Moody's Approach To Rating Middle East Telecommunications ...

September 2001
Summary Opinion
Contact Phone
London
Carlos Winzer 44.20.7772.5454
Aidan Fisher
Stuart Lawton
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Elisabeth Jackson-Moore 357.5.586586
New York
Robert Konefal 1.212.553.1653
MOODY’S APPROACH TO RATING MIDDLE EAST
TELECOMMUNICATIONS COMPANIES
Rating Methodology
Rating Methodology
In view of Moody’s expectation that the Middle East telecommunications sector may soon have
to access foreign debt capital markets, we believe that an explanation of our rating approach
towards these companies would not only facilitate that access, but also clarify the analysis behind
the future ratings and make the ratings themselves more useful to both investors and issuers.
The potential investment needs of the telecoms sector in the Arab countries of the Middle
East are estimated to amount to around US$8 billion per annum over the next five years, with
the mobile sector accounting for about 35% of total financing requirements. For example,
Ericsson AB (rated A3) recently signed a contract worth about US$800 million to expand Saudi
Arabia’s wireless telecommunications system with the aim of making it the largest in the Middle
East. Ericsson is expected to install parts of the core network and the radio network to cover
eastern and central Saudi Arabia, and the kingdom’s second city, Jeddah, in the west.
As government spending becomes increasingly constrained, the governments of the Middle
East are likely to turn to the capital markets to obtain the required financing for the development
of both fixed and mobile telecommunications sectors. At the same time, licensing fees and
privatisation proceeds are likely to represent a considerable source of income for government
budgets and are expected to remove part of the pressure of high public spending required to
finance state-run telecoms operators.
Moody’s approach to rating telecoms companies operating in the Middle East region is basically
the same as its approach to rating any industrial company, with business and financial fundamentals
being the key drivers. The differentiating factors are the relative importance of the
telecoms industry to the economic and social development of the countries in the Middle East,
and the implicit support this carries for the major flagship companies.
continued on page 3
Moody's Approach To Rating Middle East
Telecommunications Companies
Rating Methodology

Author
Carlos Winzer
Associate Analyst
Van Nguyen
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2 Moody’s Rating Methodology
Editor
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Senior Production Associate
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Moody’s believes telecoms operators are strategically important and, as such, are candidates for ratings
close to the sovereign ceiling. However, some rating outcomes may be affected by concerns over future
acquisitions and uncertainties associated with the regulatory environment.
On the other hand, there may also be exceptions which would make us decide to pierce the sovereign
ceiling rating. While Moody’s will continue to maintain country ceilings for debt issuers, we are now in
the process of reviewing which countries would be most likely to avoid blanket debt moratoria and which
issuers in those countries have special characteristics that could make them exceptions to a moratorium, if
one were imposed.
Moody’s approach to rating Middle East telecommunications service providers considers the following
factors in order of relative importance:
(1) sovereign analysis;
(2) industry and regulatory trends;
(3) competitive environment
(4) quality of management;
(5) operating and financial position; and
(6) company structure
.
Moody’s Rating Methodology 3

Table of Contents
Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .5
Potential Impact Of Greater Telecoms Liberalisation . . . . . . . . . . . . . . . . . . . . . . . . . . .6
Moody’s Rating Methodology . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .8
Financial Measures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .14
Ratings Going Forward . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .15
Operating Statistics Definitions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .16
Glossary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .17
4 Moody’s Rating Methodology

Introduction
The gradual liberalisation of the telecoms industry, which started in selected Middle Eastern countries in
the early 1990s, is turning into a regional trend. This has led to an intensification of competition throughout
the region. In anticipation of an expected increase in competitive inroads, the majority of the Arab
incumbent operators have initiated major restructuring processes in their respective telecommunications
infrastructure and embarked on aggressive plans to upgrade and expand telephone networks and services.
For example, Egypt, Lebanon, Jordan, the UAE, Qatar, Kuwait and Bahrain have all initiated reforms to
update the sector’s regulatory framework and encourage private-sector involvement.
However, despite the current liberalisation efforts, the sector’s competitive nature remains limited
compared to the trends in other for developing economies.
Nevertheless, Moody’s expects that the incumbent telecommunications operators in the Middle East
will face greater competition, accelerating technological change and an evolving regulatory environment
that will increasingly support the growth of alternative service providers in the region.
Some operators are already reducing the risk of market share loss in their territories through defensive
moves and by investing in new high growth areas, international and mobile, which carry operating risks
that differ from those of their traditional activities.
WIRELESS SERVICES IN ARAB COUNTRIES ARE FACING GROWING COMPETITION
On the mobile front, the majority of the countries in the region have exposed their wireless services to some
sort of competition. Lebanon was the first Arab country to introduce competition in the wireless sector
through two concessions in 1995, which resulted in high penetration rates for the GSM networks in a very
short period of time. Egypt followed suit, awarding a second GSM licence to the operator Misrfone in
March 1998, and thus expanding the subscribers’ base to some 2 million subscribers (as of December 2000).
The Egyptian group, Orascom Telecom, has recently won Algeria’s first private GSM licence.
The licensing of a second mobile operator in Morocco has set a precedent in the region with the government
awarding a record-high US$1.1 billion contract to a consortium of Moroccan and foreign private
investors. In the meantime, both Kuwait and Jordan have liberalised their wireless services and awarded a
second GSM licence to increase competition in the sector, reduce tariffs and enhance benefits to users.
INCUMBENT OPERATORS WILL REMAIN LEADERS DOMESTICALLY…
Moody’s believes that the incumbent telecommunications service providers in the Middle East will be successful
in their efforts to remain the leaders in their respective markets. Moreover, it is Moody’s view that
the loss of market share for incumbent companies will be offset by extra traffic volumes from lower prices
and by increased revenues through new service and product offerings.
…AND MAINTAIN CREDIT QUALITY - FOR NOW
We do not expect a significant overall credit quality deterioration in the short to medium term.
However, we do expect the overall credit quality of the industry to decline over the longer term for a
number of reasons:
• increased competition as the number of players grow;
• increased business risk as companies move increasingly away from their home market;
• the possibility of increased financial risk as privatised companies are pressured by shareholders to
optimise returns; and
• the greater chance of technological risk radically transforming the industry.
We also expect greater credit quality differentiation in this region as companies adopt different strategies
with different business and financial risk profiles. For example, the local fixed telephone network
operators in most Middle Eastern countries have either created monopolies in basic services to ensure a
rapid expansion of the local network (Egypt, Jordan and Saudi Arabia), or introduced private investment
to compete with the incumbent state-run operators (UAE, Qatar and Bahrain).
Moody’s Rating Methodology 5

THE TELECOMS INDUSTRY IS OF STRATEGIC IMPORTANCE TO MIDDLE EASTERN GOVERNMENTS
So far, the pace of reforms in the Middle East has generally been slow. Governments have protected and
supported their telecommunications companies, thereby providing a “safety net” for their credit quality.
For example, countries such as Saudi Arabia and Oman have until recently avoided liberalisation and privatisation
in their respective telecoms markets.
The special status of the incumbent telecommunications service providers as flagship companies in
their respective countries could heavily influence Moody’s rating considerations. Moody’s considers that
Middle Eastern governments would, in the normal course of events, want to underpin the supportive
operating environment of these flagship companies - especially in view of the importance of capital to the
telecoms industry and the economic and social development benefits that flow from the sector.
GRADUAL PRIVATISATIONS ARE LOOSENING GOVERNMENTS’ HOLD ON TELECOMS OPERATORS
Traditionally, Middle Eastern countries have been hostile to private sector participation in public utilities.
However, in recent years, tight budgets and financing difficulties have prompted some governments to
open up their telecommunication sector to local as well as foreign investors, thus adding more impetus to
private-sector participation in infrastructure projects.
For example, Jordan’s Jordan Telecom is now controlled by France Telecom (A3) and Qatar’s Q-Tel,
Bahrain’s Batelco, UAE's Etisalat and, Morocco’s Itisalat Al Maghrib have all been partially privatised.
Moreover, the partial privatisations of Saudi Telecom Company and Oman Telecom Company are currently
being considered by their respective governments.
Against this background, this special report describes Moody’s rating approach to the telecoms industry
in the Middle East with the aim of furthering the understanding of our approach and enhancing the
usefulness of the ratings to investors and to issuers.
The Potential Impact of Greater Telecoms Liberalisation in the Middle East
THE IDEA THAT LIBERALISATION WOULD BE BENEFICIAL IS GAINING GROUND AMONG ARAB
GOVERNMENTS
Moody’s believes that Middle Eastern governments now recognise that telecoms competition can reduce
prices, improve customer service and lead to innovation, and that benefits in terms of job creation and the
enhanced investment attractiveness of a country are being accrued by countries with liberalised telecoms
markets.
Furthermore, we believe that most governments now accept the idea that competition furthers the
goal of universal access and leads to a more robust telecommunications network, which will in turn help to
stimulate their economies. For these reasons, we expect more privatisations and a continued opening of
markets throughout the Middle East.
Liberalisation will spark greater competition in four major ways:
1. Through the growth of alternative service providers, which will start expanding networks in anticipation
of a liberalised market and promote their services in the retail market or the wholesale market (as
a carrier’s carrier), or both, thus making competitive inroads into the main operators’ territories.
2. Through competition among the main telecoms operators in their respective traditional territories.
The main telecoms operators are expected to defend themselves against this kind of competition by
making alliances or entering agreements so as to mitigate the potentially aggressive behaviour of a
neighbouring telecoms operator, 1 while at the same time increasing competition for other telecoms
operators.
3. Through the small international telecoms resellers competing for international and long distance calls.
1 For a detailed discussion on this topic, please refer to Moody's August 1998 Special Comment, entitled International Telecom
Alliances: Key Strategic Decision or Marketing Hype?
6 Moody’s Rating Methodology

4. Through the growth and continued success of the mobile operators. Mobile telephony has actually
stimulated growth for incumbents through a greater call completion rate and provides a source of revenue
for connection charges to the incumbent operator’s network. However, as penetration rates of
mobile telephony increase (thus increasing the percentage of mobile-to-mobile calls) and other alternative
providers create alternative infrastructures, the risk to the incumbent of their networks being
circumvented entirely will increase. Of course, many incumbents are actively involved in building their
own mobile networks and often have a leading position in their countries, thus mitigating this particular
risk.
Gradually but surely, competition and technological advancements will help to spread quality
improvements, new services and lower tariffs throughout the Middle East.
IN RESPONSE TO LIBERALISATION, OPERATORS ARE REVISING TARIFFS AND ENHANCING
NETWORKS
Liberalisation creates uncertainties with regard to the revenue streams and profitability of the main operators.
To manage the increased business risk, operators are becoming more marketing-oriented and are
streamlining their human resources function. Insofar as is possible, the operators are also re-balancing
their tariffs so that they better correspond to costs, thus reducing the cherry-picking opportunities of their
competitors. Generally, the operators are enhancing their networks, which are increasingly fully digitalised,
in order to be able to offer new products and services, improve their call quality and increase revenues
through traffic growth over the network.
DESPITE THE EXPECTED LOSS OF MARKET SHARE, COUNTERACTING FORCES WILL PREVENT A
FALL IN OPERATORS’ CREDIT QUALITY IN THE SHORT TO MEDIUM TERM…
Moody’s believes that, as a whole, the incumbent telecommunications operators will be successful in their
efforts to remain the leaders in their respective markets. Moreover, the inevitable loss of market share for
incumbent companies will be offset by extra traffic volumes from lower prices, new service offerings,
growth in access and higher demand for mobile telecommunications.
Market share reductions will be limited by the control of access to the customer in the local loop,
which most companies continue to enjoy. Revenue reductions will be offset by growth in traffic over the
network and the increased revenues the companies receive by terminating the calls, which are handled at
one point by alternate service providers. Moreover, despite privatisation, most companies are expected to
continue enjoying significant implicit government support. We do not expect significant overall credit
quality deterioration in the short to medium term.
…YET CREDIT QUALITY MAY DECLINE IN THE LONGER TERM AS MARKET SHARE EROSION
CONTINUES
Moody’s expects the overall credit quality of the industry in the Middle East to gradually decline over the
much longer term due to several factors:
• increased market share erosion as competition develops,
• increased business risk as companies move increasingly away from their home market,
• the possibility of increased financial risk as privatised companies are pushed by shareholders to optimise
returns, and
• the greater chance of technological risk radically transforming the industry.
Moody’s also anticipates that these factors will bring about a growing credit differentiation between
companies in the region. At the same time, we expect the relatively strong current credit quality of the
telecoms industry to be sustained due to the historical financial conservatism of these companies and the
stable and growing demand for telecoms services.
OUTLOOK FOR MOBILE OPERATORS IS PARTICULARLY POSITIVE
Wireless penetration in the Middle East is expected to soar in the near future from the current compounded
average customer growth rate of 93%, driven by increased competition in Saudi Arabia, Kuwait
and Egypt, as well as network launches in Syria and Yemen.
Moody’s Rating Methodology 7

Mobile penetration in Egypt rose from 842,000 subscribers at the end of 1999 to more than 2.6 million
at the end of the first quarter of 2001. Similarly, Morocco, which had less than 400,000 subscribers at
the end of 1999, increased this number to more than 3 million at the end of the first quarter of 2001.
Wireless penetration rates are expected to exceed those of the fixed line phones in these countries;
however, in the Gulf States and Lebanon wireless growth is likely to be more moderate given the already
high penetration rates.
Mobile Markets in the MENA Region
# of subscribers in (000)
Country 2000 2004F
Algeria 30 2,500
Bahrain 140 230
Egypt 2,000 7,000
Jordan 385 800
Kuwait 300 400
Lebanon 700 1,000
Morocco 300 2,500
Oman 220 600
Qatar 80 150
Saudi Arabia 1,200 4,000
Syria 50 300
Tunisia 200 700
UAE 700 1,100
Palestine 65 180
Yemen 24 800
Total 6,394 22,260
Source: international sources including ITU
F: Middle East Capital Group forecasts
Moody’s Rating Methodology for Telecoms in the Middle East
For example, out of Algeria’s population of
some 31 million people, there are currently only
around 85,000 GSM subscribers, all of whom are
serviced by state-owned Telecom Algerie. Growth
prospects are enormous, especially as the market is
open to competition and demand has been stimulated.
In July 2001, Orascom Telecom, the
Egyptian group, won Algeria’s first private GSM
contract. Orascom agreed to pay US$737million
for the 15-year licence, which is automatically
renewable for five-year periods at no extra cost.
Orascom Telecom has now acquired 20 GSM
licences in the Middle East and sub-Saharan
Africa, which positions it as a strong multinational
wireless company in the region.
Moody’s views the developing mobile industry
in the Middle East very favorably, due to the
reduced technology risks and the homogeneity of
the market. We expect the estimated current 8
million mobile users in Arab countries to increase
to about 20 million by 2004.
In essence, Moody’s ratings constitute an opinion of the issuer’s ability to repay debt obligations in a timely
manner. The size and stability of an issuer’s cash flows relative to the size of the debt are paramount to
the rating. In order to assess this, all of the factors discussed below must be taken into account. Instead of
allocating a specific weighting to each factor, it is the combination of the analyses of these factors that
leads to a rating decision. In addition, rating decisions are always determined on a case-by-case basis.
8 Moody’s Rating Methodology

CORPORATE RATINGS WOULD BE CLOSE TO THE SOVEREIGN CEILING DUE TO GOVERNMENT
SUPPORT
The primary consideration for rating the foreign currency obligations of any Middle Eastern company is
the sovereign risk of the country in which it is domiciled.
Table: Middle East country ratings
Moroco:
Ba1 stable
Rabat MOROCCO
Casablanca
Marrakech
Algers
Timimoun
Reggane
Annaba Tunis
Constantine
TUNISIA
Batna
Gafsa
Sfax
Medenine
Ouargla
ALGERIA
Tunisia: Baa3 pos
Misratah
Sabhah
Marzuq
LIBYA
Banghazi
Djanet Al Jawf
BULGARIA
Lebanon: Nicosia
Aleppo
CYPRUS B2 neg Beirut
LEBANON
Mediterranean Sea
SYRIA
Damascus
El-Iskandariya
(Alexandria)
Tel Aviv
ISRAEL
Amman
Cairo (El-qahira)
JORDAN
El-Suweis (Suez)
Moody’s believes that the governments in this region would ensure a degree of support for the foreign
currency obligations of certain companies in view of the importance of these companies to the political
and economic landscape, as well as the governments’ desire to maintain the confidence of foreign
investors. That is why leading companies in strategically important industries in the Middle East are able
to obtain foreign currency ratings close to sovereign ceilings.
In particular, the strategic importance of the telecommunications industry in the Middle East would
be factored into the rating assessment of the telecoms service providers to support a higher rating. The
following issues would also be factored into the process:
• the risk of companies being required to enter into transactions unfavourable for bondholders,
• the legal risk and
• access to foreign currency.
IN EXCEPTIONAL CIRCUMSTANCES, THE SOVEREIGN CEILING MAY BE PIERCED
Moody’s ratings of the foreign currency bonds of governments have generally served as ceilings for ratings
of foreign currency debt obligations of domestic issuers. The analytic rationale for that practice, reinforced
by capital market experience over the last several decades, is that all domestic issuers are potentially
subject to foreign currency transfer risk. In other words, the ceiling accounts for the fact that a government
confronted by an external payments crisis has the power - and often a strong motivation - to limit
foreign currency outflows, including debt payments.
SUDAN
Wau
Antalya
Black Sea
Zonguldak
Istanbul
Ankara
Bursa
Izmir
TURKEY
Beni Suef
EGYPT
Egypt:
Ba1 st
El-Minya
Aswan
Khartoum (Al Khurtum)
Atbarah
Adana
Jordan:
Ba3 st
ERITREA
ETHIOPIA
GEORGIA\011
Tiflis
ARMENIA AZERBAIJAN
Baku
Yerevan
Baghdad
Bakhtaran
IRAN
Esfahan
IRAQ
Kuwait:
Bahrain: Al Basrah Baa1 pos
Ba1 st
KUWAIT Shiraz
Kuwait
Iran:
B2 pos
Kerman
Zahedan
Bam
Red Sea
Ar Riyad (Riyadh)
Al Madinah (Medina)
Persian Gulf
Bandar Abbas
BAHRAIN Qatar: Baa2 st
Al Manamah
OMAN
QATAR
Ad Dawhah
Abu Zaby Gulf of Oman
U.A.E.: A2 st
Muscat
U. A. E.
Hydera
Karach
Saudi Arabia:
Makkah (Mecca)
Baa3 pos
SAUDI ARABIA
Port Sudan
OMAN
Oman: Baa2 st
Al Khaluf
Asmara
Mekele
Mosel
Ardabil
Tabriz
Al Ghaydan
Sanaa
YEMEN
Al Mukalla
Taizz
DJIBOUTI Gulf of Aden
Djibouti
Berbera
Dire Dawa Hargeysa
Addis Abbaba
SOMALIA
Caspian Sea
Tehran
Salalah
TURKMENISTAN
Ashkhabad
Mashhad
Nukus
UZBEKISTAN
A r a b i a n S e a
Herat
Meyma
AFGHAN
Qandahar
PAKISTAN
Indian Oc
Moody’s Rating Methodology 9
Ta

However, recent experience with government behaviour in crisis situations - particularly in Ecuador,
Pakistan, Russia and the Ukraine - has shown that governments in default may choose to allow foreign
currency payments on some favoured classes of obligors or obligations. This may also apply to some telecoms
companies, which may either be majority-owned by a strong telecommunications company domiciled
in a higher rated country or rely significantly on access to international capital markets, and whose
default would inflict substantial damage on the country’s economy. This suggests that the traditional
country ceiling policy may be too rigid in exceptional instances and that it should be relaxed.
Accordingly, while Moody’s will continue to maintain country ceilings for debt issuers, we are now in
the process of reviewing which countries would be most likely to avoid blanket debt moratoria and which
issuers in those countries have special characteristics that could make them exceptions to a moratorium, if
one were imposed.
The ability of a borrower to pierce the country ceiling will be a function of three factors:
(1) the creditworthiness of the issuer (including external support mechanisms);
(2) the probability that there will not be a generalised moratorium in the event of default by the government
in question; and
(3) the special circumstances of the borrower in terms of access to foreign exchange.
OUTLOOK FOR INCOME GENERATION IN THE MIDDLE EASTERN TELECOMS INDUSTRY
Moody’s methodology involves an assessment of risks and opportunities in an issuer’s industry with a view
to providing a framework for understanding its future ability to generate income. Factors such as trends in
domestic and worldwide competition and the importance of the industry to the respective host country’s
economy are carefully evaluated. We examine the nature of value creation in the industry, its cost structures
and the vulnerability of industry peers to economic, supply-demand and technology cycles. We then
weigh the credit risk implications of developments such as rapid industry expansion, restructuring, and
strategic alliances.
Government support during privatisation is factored into ratings
Traditionally, all telecommunications service providers have been 100% government-owned and enjoyed
explicit government support and guarantees. This is still true for many companies in the Middle East,
although we expect the privatisation process to change this status quo in the near future.
The move from a 100% government-owned entity to a corporatised, fully privatised entity increases
the credit risk to the bondholder, especially as the new shareholders often set more aggressive targets in
terms of growth rates and leverage than the state.
Country Major incumbent State ownership
Algeria Ministry of Telecommunications and Posts 100%
Bahrain Batelco 39%
Egypt Telecom Egypt 100%
Iran Telecommunication Company of Iran (TCI) 100%
Iraq Irak Telecom 100%
Jordan Jordan Telecom 60%
Kuwait Ministry of Telecommunications 100%
Lebanon Ministry of Telecommunications 100%
Morocco Maroc Telecom 65%
Oman Omantel 100%
Palestine Paltel 0%
Qatar Qatar Telecom 55%
Saudi Arabia Saudi Telecom Company 100%
Syria Syrian Telecommunications Establishment 100%
Tunisia Tunisia Telecom 100%
UAE Etisalat 60%
Yemen Public Telecommunications Corporation 100%
Source: companies reports, press
10 Moody’s Rating Methodology

As part of its rating process, Moody’s tries to determine the nature of the relationship between the
state and the telecoms operator as expressed through ownership, government action and regulation. For
example, in many cases, the government can help a company prepare for a liberalised market (and for a
successful privatisation) by allowing significant tariff rebalancing, offering financial help in terms of a
recapitalisation, or taking on previously unfunded balance sheet obligations. To the extent that these
actions help the company in the long term to reposition itself for the advent of competition, this is factored
into the rating.
Regulatory setting can determine the riskiness of the operator’s environment
The regulatory environment is critical to a company’s ratings as it shapes the competitive environment of
the main telecoms operator and defines the opportunities for other service providers. We examine the
national telecoms policy of each country by looking at:
• whether an independent regulating authority has been set up or if regulation is implemented
through the ministry of telecommunications;
• the details of the tariff-setting mechanisms (such as price cap) that establish the foundation for a
company’s financial performance;
• the interconnect rates that are determined;
• the transparency of regulation, and
• how favourable (or unfavourable) it is to the individual telecoms operators.
We gauge regulatory uncertainty and incorporate it into our ratings, as the incumbent operators may
actually benefit from delaying real competition caused by a relative state of flux in regulation.
With a few exceptions, only very few countries have had an independent regulator with a long-established
track record. Hence, a newly deregulated market together with a newly established regulator can
lead to uncertainties before a mature co-existence can develop. The specific credit issues we examine with
respect to the regulatory environment are:
• the way in which regulators focus on the telecoms operators financial performance;
• the rules that are established to encourage competition;
• the tariff rebalancing policies in the country and the nature of tariff-setting mechanisms;
• the way that universal service is financed;
• the way that interconnection charges are set.
For instance, Moody’s examines the risk that may arise when an independent national regulator implements
a framework designed to introduce competition without adequately protecting the financial performance
of the existing carrier or that otherwise penalises the incumbent operator. In most markets, we
believe that such risks are minimal, given the political clout of the main operators and the importance of
the telecoms industry as a whole for the development of the national economies.
In our opinion, it is the nature of the regulatory environment as it relates to the incumbent monopoly
operator rather than the level of government ownership alone that determines the riskiness of the environment
for the operator.
Competitive environment determines a market’s attractiveness to new entrants
The competitive environment is determined by how attractive a market is for competitive entry, the
degree of competition already present in the country, and the way that competition is expected to evolve.
Factors that help assess the competitive environment and the impact on market share include:
• The size of the market. A large, rich and traditionally under-served market such as Germany attracts
more competition and hence more market risk to the main telecoms operator than a much smaller one.
• The operating histories of competitors. A country such as Lebanon, which has had a liberalised
market for a longer time than other countries in the region, displays greater competition.
• The quality of the network of the incumbent. Competitors require a high degree of digitalisation
in order to offer value-added services over the incumbent’s network.
Moody’s Rating Methodology 11

• Tariff imbalances. The larger the tariff imbalances, the greater the scope for competition.
• The number of multinationals/ big telecoms users in the country. This argues for a more competitive
market, at present or in the medium term.
The risk of adopting new technologies is mitigated by the strength of growth in demand
The global telecommunications industry has evolved significantly in the last ten years. Liberalisation and
technology have created an environment that now comprises many providers with many products, thereby
negating the value of a monopoly provider’s scarce resource. The dynamics have changed to the extent
that competitive price and investment pressures have affected the previously unshakeably solid cash flows
of incumbents.
Rapid change brings the risk of technological obsolescence - or worse, poor investment decisions
based on historical notions. The cost of adopting new technology is significant and a key consideration in
our ratings.
Traditional fixed line service operators face competition from new fixed line operators with more efficient
systems, substitute technology providers (such as wireless), or alternate technology (such as IP
Telephony). Wireless operators are faced with a number of competing standards both for second and
third generation systems. The choice of a standard and the timing of its introduction may have a significant
impact on the ratings as the market place becomes more competitive.
In terms of technology, the industry benefits from three key industry strengths:
• the continued strong growth in telecommunications and the Internet;
• the migration of voice and data traffic from fixed to wireless networks (with 3G being developed); and
• the demand for broadband, integrated telecommunication services.
Management strength will determine the successful players of the future
Most incumbent operators in the Middle East face the challenge of transforming companies that have traditionally
been technologically strong, but not customer-focused, into companies that can compete in different
market segments and win customers who have a choice of service provider. At the same time, and
this is particularly true in emerging market countries, the main operators generally have to upgrade their
networks considerably and reduce their workforces. That is why we believe that the strength of today’s
management team will determine who the very successful players will be in five years. Management
strength is also particularly important for assessing the ability of either start-up operations or emerging
market operators to build up a network quickly and effectively.
The viability of management strategy is factored into the rating
An important part of the ratings process is to evaluate the strategy management determines for the company’s
future. In the case of the telecoms industry, this specifically involves understanding and assessing
the following issues:
• How management is hedging its bets on technology. It is as yet uncertain which technologies
will be the future winners. However, it is clear that companies may have to take a position on issues
such as fixed to mobile migration, the maximisation of fibre optic capacity and the need for greater
high-speed transmission at lower cost.
• How management is planning to address market share erosion. With a starting point of a 100%
market share for most incumbent operators, it is evident that there is only one direction for market
share to take - downwards. However, it is important to understand the strategies the companies are
adopting in terms of cost rebalancing and new product and service offerings in order to stave off
serious competitive inroads.
• How management is building up new areas of expertise and new sources of revenues. New,
higher-margin services will become the key to success in terms of revenue growth as voice and data
transmission increasingly becomes a commoditised product subject to price wars and as competition
builds up around traditional telephony.
The viability of management’s plans and their relative risk levels must all be taken into consideration.
12 Moody’s Rating Methodology

Diversification in other Middle Eastern countries could affect operators’ risk profiles
To counterbalance declining market share in their home markets and to take advantage of the liberalisation
of other markets, telecoms operators in some Middle Eastern countries are engaging in an international
diversification strategy.
For example, Algeria recently announced that Egyptian mobile phone operator Orascom Telecom had
won the country’s first private GSM license after offering US$737 million.
While investing abroad can exploit higher growth opportunities that may not be available in the home
market, it may eventually expose the company to a level of political risk and currency exposure that did
not exist before. This is less important as long as the debt being serviced by the company does not depend
on cash generated by its international investments, but when this situation changes, this increased risk
must be reflected in the rating.
Generally, we expect that expansion strategies will be moderately sized, conservatively financed and
limited to those sectors in which the main operators have expertise. Ratings will be adjusted downward if
we feel the overall long-term risk profile of a company has increased due to its diversification strategy.
Financial governance as a guide to future financial health
Moody’s traditionally examines the ability of a company to repay its debt on the basis of the strength and
predictability of its cash flow. Apart from taking into account the present debt of the company (adjusting it
for unfunded pension liabilities and off-balance sheet debt), we consider at the capex and debt requirements
of a company we rate to determine its future financial health and financial flexibility.
Management’s financial parameters are examined with regard to leverage and interest cover
It is difficult to determine exactly what a company’s financial and operating situation will be several years
hence in a rapidly changing industry. However, Moody’s appraisal takes account of management’s financial
parameters with regards to leverage and, more importantly, to interest cover, taking comfort in decisions
ratified by the board as well as publicly stated policies of the companies.
Network quality and operational issues are the foundation of future cash flows
We assess the quality of a network based on a number of standard telecoms measures, such as the degree
of network digitalisation and call failure rate per 100 main lines per year. These help us judge both a company’s
competitive position (along with service quality measures, such as faults cleared within 12 hours)
and its need to improve the quality of its networks.
The degree of network build-out is more important in the ratings of mobile operators, particularly
alternative carriers for which factors like route kilometers, fibre kilometers, buildings connected, as well as
other indicators such as billable minutes and number of customers are considered by Moody’s as the
building blocks for future cash flows and help determine appropriate rating levels.
The structure of the issue and the likelihood of a secured facility being drawn upon
As with any rating decision, Moody’s must factor any kind of subordination into the analysis. If the issuing
entity is not the telecoms operator but a holding company and there is debt at the operating level, then
there is a level of structural subordination. In some cases, there may be contractual subordination whereby
the debt being issued is clearly marked as being subordinate to other debt. In other cases, there may be
effective subordination, whereby the bond being issued may be a senior unsecured debt, but the issuing
entity also has significant secured financing, which is fairly common for start up telecoms operators.
Moody’s not only examines the actual debt outstanding in making a rating determination, but also the
potential and likelihood of a secured facility being issued or drawn upon. Moody’s closely examines the
covenants of the bond and of any bank facility the company may have in order to help determine this likelihood.
This kind of detailed analysis is particularly important in determining a rating in the lower end of
the investment grade and the high-yield spectrum.
Moody’s Rating Methodology 13

Financial Measures
THE SIZE AND SUSTAINABILITY OF A COMPANY’S CASH AND ASSETS VIS-A-VIS DEBT
Every issuer will have to meet future debt payments by generating cash. Thus, the basic task of credit
analysis is to forecast the degree to which future cash flow from operations and potential cash from the
conversion of its stock of assets into cash can provide a cushion above the total amount of debt and other
claims the company will have to meet over the same period.
As a general rule of thumb, the larger the company’s cushion of cash and assets above fixed payment
due, the more able it will be to meet maturing debt obligations in potentially adverse conditions, and
therefore the higher the rating.
In many cases, the size of this cushion may be less important than its predictability or sustainability.
Moody’s views the telecoms industry as having generally very predictable revenue streams, which accounts
for the relatively high level of ratings of the telecoms sector compared to other industries.
Moody’s examines retained cash flow to debt particularly carefully as this ratio gives a dynamic view of
the company’s leverage: it recognises a company’s cash-generating capacity during a fiscal year, which is
crucial to meeting its debt service requirements.
ASSESSMENT OF FUTURE CASH FLOWS AND DEBT BASED ON EARNINGS GROWTH POTENTIAL
AND CAPEX NEEDS
We also look at adjusted retained cash flow, which includes any items that we regard as non-discretionary,
to gauge the financial flexibility of a company, as well as adjusted debt figures that include unfunded pension
liabilities, off balance-sheet financing structures and guarantees. As stated earlier, Moody’s ratings
reflect an opinion of the issuer’s ability of to repay its debt obligations in a timely manner. As the rating
reflects an assessment of the future, Moody’s assesses the likely future cash flows of a company relative to
its likely future debt obligations, and therefore projects the likely scenarios for a company to be rated
based on earnings growth potential and capex requirements.
EBITDA COVERAGE IS A GOOD BUT SOMETIMES UNRELIABLE DETERMINANT OF RATINGS
Moody’s assesses the ability of a company to pay its interest payments on a timely basis and looks at several
coverage measures such as EBITDA coverage. Once again, there is a loose correlation between EBIT-
DA coverage and relative ratings; however, inconsistencies underscore the limitations of ratio analysis. For
example, an integrated incumbent operator might be rated three notches higher than a wireless operator,
despite having only mildly stronger EBITDA coverage. This reflects the higher operating uncertainties of
a mobile operator and the lower cash-flow-generating capacities of a relatively new company.
DEGREE OF FINANCIAL LEVERAGE VS. BUSINESS RISK PROFILE
Moody’s also considers static measures of leverage, such as total debt to total capitalisation. Again, there is
a loose correlation between ratios and ratings. For example, a company may have quite a high leverage,
which could be based on a funding need stemming from a need to invest heavily in upgrading the network.
It might be Moody’s expectation that this temporary high leverage may come down over several
years. On the other hand, the leverage figure may be overstated, in that the company may have hidden
reserves in the form of undervalued assets, mostly real estate.
Generally, the business risk profile acts as a counterbalance to the financial risk profile - and consequently
companies with low leverage may have a higher perceived business risk, as outlined above.
Moody’s looks at leverage ratios over time and projected into the future to gauge not only the critical
point in a company’s investment cycle where leverage is highest, but also the expected development of
leverage over time.
Financial and ratio analysis will always play a part in our rating decision. However, we do not attribute
too much predictive value in a snapshot of one or two ratios; rather, we believe that ratios are best used
over an extended period of time, as this will help comparisons against a company’s peers and underpin
projections of future performance.
14 Moody’s Rating Methodology

The key ratios Moody’s looks at in assessing telecommunications companies are:
• Debt//EBITDA
• RCF//Debt
• RCF//CAPEX
• EBITDA//Interest
• EBIT//Interest
• Debt//Capitalisation
Ratings Going Forward
Ratings in the Middle East telecoms sector, once assigned, will be based on a number of factors, as outlined
in this report. As the industry evolves, the rating process will incorporate other factors not discussed
in this paper, but we will express our evolving approach to the industry through our published opinions
and research.
We expect an intensification of competition throughout the region fuelled by an unabated pace of
technological developments and changes. Therefore, it is of critical importance to understand the extent
to which increasing business risk is offset by lower financial risk. We believe that the degree and pace of
change in the credit quality of each incumbent operator in the region will vary significantly among the
Middle East countries depending on
• each company’s financial profile,
• the government’s willingness to support competition and change,
• the ability of the company’s management to effectively deal with new competitors,
• the risk appetite of shareholders of companies that have been privatised, and finally,
• on the policies of the national regulatory body that will help set the pace of change in each country.
(EBITDA is earnings before interest, tax, depreciation, and amortisation.
EBIT is earnings before interest and tax.
RCF (or Retained Cash Flow) is income from operations plus depreciation and amortisation plus non-cash items less dividends.
Interest is gross interest expense.
Capitalisation is debt plus equity plus deferred taxes.)
Moody’s Rating Methodology 15

Operating Statistics Definitions
Op. Margin (%): pretax operating margin = [(operating revenues - operating expense) ÷ operating revenues]
x 100
ROA (avg.)(%): return on average assets = (net income available for common stock ÷ average of current
and prior year’s total assets) x 100
ROE (avg.)(%): return on average common equity = (net income available for common stock ÷ average of
current and prior year’s common equity) x 100
Div. Payout (%): dividend payout ratio = (common dividends declared ÷ net income available for common
stock) x 100
PTIC(X): pretax interest coverage = (income before extraordinary items - equity income - debt and equity
components of allowance for funds used during construction + gross interest expense + total income
taxes) ÷ gross interest expense
Fxd. Chg. Cov. (X): fixed charge coverage = (income before extraordinary items - equity income + debt
component of allowance for funds used during construction + gross interest expense + total income taxes +
rentals) ÷{gross interest expense + rentals + [preferred dividends ÷(1-U.S. statutory tax rate)]}
RCF % TD: retained cash flow as a percentage of total debt = [(net income + depreciation, depletion,
amortisation + deferred taxes + other non-cash items - total dividends paid) ÷(short-term debt + current
maturities + long-term debt)] x 100
RCF % Gross CAPEX: retained cash flow as a percentage of gross capital expenditures = [(net income +
depreciation, depletion, amortisation + deferred taxes + other non-cash items - total dividends paid) ÷
gross capital expenditures] x 100
Total Cap. ($bil.): total capitalisation = short-term debt + current maturities + long-term debt + preferred
stock + common equity
TD % Cap.: total debt as a percentage of total capitalisation = [(short-term debt + current maturities +
long-term debt) ÷ total capitalisation] x 100
Pfd. Stk. % Cap.: preferred stock as a percentage of total capitalisation = (preferred stock ÷ total capitalisation)
x 100
Common % Cap.: common equity as a percentage of total capitalisation = (common equity ÷ total capitalisation)
x 100
Adj. TD % Adj. Cap.: adjusted total debt a percentage of adjusted total capitalisation = {[total debt +
non-consolidated debt + contingent liabilities + (rentals x 8) + unfunded pension liabilities + preferred
stock] ÷ [total capitalisation + deferred taxes + investment tax credits + minority interest + non-consolidated
debt + contingent liabilities + (rentals x 8) + unfunded pension liabilities]} x 100
TELEPHONE OPERATING STATISTICS
Acc. Line Growth (%): access line growth = [(access lines in service at the end of the most recent year -
access lines in service at the end of the previous year) ÷ access lines in service at the end of the previous
year] x 100
Acc. Lines/Emp.: access lines per employee = (access lines in service ÷ total number of employees)
Rev./Emp. (US$000): revenues per employee = (total operating revenues ÷ total number of employees)
Contr. Exp./Emp. (US$000): controllable expenses per employee = (controllable expenses ÷ total number
of employees)
16 Moody’s Rating Methodology

Glossary of terms generally used in the industry
Access Charge or Interconnection Charge: The fee charged by the former monopoly telephone company
for connecting an alternative access provider to the subscriber network.
Access Line: The circuit that connects the user with a switching centre.
Accounting Rate: Bilaterally set price for international calls agreed between a terminating PTO and an
originating PTO. This is used to determine the price per minute charged to the originating PTO by the
terminating PTO (the settlement rate: usually half the accounting rate).
ADSL: Asymmetrical Digital Subscriber Line. This is a relatively new technology that allows the provision
of high-speed connections over existing copper wires using digital compression. It is currently being
tested and used by some companies for high-speed Internet access and video-on-demand over copper.
ADSL transmits signals to the home at speeds of 6 Mbits/second.
AIN: Advanced Intelligent Network. This a vendor-independent platform and support architecture. It
allows call processing in the switch to be interrupted, and service logic residing in new network elements
to be accessed, thereby providing services to the customer independent of the switching software. The
main characteristics of AIN is that it allows a quick introduction of new services, expands call-handling
capacity, enhances call processing and provides real-time collection and reporting.
AIN Based Services: PBX extend, Centrex, 800 services, third call, do not disturb, call forward, call barring
and call waiting.
Analogue: A transmission method employing a continuous (rather than pulsed or digital) electrical signal
that varies in amplitude or frequency in response to changes of sound, light, position, etc. Analogue signal
frequencies, which are used to carry voice, data, and video information, are expressed in hertz (Hz), kilohertz
(KHz) for one thousand hertz, mega-hertz (MHz) for one million hertz, or gigahertz (GHz) for one
billion hertz.
ALTs (Alternative Access Providers): (also CAPs - Competitive Access Providers). A company that
offers access and transport services in competition with the services of the incumbent telephone company.
ATM (Asynchronous Transfer Mode): An international standard for high-speed broadband networks
operating at digital transmission speeds of above 1.544 Mbps (millions of bits per second). Its a flexible
high bandwidth cell-switching and multiplexing technique and is considered the long-term technological
solution to customer demand for high bandwidth services. ATM is meant to facilitate efficient operation
in networks that must transport "bursts" of information. It is a basic technology for multimedia communications.
ATM provides a unified information transfer mode with a fixed-length data packet called a cell. A
cell automatically selects its own route, which makes switchless-type communications possible to send different
data types (voice, video and data) at high speed. The information to be transmitted is digitalised and
then chopped up into "packages" of a uniform size of 53 bytes. 48 bytes are available for transporting the
actual information and 5 bytes contain control information on the sender, recipient and type of contents.
Bandwidth: A measure of the carrying capacity of a transmission path, whether wired or wireless, analogue
or digital.
Broadband: A descriptive term for digital telephone technologies that offer households and businesses a
single switched facility providing integrated, interactive access to voice, high-speed data, and video services.
Technically, broadband represents any digital communications facility operating at a transmission
speed in excess of the rate of 1.544 Mbps, or an analogue transmission technique for data or video that
provides multiple channels through frequency multiplexing.
CAP (Competitive Access Providers): See ALTs
Cellular: A communication service in which voice or data is transmitted by radio frequencies. The service
area is divided into cells, each of which is served by a transmitter. The cells are connected to a mobile
switching exchange that is connected to the worldwide telephone network. Service may be offered to subscribers
on a fixed, mobile or hybrid basis.
Central Office (CO): The most local node in the switched telecommunications network. From this
point, wires go directly to the customer’s premises.
Moody’s Rating Methodology 17

CLEC (Competitive Local Exchange Carrier): A company that competes directly with a telephone
company for basic local exchange services. ALTs and CAPs are expected to evolve into CLECs.
Customer Premise Equipment: The terminal equipment that provides the physical interface between
the network and the user. This equipment can range from the basic telephone set for voice communication
to computer terminals for data communications.
Digital: Describes a method of storing, processing, and transmitting information through the use of distinct
electronic or optical pulses that represent the binary digits (bits) 0 and 1. Digital
transmission/switching technologies employ a sequence of discrete, individually distinct pulses to represent
information, as opposed to the continuously variable signal of analogue technologies.
Fibre Optic Cable: A cable that transmits data by laser rays through transparent bodies such as glass and
acrylic. Its very fine in diameter, only 0.1 to 0.2 mm, and is composed of two parts having different properties:
core (one transparent material of high refractive index) and clad (another transparent material of
lower refractive index).
Fibre Optic Capacity: The differences between the traditional twisted pair of copper cables and the more
modern fibre-optic links are speed and transmission capacity. Copper-wire telephone lines send data at a
maximum speed of 28.8 Kbps (thousand bits per second), which is too low for multimedia networks.
Through fibre-optic links, data can be sent at speeds of 600 Mbps (million bits per second).
Fibre Optic Based Network Architecture: A backbone fibre optic network is one of the key ingredients
to meeting the present and future needs of customers. It provides high reliability and high bandwidth representing
primary requirements.
Fixed-link Network: Basic telephone network comprising subscriber lines, exchanges and inter-exchange
lines. More correctly, this should be called the Public Switched Telephone Network (PSTN) but it is
referred to here as the fixed-link network to distinguish from cellular radio and satellite networks.
Gbps: Giga bytes per second. One gigabit equals to one billion bytes of data, which is about equal to the
amount of information printed in a daily newspaper in one year.
Global Mobile Personal Communications by Satellite (GMPCS): A new generation of non-geostationary
satellite systems being developed to provide global communications coverage.
GSM: Global system for mobiles. This is the digital system adapted in Europe as a standard. This
acronym was developed to be an English equivalent of the French acronym "Groupe Speciale Mobile".
Hybrid Fibre / Coaxial (HFC): Combines fibre optic and coaxial cable to provide broadband services,
such as high-speed access to the Internet, in addition to telephony and television. Typically employed in
cable television networks.
Interconnection: Term that defines the inter-working of two separately owned and operated networks.
Interconnection is used to refer both to the technical interface and to the commercial arrangements
between two network operators providing service.
Interconnection Charge: Payment made by one PTO to another PTO for delivering or terminating
traffic.
International Simple Resale: A technique that permits a service provider to gather traffic to a particular
destination from a variety of different customers and then route it via an international leased line. The
company offering the service is thus able to charge its clients per minute while paying only a fixed-rate fee
to the operator from whom it leases the line. Does not use the international accounting rate system (see
Accounting rate).
Internet Service Providers (ISPs): Companies that provide access to the Internet.
Internet Telephony: Voice services bundled with Internet access. Internet telephony has evolved from a
service that was available only between similarly equipped computers, to a service that allows a call to be
made from a computer to any telephone or fax and increasingly, from telephone to telephone.
18 Moody’s Rating Methodology

ISDN: Integrated Services Digital Network. Digital communication line that enables voice, data and
video signals to be sent over a single standard telephone line at speeds up to 50 times faster than a 14.4
Kbps modem. It is a switched network with end-to-end digital connections. ISDN enables copper wiring
to perform many of the functions of higher-capacity, fibre optic cable functions such as high-speed data
transmission and video conferencing.
Local Loop: The final link in the telecommunications network, joining the most local distribution point
(that is, the central office switch) to the subscriber’s premises. The term "loop" refers to the fact that this
link requires a closed circuit to transmit the electric currents that carry analogue or digital information.
Low-Earth Orbit (LEO) Systems: Satellite systems requiring a constellation of satellites, at an altitude
of 700 kilometres and orbit periods of about 1.5 hours.
Mbps: Mega bits per second. One mega equals to one million bits of data.
Measured Service: A tariff schedule that bills for telephone usage on other than a flat (non-usage sensitive)
rate. Usage may be measured by four elements: frequency (the number of calls); the distance traversed;
timing (time-of-day and day-of-week); and duration (minutes/seconds). Pricing may include any
combination of these elements.
PBX (Private Branch Exchange): Switching equipment that is owned by the customer and located on
the customer’s premises.
Presubscription: The process by which a customer designates a primary long-distance carrier or an alternative
access provider without having to dial an access code.
Settlement Payments: Price charged to the originating PTO by the terminating PTO for handling
international telecommunications traffic. Usually half the accounting rate.
SONET (Synchronous Optical NETwork standard): An ultra high-speed, fiber optic transmission
standard for large-scale, fibre-based digital transmission networks. It also provides enhanced network reliability
through a self-healing fibre-ring architecture.
Switch: A device that opens or closes circuits or selects the paths or circuits to be used for transmission of
information. Electronic switching systems are special-purpose computers (stored-program controllers)
that operate on either an analogue or digital basis.
Teledensity: Number of main telephone lines per 100 inhabitants.
Telephony: A generic term that describes voice services.
Toll Service: Telephone service that reaches beyond the geographical area defined by basic service.
Typically, this is charged on a measured basis (see Measured Service). Toll service is further divided into
categories that reflect legal jurisdiction (interstate vs. intrastate) or geography (interLTA vs. IntraLATA).
Trunk: A telephone circuit with a switch at both ends. A trunk may connect two central office switches,
or two PBXs, or a PBX and a central office switch.
VDSL: Very high speed ASDL (refer to ADSL). It is considered the next generation of ADSL. VDSL is
expected to provide speeds of up to 51 Mbits/second compared with ADSL’s 6 Mbits/second.
Waiting List: The number of individuals who have registered their demand for telephone subscription,
but have yet to be served. The waiting list is therefore used as a proxy for the level of unmet demand for
telephone service.
WLL: Wireless Local Loop. It is a fixed radio access system known as Proximity 1. It operates at 3.4 Ghz
to support voice traffic at speeds of 32 Kbit/second and data at 28.8 Kbit/second. Customers use an existing
handset and calls are made via an octagonal antenna the size of a dinner plate clamped to the outside
facade. This is considered a cost-effective technology to provide local access. Ionica in the UK is the pioneer.
Nortel is the main provider of this technology application.
Moody’s Rating Methodology 19

Moody's Approach To Rating Middle East
Telecommunications Companies
Rating Methodology
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