Portugal Telecom

Lisbon, Portugal, 6 March 2006

Portugal Telecom announced today its full year results for the year ended 31 December 2005. Net income amounted to Euro 293 million in the fourth quarter of 2005, equivalent to an increase of 448.4% over the same period of last year. EBITDA minus Capex totalled Euro 349 million, an increase of 72.4% over the same period of last year.

In 2005, consolidated operating revenues amounted to Euro 6,385 million. EBITDA reached Euro 2,496 million, equivalent to a margin of 39.1% . EBITDA minus Capex reached Euro 1,552 million. Net income for the year amounted to Euro 654 million. Net debt reached Euro 3,672 million at the end of December 2005, which includes an extraordinary contribution of Euro 300 million to fund post retirement healthcare obligations.

PT’s Board of Directors has approved the submission for shareholder’s approval, at the next AGM, the payment of a cash dividend of Euro 0.475 per share for the fiscal year 2005, subject to market conditions and PT’s financial condition at the time. The dividend of Euro 0.475 for the fiscal year 2005 represents an increase of 35.7% over the previous year.

PT’s financial results have been prepared in accordance with International Financial Reporting Standards (IFRS) as from 1 January 2005. Financial information for prior periods has been restated in accordance with IFRS for comparative purposes.

Operating revenues increased by 7.0% y.o.y in 2005 to Euro 6,385 million, underpinned by Vivo and PTM.

Operating revenues of the domestic businesses (wireline, TMN and PT Multimedia) decreased by 1.7% y.o.y in 2005, with the increase of Euro 30 million in PTM offsetting the decline in TMN and wireline revenues totalling Euro 101 million.

Domestic retail revenues (wireline, Pay-TV and broadband) decreased by 1.8% y.o.y to Euro 1,808 million in 2005, with the growth in broadband and Pay-TV revenues being offset by the fall in wireline traffic revenues, which were negatively impacted by traffic volume declines and lower interconnection rates. Adjusting for the reduction in F2M interconnection rates, domestic retail revenues would have decreased by only 0.6% in 2005.

Wireline net retail revenues, calculated as wireline retail revenues less corresponding telecom costs, remained stable in 2005 at Euro 1,147 million, as a result of the aggressive rollout of ADSL and new pricing plans that compensated for the drop in traffic revenues.

EBITDA reached Euro 2,496 million in 2005, an increase of 5.6% y.o.y, equivalent to an EBITDA margin of 39.1%, underpinned by the wireline division and PTM.

EBITDA of the domestic businesses increased by 5.5% y.o.y in 2005, as a result of the increase in wireline and PTM, which offset the reduction in TMN’s EBITDA. The wireline EBITDA performance, in addition to opex containment, also benefited from a significant reduction in post retirement benefits costs in 2005.

Post retirement benefits costs (PRBs) were negative by Euro 22 million in 2005, as a result of prior years service gains in the amount of Euro 137 million, including Euro 110 million related to a change in the retirement age for pensioners in Portugal that was ratified in December 2005. Following the adoption of IFRS and in accordance with an amendment to IAS 19 which became effective in November 2005, PT decided to change the accounting policy regarding the treatment of actuarial gains and losses, which are now recognised directly in shareholders’ equity. Previously, actuarial gains and losses were deferred and amortised in the income statement, under the caption PRBs, during the average working life of active employees. As a result, PRBs no longer include the amortization of net actuarial losses, which had been estimated to be Euro 55 million in 2005.

Income from operations increased by 0.6% y.o.y in 2005 to Euro 1,436 million, equivalent to a margin of 22.5%, notwithstanding the higher amortisation of intangibles related to the allocation of goodwill resulting from the tender offers of Vivo’s subsidiaries in 2004.

Net income totalled Euro 654 million in 2005, an increase of 4.9% y.o.y, underpinned by the positive impact of the gain of Euro 174 million related to the disposal of an investment in UOL, notwithstanding the increase in workforce reduction costs to Euro 314 million.

Capex increased by 23.9% y.o.y in 2005 to Euro 943 million, equivalent to 14.8% of operating revenues, as a result of higher spend on broadband and 3G in Portugal, the investment in two transponders in the Pay-TV business, and 1xRTT and CDMA overlay investments in Vivo.

EBITDA minus Capex decreased by 3.1% y.o.y to Euro 1,552 million in 2005, equivalent to 24.3% of operating revenues. Approximately 95% of PT’s EBITDA minus Capex was generated by its domestic businesses (wireline, TMN and PTM).

Free cash flow increased to Euro 1,024 million in 2005 from Euro 862 million in the previous year, primarily as a result of the increase in cash inflows from disposals of subsidiaries and a reduction in the cash outflows related to acquisition of financial investments (including Euro 231 million related to Vivo in 2004), which offset the decrease in operating free cash flow. The calculation of free cash flow is set forth in section 5 below.

Net debt amounted to Euro 3,672 million at the end 2005, an increase of Euro 99 million from the end of 2004, primarily due to the Euro 300 million extraordinary contribution to fund post retirement healthcare obligations, and the Euro 126 million currency translation effect of Real denominated debt.

PT issued Euro 2 billion of Eurobonds in 2005, Euro 1.5 billion on 24 March 2005, with maturities of 7 years (Euro 1 billion) and 12 years (Euro 500 million), and a further Euro 500 million on 16 June 2005, with a 20 year maturity, as part of its balance sheet refinancing. In February 2005, PT had also drawn down Euro 250 million from two 10 year loans entered into with the European Investment Bank. In addition, the maturity of certain stand-by facilities totalling Euro 750 million was extended by two years. PT’s cost of debt (excluding Brazilian debt) was 4.7% and PT’s net debt maturity (excluding Brazilian debt) increased to 10.2 years. Considering Brazilian debt, PT’s consolidated cost of debt was 6.6%, with the consolidated net debt maturity being extended to 9.2 years.

Unfunded post retirement obligations amounted to Euro 2,634 million at the end of 2005, an increase of Euro 314 million from the end of 2004, primarily due to the impact of Euro 693 million from the change in actuarial assumptions, namely the discount rate, which offset the Euro 300 million extraordinary contribution to fund post retirement obligations. Following the change in the accounting policy regarding the recognition of actuarial gains and losses described above, PT’s balance sheet now presents an accrued post retirement liability equivalent to the value of the unfunded obligations.

Disposals of financial investments during 2005 generated cash inflows of Euro 328 million, namely Euro 174 million from the sale of Lusomundo Serviços (which holds 80.91% of Lusomundo Media) to Olivedesportos, R$ 261 million from the sale of PrimeSys to Embratel, and R$ 201 million from the sale of a 16% stake in UOL in the IPO executed in December.

Net exposure to Brazil amounted to R$ 7,678 million, or Euro 2,798 million at the Euro/Real exchange rate prevailing at year-end 2005. As at 31 December 2005, assets denominated in Reais in PT’s consolidated balance sheet represented approximately 32% of total assets and PT’s share of Vivo’s net debt amounted to Euro 609 million.

Pursuant to the 10% share buyback programme, PT reduced its share capital from Euro 1,166,485,050 to Euro 1,128,856,500 on 21 December 2005. The number of treasury shares cancelled was equivalent to 3.0% of the initial share capital prior to the 7.0% cancellation in December 2004, thus completing the 10% share buyback announced in September 2003.

On 6 March 2006, PT’s Board of Directors approved the submission for shareholders’ approval at the next AGM the payment of a cash dividend of Euro 0.475 per share for the fiscal year 2005, subject to market conditions and PT’s financial condition at that time. The dividend of Euro 0.475 per share for fiscal year 2005 represents an increase of 35.7% over the previous year. PT’s Board of Directors also reiterated its commitment to a progressive dividend policy.

As at 6 March 2006, PT had contracted equity swaps to acquire PT shares, equivalent to 1.83% of its share capital. PT had contracted these equity swaps as part of its ongoing share buyback programme, halted as a result of the tender offer launched by Sonaecom on 6 February 2006.

Management believes that PT should continue to provide an attractive growth profile for its businesses and superior returns to its shareholders. PT’s strategy will include: offering nationwide triple play services across all networks; the introduction of flat pricing for fixed voice and convergent fixed-mobile offers, as well as the monetisation of its network aimed at providing capex synergies and transparent access for all competitors, in exchange for regulatory relief. Through a combination of top line growth and an optimisation of costs and capex, EBITDA should increase by 3% to 5% (CAGR) over the next three years and cumulative operating cash flow (defined as EBITDA minus Capex) should amount to Euro 5.0 -5.5 billion over the period.

Consolidated Operating Revenues

Consolidated operating revenues increased by 7.0% y.o.y in 2005 to Euro 6,385 million, reflecting the higher contribution from Vivo, primarily due to the appreciation of the Real during the period, PTM and other businesses. On a constant currency basis, consolidated operating revenues would have increased by 1.2% y.o.y in 2005.

In 2005, domestic retail revenues (wireline + Pay-TV) decreased by 1.8% y.o.y to Euro 1,808 million, with the average revenue per household (ARPH) amounting to Euro 41.3 per month. Adjusting for the negative impact of the reduction in fixed-to-mobile interconnection rates, domestic retail revenues would have decreased by 0.6% y.o.y in 2005. The aggressive rollout of broadband services and video products continued to steadily change the mix of the ARPH. In 2005, data and video revenues represented 13.6% and 22.0% of ARPH respectively, increasing their contribution to ARPH by 4.8pp y.o.y. Wireline net retail revenues, calculated as wireline retail revenues less corresponding telecom costs, remained stable in 2005, reflecting the successful rollout of ADSL and new pricing plans that compensated for the decrease in traffic revenues.

The contribution to consolidated operating revenues from the mobile businesses rose by 3.4pp y.o.y to 54.7% in 2005, despite the strong reduction in interconnection rates in Portugal. F2M and M2M interconnection rates registered an average annual reduction of 26% and 23% respectively, with both reaching Euro 0.13 per minute in October 2005. Interconnection rates will continue to fall by Euro 0.50 cents per quarter until they reach Euro 0.11 per minute in October 2006. The impact of lower interconnection rates on TMN’s revenues in the fourth quarter and full year of 2005 amounted to Euro 26 million and Euro 82 million respectively. Vivo represented 31.9% of consolidated operating revenues in 2005, an increase of 5.1pp over 2004, primarily as a result of the 19.6% y.o.y appreciation of the Real against the Euro during the year.

In 2005, operating revenues from other businesses increased by Euro 52 million to Euro 215 million, as a result of the increase in external revenues posted by Mobitel (call centre company in Brazil), PT Inovação (R&D consultancy) and PT Contact (call centres in Portugal). The appreciation of the Real against the Euro during the period also had a positive impact on the operating revenues of Mobitel. On a constant currency

basis, operating revenues from other businesses would have increased by 25.7% y.o.y to Euro 204 million in 2005.

The difference in the growth rates of the standalone revenues and the contribution to consolidated revenues of the domestic mobile business is related to the decline in fixed-to-mobile interconnection rates during the period in analysis.

EBITDA

EBITDA increased by 5.6% y.o.y in 2005 to Euro 2,496 million, equivalent to an EBITDA margin of 39.1%, primarily as a result of the increase in the contribution of the wireline and multimedia businesses, which was partially offset by the reduction in TMN’s EBITDA, resulting mainly from the interconnection rate cuts and the aggressive 3G rollout. The increase in EBITDA of the wireline business is primarily explained by the increase in prior years service gains in post retirement benefits (Euro 137 million in 2005, as compared to Euro 67 million in 2004), and by the Euro 23 million receivable from Angola Telecom that was fully provided for in previous years.

In 2005, the contribution of the wireline business to consolidated EBITDA increased by 4.2pp y.o.y to 45.3% . PTM’s contribution to consolidated EBITDA improved by 0.3pp y.o.y to 7.8% in 2005, underpinned by top line growth and margin improvement in the period.

The contribution to consolidated EBITDA from the mobile businesses decreased by 5.4pp y.o.y to 47.3% in 2005, primarily as a result of the decrease in TMN’s EBITDA. The impact of lower interconnection rates on

TMN’s EBITDA amounted to Euro 14 million and Euro 48 million in the fourth quarter and full year of 2005 respectively. Adjusting for the negative impact of lower F2M rates, TMN’s EBITDA would have decreased by 3.4% y.o.y in 2005, as a result of the investment made in the aggressive rollout of 3G. The reduction in Vivo’s EBITDA in 2005, on a constant currency basis, was driven mainly by increased competitive pressures and higher provisions related to traffic not attributable to customers.

Consolidated Operating Costs

Consolidated operating costs amounted to Euro 4,949 million in 2005, an increase of 9.0% y.o.y, in part as a result of the appreciation of the Real against the Euro and higher commercial activity across all businesses. On a constant currency basis, operating costs would have increased by 1.8% y.o.y in 2005.

Wages and salaries increased by 5.6% y.o.y in 2005 to Euro 667 million and represented 10.5% of consolidated operating revenues. On a constant currency basis, wages and salaries would have increased by 1.1% y.o.y, with the 3.3% y.o.y decline in wireline being offset primarily by Mobitel, the call centre business in Brazil, which posted 72.9% y.o.y increase in wages and salaries in local currency, due to the incorporation of 5,460 additional employees.

Post retirement benefit costs (PRBs) were negative Euro 22 million in 2005, as a result of prior years service gains recorded during the year totalling Euro 137 million and related to: (1) the change in the retirement age in Portugal (Euro 110 million), and (2) from further changes in the method of calculating the pension of an employee upon retirement, which is now computed based on the average of the last three years of salary instead of the last year of salary (Euro 27 million). In 2004, there was also a prior years service gain (Euro 67 million) related to the computation of pensions, from 100% to 90% of the salary of the last year

prior to retirement. Adjusting for these one-off effects, PRBs in 2005 would have reached Euro 115 million, as compared to Euro 126 million in 2004, as a result of the Euro 12 million decrease in the net interest cost due to the combined effect of the contributions made to the funds and the increase in post retirement obligations (PBO) resulting from further workforce reductions.

Direct costs increased by 3.4% y.o.y to Euro 881 million in 2005. This cost item represented 13.8% of consolidated operating revenues. Telecommunications costs, which are the main component of direct costs, increased by 1.5% to Euro 562 million in 2005, with lower wireline traffic volumes and lower M2M interconnection rates in Portugal being offset by higher telecommunications costs in Vivo, in part as a result of the appreciation the Real against the Euro (Euro 37 million). In local currency, Vivo’s telecommunications costs increased by 26.5% y.o.y as a result of higher traffic volumes, primarily related to domestic roaming. Telecommunications costs accounted for 8.8% of consolidated operating revenues. Programming costs increased by 10.0% y.o.y to Euro 140 million, primarily as a result of the launch of the digital offer in the Pay-TV business, aimed at enhancing ARPU through the promotion of analogue-to-digital migration.

Costs of products sold increased by 9.5% y.o.y in 2005 to Euro 652 million, primarily due to the appreciation of the Real against the Euro (Euro 70 million) and to higher commercial activity at TMN. On a constant currency basis, costs of products sold would have decreased by 2.2% y.o.y in the period.

Marketing and publicity costs increased by 15.4% y.o.y in 2005 to Euro 184 million, reflecting higher marketing spend and promotional activities in TMN and Vivo. On a constant currency basis, marketing and publicity costs would have increased by 6.3% y.o.y in the period.

Support services costs rose by 12.9% y.o.y in 2005 to Euro 230 million, mainly due to an increase in wireline and Vivo, as a result of the outsourcing of certain additional functions and higher call centre costs related to increased commercial activity. On a constant currency basis, support services costs would have increased by 5.1% y.o.y in the period. This cost item represented 3.6% of consolidated operating revenues.

Supplies and external expenses increased by 18.2% y.o.y in 2005 to Euro 760 million, primarily as a result of the increase in commissions in TMN and Vivo, due to increased commercial activity. On a constant currency basis, supplies and external expenses would have increased by 10.8% y.o.y in the period. Supplies and external expenses accounted for 11.9% of consolidated operating revenues.

Provisions increased by 1.6% y.o.y in 2005 to Euro 171 million. The increase in this caption is primarily related to an increase of Euro 93 million in Vivo’s contribution to this consolidated cost item, as a result of the impact of the appreciation of the Real against the Euro (Euro 24 million) and a higher level of bad debt provisioning. This increase in provisions at Vivo was partially offset by a reduction in provisions in the wireline business, including the reversal of a provision for a receivable from Angola Telecom (Euro 23 million) that was received in the period, and the reduction of a provision recorded in 2004 to cover risks associated with the cancellation of certain onerous contracts (Euro 30 million). The reduction in this

provision results from the positive developments in the negotiations for the settlement of these contracts. In 2005, provisions accounted for 2.7% of consolidated operating revenues.

Taxes other than income taxes, which mainly includes indirect taxes and spectrum fees (TMN and Vivo), increased from Euro 123 million in 2004 to Euro 166 million in 2005, of which Euro 20 million in connection with the Real appreciation during the period. The increase in this caption is primarily explained by the increase in spectrum fees at Vivo of Euro 35 million (Euro 18 million related to the Real appreciation against the Euro), due to customer and revenue growth during the period.

Depreciation and amortisation costs rose by 13.3% y.o.y in 2005 to Euro 1,060 million, due to the increase of Euro 104 million in the contribution of Vivo to consolidated D&A. The increase in Vivo’s D&A costs is primarily due to the impact of the Real appreciation against the Euro (Euro 64 million), and the allocation of goodwill generated in the tender offers of Vivo subsidiaries at the end of 2004 to an intangible asset (telecommunication licenses held by these companies) that is being amortised over the remaining period of those licences. This cost item accounted for 16.6% of consolidated operating revenues.

Net Income

Net income amounted to Euro 654 million in 2005, an increase of 4.9% y.o.y, underpinned by the positive impact of the gain of Euro 174 million related to the disposal of an investment in UOL, notwithstanding the increase in workforce reduction costs.

Workforce reduction programme costs amounted to Euro 314 million in 2005, as a result of the reduction of 1,272 employees in the wireline business. This curtailment cost item includes the net present value of salaries to be paid to pre-retired employees up to retirement age and the net present value of future service costs for early retired and pre-retired employees.

Other non-recurring costs amounted to Euro 18 million in 2005, as compared to Euro 84 million in 2004. This decrease is primarily explained by the following non-recurring costs recorded in 2004: (1) a provision of Euro 26 million in the Pay-TV business related to the dismantling of the analogue premium channels offer; (2) a provision amounting to Euro 12 million for certain contingencies at PT Multimedia; and (3) an expense of Euro 10 million incurred in the wireline business for the settlement of a litigation case with DECO (the Portuguese consumer association).

Net interest expenses amounted to Euro 258 million in 2005, as compared to Euro 205 million in 2004. In 2005, net interest expenses related to the net debt of PT excluding Brazil increased by 30.0% y.o.y to Euro 156 million, as a result of: (1) the increase in average net debt in the period, and (2) the higher cash balances, following the refinancing earlier in 2005, partly to repay the February 2006 Eurobond (annual coupon of 5.75%) . In 2005, Vivo’s contribution to PT’s interest expenses increased by 19.8% to Euro 102 million due to the appreciation of the Real against the Euro during the period and higher CDI levels. In

local currency, Vivo’s interest expenses increased by 0.2% during the period. The net interest expenses in 2005 were equivalent to an average cost of debt, including debt in Brazil, of approximately 6.6% . Excluding Brazil, the average cost of debt was 4.7% in 2005.

Net foreign currency gains increased to Euro 41 million in 2005, as compared to losses of Euro 4 million in 2004, primarily as a result of the evolution of the Real/Dollar and Euro/Dollar exchange rates over the period. The gains recorded in 2005 are mainly related to: (1) the depreciation of the US dollar against the Real, which led Vivo to record gains in connection with its US Dollar debt not swapped into Reais, and (2) the depreciation of the Euro against the US Dollar, which generated gains in connection with the inter-company loans (denominated in US Dollars) granted to Vivo in previous years that had been fully repaid by the end of 2005.

Net losses on financial assets amounted to Euro 9 million in 2005, as compared to net gains of Euro 12 million in 2004. This caption includes mainly gains and losses on certain derivative contracts, namely: (1) equity swap contracts on PTM shares (net gains of Euro 26 million in 2005, as compared to Euro 54 million in 2004), (2) Vivo’s free-standing cross currency derivatives (net losses of Euro 50 million in 2005, as compared to net losses of Euro 34 million in 2004), and (3) PT’s free-standing cross currency derivatives (net gains of Euro 14 million in 2005, as compared to net losses of Euro 12 million in 2004).

Equity accounting in earnings of affiliated companies in 2005 amounted to Euro 238 million, compared to Euro 21 million in 2004. The improvement in this caption of Euro 214 million is primarily explained by: (1) the gain of Euro 174 million related to the restructuring of PT’s investment in UOL and the subsequent disposal of a portion of the investment (16%), following the IPO of this associated company occurred in Brazil during December 2005, and (2) the increase in the earnings of Unitel (from Euro 17 million to Euro 51 million), CTM (from Euro 11 million to Euro 16 million) and Médi Télécom (from a negative Euro 6 million to a positive Euro 3 million).

Other financial expenses amounted to Euro 64 million in 2005, as compared to Euro 56 million in 2004 and includes banking services, commissions, financial discounts and other financing costs.

Provision for income taxes increased to Euro 384 million in 2005, from Euro 210 million in 2004, primarily as a result of the initial recognition in 2004 of a deferred tax asset of Euro 103 million in connection with tax losses carried forward at PTM. Adjusting for this one-off effect in 2004, the effective tax rate would have increased from 34.4% to 36.5%, mainly as a result of the increase in net losses at certain Vivo subsidiaries during the period that did not generate the recognition of related deferred tax assets. In 2005, this caption included a non-cash component amounting to Euro 249 million (Euro 238 million in 2004) that was recorded as a reduction of deferred taxes related to tax losses carried forward in previous years.

Discontinued operations include the results of companies that have been disposed during the reportable periods, and the after-tax gains obtained with the sale of these investments. Having announced the disposal of Lusomundo Serviços (PTM’s media business) and PrimeSys, these businesses were reported as

discontinued operations in the consolidated income statement for the years 2004 and 2005, in accordance with IFRS rules. As a result, the earnings of these companies were included in this caption until the effective date of the disposals, which were concluded on 25 August in the case of Lusomundo Serviços and on 25 November in the case of PrimeSys. In 2005, discontinued operations also included the gain of Euro 16 million from the sale of Lusomundo Serviços (net of a provision recorded in the fourth quarter of 2005 of Euro 19 million in connection with potential liabilities related to the closing of the deal) and a gain of Euro 4 million from the sale of PrimeSys. In 2004, discontinued operations included the earnings of Lusomundo Serviços and PrimeSys for the full year, the earnings of Mascom until 7 September (date of effective disposal) and the gain of Euro 23 million related to the sale of Mascom.

Income applicable to minority interests decreased to Euro 35 million in 2005, from Euro 102 million in 2004, primarily as a result of the decrease in income applicable to minority interests of: (1) Vivo subsidiaries, from income of Euro 38 million in 2004 to losses of Euro 11 million in 2005, and (2) PTM, from Euro 52 million in 2004 to Euro 34 million in 2005.

Total capex increased by 23.9% y.o.y in 2005 to Euro 943 million, as a result of an increase across all business divisions, as well as the appreciation of the Real against the Euro during the period (Euro 60 million). On a constant currency basis, capex would have increased by 16.0% y.o.y in the period. Total capex was equivalent to 14.8% of consolidated operating revenues.

Wireline capex increased by 12.7% y.o.y in 2005 to Euro 233 million, equivalent to a capex to operating revenues ratio of 10.5% . This capex increase was mainly related to the strong investment in broadband coverage and customer bandwidth, as well as outsourcing contracts to the corporate segment.

TMN’s capex increased by 9.8% y.o.y in 2005 to Euro 170 million, equivalent to 10.9% of operating revenues, primarily as a result of the acceleration of 3G capex. 3G-related capex represented 48.5% of TMN’s network capex.

PT’s share of Vivo’s capex increased by 36.7% y.o.y in 2005 to Euro 361 million, corresponding to 17.7% of operating revenues, primarily as a result of the appreciation of the Real against the Euro during the period (Euro 59 million). Vivo’s capex, in local currency, increased by 14.3% y.o.y, as a result of the investment in: (1) capacity expansion; (2) rollout of 1xRTT and EV-DO; (3) CDMA overlay in the regions of CRT and TCO, and (4) information systems mainly related to billing, CRM and ERP.

In 2005, PTM’s capex increased by 63.8% y.o.y to Euro 120 million, equivalent to 19.1% of operating revenues. The increase is mainly explained by: (1) the capitalisation of Euro 33 million corresponding to the discounted rents of additional transponders to be used in the Pay-TV business for its satellite and premium services, and (2) the investments in new information systems, namely in billing and customer care. In 2004, PTM had capitalised Euro 19 million relating to transponders.

Other capex decreased by 5.1% y.o.y in 2005 to Euro 59 million. This caption included mainly capex related to IT expenditures and the rollout of Corporate SAP across all of PT’s businesses in order to improve efficiency in back-office processes. This caption also includes capex related to fully consolidated businesses not included in the main segments.

EBITDA minus Capex increased by 72.4% in the fourth quarter of 2005. In 2005, EBITDA minus Capex totalled Euro 1,552 million, a decrease of 3.1% y.o.y, as a result of the increase in capex across all business divisions that offset the increase in consolidated EBITDA of 5.6% occurred in 2005. On a combined basis, the domestic businesses (wireline, TMN and PTM) accounted for approximately 95% of total EBITDA minus Capex.

In 2005, operating free cash flow decreased by 25.5% y.o.y to Euro 1,306 million, as a result of the decrease in EBITDA minus Capex and the higher investment in working capital, which changed by Euro 250 million in 2005, including Euro 36 million related to the appreciation of the Real against the Euro during the year. On a constant currency basis, the investment in working capital in 2005 was Euro 214 million and was primarily related to: (1) a decrease in accounts payable to suppliers in the domestic businesses (Euro 116 million); (2) an increase of accounts receivable and inventories at TMN (Euro 16 million), and (3) an increase of accounts receivable in Vivo (Euro 73 million).

Free cash flow increased from Euro 862 million in 2004 to Euro 1,024 million in 2005, primarily due to the increase in cash inflows from disposals (Euro 328 million in 2005, as compared to Euro 21 million in 2004), the reduction in the cash outflows related to acquisitions of financial investments (Euro 17 million in 2005, as compared to Euro 333 million in 2004) and the reduction in interest paid. These positive effects on free cash flow in 2005 were offset by the decline in operating free cash flow described above and the increase in payments related to post retirement benefits in connection with the higher level of curtailments in 2005.

The increase in assets and liabilities in 2005 is primarily related to the appreciation of the Real against the Euro during the year (Euro 1,307 million and Euro 485 million respectively), and also to the increase in cash balances following the refinancing done in 2005, which was partially used, already in 2006, to repay the February 2006 Eurobond. This refinancing led to an increase in cash and long-term debt in 2005 of Euro 2 billion.

The net exposure (assets minus liabilities) to Brazil amounted to R$ 7,678 million as at 31 December 2005 (Euro 2,798 million at the Euro/Real exchange rate prevailing as at 31 December 2005). The assets denominated in Brazilian Reais in the balance sheet as at 31 December 2005 amounted to Euro 5,402

million, equivalent to approximately 32% of total assets. More than 95% of PT’s net exposure (assets minus liabilities) to Brazil is accounted for by the 50% stake in Vivo.

The gearing ratio [net debt / (net debt + shareholders’ equity)] decreased to 54.2% at year-end 2005, as compared to 61.3% at end of last year, while the shareholders’ equity plus long-term debt to total assets ratio increased to 46.6% from 44.2% over the same period. At year-end 2005, the net debt to EBITDA ratio was 1.5 times and EBITDA cover was 9.7 times.

Consolidated Net Debt

Consolidated net debt as at 31 December 2005 amounted to Euro 3,673 million, an increase of Euro 99 million compared to year-end 2004, mainly as a result of: (1) the extraordinary contribution of Euro 300 million to fund post retirement healthcare obligations; (2) the cash outflows related to shareholder remuneration, including dividends and share buybacks, amounting to Euro 395 million and Euro 253 million respectively; (3) the cash outflows regarding the payments made by PTM to minority shareholders regarding dividends (Euro 24 million) and share buybacks in connection with the exercise of warrants (Euro 59 million), and (4) the currency translation effects on foreign currency debt totalling Euro 126 million, mainly related to Real denominated debt. These movements more than offset the Euro 1,024 million of cash flow generated in the period. Excluding the extraordinary contribution to fund post retirement healthcare obligations, net debt would have decreased by Euro 201 million in 2005.

As at 31 December 2005, 68.1% of total debt was medium and long-term, while 66.6% of total debt was at fixed rates. As at 31 December 2005, 85.9% of total debt was denominated in Euros, 1.8% in US Dollars and 12.2% in Brazilian Reais. At the end of 2005, the only loans with rating triggers (if PT is downgraded to BBB+) were four EIB loans totalling Euro 389 million, including two loans of Euro 250 million drawn down in February 2005. In addition, PT has fully underwritten and available commercial paper lines amounting to Euro 875 million, of which Euro 575 million had been drawn down as at 31 December 2005. PT also has stand-by facilities amounting to Euro 900 million, of which Euro 575 million had been drawn down as at 31 December 2005. The 50% share of Vivo’s net debt, consolidated by PT, amounted to Euro 609 million as at 31 December 2005. Approximately 90% of Vivo’s net debt is either Real denominated or has been swapped into Reais.

PT’s average cost of debt in 2005 was 6.6%, including loans obtained in Brazil and denominated in Reais. Excluding Brazilian debt, the average cost of debt in 2005 was 4.7% .

On 24 March 2005, PT issued Euro 1.5 billion of Eurobonds with maturities of 7 years (Euro 1 billion) and 12 years (Euro 500 million) and on 16 June 2005 issued a further Euro 500 million Eurobond with a 20 year maturity, as part of its balance sheet refinancing. In February 2005, PT had also drawn Euro 250 million from two 10-year loans entered into with the EIB in December 2004 and January 2005. In addition, the maturity of certain stand-by facilities totalling Euro 750 million was extended by two years. As a consequence of all these operations, PT’s net debt maturity increased to 9.2 years. Excluding Brazilian debt, the net debt maturity was extended to 10.2 years.

Post Retirement Benefits

At the end of 2005, the projected benefit obligations (PBO) of PT’s post retirement benefits including pensions, healthcare obligations and salaries to pre-retired and suspended employees amounted to Euro 5,152 million (Euro 3,274 million for pensions, Euro 913 million for healthcare benefits, and Euro 965 million for salaries to pre-retired and suspended employees). The PBO was computed based on a discount rate of 4.5% for pensions and healthcare obligations, and 3.5% for the obligations related to the payment of salaries to pre-retired and suspended employees. PT’s post retirement benefits plans are closed to new participants, covering approximately 33,200 employees (27% still in service) in the case of pensions and approximately 28,700 employees (30% still in service) in the case of healthcare obligations.

According to the rules of the ISP (“Instituto de Seguros de Portugal”, the Portuguese insurance regulator), the pension plans for retired employees have to be fully funded. PT’s pension obligations for retired employees, computed based on ISP rules, are fully funded. Regarding the funding of the pension funds for pre-retired employees and employees still in service, this can be completed until retirement age. The estimated average working life of employees still in service is 15 years. Additional funding of the pension funds is capped at 25% of the salaries of the employees included in the pension funds, for tax reasons.

In Portugal, there is no legislation covering the establishment of funds to cover post retirement healthcare benefits (Euro 913 million) and salaries to pre-retired and suspended employees (Euro 965 million). PT only has to pay for these benefits when the healthcare services are actually rendered to pensioners and a corresponding claim is charged to PT, and when salaries are paid by PT to pre-retired and suspended employees. Accordingly, there is no need to fund either of these benefits at the present time. Notwithstanding, PT created a shadow fund (PT Prestações) in March 2005 to cover the healthcare benefits with an initial extraordinary contribution of Euro 300 million.

The asset allocation as at 31 December 2005, including the assets of PT Prestações, was 36% equity, 35% bonds, 13% real estate and 16% cash and others. The effective performance of the funds in 2005 was 8.4% .

At 31 December 2005, the market value of the funds amounted to Euro 2,516 million and, as a result, the gross unfunded gap related to PT’s post retirement benefits amounted to Euro 2,636 million. In 2005, the unfunded obligations increased by Euro 314 million.

Following the adoption of IFRS and in accordance with an amendment to IAS 19 issued in November 2005, PT has decided to change the accounting policy regarding the recognition of actuarial gains and losses, which are now recognised directly in shareholders’ equity. Previously, actuarial gains and losses were deferred and amortised in the income statement (using the 10% corridor option), under the caption PRBs, during the average working life of active employees. The new policy is in line with the recently revised accounting standard on post retirement benefits in the UK, which is currently considered the best practice in accounting treatment of this matter, thus contributing towards better understanding of the balance sheet in what concerns unfunded post retirement liabilities. Post adoption of this amendment to IAS 19, PT’s balance sheet will now present an accrued post retirement liability of Euro 2.6 billion, equivalent to the gross unfunded obligations indicated above.

The curtailment cost results from the reduction of 1,272 employees during 2005, and includes the net present value of salaries to be paid to pre-retired and suspended employees up to retirement age and the net present value of future service costs for early retired and pre-retired employees.

Shareholders’ Equity (excluding Minority Interests)

As at 31 December 2005, shareholders' equity excluding minority interests amounted to Euro 1,828 million, an increase of Euro 142 million during 2005.

On 21 December 2005, PT reduced its share capital from Euro 1,166,485,050 to Euro 1,128,856,500, through the cancellation 37,628,550 treasury shares that were purchased during 2005. The number of treasury shares cancelled was equivalent to 3.0% of the initial share capital prior to the 7.0% cancellation in December 2004, thus completing the 10% share buyback announced in September 2003. PT is currently executing the share buyback approved at the AGM held in April 2005, and at December 2005 had already contracted equity swaps on 13.2 million own shares with a notional amount of Euro 102 million, corresponding to 1.17% of its share capital.

Pursuant to Portuguese legislation, the amount of distributable reserves is determined according to the standalone financial statements of the company prepared in accordance with Portuguese GAAP. Distributable reserves decreased from Euro 851 million as at year end 2004 to Euro 720 million at the end of December 2005, as a result mainly of the cancellation of treasury shares.

Distributable reserves may be negatively impacted by a depreciation of the Euro/Real exchange rate. Taking into account the level of PT’s exposure to Brazil at the end of 2005, such depreciation would only have a negative impact on distributable reserves if the Real were to depreciate against the Euro beyond Euro/Real 4.01.

At the end of December 2005, the number of staff employed by PT totalled 32,389 employees, of which 40.4% were present in Portugal. In the wireline business, the ratio of fixed lines per employee improved by 10.7% y.o.y to 583 lines reflecting the ongoing workforce rationalisation programme, while in TMN the ratio of mobile cards per employee rose by 0.6% to 4,487 cards. At the end of December 2005, the total number of staff employed by Vivo decreased by 4.2% y.o.y to 6,084 employees, with the ratio of mobile cards per employee increasing by 17.2% y.o.y to 4,899 cards.

Operating revenues decreased by 6.1% y.o.y to Euro 540 million in the fourth quarter of 2005, primarily as a result of lower traffic revenues. Excluding the impact related to lower fixed-to-mobile interconnection rates, operating revenues would have decreased by 4.6% y.o.y in the fourth quarter of 2005.

Retail revenues fell by 8.7% y.o.y in the fourth quarter of 2005 to Euro 316 million, with the increase in ADSL not being sufficient to offset the decrease in fixed charges and traffic revenues, including fixed-to-mobile revenues, which registered a significant reduction over the previous quarters. Fixed charges decreased by 2.0% y.o.y in the fourth quarter of 2005, primarily as a result of the decrease in access revenues due to line loss, offsetting the growth in pricing plans, which represented already 9.5% of fixed charges in the period. The 25.8% y.o.y decrease in traffic revenues is the result of volume declines and lower ARPM, particularly of fixed-to-mobile minutes. The decrease in fixed-to-mobile tariffs had a negative impact on traffic revenues of Euro 9 million and Euro 23 million in the fourth quarter and in full year 2005 respectively. The growing percentage of flat rate pricing plans has also had a dilutive impact on traffic revenues as these are exchanged for fixed charges. Fixed charges accounted for 53.3% of retail revenues, up from 49.7% in the same period of last year. In terms of ADSL, revenues increased by 30.6% y.o.y in the fourth quarter of 2005 to Euro 41 million, underpinned by strong customer growth.

The new price basket for 2005, approved by the regulator, came into effect on 1 July 2005 and complied with the price cap of CPI-2.75%, in terms of average annual change. As a result, the average annual change in the price of the main components of the basket was as follows: (1) line rental prices increased by 1.7%; (2) local calls prices increased by 0.5%; (3) regional calls prices decreased by 24.1%, and (4) domestic long distance calls prices decreased by 25.3% . The number of call types used in the price basket was reduced from three to two, namely local and domestic long distance, to simplify the tariff structure. In contrast to previous years, the price cap was only applied to the residential segment and not to the corporate segment.

Data & corporate revenues decreased by 0.6% y.o.y in the fourth quarter of 2005 to Euro 59 million. Adjusting for the one-off impact of the Euro 2004, data & corporate revenues would have increased by 4.4% y.o.y, underpinned by the continued improvement of the voice and data VAS offering, as well as the increased breadth of the services provided, namely in IT. Online backup security solutions and long-term outsourcing contracts continued to register a strong take-up. A new range of pricing plans for the SME segment was also introduced, with the aim of improving usage.

Wholesale revenues decreased by 2.4% y.o.y in the fourth quarter of 2005 to Euro 112 million, mainly as a result of the decrease in traffic revenues, explained by the drop in the price of international mobile interconnection and the decrease in transit traffic. In the third quarter of 2005, an agreement was reached amongst most operators aimed at facilitating the transfer of portability, pre-selection and ULL customers. The number of ULL lines stood at 72 thousand at the end of 2005, an increase of 29 thousand in the fourth quarter of 2005 against an increase of 15 thousand in the third quarter of 2005. In the fourth quarter of 2005, interconnection rates decreased by 11.0% y.o.y for call termination and 9.1% y.o.y for call origination.

EBITDA increased by 53.4% y.o.y in the fourth quarter of 2005 to Euro 360 million, equivalent to a margin of 66.7% . The increase is primarily explained by the decrease in PRBs, as a result of higher prior years service gains recorded in the fourth quarter of 2005 (Euro 137 million), as compared to the previous year (Euro 67 million).

Capex amounted to Euro 80 million in the fourth quarter of 2005, a decrease of 10.2% y.o.y and equivalent to 14.9% of operating revenues. Capex was mainly directed towards: (1) the aggressive investment in broadband both in terms of coverage and customer bandwidth; (2) client-related capex as a result of the strong growth in corporate outsourcing contracts, and (3) the deployment of a new state-of-the-art data centre aimed at providing improved data services to corporate customers. EBITDA minus Capex in the fourth quarter of 2005 amounted to Euro 280 million.

PT continued to lead the market in Portugal in terms of total minutes of outgoing traffic, number of access lines and ADSL lines, notwithstanding the significant increase in competition. This performance has been achieved as a result of the successful implementation of customer loyalty initiatives, based on product differentiation and innovation, competitive pricing offers, customer care and quality of service.

Total main lines increased by 7 thousand in the fourth quarter of 2005, boosted by the high level of net additions of ADSL retail and ULL that totalled 38 thousand and 29 thousand respectively in the period. Net disconnections of PSTN/ISDN lines totalled 63 thousand in the fourth quarter of 2005, as a result of rising competition and a weaker macroeconomic environment. Total main lines in the wireline business reached 4,478 thousand at the end of 2005, of which 3,769 thousand were PSTN/ISDN, 585 thousand were ADSL retail, 51 thousand were ADSL wholesale and 72 thousand were ULL.

ADSL retail growth continued to be robust in the fourth quarter of 2005, with the total number of customers reaching 585 thousand. Following the upgrade of customers’ broadband speeds by a factor of four, already 70% of PT’s ADSL customer base has speeds higher than 2 Mbps. Following the successful launch of PT’s instant messenger service (Sapo Messenger) in the first half of 2005, PT has also launched a softphone VoIP and Video service. Sapo Messenger had over 370 thousand users at the end of 2005.

The growth in pricing plans remained strong, with the number of pricing plans increasing by 387 thousand in the fourth quarter of 2005 to 1,795 thousand. In the fourth quarter of 2005, PT introduced new flat rate pricing plans for various time slots during the day. PT also introduced, for the first time, a monthly flat rate for on-net fixed-to-fixed calls.

Total ARPU (voice and data) decreased by 6.9% y.o.y in the fourth quarter of 2005 to Euro 32.5. Subscription and voice ARPU (PSTN/ISDN less dial-up Internet) decreased by 9.9% y.o.y to Euro 27.9, as a result of declining traffic revenues, and data ARPU (ADSL plus dial-up Internet) increased by 16.4% y.o.y, representing already 14.0% of total ARPU in the fourth quarter of 2005. ADSL ARPU was Euro 25.5 in the fourth quarter of 2005, which compares to Euro 30.9 in the same period of last year. The dilution in ADSL ARPU is explained by the increasing take-up of the prepaid product.

PT remains the leading operator in the corporate data and integrated solutions market in Portugal. In this business segment, Internet capacity sales increased by 172.2% y.o.y in the fourth quarter of 2005, as a result of the expansion of ADSL. Total data communication accesses increased by 1.4% y.o.y in the fourth quarter of 2005. Leased lines capacity to end-users increased by 1.9% y.o.y in the fourth quarter of 2005, with leased line digital capacity reaching 96.3% of the total leased line capacity.

Total traffic fell by 8.1% y.o.y in the fourth quarter of 2005, on the back of the decline of 12.8% in retail traffic and of 4.2% in wholesale traffic, which was strongly influenced by the 40.7% decrease in dial-up Internet traffic as a result of the continued broadband takeup by customers. F2F domestic traffic fell by 12.3% y.o.y in the fourth quarter of 2005. Retail MOU, which excludes carrier pre-selection lines, fell by 5.9% y.o.y in the fourth quarter of 2005 to 163 minutes. International traffic increased by 7.5% y.o.y in the fourth quarter of 2005, as a result of the strong increase in the number of calling cards.