359,63063,39565,78568,72271,208 Blended GSMMOU 205212219221224226 Blended GSMARPU (Rmb) 48.447.349.449.148.947.5 GSMARPU/ MOU (Rmb per minute) 0.236 0.223 0.226 0.222 0.218 0.210 GSM revenues (Rmb mn) 13,20113,29914,30714,62614,96914,972 GSM rev as % of cellular 65% 66% 68% 67% 67% 67% GSMEBITDA margin 49.3 45.0 51.148.947.142.1 GSM pretax profit 2,041 1,377 1,8702,197 2,220 1,754 CDMA CDMA subs ('000) 31,91132,72333,63734,55635,56536,669 Net add for period ('000) 9928129149191,0091,104 CDMAMOU (mn) 26,35925,86126,31127,57928,40829,531 CDMAMOU 280267264270270273 CDMAARPU (Rmb) 74.869.668.571.070.068.9 CDMAARPU/ MOU (Rmb per minute) 0.267 0.261 0.259 0.263 0.259 0.253 CDMA revenues (Rmb mn) 7,7327,4357,5557,9978,0898,200 CDMA pretax profit 80202120117124110 Source: Goldman Sachs Research estimates. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 38 SKT tie-up was mildly positive for sentiment but not expected to bring quantifiable benefit in the foreseeable term We were surprised that SKT was willing to tie up with CU ahead of clarity emerging from the Chinese telecom sector on the 3G outlook (and believe SKT’s current investment format of a put-able convertible bond was designed to offer potential downside protection in case of surprises). SKT and CU have signed a memorandum of cooperation to jointly develop the CDMA network. We believe that cooperation does not extend to GSM currently because frankly speaking, we believe the government does not see much value-add from SKT on the GSM side. As the SKT tie-up news was already announced on June 21, and the CB is not convertible for at least the first year of its three-year term, we do not anticipate much news on the foreign investment front for CU over the coming quarters. SKT plans to assist CU’s CDMA business in areas such as value-added services, handset procurement, network optimization and marketing. We remain skeptical that much “visibile” improvement would show through given: VAS: The two companies have been working together on CDMA wireless data applications for some time now via its UniSK joint venture in Beijing. Joint handset efforts: SKT has had a small production line in China assembling CDMA handsets on a low scale. As for procurement synergies, it is not clear how these would materialize considering that Koreans favor Korean-made handsets while CU has historically focused the vast majority of direct sourcing on Chinese-makes such as Hisense and ZTE. Moreover, there are tariffs in place on the import of Korean-made handsets into China currently. Network optimization: SKT does have substantial experience on this front but we feel its impact on CU’s CDMA takeup may be limited as CDMA’s reputation with the mid to high-end market has been eroded over the years already and low-end subs’ adoption decision may hinge more on the handset and tariff rather than network quality. Moreover, CU’s equipment vendors (mostly Chinese) are distinctly different from that of SKT (mostly Korean). Marketing: We believe the market condition and regulatory environment CU faces are significantly different from that SKT has accumulated experience in tackling. Valuations already in line with CM’s, at a big premium to CT/CNC’s We think that CU’s current market valuations are already fair and leave little upside to our DCF-based target of HK$7.2. The exhibits below show CU’s forward PER and EV/EBITDA bands. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 39 Exhibit 48: CUPER band (1-yr forward) Exhibit 49: CUEV/EBITDA band (1-yr forward) 0 2 4 6 8 10 12 14 16 D ec -0 1 M ay -0 2 O ct -0 2 M ar -0 3 A ug -0 3 Ja n- 04 Ju n- 04 N ov -0 4 A pr -0 5 S ep -0 5 Fe b- 06 Ju l-0 6 D ec -0 6 M ay -0 7 O ct -0 7 M ar -0 8 A ug -0 8 Stock price 10X 15X 20X 25X (HK$) 50 100 150 200 250 300 D ec -0 1 M ay -0 2 O ct -0 2 M ar -0 3 Au g- 03 Ja n- 04 Ju n- 04 N ov -0 4 A pr -0 5 Se p- 05 Fe b- 06 Ju l-0 6 D ec -0 6 M ay -0 7 O ct -0 7 M ar -0 8 Au g- 08 EV 3X 4X 5X 7X (HK$ bn) Source: Datastream, Goldman Sachs Research estimates. Source: Datastream, Goldman Sachs Research estimates. We notice that CU does trade on a pretty low EV/EBITDA multiple. We believe this is a result of the company’s favorable arrangement with the parent company whereby all CDMA-related funding is done by the parent and listco pays 30% of revenue leasing fee which is significantly lower than the depreciation cost on the CDMA network. If we were to calculate an “adjusted” EV/EBITDA multiple to include the CDMA capex (net of cash inflow) to date into CU’s debt position, but also add back lease fees to CU’s reported EBITDA, we would arrive at noticeably higher implied multiples. Exhibit 50: CUEV/EBITDA reported and adjusted for CDMA network funding (Rmb mn) Adjusted for CDMA network ownersh 2006E 2007E 2008E 2006E 2007E 2008E Price (HK$) 7.05 Shares outstanding (m 12,570 Market cap (Rmb mn) 90,89490,89490,89490,89490,89490,894 Net debt 23,72318,19310,910 Adjusted net debt 111,050111,324104,519 EV 114,617109,087101,803201,944202,217195,413 EBITDA 31,24733,02334,76839,92342,15645,070 EV/EBITDA (x) 3.673.302.935.064.804.34 Reported number Source: Goldman Sachs Research estimates. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 40 Trading now at double-digit premium to book, so downside greater than in the past We believe that since the market began to speculate about a potential split-up of CU back in late 2004, the share price has had downside support at the book value per share level, as investors do not believe the Chinese government would sell assets below book. As the exhibit below shows, CU’s share price has rarely dipped below book value per share. The light blue dotted line below tracks CU’s trading price per share versus book value per share on a quarterly rolling basis. This premium has ranged from just below 0% at points to over 20%+ in the past twelve months and is currently at about 10%. We think that better entry points into the stock are found in the low HK$6’s level, closer to the book value per share. Exhibit 51: CU price performance vs. book value per share progression CU's share price premium over book value per share is now at about 10% 4 5 6 7 8 9 10 11 1/ 1/ 20 04 2/ 2/ 20 04 3/ 3/ 20 04 4/ 2/ 20 04 5/ 4/ 20 04 6/ 3/ 20 04 7/ 5/ 20 04 8/ 4/ 20 04 9/ 3/ 20 04 10 /5 /2 00 4 11 /4 /2 00 4 12 /6 /2 00 4 1/ 5/ 20 05 2/ 4/ 20 05 3/ 8/ 20 05 4/ 7/ 20 05 5/ 9/ 20 05 6/ 8/ 20 05 7/ 8/ 20 05 8/ 9/ 20 05 9/ 8/ 20 05 10 /1 0/ 20 05 11 /9 /2 00 5 12 /9 /2 00 5 1/ 10 /2 00 6 2/ 9/ 20 06 3/ 13 /2 00 6 4/ 12 /2 00 6 5/ 12 /2 00 6 6/ 13 /2 00 6 H K $ pe r s ha re -20% 0% 20% 40% 60% 80% 100% Sh ar e pr ic e pr em iu m v s B VP S Share price BVPSPremium CU restructuring rumors hit the market CT chairman Wang Xiaochu openly pushes for CU to sell its GSM business to CT/CNC Source: Datastream, Goldman Sachs Research. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 41 GSM sell-off benefits to the CU shareholder are clear; and we do believe the networks should be split up eventually The issue of an asset disposal for CU has been batted around frequently over the past couple of years but it appears difficult to get any consensus from the various industry players. We believe that an eventual split of the GSM and CDMA business is the best option, as having CU operate two networks and only upgrade one to 3G, while having CT and CNC build a greenfield 3G business with no 2G network of its own, appears to be an inefficient solution and unsustainable long-term. GSM sale more likely than CDMA, in our view If and when the government decides to split up CU’s assets, we believe that a GSM sell-off is more likely (but more difficult to implement) than a CDMA sale. We believe there is a clear consumer perception in China that attaches CDMA to the CU brand. Various CU-branded products, such as the World Wind dual-mode phone, are all CDMA-related. The government may feel that the fixed-line players would have a much easier time upgrading PHS subs to GSM (given the availability of GSM/PHS dual-mode handsets) rather than CDMA. CDMA has also been positioned as the “premium” product so it may be a less-suitable migration path for the lower-end PHS sub base. As SKT has already signed on as a strategic partner for the CDMA business, the government could view the CDMA project as “dispensable” in the long-term, assuming that China does not need three standards at the end of the day and TD-SCDMA will show improving maturity. Selling the CDMA business to the fixed-line player(s) is a firmer, longer-term commitment to the US-backed CDMA standard which the government may not need to make. Most of CU’s personnel have focused on product differentiation over the past few years—meaning VAS and data differentiation on the CDMA network, rather than the GSM business which is perceived to be more commoditized. GSM sell-off could result in significant value creation for CU shareholders assuming a likely premium sale We have broken up our valuation of CU into two components: GSM+internet/data+long distance (GSM+others), and CDMA. We roughly estimate via DCF analysis for the two networks that GSM+others is worth roughly HK$6.3 per share, with the remaining HK$0.9 per share allocated to CDMA. This looks like a relatively small proportion of value accorded to CDMA but we think this is justified – CDMA’s equity value contribution (13%) should be lower than its revenue contribution (32% in 2005) because the network assets are not at the listco level and the business produces much lower margins. The exhibit below shows that assuming the bulk of CU debt belongs to the GSM network (allocated by approximate proportion of finance costs accorded to the respective divisions in 2005), a 20-30% equity premium booked on a GSM network sale would net the CU investor about HK$1.26- 1.89 per share. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 42 Exhibit 52: CU valuation breakup analysis We believe CU would book a premium on GSM equity in case of a sale Summary table (1 yr fwd) Enterprise value(Rmb mn) Net debt (Rmb mn) Equity value(Rmb Implied price per share 30% 20% 10% GSM+Internet/Data&LD 97,296 (22,799) 74,4976.308.197.566.93 CDMA 11,895 (924) 10,9710.930.930.930.93 Total company 109,191 (23,723) 85,4687.239.118.487.86 1.891.260.63 26% 17% 9% 29% 20% 11% Assumed premium on GSM equity in case of sale Premium received per CU share Accretion to target price of HK$7.2 Accretion to market price of HK$7.05 Source: Goldman Sachs Research estimates. How would such a premium be justified by the buyers to its own shareholders We believe the buyers’ shareholders would not block such a transaction because: This is CT and CNC’s only chance to obtain a 2G presence. Without the 2G presence, the operators must continue to rely on 2G roaming at government-dictated rates. These rates may be preferential at least to start, but there may not be firm long-term assurances that 2G roaming will be indefinitely available and always favorably priced. As discussed earlier, we think having a GSM network and subs base to start can enhance the value of the fixed-line player(s)’ 3G business outlook. As we expect a valuation improvement for CT/CNC for having a GSM network, they should be able to justify “sharing” some of that value creation with CU’s shareholders in the asset purchase. The exhibit below is a conceptual demonstration that if CT and CNC were to “share” about 80% of their valuation creation with CU, it works out to be roughly a 30% premium on the CUGSM equity. This is a fair way to “sanity check” our GSM sale premium assumptions, in our view. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 43 Exhibit 53: GSM value creation for CT/CNC and implications for CUGSM sale premium Per share HK$ Shares out Total value HK$ mn CT 3G value/share: TD lease, no GSM -0.0680,932 (4,856) CNC 3G value/share: TD lease, no GSM -0.406,594 (2,637) Total (7,493) CT 3G value/share: TD lease, GSM 0.1780,93213,759 CNC 3G value/share: TD lease, GSM 1.096,5947,187 Total 20,945 Difference (value creation for CT/CNC from owning GSM) 28,439 Benefit kept by CT/CNC 20% 5,688 Benefit shared with CU 80% 22,751 Per CU share 1.81 % of value creation benefit kept by CT/CNC 0% 20% 40% 60% 80% 100% Incremental value/CU share 1.812.261.811.360.900.450.00 Implied CU price per share 9.499.048.588.137.687.23 Implied premium on GSM equity 36% 29% 22% 14% 7% 0% Accretion to target price of HK$7.232% 25% 19% 13% 7% 0% Accretion to market price of HK$7.0535% 28% 22% 15% 9% 2% Assume GSM selloff - sensitivity analysis Source: Goldman Sachs Research estimates. We note that such a “value-share” with CU in any GSM network purchase would accordingly reduce the total 3G-related value creation from owning a GSM network, as shown in Exhibits 38 and 39. AGSM sell-off is harder to implement, however, than a CDMA sell-off. ACDMA sale is not nearly as positive for CU shareholders We feel that a GSM asset sale is more likely than a CDMA asset sale. However, a CDMA asset sale would be easier to carry out. Sale of a substantial asset out of any SOE listco is likely to come under intense scrutiny, especially when the buyer is another SOE listco and perceived to be a “connected party” (i.e., both controlled by the same government). Sale of the CDMA business, on the other hand, would be potentially much easier to execute since the bulk of the value rests at the parent company level and only about HK$0.9 of CU’s per-share equity value is associated with CDMA, by our estimate. We note, however, that sale of CDMA would be much less exciting to CU shareholders as even a huge premium on CDMA equity would equate to only a small bit of accretion for the overall share price. But, timing is elusive and many obstacles and challenges do lie in the way Although we fully recognize the potential upside shareholders face if the CUGSM network were sold in an industry restructuring, we are not incorporating this event into our estimates now. We believe that a GSM sale in 2006 is unlikely and in fact, restructuring probably will not take place before 3G licensing. We base our thesis on several points: The government recognizes how controversial this issue is and may not see any easy way to find a solution that pleases all interested parties. We are not aware of any past precedent cases whereby one major listed SOE purchased a significant asset from another major listed SOE. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 44 Our discussions with government officials and industry experts indicate that the issues of restructuring and 3G have been de-coupled in the minds of the key decision-making bodies including SOE-shareholder State Asset Supervisory and Administrative Commission (SASAC), the National Development and Reform Council (NDRC) and the MII We understand that the MII is researching the subject of 2G roaming, which seems to reaffirm an open mind to consider launching 3G with 2G roaming instead of setting a CU breakup as pre-requisite for 3G Even though CU is struggling, the government may not view its performance as weak enough to warrant a dramatic restructuring, as it is still profitable and FCF positive. CU does not really need the money yet—CU has long indicated it would like to buy the CDMA network asset from the parent if and when such a purchase would become accretive to earnings – a move that looks like it will require external funding (or the funding could easily be generated in a GSM asset sale). However, given that CU listco’s network leasing fees are now much lower than the parent company’s network depreciation charges, we are probably still quite far away from such a transaction (unless the government wants to dramatically write down the CDMA network book value). July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 45 Exhibit 54: CU listco is still getting a good deal with CDMA leasing Current lease fees are far lower than parent company's network depreciation charge 22% 27% 29% 30% 30% 31%32% 42% 47% 46% 45% 24% - 2,000 4,000 6,000 8,000 10,000 12,000 14,000 16,000 2003PF 2004A 2005A 2006E 2007E 2008E Rmb mn 0% 5% 10% 15% 20% 25% 30% 35% 40% 45% 50% Lease fee to parent Depreciation at parent Lease fee/revenue Depreciation/revenue Source: Company data, Goldman Sachs Research estimates.. And CU may not be the right name to bet on after GSM has been sold off Post any GSM asset sale, we would be skeptical in assuming any dramatic pickup in CDMA performance. Post GSM sell-off, we believe that CU will have the benefit of more working capital, more clear focus on one network, and increasing support from SKT. However, we think the company’s future with CDMA may be challenging still. With the increasing dominance of GSM and WCDMA in the global telecom market and likely decreasing scale for CDMA over time (as recently demonstrated by Nokia’s exit from the CDMA handset business, Vivo’s decision to build a GSM overlay to its CDMA network, and Reliance Infocomm’s application to the Indian regulator for GSM spectrum, among other events), we think that it will become increasingly difficult for CU’s CDMA business to excel post restructuring. The only remaining “angle” post any GSM sale for CU may be a very favorably priced CDMA network purchase from the parent. If the government does write down the CDMA book value and inject the network into the listco, it could become value accretive for the listco based on our DCF analysis of “leasing” versus “owned” scenarios. However, as the exhibit below shows, value creation is very much tied to purchase price of the July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 46 CDMA asset. The breakeven point looks to be approximately Rmb53 bn, a 20% discount versus the estimated 2006E net book value for the CDMA network on the parent company’s books. Exhibit 55: CU value sensitivity to CDMA network buyback price Sensitivity analysis on value creation assuming GSM sale and CDMA network purchase from parent Conceptual buyback price Rmb mn (30,000) (40,000) (50,000) (60,000) (70,000) (80,000) Incremental value/CU share (1yr fwd D 0.142.081.240.39 (0.45) (1.30) (2.14) Implied CU price per share 9.318.467.626.775.935.08 Premium vs CDMA 06EBV of Rmb66781mn -55% -40% -25% -10% 5% 20% Accretion to target price of HK$7.229% 18% 6% -6% -18% -29% Accretion to market price of HK$7.0532% 20% 8% -4% -16% -28% (30,000) (40,000) (50,000) (60,000) (70,000) (80,000) 0% 2.26 4.35 3.50 2.66 1.81 0.97 0.12 20% 1.81 3.89 3.05 2.20 1.36 0.51 (0.33) 40% 1.36 3.44 2.60 1.75 0.91 0.06 (0.79) 60% 0.90 2.99 2.14 1.30 0.45 (0.39) (1.24) 80% 0.45 2.54 1.69 0.85 0.00 (0.84) (1.69) 100% - 2.08 1.24 0.39 (0.45) (1.30) (2.14) Conceptual buyback price of CDMA network from parentco Rmb mn % o f v al ue cr ea tio n be ne fit k ep t by C T/ C N C in bu yi ng C U G SM Buyback of CDMA network from parentco Incremental value/CU share HK$ Source: Goldman Sachs Research estimates Worth monitoring and revisiting towards year-end Despite our downgrade of CU to Neutral from Buy, we still prefer the name over the fixed-line players in the current environment given its better growth prospects. We will continue to monitor for attractive entry points into CU, which are closer to the book value per share level. We believe a better time to evaluate any preference shift to CU from CM would be in about two quarters’ time, as any asset sale in 2006 is unlikely, in our view. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 47 Appendix: Datahub for China telcos Part I: Financial summary by company Exhibit 56: CMHK financial summary,2005-2008E PROFITMODEL (CNY mn) 12/0512/0612/0712/08 BALANCESHEET (CNY mn) 12/0512/0612/0712/08 Total revenue 243,041 279,883 312,883 340,015 Cash & equivalents 106,386 134,033 165,294 191,050 Cost of goods sold (18,533) (22,273) (25,246) (27,364) Accounts receivable 8,577 9,541 10,345 10,897 SG&A (94,454) (108,580) (122,066) (141,325) Inventory 2,365 2,801 3,131 3,402 R&D - - - - Other current assets 3,748 3,940 4,386 4,752 Other operating profit / expenses 3,284 3,390 3,448 3,634 Total current assets 121,076 150,315 183,156 210,101 EBITDA 133,338 152,420 169,018 174,960 Net PP&E 250,706 267,960 288,890 313,621 Depreciation & Amortization (56,368) (60,304) (66,838) (73,645) Net intangibles 35,300 35,300 35,300 35,300 EBIT 76,970 92,115 102,180 101,315 Total investments 77 77 77 77 Interest income 1,615 1,546 2,404 2,993 Other long-term assets 13,868 13,868 13,868 13,868 Interest expense (1,346) (1,350) (1,350) (1,350) Total assets 421,027 467,520 521,291 572,967 Income from unconsolidated subs. - - - - Others 1,025 1,180 1,320 1,434 Accounts payable 41,931 44,683 49,179 53,443 Pretax profits 78,264 93,492 104,554 104,392 Short-term debt 68 68 68 68 Income tax (24,675) (30,385) (34,503) (26,098) Other current liabilities 67,955 74,648 84,974 92,879 Minorities (40) (45) (50) (50) Total current liabilities 109,954 119,399 134,221 146,390 Long-term debt 12,912 12,912 12,912 12,912 Net income pre-pref dividends 53,549 63,062 70,001 78,244 Other long-term liabilities 25,054 25,436 25,784 26,069 Preferred dividends - - - - Total long-term liabilities 37,966 38,348 38,696 38,981 Net income pre exceptionals 53,549 63,062 70,001 78,244 Total liabilities 147,920 157,747 172,917 185,372 Post tax exceptionals - - - - Net income 53,549 63,062 70,001 78,244 Common stock & premium 2,116 2,116 2,116 2,116 Other common equity 270,708 307,329 345,880 385,052 EPS (basic, pre exceptional) 2.713.173.523.94 Total common equity 272,824 309,445 347,996 387,168 EPS (basic, post exceptional) 2.713.173.523.94 Minority interest 283 328 378 428 EPS (diluted, post exceptional) 2.693.173.523.93 DPS 1.061.331.581.97 Total liability & equity 421,027 467,520 521,291 572,967 Dividend payout ratio (%) 39.342.045.050.0 BVPS 13.7215.5717.5119.48 GROWTH & MARGINS (%) RATIOS Sales growth (%) 26.315.211.88.7 ROE (%) 21.221.721.321.3 EBITDA growth (%) 24.814.310.93.5 ROA (%) 13.614.214.214.3 EBIT growth (%) 26.819.710.9 (0.8) ROIC (%) 21.823.722.822.4 Net income growth (%) 28.317.811.011.8 Inventory days 47.942.342.943.6 EPS growth (%) 27.816.911.011.8 Receivable days 13.011.811.611.4 Gross margin (%) 92.492.091.992.0 Payable days 757.9709.7678.5684.4 EBITDA margin (%) 54.954.554.051.5 Net debt/equity (%) (25.1) (31.0) (36.3) (39.2) EBIT margin (%) 31.732.932.729.8 Interst cover - EBIT (x) NANANANA VALUATION 12/0512/0612/0712/08 CASHFLOWSTATEMENT (CNY mn) 12/0512/0612/0712/08 P/E (basic (X) 17.214.713.311.9 Net income pre-pref dividends 53,549 63,062 70,001 78,244 P/B (X) 3.43.02.72.4 DD&A add-back 56,368 60,304 66,838 73,645 EV/EBITDA (X) 6.45.54.74.4 Minorities interests add-back 40 45 50 50 Div yield (%) 2.32.93.44.2 Net inc/dec working capital 6,709 (383) 4,332 3,388 Other operating cash flow 14,927 13,882 13,168 13,004 ADDITIONALMETRICS Cash flow from operations 131,593 136,911 154,389 168,332 Total wireline voice revenues - - - - Total wireline data revenues - - - - Capital expenditures (66,027) (82,845) (92,613) (103,705) Total wireless revenues 243,041 279,883 312,883 340,015 Acquisitions - - - - Total wireline subscribers (000) - - - - Divestitures - - - - Total internet subscribers (000) - - - - Others (22,608) 45 50 50 Total wireless subscribers (000) 246,652 296,960 341,744 382,547 Cash flows from investments (88,635) (82,800) (92,563) (103,655) % prepaid of total wireless subs.75.178.781.182.8 Wireless blended monthly ARPU 90.085.681.678.2 Dividends Paid (common and pref) (18,894) (26,486) (31,500) (39,122) Blended wireless ARPU (data) (%) 20.623.826.328.3 Inc/Dec in Debt (8,066) 23 935 201 Wireless blended monthly MOU 335.0366.5384.8398.3 Common stock issuance/(repurch) 3,422 - - - Wireless monthly blended churn (%) 1.92.02.22.4 Other financing cash flows 3,422 - - - Marketing expenses/total revenues 33 33 33 35 Cash flows from financing (23,538) (26,463) (30,565) (38,921) Wireless capex/total capex 108 100 100 100 Wireline capex/total capex - - - - Total Cash flow 19,420 27,647 31,261 25,756 Note: Last actual year may include reported and estimated data Source: Goldman Sachs Research estimates Source: Company data, Goldman Sachs Research estimates. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 48 Exhibit 57: CU financial summary,2005-2008E PROFITMODEL (CNY mn) 12/0512/0612/0712/08 BALANCESHEET (CNY mn) 12/0512/0612/0712/08 Total revenue 87,049 94,460 100,915 107,653 Cash & equivalents 5,754 6,795 7,433 12,880 Cost of goods sold (20,695) (22,578) (24,108) (26,441) Accounts receivable 7,414 8,568 8,939 9,308 SG&A (37,916) (40,635) (43,783) (46,443) Inventory 2,108 2,362 2,523 2,691 R&DOther current assets - - - - Other operating profit / expenses - - - - Total current assets 15,276 17,725 18,895 24,879 EBITDA 28,438 31,247 33,023 34,768 Net PP&E 116,056 116,232 117,392 116,472 Depreciation & Amortization (20,368) (22,132) (23,181) (25,182) Net intangibles 3,144 2,706 2,329 2,005 EBIT 8,070 9,115 9,842 9,586 Total investments - - - - Interest income 96 104 136 164 Other long-term assets 8,154 6,871 6,503 6,132 Interest expense (1,099) (675) (604) (494) Total assets 142,630 143,534 145,119 149,488 Income from unconsolidated subs. - - - - Others 35 20 20 20 Accounts payable 18,527 18,892 20,183 21,531 Pretax profits 7,102 8,565 9,394 9,276 Short-term debt 22,456 17,283 14,228 13,718 Income tax (2,170) (2,629) (2,884) (2,226) Other current liabilities 9,880 10,377 11,105 11,498 Minorities - - - - Total current liabilities 50,862 46,552 45,515 46,746 Long-term debt 12,127 5,235 3,398 2,071 Net income pre-pref dividends 4,932 5,935 6,510 7,050 Other long-term liabilities 3,354 11,306 11,532 11,768 Preferred dividends - - - - Total long-term liabilities 15,481 16,541 14,930 13,839 Net income pre exceptionals 4,932 5,935 6,510 7,050 Total liabilities 66,343 63,093 60,446 60,585 Post tax exceptionals - - - - Net income 4,932 5,935 6,510 7,050 Common stock & premium 53,935 53,935 53,935 53,935 Other common equity 22,352 26,507 30,739 34,969 EPS (basic, pre exceptional) 0.390.470.520.56 Total common equity 76,287 80,442 84,673 88,903 EPS (basic, post exceptional) 0.390.470.520.56 Minority interest 3 3 3 3 EPS (diluted, post exceptional) 0.390.450.480.52 DPS 0.110.140.180.22 Total liability & equity 142,630 143,535 145,119 149,489 Dividend payout ratio (%) 28.131.237.643.0 BVPS 6.076.406.747.07 GROWTH & MARGINS (%) RATIOS Sales growth (%) 10.18.56.86.7 ROE (%) 6.67.67.98.1 EBITDA growth (%) 5.49.95.75.3 ROA (%) 3.44.14.54.8 EBIT growth (%) 1.413.08.0 (2.6) ROIC (%) 5.16.16.87.2 Net income growth (%) 9.720.49.78.3 Inventory days 46.136.137.036.0 EPS growth (%) 9.720.49.78.3 Receivable days 33.930.931.730.9 Gross margin (%) 76.276.176.175.4 Payable days 311.4302.5295.8287.9 EBITDA margin (%) 32.733.132.732.3 Net debt/equity (%) 38.219.512.03.3 EBIT margin (%) 9.39.79.88.9 Interst cover - EBIT (x) 8.016.021.029.1 VALUATION 12/0512/0612/0712/08 CASHFLOWSTATEMENT (CNY mn) 12/0512/0612/0712/08 P/E (basic (X) 18.515.314.012.9 Net income pre-pref dividends 4,932 5,935 6,510 7,050 P/B (X) 1.21.11.11.0 DD&A add-back 20,368 22,132 23,181 25,182 EV/EBITDA (X) 4.23.73.32.9 Minorities interests add-back - - - - Div yield (%) 1.52.02.53.1 Net inc/dec working capital (2,039) (5,268) (2,318) (1,819) Other operating cash flow 7,543 6,088 4,543 3,789 ADDITIONALMETRICS Cash flow from operations 30,804 28,887 31,917 34,202 Total wireline voice revenues 1,525 1,388 1,363 1,341 Total wireline data revenues 3,050 2,343 1,821 1,289 Capital expenditures (16,643) (22,000) (24,108) (24,098) Total wireless revenues 82,459 90,715 97,716 105,011 Acquisitions - - - - Total wireline subscribers (000) - - - - Divestitures - - - - Total internet subscribers (000) 7,186 5,314 3,678 2,042 Others (105) (46) 5 (32) Total wireless subscribers (000) 127,795 143,249 157,944 171,545 Cash flows from investments (16,748) (22,046) (24,103) (24,130) % prepaid of total wireless subs.38.838.639.039.4 Wireless blended monthly ARPU 55.254.052.151.3 Dividends Paid (common and pref) (1,257) (1,781) (2,278) (2,820) Blended wireless ARPU (data) (%) 17.920.322.223.4 Inc/Dec in Debt (6,799) (8,209) (12,011) (4,066) Wireless blended monthly MOU 221.8234.2238.1246.4 Common stock issuance/(repurch) - - - - Wireless monthly blended churn (%) 2.22.22.42.4 Other financing cash flows 3 3 - - Marketing expenses/total revenues 24 23 23 23 Cash flows from financing (13,213) (5,846) (7,170) (4,657) Wireless capex/total capex 44 45 46 46 Wireline capex/total capex 13 3 2 2 Total Cash flow 842 995 643 5,415 Note: Last actual year may include reported and estimated data Source: Goldman Sachs Research estimates Source: Company data, Goldman Sachs Research estimates. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 49 Exhibit 58: CT financial summary,2005-2008E PROFITMODEL (CNY mn) 12/0512/0612/0712/08 BALANCESHEET (CNY mn) 12/0512/0612/0712/08 Total revenue 162,529 168,058 169,605 173,180 Cash & equivalents 15,413 20,867 29,004 42,251 Cost of goods sold (30,334) (31,132) (31,343) (32,308) Accounts receivable 16,142 16,691 16,845 17,200 SG&A (19,892) (21,375) (22,473) (23,956) Inventory 2,702 2,794 2,820 2,879 R&DOther current assets 2,406 2,488 2,511 2,564 Other operating profit / expenses (30,478) (31,706) (32,128) (32,629) Total current assets 36,663 42,840 51,179 64,893 EBITDA 81,825 83,845 83,661 84,286 Net PP&E 351,848 352,492 350,174 345,455 Depreciation & Amortization (49,652) (51,056) (51,102) (51,933) Net intangibles - - - - EBIT 32,173 32,790 32,559 32,353 Total investments 730 736 738 742 Interest income 243 151 206 287 Other long-term assets 27,895 28,670 28,887 29,388 Interest expense (5,138) (4,585) (4,218) (4,010) Total assets 417,136 424,738 430,978 440,478 Income from unconsolidated subs. - - - - Others 55 57 57 59 Accounts payable 36,057 37,284 37,627 38,420 Pretax profits 27,333 28,413 28,398 28,401 Short-term debt 85,076 84,431 79,730 76,271 Income tax (6,160) (6,819) (6,958) (6,958) Other current liabilities 35,843 34,644 33,444 33,027 Minorities (42) (41) (39) (37) Total current liabilities 156,976 156,358 150,801 147,718 Long-term debt 55,829 48,017 44,292 44,026 Net income pre-pref dividends 21,131 21,553 21,401 21,405 Other long-term liabilities 21,370 17,035 14,012 11,959 Preferred dividends - - - - Total long-term liabilities 77,199 65,052 58,304 55,985 Net income pre exceptionals 21,131 21,553 21,401 21,405 Total liabilities 234,175 221,410 209,105 203,703 Post tax exceptionals - - - - Net income 21,131 21,553 21,401 21,405 Common stock & premium Other common equity EPS (basic, pre exceptional) 0.260.270.260.26 Total common equity 181,517 201,843 220,348 235,214 EPS (basic, post exceptional) 0.260.270.260.26 Minority interest 1,444 1,485 1,524 1,562 EPS (diluted, post exceptional) 0.260.270.260.26 DPS 0.080.080.080.11 Total liability & equity 417,136 424,738 430,978 440,478 Dividend payout ratio (%) 29.328.728.940.0 BVPS 2.242.492.722.91 GROWTH & MARGINS (%) RATIOS Sales growth (%) 6.43.40.92.1 ROE (%) 12.411.210.19.4 EBITDA growth (%) 4.22.5 (0.2) 0.7 ROA (%) 5.15.15.04.9 EBIT growth (%) 2.61.9 (0.7) (0.6) ROIC (%) 8.27.77.47.1 Net income growth (%) 8.02.0 (0.7) 0.0 Inventory days 32.932.232.732.2 EPS growth (%) 5.22.0 (0.7) 0.0 Receivable days 33.835.736.135.9 Gross margin (%) 81.381.581.581.3 Payable days 426.6429.9436.2429.6 EBITDA margin (%) 50.349.949.348.7 Net debt/equity (%) 69.155.343.133.2 EBIT margin (%) 19.819.519.218.7 Interst cover - EBIT (x) 6.67.47.78.1 VALUATION 12/0512/0612/0712/08 CASHFLOWSTATEMENT (CNY mn) 12/0512/0612/0712/08 P/E (basic (X) 9.99.79.89.8 Net income pre-pref dividends 21,131 21,553 21,401 21,405 P/B (X) 1.21.01.00.9 DD&A add-back 49,652 51,056 51,102 51,933 EV/EBITDA (X) 4.13.83.73.4 Minorities interests add-back 42 41 39 37 Div yield (%) 2.92.92.94.1 Net inc/dec working capital (3,031) 1,418 397 917 Other operating cash flow 565 (2,265) (1,402) (1,545) ADDITIONALMETRICS Cash flow from operations 68,359 71,803 71,537 72,749 Total wireline voice revenues 137,245 139,204 136,788 136,564 Total wireline data revenues 25,284 28,853 32,817 36,616 Capital expenditures (52,083) (51,700) (48,784) (47,215) Total wireless revenues - - - - Acquisitions - - - - Total wireline subscribers (000) 210,090 227,659 239,982 246,588 Divestitures - - - - Total internet subscribers (000) 13,839 21,024 28,678 36,403 Others 189 - - - Total wireless subscribers (000) - - - - Cash flows from investments (51,894) (51,700) (48,784) (47,215) % prepaid of total wireless subs.0.00.00.00.0 Wireless blended monthly ARPU 0.00.00.00.0 Dividends Paid (common and pref) (5,596) (6,191) (6,191) (8,562) Blended wireless ARPU (data) (%) 0.00.00.00.0 Inc/Dec in Debt (9,046) (8,457) (8,426) (3,725) Wireless blended monthly MOU 0.00.00.00.0 Common stock issuance/(repurch) - - - - Wireless monthly blended churn (%) 0.00.00.00.0 Other financing cash flows (167) - - - Marketing expenses/total revenues 12 13 13 14 Cash flows from financing (14,809) (14,648) (14,617) (12,287) Wireless capex/total capex - - - - Wireline capex/total capex 100 100 100 100 Total Cash flow 1,656 5,454 8,136 13,247 Note: Last actual year may include reported and estimated data Source: Goldman Sachs Research estimates Source: Company data, Goldman Sachs Research estimates. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 50 Exhibit 59: CNC financial summary,2005-2008E PROFITMODEL (CNY mn) 12/0512/0612/0712/08 BALANCESHEET (CNY mn) 12/0512/0612/0712/08 Total revenue 83,827 86,019 87,968 89,230 Cash & equivalents 4,895 5,265 3,397 8,554 Cost of goods sold (15,907) (15,478) (16,365) (16,697) Accounts receivable 7,401 7,595 7,767 7,878 SG&A (13,438) (13,973) (14,503) (14,973) Inventory 472 484 495 502 R&D - - - - Other current assets 1,731 1,770 1,804 1,827 Other operating profit / expenses (12,333) (12,715) (13,018) (13,324) Total current assets 14,499 15,114 13,463 18,761 EBITDA 42,149 43,853 44,082 44,236 Net PP&E 175,485 177,701 178,799 177,938 Depreciation & Amortization (25,049) (25,442) (25,860) (26,861) Net intangibles 1,393 1,035 677 319 EBIT 17,100 18,411 18,222 17,375 Total investments - - - - Interest income 157 49 53 34 Other long-term assets 11,463 11,763 12,029 12,202 Interest expense (3,374) (3,055) (2,779) (2,507) Total assets 202,840 205,613 204,968 209,220 Income from unconsolidated subs. - - - - Others 29 2,190 30 31 Accounts payable 16,719 17,156 17,545 17,797 Pretax profits 13,912 17,594 15,526 14,933 Short-term debt 61,217 65,560 63,419 65,429 Income tax (3,429) (5,278) (4,658) (3,733) Other current liabilities 20,463 19,960 19,423 19,410 Minorities - - - - Total current liabilities 98,399 102,676 100,387 102,636 Long-term debt 25,983 15,513 10,505 6,487 Net income pre-pref dividends 10,483 12,316 10,868 11,199 Other long-term liabilities 15,448 13,633 12,248 11,222 Preferred dividends - - - - Total long-term liabilities 41,431 29,146 22,753 17,709 Net income pre exceptionals 10,483 12,316 10,868 11,199 Total liabilities 139,830 131,822 123,139 120,345 Post tax exceptionals - 1,512 - - Net income 10,483 10,804 10,868 11,199 Common stock & premium 2,181 2,181 2,181 2,181 Other common equity 60,829 71,610 79,648 86,693 EPS (basic, pre exceptional) 1.591.871.651.70 Total common equity 63,010 73,791 81,829 88,874 EPS (basic, post exceptional) 1.591.641.651.70 Minority interest - - - - EPS (diluted, post exceptional) 1.581.631.641.69 DPS 0.480.600.660.76 Total liability & equity 202,840 205,613 204,968 209,220 Dividend payout ratio (%) 30.636.740.245.2 BVPS 9.5611.1912.4113.48 GROWTH & MARGINS (%) RATIOS Sales growth (%) (0.3) 2.62.31.4 ROE (%) 16.418.014.013.1 EBITDA growth (%) (2.6) 4.00.50.3 ROA (%) 5.06.05.35.4 EBIT growth (%) (5.6) 7.7 (1.0) (4.7) ROIC (%) 8.68.68.38.4 Net income growth (%) (33.8) 3.10.63.0 Inventory days 19.711.310.910.9 EPS growth (%) 172.217.5 (11.8) 3.0 Receivable days 31.731.831.932.0 Gross margin (%) 81.082.081.481.3 Payable days 434.2399.4387.0386.3 EBITDA margin (%) 50.351.050.149.6 Net debt/equity (%) 130.6102.786.271.3 EBIT margin (%) 20.421.420.719.5 Interst cover - EBIT (x) 5.36.16.77.0 VALUATION 12/0512/0612/0712/08 CASHFLOWSTATEMENT (CNY mn) 12/0512/0612/0712/08 P/E (basic (X) 9.18.88.78.5 Net income pre-pref dividends 10,483 12,316 10,868 11,199 P/B (X) 1.51.31.21.1 DD&A add-back 25,049 25,442 25,860 26,861 EV/EBITDA (X) 4.13.83.63.5 Minorities interests add-back - - - - Div yield (%) 3.44.24.65.3 Net inc/dec working capital 20,463 295 262 170 Other operating cash flow (22,438) (1,038) (1,169) (1,075) ADDITIONALMETRICS Cash flow from operations 33,557 37,014 35,821 37,155 Total wireline voice revenues 70,376 70,922 71,169 70,908 Total wireline data revenues 13,451 15,097 16,799 18,323 Capital expenditures (27,562) (27,300) (26,599) (25,642) Total wireless revenues - - - - Acquisitions - - - - Total wireline subscribers (000) 87,991 89,991 91,391 92,511 Divestitures - - - - Total internet subscribers (000) 11,477 15,631 19,460 23,481 Others 2,954 - - - Total wireless subscribers (000) - - - - Cash flows from investments (24,608) (27,300) (26,599) (25,642) % prepaid of total wireless subs.0.00.00.00.0 Wireless blended monthly ARPU 0.00.00.00.0 Dividends Paid (common and pref) (4,825) (3,196) (3,941) (4,347) Blended wireless ARPU (data) (%) 0.00.00.00.0 Inc/Dec in Debt (8,922) (6,127) (7,149) (2,008) Wireless blended monthly MOU 0.00.00.00.0 Common stock issuance/(repurch) - - - - Wireless monthly blended churn (%) 0.00.00.00.0 Other financing cash flows (909) - - - Marketing expenses/total revenues 16 16 16 17 Cash flows from financing (14,656) (9,323) (11,090) (6,355) Wireless capex/total capex - - - - Wireline capex/total capex 100 100 100 100 Total Cash flow (5,707) 391 (1,869) 5,157 Note: Last actual year may include reported and estimated data Source: Goldman Sachs Research estimates Source: Company data, Goldman Sachs Research estimates. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 51 Part II: Operational data forecasts by company Exhibit 60: China Mobile KPI data forecasts 31P proforma 2003PF 2004PF 20052006E 2007E 2008E 2009E 2010E Cellular subscribers Total market subscribers (’000s) 269,953334,824393,427459,189529,164597,169653,180709,045 Change (%) 31.024.017.516.715.212.99.48.6 Penetration (%) 20.925.830.134.839.644.247.951.4 Net monthly additions (’000s) 5,3295,4064,8845,4805,8315,6674,6684,655 CMHK subscribers (’000s) 166,113204,292246,652296,960341,744382,547413,913443,459 Net monthly additions 2,4593,1823,5304,1923,7323,4002,6142,462 Market share of total subs (%) 61.561.062.764.764.664.163.462.5 Market share of net adds (%) 46.158.972.376.564.060.056.052.9 Prepaid as a % of all subs (%) 65.070.775.178.781.182.883.984.7 Prepaid as a % of new subs (%) 92.795.496.696.097.097.097.097.0 Annual churn (%) 13.215.722.424.426.428.728.828.9 Usage and ARPU Average postpaid MOU (per month) 418517589660726791844893 Average postpaid ARPU (Rmb) 167167185193194196203209 Average prepaid MOU (per month) 139194241280299312325338 Average prepaid ARPU (Rmb) 5756555453525150 Blended MOU (per month) 244297335366385398412425 Blended ARPU (Rmb) 9992908682787675 Postpaid ARPM (Rmb) 0.400.320.310.290.270.250.240.23 Prepaid ARPM (Rmb) 0.410.290.230.190.180.170.160.15 Blended ARPM (Rmb) 0.410.310.270.230.210.200.180.18 Cash expenses Avg subs per employee 2,024 2,318 2,489 2,746 2,973 3,207 3,386 3,563 Network operating costs / revenue (%) 11.08.37.68.08.18.08.07.8 Personnel / revenue (%) 5.45.25.86.06.26.36.56.4 SG&A / revenue (%) 28.332.733.032.832.835.236.539.5 Handset subsidy spend (Rmb m) 7,9388,1007,0507,8498,80412,57320,26930,004 Capital expenditure/depreciation Annual capex (Rmb mn) 58,96564,67171,50082,84592,613103,705105,445107,756 Capex / revenue 32.931.729.429.629.630.529.028.0 Interest (%) Effective interest rate on debt 4.03.73.23.63.53.53.43.4 Effective interest rate on cash 1.61.71.91.82.02.02.02.0 Other Asset writeoff (Rmb m) 669 5,900 5,645 5,287 4,845 5,328 4,484 5,306 Bad debt/total revenues (%) 1.321.281.221.181.121.101.111.10 Accounts receivable (days) 141210109988 Tax rate (%) 34.831.331.532.533.025.025.025.0 Exchange rate (Rmb/US$) 8.38.38.28.07.37.17.17.1 Source: Company data, Goldman Sachs Research estimates. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 52 Exhibit 61: China Unicom KPI data forecasts 2003200420052006E 2007E 2008E 2009E 2010E Cellular business Subscribers China Unicom GSM subscirbers ('000) 72,56984,26795,072106,580117,077126,597133,879140,862 Net adds ('000) 11,69810,80511,50810,4969,5217,2816,983 Market share of total GSM subs (%) 30% 29% 28% 26% 26% 25% 24% 24% Market share of net GSM adds (%) 28% 22% 22% 17% 17% 14% 18% GSM post-paid subscribers (000s) 39,56242,84448,16654,54059,32563,51766,50169,265 GSM prepaid subscribers (000s) 33,00741,42246,90552,04157,75163,08167,37871,597 GSM annual churn ratio (%) 3128292930303029 China Unicom CDMA subscribers ('00018,94627,81432,72336,66940,86744,94848,30852,561 Net adds ('000) 8,8684,9093,9464,1984,0803,3614,252 CDMA post-paid subscribers (000s) 16,04625,82330,01033,38437,00340,47243,25746,802 CDMA prepaid subscribers (000s) 8641,9902,7123,2843,8654,4755,0515,759 CDMA annual churn ratio (%) 1318182125252626 MOU (min/sub/month) GSM 177189202222231241246246 Growth (%) 6% 7% 10% 4% 4% 2% 0% CDMA 337292277269258263270276 Growth (%) -13% -5% -3% -4% 2% 2% 2% Blended service ARPU (Rmb) GSM 5749484948474646 Growth (%) -13% -2% 0% -2% -2% -1% -1% CDMA 12685756965656464 Growth (%) -32% -12% -7% -6% -1% -1% 0% Service ARPM (Rmb) GSM 0.320.260.240.220.210.190.190.19 Growth (%) -18% -8% -9% -6% -6% -3% -1% CDMA 0.370.290.270.260.250.250.240.23 Growth (%) -22% -7% -5% -2% -3% -3% -3% GSMEBITDA service margin (%) 53.5% 51.5% 49.0% 47.3% 46.3% 45.3% 44.4% 44.0% CDMAEBITDA service margin (%) * 22.0% 29.4% 33.4% 36.7% 37.6% 39.7% 41.3% 40.5% Long distance business Revenue per minute (Rmb) 0.02 0.01 0.01 0.01 0.01 0.01 0.01 LDEBITDA margin (%) 34% 29% 29% 26% 26% 25% 25% Internet and data Internet subscriber ('000) 3,40513,6257,1865,3143,6782,0424060 Internet & data EBITDA margin (%) 30.3% 33.5% 33.3% 32.9% 32.1% 31.5% 30.0% Others Total annual capex (Rmb mn) 18,16417,61322,00024,10824,09823,05222,269 Capex as % of sales (excl CDMA) (%) 34.3% 31.1% 35.1% 36.0% 34.0% 31.0% 29.0% Effective tax rate (%) 30% 31% 31% 31% 31% 24% 24% * Adjusted for CDMA leasing fee Source: Company data, Goldman Sachs Research estimates. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 53 Exhibit 62: China Telecom KPI data forecasts Operating forecasts 2002PF 2003PF 2004PF 2005PF 2006E 2007E 2008E 2009E 2010E FIXEDLINE Fixed lines + public 122,251135,465144,500153,010161,552168,386173,852178,226181,725 Adds 15,29213,2149,0358,5108,5426,8345,4674,3743,499 % of total fixed line adds 70% 47% 35% 36% 49% 55% 83% 443% -122% PHS 10,80625,52442,20057,08066,12771,61672,75569,37062,992 Adds 6,56014,71816,67614,8809,0475,4891,139 (3,386) (6,378) % of total fixed line adds 30% 53% 65% 64% 51% 45% 17% -343% 222% Fixed-line total 133,057160,989186,700210,090227,679240,002246,608247,595244,717 Adds 21,85227,93225,71123,39017,58912,3236,606988 (2,879) Average for period 122,131147,023173,845198,395218,885233,840243,305247,102246,156 Usage total (Pulses bn) Total 459455467475462440440429414 per sub per month 313258224199176157151145140 Dialup 8871382518141050 per sub per month 6040181175420 Voice 371384429449444427431424414 per sub per month 253218206189169152147143140 Monthly fee/sub 18.216.515.313.712.611.811.210.810.3 Usage tariff per pulse (Rmb cents) 9.710.110.210.09.99.89.79.69.5 Local phone total ARPU (excl installation) 47.641.637.132.829.226.425.123.922.9 LONGDISTANCE total DLD minutes (bn) 59.567.382.093.8100.6105.6113.1121.8125.9 Blended price/min 0.430.380.320.280.250.230.210.190.18 IDD minutes (bn) 1.51.71.71.71.71.81.92.02.0 Blended price/min 2.512.362.291.991.851.761.671.591.56 INTERNET/DATA Total broadband subs (000s) 2,4117,23113,83921,02428,67836,40345,08252,98561,093 Adds 1,8255,3578,2097,1857,6547,7268,6787,9048,108 ARPU 150136102816964605754 Source: Company data, Goldman Sachs Research estimates. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 54 Exhibit 63: China Netcom KPI data forecasts Operating forecasts 2002PF 2003PF 2004PF 2005PF 2006E 2007E 2008E 2009E 2010E FIXEDLINE (north plus south) Fixed lines + public 75,32082,27785,95587,99190,79092,26193,38194,27794,994 Adds 6,9573,6782,0362,7991,4721,120896717 % of total fixed line adds 42% 26% 28% 41% 45% 80% -142% -37% PHS 2,24411,79622,12427,33731,34133,16833,45431,92529,270 Adds 9,55210,3285,2134,0041,827286 (1,529) (2,655) % of total fixed line adds 58% 74% 72% 59% 55% 20% 242% 137% Fixed line total 77,56494,073108,079115,328122,131125,429126,835126,202124,264 Adds 16,50914,0067,2496,8033,2991,406 (633) (1,938) Average for period 85,818108,079115,328122,131125,429126,835126,202124,264 Usage total (Pulses bn) Total 234241235228221215211206199 per sub per month 234193170155145140135133 Dialup 463917964333 per sub per month 3814643222 Voice 187202217220215211208203197 per sub per month 196179164151142138133131 Monthly fee/sub 0.016.815.614.413.813.413.112.912.4 Usage tariff per pulse (Rmb cents) 9.910.210.610.810.810.510.310.310.3 Local phone total ARPU (excl installation) 0.040.035.332.029.727.826.726.025.2 LONGDISTANCE total DLD minutes (bn) 22.420.326.323.029.431.032.735.436.9 Blended price/min 0.490.440.430.380.380.330.290.270.26 IDD minutes (bn) 0.40.40.50.40.50.60.60.60.7 Blended price/min 3.863.373.372.983.002.482.232.071.99 INTERNET/DATA Total broadband subs (000s) 7053,3468,49211,47515,62919,45823,47927,17830,962 Adds 2,6425,1462,9834,1543,8294,0213,6983,784 ARPU 17013075666055514847 Source: Company data, Goldman Sachs Research estimates. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 55 Part III: GS estimates vs. consensus by company Exhibit 64: China Mobile—our forecasts vs. consensus I/B/E/S consensus as of July 7,2006 Exhibit 65: China Unicom—our forecasts vs. consensus I/B/E/S consensus as of July 7,2006 2006E 2007E 2008E 2009E 2006E 2007E 2008E 2009E Sales (RMB mn) Net profit (RMB mn) Consensus 282,793 318,446 348,028 371,959 Consensus 61,512 67,533 72,149 77,233 GS 279,883312,883340,015363,603 GS 63,06270,00178,24483,349 Difference -1.0% -1.8% -2.4% -2.3% Difference 2.5% 3.5% 7.8% 7.3% No. of firms 2017143 No. of firms 2523194 EBITDA (RMB mn) DPS (RMB) Consensus 152,891 169,467 181,080 190,125 Consensus 1.31 1.57 1.78 1.92 GS 152,420169,018174,960181,981 GS 1.331.581.972.31 Difference -0.3% -0.3% -3.5% -4.5% Difference 1.7% 0.9% 9.6% 16.7% No. of firms 1715123 No. of firms 2321184 EBITDA margin Payout ratio (%) Consensus 54.1% 53.2% 52.0% 51.1% Consensus 42.3% 46.6% 50.6% 51.4% GS 54.5% 54.0% 51.5% 50.0% GS 42.0% 45.0% 50.0% 55.0% Difference 0.4% 0.8% -0.6% -1.1% Difference -0.3% -1.6% -0.6% 3.6% 2006E 2007E 2008E 2009E 2006E 2007E 2008E 2009E Sales (RMB mn) Net profit (RMB mn) Consensus 93,16498,635105,550112,450 Consensus 5,6956,2927,2137,885 GS 94,460100,915107,653113,740 GS 5,9356,5107,0507,497 Difference 1.4% 2.3% 2.0% 1.1% Difference 4.1% 3.3% -2.3% -5.2% No. of firms 1917124 No. of firms 2422155 EBITDA (RMB mn) DPS (RMB) Consensus 31,56333,55433,54838,204 Consensus 0.130.150.170.19 GS 31,24733,02334,76836,395 GS 0.140.180.220.26 Difference -1.0% -1.6% 3.5% -5.0% Difference 8.2% 19.5% 23.3% 25.9% No. of firms 1615114 No. of firms 2121146 EBITDA margin (%) Dividend payout (%) Consensus 33.9% 34.0% 31.8% 34.0% Consensus 28.7% 29.2% 30.0% 31.7% GS 33.1% 32.7% 32.3% 32.0% GS 30.0% 35.0% 40.0% 45.0% Difference -0.8% -1.3% 0.5% -2.0% Difference 1.3% 5.8% 10.0% 13.3% Source: I/B/E/S consensus, Goldman Sachs Research estimates. Source: I/B/E/S consensus, Goldman Sachs Research estimates. Exhibit 66: China Telecom—our forecasts vs. consensus I/B/E/S consensus as of July 7,2006 Exhibit 67: China Netcom—our forecasts vs. consensus I/B/E/S consensus as of July 7,2006 2006E 2007E 2008E 2009E 2006E 2007E 2008E 2009E Sales (Rmb mn) Net profits (Rmb mn) Consensus 170,835179,414182,945186,362 Consensus 24,71925,56426,13727,241 GS reported 173,023172,900175,202174,226 GS recurring 26,51824,69623,42721,392 Difference 1.3% -3.6% -4.2% -6.5% Difference 7.3% -3.4% -10.4% -21.5% No. of firms 1817113 No. of firms 2423155 EBITDA (Rmb mn) DPS (Rmb) Consensus 86,75490,46290,37192,335 Consensus 0.08 0.09 0.10 0.10 GS reported 88,81086,95686,30884,199 GS 0.08 0.08 0.11 0.11 Difference 2.4% -3.9% -4.5% -8.8% Difference -4.4% -13.1% 11.4% 18.5% No. of firms 161693 No. of firms 2121155 Implied EBITDA margins (%) Implied payout ratio (%) Consensus 50.8% 50.4% 49.4% 49.5% Consensus 26.2% 27.9% 29.4% 28.2% GS 51.3% 50.3% 49.3% 48.3% GS 23.3% 25.1% 36.5% 42.6% 2006E 2007E 2008E 2009E 2006E 2007E 2008E 2009E Sales (Rmb mn) Net profits (Rmb mn) Consensus 88,42691,37694,89898,261 Consensus 11,43011,69011,30712,739 GS reported 88,42589,48590,11689,981 GS recurring 10,80410,86811,19910,796 Difference 0.0% -2.1% -5.0% -8.4% Difference -5.5% -7.0% -1.0% -15.3% No. of firms 1615123 No. of firms 1918133 EBITDA (Rmb mn) DPS (Rmb) Consensus 44,88046,31347,15547,569 Consensus 0.57 0.61 0.61 0.66 GS reported 46,25945,59945,12243,990 GS 0.60 0.66 0.76 0.82 Difference 3.1% -1.5% -4.3% -7.5% Difference 5.0% 8.4% 24.5% 24.6% No. of firms 1313103 No. of firms 1818144 Implied EBITDA margins (%) Implied payout ratio (%) Consensus 50.8% 50.7% 49.7% 48.4% Consensus 32.8% 34.3% 35.8% 34.0% GS 52.3% 51.0% 50.1% 48.9% GS 36.5% 40.0% 45.0% 50.0% Note: consensus estimates for fixed-line players not meaningful given a mixture of reported and recurring (ex connection fee) contributing data points. Source: I/B/E/S consensus, Goldman Sachs Research estimates. Note: consensus estimates for fixed-line players not meaningful given a mixture of reported and recurring (ex connection fee) contributing data points. Source: I/B/E/S consensus, Goldman Sachs Research estimates. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 56 Part IV: Earnings impacts under other 3G scenarios for CT 1. CTWCDMA build scenario Exhibit 68: CTWCDMA build case sub/ARPU/revenue progression Exhibit 69: CTWCDMA build case key financials 8 19 30 42 53 64 74 83 8 1111121111119 71 68 64 61 58 55 52 50 0 10 20 30 40 50 60 70 80 90 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Subs (mn) 0.0 10.0 20.0 30.0 40.0 50.0 60.0 70.0 80.0 ARPURmb Subs Sub adds ARPU -48% 9% 26% 32% 37% 40% 42% 44% -48% 9% 26% 32% 37% 40% 42% 44% -10,000 0 10,000 20,000 30,000 40,000 50,000 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Rmb mn -60% -40% -20% 0% 20% 40% 60% Revenue EBITDA EBITEBITDA margin EBITDA margin adj for leasing Source: Goldman Sachs Research estimates. Source: Goldman Sachs Research estimates. Exhibit 70: CTWCDMA build case FCF outlook Exhibit 71: CTWCDMA build case cost progression -1,689 5,009 8,552 12,379 15,406 18,080 20,638 13,485 16,808 1,000 8,512 3,869 -3,964 -9,716 -16,324 -20,249 -25,000 -20,000 -15,000 -10,000 -5,000 0 5,000 10,000 15,000 20,000 25,000 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Rmb mn EBITDACapex FCF -48% 9% 26% 32% 37% 40% 42% 44% -48% 9% 26% 32% 37% 40% 42% 44% 0 5,000 10,000 15,000 20,000 25,000 30,000 35,000 40,000 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Rmb mn -60% -40% -20% 0% 20% 40% 60% Lease fees SG&A/other D&AEBITDA margin EBITDA margin adj for leasing Source: Goldman Sachs Research estimates. Source: Goldman Sachs Research estimates. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 57 2. CTTD lease, with GSM scenario Exhibit 72: CTTD lease, with GSM case sub/ARPU/revenue progression Exhibit 73: CTTD lease, with GSM case key financials 8 19 30 42 53 64 74 83 8 1111121111119 71 68 64 61 58 55 52 50 0 10 20 30 40 50 60 70 80 90 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Subs (mn) 0.0 10.0 20.0 30.0 40.0 50.0 60.0 70.0 80.0 ARPURmb Subs Sub adds ARPU -105% -35% -13% -6% 1% 5% 7% 10% -80% -10% 12% 19% 26% 30% 32% 35% -10,000 0 10,000 20,000 30,000 40,000 50,000 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Rmb mn -120% -100% -80% -60% -40% -20% 0% 20% 40% 60% Revenue EBITDA EBITEBITDA margin EBITDA margin adj for leasing Source: Goldman Sachs Research estimates. Source: Goldman Sachs Research estimates. Exhibit 74: CTTD lease, with GSM case FCF outlook Exhibit 75: CTTD lease, with GSM case cost progression -3,737 -2,509 -1,472 356 1,738 3,032 4,678 3,032 4,678 -3,864 1,738 356 -1,472 -2,509 -3,864-3,737 -5,000 -4,000 -3,000 -2,000 -1,000 0 1,000 2,000 3,000 4,000 5,000 6,000 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Rmb mn EBITDACapex FCF -105% -35% -13% -6% 1% 5% 7% 10% -80% -10% 12% 19% 26% 30% 32% 35% 0 5,000 10,000 15,000 20,000 25,000 30,000 35,000 40,000 45,000 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Rmb mn -120% -100% -80% -60% -40% -20% 0% 20% 40% 60% Lease fees SG&A/other D&AEBITDA margin EBITDA margin adj for leasing Source: Goldman Sachs Research estimates. Source: Goldman Sachs Research estimates. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 58 3. CTTD build, no GSM scenario Exhibit 76: CTTD build, no GSM case sub/ARPU/revenue progression Exhibit 77: CTTD build, no GSM case key financials 7 16 25 35 44 53 62 69 7 99109997 67 63 60 57 54 51 49 46 0 10 20 30 40 50 60 70 80 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Subs (mn) 0.0 10.0 20.0 30.0 40.0 50.0 60.0 70.0 ARPURmb Subs Sub adds ARPU -97% -22% 1% 9% 16% 20% 22% 26% -97% -22% 1% 9% 16% 20% 22% 26% -15,000 -10,000 -5,000 0 5,000 10,000 15,000 20,000 25,000 30,000 35,000 40,000 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Rmb mn -120% -100% -80% -60% -40% -20% 0% 20% 40% Revenue EBITDA EBITEBITDA margin EBITDA margin adj for leasing Source: Goldman Sachs Research estimates. Source: Goldman Sachs Research estimates. Exhibit 78: CTTD build, no GSM case FCF outlook Exhibit 79: CTTD build, no GSM case cost progression -2,694 118 1,854 4,146 5,931 7,557 9,351 1,429 4,245 -1,915 -3,261 -7,202 -14,834 -19,515 -25,013 -27,441-30,000 -25,000 -20,000 -15,000 -10,000 -5,000 0 5,000 10,000 15,000 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Rmb mn EBITDACapex FCF -97% -22% 1% 9% 16% 20% 22% 26% -97% -22% 1% 9% 16% 20% 22% 26% 0 5,000 10,000 15,000 20,000 25,000 30,000 35,000 40,000 45,000 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Rmb mn -120% -100% -80% -60% -40% -20% 0% 20% 40% Lease fees SG&A/other D&AEBITDA margin EBITDA margin adj for leasing Source: Goldman Sachs Research estimates. Source: Goldman Sachs Research estimates. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 59 4. CTTD build, with GSM scenario Exhibit 80: CTTD build, with GSM case sub/ARPU/revenue progression Exhibit 81: CTTD build, with GSM case key financials 8 19 30 42 53 64 74 83 8 1111121111119 71 68 64 61 58 55 52 50 0 10 20 30 40 50 60 70 80 90 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Subs (mn) 0.0 10.0 20.0 30.0 40.0 50.0 60.0 70.0 80.0 ARPURmb Subs Sub adds ARPU -80% -10% 12% 19% 26% 30% 32% 35% -80% -10% 12% 19% 26% 30% 32% 35% -20,000 -10,000 0 10,000 20,000 30,000 40,000 50,000 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Rmb mn -100% -80% -60% -40% -20% 0% 20% 40% 60% Revenue EBITDA EBITEBITDA margin EBITDA margin adj for leasing Source: Goldman Sachs Research estimates. Source: Goldman Sachs Research estimates. Exhibit 82: CTTD build, with GSM case FCF outlook Exhibit 83: CTTD build, with GSM case cost progression -2,849 2,241 5,152 8,633 11,376 13,848 16,403 7,720 11,296 -1,083 2,184 -2,715 -11,536 -17,392 -24,180 -27,596-30,000 -25,000 -20,000 -15,000 -10,000 -5,000 0 5,000 10,000 15,000 20,000 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Rmb mn EBITDACapex FCF c -80% -10% 12% 19% 26% 30% 32% 35% -80% -10% 12% 19% 26% 30% 32% 35% 0 5,000 10,000 15,000 20,000 25,000 30,000 35,000 40,000 45,000 50,000 2008E 2009E 2010E 2011E 2012E 2013E 2014E 2015E Rmb mn -100% -80% -60% -40% -20% 0% 20% 40% 60% Lease fees SG&A/other D&AEBITDA margin EBITDA margin adj for leasing Source: Goldman Sachs Research estimates. Source: Goldman Sachs Research estimates. Financial Advisory Disclosures Goldman Sachs International and or one of its affiliates is acting as raid defence advisor to Portugal Telecom S.A. Goldman Sachs International and or one of its affiliates will receive a fee for this advisory role. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 60 RegAC I, Helen Zhu, hereby certify that all of the views expressed in this report accurately reflect my personal views about the subject company or companies and its or their securities. I also certify that no part of my compensation was, is or will be, directly or indirectly, related to the specific recommendations or views expressed in this report. Investment profile The Goldman Sachs Investment Profile provides investment context for a security by comparing key attributes of that security to its peer group and market. The four key attributes depicted are: growth, returns, multiple and volatility. Growth, returns and multiple are indexed based on composites of several methodologies to determine the stocks percentile ranking within the region's coverage universe. The precise calculation of each metric may vary depending on the fiscal year, industry and region but the standard approach is as follows: Growth is a composite of next year's estimate over current year's estimate, e.g. EPS, EBITDA, Revenue. Return is a year one prospective aggregate of various return on capital measures, e.g. CROCI, ROACE, and ROE. Multiple is a composite of one-year forward valuation ratios, e.g. P/E, dividend yield, EV/FCF, EV/EBITDA, EV/DACF, Price/Book. Volatility is measured as 30-day historical volatility, annualized and adjusted for dividends. Quantum Quantum is Goldman Sachs proprietary database providing access to detailed financial statement histories, forecasts and ratios. It can be used for in-depth analysis of a single company, or to make comparisons between companies in different sectors and markets. Disclosures Coverage group(s) of stocks by primary analyst(s) Helen Zhu: Asia Pacific Telecoms. Asia Pacific Telecoms: Advanced Info Service, Advanced Info Service (Foreign), Chunghwa Telecom, Chunghwa Telecom (ADR), Daum Communications, Digi.com, Far EasTone, Hanaro Telecom, Hanaro Telecom (ADR), Hutchison Telecom (ADR), Hutchison Telecommunications, KTCorp, KTCorp (ADR), KTFreetel, LGTelecom, Maxis Communications, MobileOne, NCsoft, NHN, PCCWLimited, PCCWLimited (ADR), Philippine Long Distance, Philippine Long Distance (ADR), PTIndosat, PTIndosat (ADR), Singapore Post, Singapore Telecom, Singapore Telecom, SKTelecom, SKTelecom (ADR), SmarTone, StarHub, Taiwan Mobile, Telekom Malaysia, Telekomunikasi Indonesia, Telekomunikasi Indonesia (ADR), Total Access Communication, True Corporation, True Corporation (Foreign). Company-specific regulatory disclosures The following disclosures relate to relationships between The Goldman Sachs Group, Inc. (with its affiliates, "Goldman Sachs") and companies covered by the Global Investment Research Division of Goldman Sachs and referred to in this research. Goldman Sachs beneficially owned 1% or more of the common equity (including derivatives exercisable or convertible within 60 days but excluding positions held by GSAsset Mgmt.) as of the month end preceding this report: Bank of Communications (HK$5.05), Cheung Kong Holdings (HK$82.90), China Mobile (HK) (HK$45.40), China Mobile (HK) (ADR) ($29.34), China Petroleum and Chemical (HK$4.40), China Petroleum and Chemical (ADS) ($56.71), HSBCHoldings (HK$138.50), PetroChina (HK$8.45), PetroChina (ADR) ($109.41) and Sun Hung Kai Properties (HK$78.80) Goldman Sachs beneficially owned 5% or more of the common equity (including derivatives exercisable or convertible within 60 days but excluding positions managed by Goldman Sachs Asset Management) as of the month end preceding this report: Aluminum Corporation of China (HK$5.80) and China Life Insurance Company (HK$12.50) July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 61 Goldman Sachs has received compensation for investment banking services in the past 12 months: Bank of Communications (HK$5.05), BOCHong Kong (Holdings) (HK$15.40), Cheung Kong Holdings (HK$82.90), China Netcom (HK$13.80), China Netcom (ADS) ($37.55), CNOOC (HK$6.40), CNOOC (ADR) ($82.20), Hang Seng Bank (HK$99.05), HSBCHoldings (HK$138.50), PetroChina (HK$8.45) and PetroChina (ADR) ($109.41) Goldman Sachs expects to receive or intends to seek compensation for investment banking services in the next 3 months: Aluminum Corporation of China (HK$5.80), Bank of Communications (HK$5.05), BOCHong Kong (Holdings) (HK$15.40), Cheung Kong Holdings (HK$82.90), China Mobile (HK) (HK$45.40), China Mobile (HK) (ADR) ($29.34), China Netcom (HK$13.80), China Netcom (ADS) ($37.55), China Petroleum and Chemical (HK$4.40), China Petroleum and Chemical (ADS) ($56.71), China Shenhua Energy (HK$14.35), China Telecom (HK$2.55), China Telecom (ADR) ($33.06), CLP Holdings (HK$45.55), CNOOC (HK$6.40), CNOOC (ADR) ($82.20), Hang Seng Bank (HK$99.05), HSBCHoldings (HK$138.50), Huaneng Power International (HK$5.05), Huaneng Power International (ADR) ($26.30), PetroChina (HK$8.45), PetroChina (ADR) ($109.41), Ping An Insurance Group (HK$23.50) and Yanzhou Coal Mining (HK$5.40) Goldman Sachs has received compensation for non-investment banking services in the past 12 months: Bank of Communications (HK$5.05), BOCHong Kong (Holdings) (HK$15.40), Cheung Kong Holdings (HK$82.90), China Petroleum and Chemical (HK$4.40), China Petroleum and Chemical (ADS) ($56.71), Hang Seng Bank (HK$99.05), Hong Kong & China Gas (HK$17.40), HSBCHoldings (HK$138.50), PetroChina (HK$8.45) and PetroChina (ADR) ($109.41) Goldman Sachs had an investment banking services client relationship during the past 12 months with: Aluminum Corporation of China (HK$5.80), Bank of Communications (HK$5.05), BOCHong Kong (Holdings) (HK$15.40), Cheung Kong Holdings (HK$82.90), China Life Insurance Company (HK$12.50), China Mobile (HK) (HK$45.40), China Mobile (HK) (ADR) ($29.34), China Netcom (HK$13.80), China Netcom (ADS) ($37.55), China Petroleum and Chemical (HK$4.40), China Petroleum and Chemical (ADS) ($56.71), China Telecom (HK$2.55), China Telecom (ADR) ($33.06), CNOOC (HK$6.40), CNOOC (ADR) ($82.20), Hang Seng Bank (HK$99.05), HSBCHoldings (HK$138.50), PetroChina (HK$8.45), PetroChina (ADR) ($109.41) and Ping An Insurance Group (HK$23.50) Goldman Sachs had a non-investment banking securities-related services client relationship during the past 12 months with: Bank of Communications (HK$5.05), BOCHong Kong (Holdings) (HK$15.40), Cheung Kong Holdings (HK$82.90), China Life Insurance Company (HK$12.50), China Petroleum and Chemical (HK$4.40), China Petroleum and Chemical (ADS) ($56.71), China Shenhua Energy (HK$14.35), CNOOC (HK$6.40), CNOOC (ADR) ($82.20), Hang Seng Bank (HK$99.05), Hong Kong & China Gas (HK$17.40), HSBCHoldings (HK$138.50), PetroChina (HK$8.45), PetroChina (ADR) ($109.41) and Sun Hung Kai Properties (HK$78.80) Goldman Sachs had a non-securities services client relationship during the past 12 months with: Bank of Communications (HK$5.05), BOCHong Kong (Holdings) (HK$15.40), Cheung Kong Holdings (HK$82.90), China Life Insurance Company (HK$12.50), China Petroleum and Chemical (HK$4.40), China Petroleum and Chemical (ADS) ($56.71), CLPHoldings (HK$45.55), CNOOC (HK$6.40), CNOOC (ADR) ($82.20), Hang Seng Bank (HK$99.05), HSBCHoldings (HK$138.50), PetroChina (HK$8.45) and PetroChina (ADR) ($109.41) Goldman Sachs has managed or co-managed a public offering in the past 12 months: CNOOC (HK$6.40), CNOOC (ADR) ($82.20), PetroChina (HK$8.45) and PetroChina (ADR) ($109.41) A director and/or employee of Goldman Sachs is a director: CNOOC (HK$6.40) and CNOOC (ADR) ($82.20) Goldman Sachs makes a market in the securities: Aluminum Corporation of China (HK$5.80), Bank of Communications (HK$5.05), BOCHong Kong (Holdings) (HK$15.40), Cheung Kong Holdings (HK$82.90), China Life Insurance Company (HK$12.50), China Mobile (HK) (HK$45.40), China Mobile (HK) (ADR) ($29.34), China Netcom (HK$13.80), China Netcom (ADS) ($37.55), China Petroleum and Chemical (HK$4.40), China Petroleum and Chemical (ADS) ($56.71), China Telecom (HK$2.55), China Telecom (ADR) ($33.06), CLPHoldings (HK$45.55), CNOOC (HK$6.40), CNOOC (ADR) ($82.20), Hang Seng Bank (HK$99.05), Hong Kong & China Gas (HK$17.40), HSBCHoldings (HK$138.50), Huaneng Power International (HK$5.05), Huaneng Power International (ADR) ($26.30), PetroChina (HK$8.45), PetroChina (ADR) ($109.41), Ping An Insurance Group (HK$23.50) and Sun Hung Kai Properties (HK$78.80) Goldman Sachs is a specialist in the relevant securities and will at any given time have an inventory position, "long" or "short," and may be on the opposite side of orders executed on the relevant exchange: CNOOC (HK$6.40) and CNOOC (ADR) ($82.20) Goldman Sachs International acts as corporate broker to: HSBCHoldings (HK$138.50) Distribution of ratings/investment banking relationships Goldman Sachs Investment Research global coverage universe Rating Distribution Investment Banking Relationships Buy Hold Sell Buy Hold Sell Global 26% 59% 15% 58% 52% 47% As of April 1,2006, Goldman Sachs Global Investment Research had investment ratings on 2,048 equity securities. Prior to June 26,2006, Goldman Sachs utilized a relative rating system of Outperform, In-Line and Underperform, which, for the purposes of the above disclosure required by NASD/NYSE rules, equated to Buy, Hold and Sell. As of June 26,2006, Goldman Sachs assigns stocks as Buys and Sells on various regional Investment Lists; stocks not so assigned are deemed Neutral. Such assignments equate to Buy, Hold and Sell for the purposes of the above disclosure. See 'Ratings, Coverage groups and views and related definitions' below. Price target and rating history chart(s) Compendium report: please see disclosures at . Disclosures applicable to the companies included in this compendium can be found in the latest relevant published research. July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 62 Regulatory disclosures Disclosures required by United States laws and regulations See company-specific regulatory disclosures above for any of the following disclosures required as to companies referred to in this report: manager or co-manager in a pending transaction; 1% or other ownership; compensation for certain services; types of client relationships; managed/co-managed public offerings in prior periods; directorships; market making and/or specialist role. The following are additional required disclosures: Ownership and material conflicts of interest: Goldman Sachs policy prohibits its analysts, professionals reporting to analysts and members of their households from owning securities of any company in the analyst's area of coverage. Analyst compensation: Analysts are paid in part based on the profitability of Goldman Sachs, which includes investment banking revenues. Analyst as officer or director: Goldman Sachs policy prohibits its analysts, persons reporting to analysts or members of their households from serving as an officer, director, advisory board member or employee of any company in the analyst's area of coverage. Distribution of ratings: See the distribution of ratings disclosure above. Price chart: See the price chart, with changes of ratings and price targets in prior periods, above, or, if electronic format or if with respect to multiple companies which are the subject of this report, on the Goldman Sachs website at . Additional disclosures required under the laws and regulations of jurisdictions other than the United States The following disclosures are those required by the jurisdiction indicated, except to the extent already made above pursuant to United States laws and regulations. Australia: This research, and any access to it, is intended only for "wholesale clients" within the meaning of the Australian Corporations Act. Canada: Goldman Sachs Canada Inc. has approved of, and agreed to take responsibility for, this research in Canada if and to the extent it relates to equity securities of Canadian issuers. Analysts may conduct site visits but are prohibited from accepting payment or reimbursement by the company of travel expenses for such visits. Hong Kong: Further information on the securities of covered companies referred to in this research may be obtained on request from Goldman Sachs (Asia) L.L.C. Japan: See company-specific disclosures as to any applicable disclosures required by Japanese stock exchanges, the Japanese Securities Dealers Association or the Japanese Securities Finance Company. Korea: Further information on the subject company or companies referred to in this research may be obtained from Goldman Sachs (Asia) L.L.C., Seoul Branch. Singapore: Further information on the covered companies referred to in this research may be obtained from Goldman Sachs (Singapore) Pte. (Company Number: 198602165W). United Kingdom: Persons who would be categorized as private customers in the United Kingdom, as such term is defined in the rules of the Financial Services Authority, should read this research in conjunction with prior Goldman Sachs research on the covered companies referred to herein and should refer to the risk warnings that have been sent to them by Goldman Sachs International. A copy of these risks warnings, and a glossary of certain financial terms used in this report, are available from Goldman Sachs International on request. European Union: Disclosure information in relation to Article 4 (1) (d) and Article 6 (2) of the European Commission Directive 2003/126/EC is available at Ratings, coverage groups and views and related definitions Buy, Neutral, Sell -Analysts recommend stocks as Buys or Sells for inclusion on various regional Investment Lists. Being assigned a Buy or Sell on an Investment List is determined by a stock's return potential relative to its coverage group as described below. Any stock not assigned as a Buy or a Sell on an Investment List is deemed Neutral. Each regional Investment Review Committee manages various regional Investment Lists to a global guideline of 25-35% of stocks as Buy and 10-15% of stocks as Sell; however, the distribution of Buys and Sells in any particular coverage group may vary as determined by the regional Investment Review Committee. Return potential represents the price differential between the current share price and the price target expected during the time horizon associated with the price target. Price targets are required for all covered stocks. The return potential, price target and associated time horizon are stated in each report adding or reiterating an Investment List membership. Coverage groups and views: A list of all stocks in each coverage group is available by primary analyst, stock and coverage group at . The analyst assigns one of the following coverage views which represents the analyst's investment outlook on the coverage group relative to the group's historical fundamentals and/or valuation. Attractive (A). The investment outlook over the following 12 months is favorable relative to the coverage group's historical fundamentals and/or valuation. Neutral (N). The investment outlook over the following 12 months is neutral relative to the coverage group's historical fundamentals and/or valuation. Cautious (C). The investment outlook over the following 12 months is unfavorable relative to the coverage group's historical fundamentals and/or valuation. Not Rated (NR). The investment rating and target price, if any, have been removed pursuant to Goldman Sachs policy when Goldman Sachs is acting in an advisory capacity in a merger or strategic transaction involving this company and in certain other circumstances. Rating Suspended (RS). Goldman Sachs Research has suspended the investment rating and price target, if any, for this stock, because there is not a sufficient fundamental basis for determining an investment rating or target. The previous investment rating and price target, if any, are no longer in effect for this stock and should not be relied upon. Coverage Suspended (CS). Goldman Sachs has suspended coverage of this company. Not Covered (NC). Goldman Sachs does not cover this company. Not Available or Not Applicable (NA). The information is not available for display or is not applicable. Not Meaningful (NM). The information is not meaningful and is therefore excluded. Ratings, coverage views and related definitions prior to June 26,2006 Our rating system requires that analysts rank order the stocks in their coverage groups and assign one of three investment ratings (see definitions below) within a ratings distribution guideline of no more than 25% of the stocks should be rated Outperform and no fewer than 10% rated Underperform. The analyst assigns one of three coverage views (see definitions below), which represents the July 11,2006 China: Telecom Services Goldman Sachs Global Investment Research 63 analyst's investment outlook on the coverage group relative to the group's historical fundamentals and valuation. Each coverage group, listing all stocks covered in that group, is available by primary analyst, stock and coverage group at . Definitions Outperform (OP). We expect this stock to outperform the median total return for the analyst's coverage universe over the next 12 months. In-Line (IL). We expect this stock to perform in line with the median total return for the analyst's coverage universe over the next 12 months. Underperform (U). We expect this stock to underperform the median total return for the analyst's coverage universe over the next 12 months. Coverage views: Attractive (A). The investment outlook over the following 12 months is favorable relative to the coverage group's historical fundamentals and/or valuation. Neutral (N). The investment outlook over the following 12 months is neutral relative to the coverage group's historical fundamentals and/or valuation. Cautious (C). The investment outlook over the following 12 months is unfavorable relative to the coverage group's historical fundamentals and/or valuation. Current Investment List (CIL). We expect stocks on this list to provide an absolute total return of approximately 15%-20% over the next 12 months. We only assign this designation to stocks rated Outperform. We require a 12-month price target for stocks with this designation. Each stock on the CIL will automatically come off the list after 90 days unless renewed by the covering analyst and the relevant Regional Investment Review Committee. Global product; distributing entities The Global Investment Research Division of Goldman Sachs produces and distributes research products for clients of Goldman Sachs, and pursuant to certain contractual arrangements, on a global basis. Analysts based in Goldman Sachs offices around the world produce equity research on industries and companies, and research on macroeconomics, currencies, commodities and portfolio strategy. This research is disseminated in Australia by Goldman Sachs JBWere Pty Ltd (ABN 21006797897) on behalf of Goldman Sachs; in Canada by Goldman Sachs Canada Inc. regarding Canadian equities and by Goldman Sachs & Co. (all other research); in Germany by Goldman Sachs & Co. oHG; in Hong Kong by Goldman Sachs (Asia) L.L.C.; in Japan by Goldman Sachs (Japan) Ltd; in the Republic of Korea by Goldman Sachs (Asia) L.L.C., Seoul Branch; in New Zealand by Goldman Sachs JBWere (NZ) Limited on behalf of Goldman Sachs; in Singapore by Goldman Sachs (Singapore) Pte. (Company Number: 198602165W); and in the United States of America by Goldman, Sachs & Co. Goldman Sachs International has approved this research in connection with its distribution in the United Kingdom and European Union. European Union: Goldman Sachs International, authorised and regulated by the Financial Services Authority, has approved this research in connection with its distribution in the European Union and United Kingdom; Goldman, Sachs & Co. oHG, regulated by the Bundesanstalt für Finanzdienstleistungsaufsicht, may also be distributing research in Germany. General disclosures in addition to specific disclosures required by certain jurisdictions This research is for our clients only. Other than disclosures relating to Goldman Sachs, this research is based on current public information that we consider reliable, but we do not represent it is accurate or complete, and it should not be relied on as such. We seek to update our research as appropriate, but various regulations may prevent us from doing so. Other than some industry reports published on a periodic basis, the large majority of reports are published at irregular intervals as appropriate in the analyst's judgment. Goldman Sachs conducts a global full-service, integrated investment banking, investment management, and brokerage business. We have investment banking and other business relationships with a substantial percentage of the companies covered by our Global Investment Research Division. Our salespeople, traders, and other professionals may provide oral or written market commentary or trading strategies to our clients and our proprietary trading desks that reflect opinions that are contrary to the opinions expressed in this research. Our asset management area, our proprietary trading desks and investing businesses may make investment decisions that are inconsistent with the recommendations or views expressed in this research. We and our affiliates, officers, directors, and employees, excluding equity analysts, will from time to time have long or short positions in, act as principal in, and buy or sell, the securities or derivatives (including options and warrants) thereof of covered companies referred to in this research. This research is not an offer to sell or the solicitation of an offer to buy any security in any jurisdiction where such an offer or solicitation would be illegal. It does not constitute a personal recommendation or take into account the particular investment objectives, financial situations, or needs of individual clients. Clients should consider whether any advice or recommendation in this research is suitable for their particular circumstances and, if appropriate, seek professional advice, including tax advice. The price and value of the investments referred to in this research and the income from them may fluctuate. Past performance is not a guide to future performance, future returns are not guaranteed, and a loss of original capital may occur. Certain transactions, including those involving futures, options, and other derivatives, give rise to substantial risk and are not suitable for all investors. Current options disclosure documents are available from Goldman Sachs sales representatives or at or from Research Compliance, One New York Plaza, New York, NY 10004. Copyright 2006 The Goldman Sachs Group, Inc. No part of this material may be (i) copied, photocopied or duplicated in any form by any means or (ii) redistributed without the prior written consent of The Goldman Sachs Group, Inc.

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