The market knows it all

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DISCLOSURES AND DISCLAIMER AT THE END OF THE DOCUMENT PAGE 1/32 SEE MORE INFORMATION AT WWW.FE.UNL.PT

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We upgrade our price-target from last company alert by +9% to €9.05 amid revaluation of domestic businesses. Important to remark,

our base case target price compares with €10.1 when considering potential M&A in Brazil. High dividend yield of 6.4% renders a good defensive outlook for the stock in 2010.

► _{PT has the best of Latin America in its portfolio (18% of EV).}

Vivo sustains leadership in the mobile market in Brazil, while the country continues to grow strongly, underpinned by the dimension of the internal market, public finance and inflation under control and political stability. We expect FY10-FY13 revenue and EPS CAGR at +2.4% and +10% respectively, yielding a price target of R$60 for preferred shares and R$59 for common shares in FY10.

► Cash flow generation in wireline (33% of EV) to be affected by

Capex to roll-out fibre. Although execution on Pay-tv has surpassed expectations, PT will have to be very cautious on balancing subscriber acquisition and investment in infrastructure. Revenue CAGR of circa +2.1% from FY10 to FY13 will hardly filter through operating expenses and Capex in the coming two years.

► _{TMN (44% of EV) faces a very mature domestic market, with}

penetration approaching 137%. We forecast €1 560mn and €1

704mn in revenue in FY10 and FY13, respectively. Mobile broadband is expected to be the main driver in the next three years, with revenue CAGR of +16.1% vs. +3% for total revenue.

► _{According to our valuation, PT trades relatively in line with} peers in FY10, 5% below our DCF price target and 14% above our

CLV valuation. We expect PT to trade at 12.1x its EPS in FY10 and

5.9x estimated EBITDA. Above-average dividend yield should sustain PT’s relative valuation.

06JANUARY 2010

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jbgoncalves@fe.unl.pt

The market knows it all

Good ride to Brazil, though

Recommendation: HOLD

Vs Previous Recommendation SELL

Price Target FY10: 9.05 €

Vs Previous Price Target 8.30 €

Price (as of 4-Jan-2010) 8.62 €

Reuters: PTC.LS, Bloomberg: PTC PL

52-week range (€) 5.479-8.690

Market Cap (€m) 7 727.8

Outstanding Shares (m) 896.5 Free float 51.1%

Source: Bloomberg

(Values in € millions) FY08 FY09E FY10E Revenues 6 734 6 767 6 840 EBITDA 2 487 2 547 2 623 Net Profit 561 604 672 EPS (€) 0.63 0.673 0.750 DPS (€) 0.575 0.575 0.575 P/E (x) 10.1x 10.2x 12.1x Net debt/EBITDA 2.2 2.6 2.3 EV/EBITDA (x) 5.3 5.6 5.9

Source: Bloomberg Company Description

Portugal Telecom (PT) is a global telecom operator, leader in the Portuguese market. Its business portfolio is diversified among twelve countries and a wide range of segments (mobile, wireline, Pay-tv, internet, business solutions, outsourcing and information systems). PT holds 50% of Vivo, a joint-venture with Telefónica in Brazil, leader in the Brazilian mobile market. The Portuguese state has veto power upon strategic decisions of the board.

Industry view: Attractive

Industry showed resilience to the crisis and is expected to be a leading sector to global economic recovery

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PORTUGAL TELECOM COMPANY REPORT

EQUITY RESEARCH 06JANUARY 2010

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Company overview

Portugal Telecom (PT or the Group) was a state-owned company until 1995, year of the first privatization phase. Since then, four more privatization phases took place (the last in 2000) and the stake of the Portuguese state in the company wound up to the actual 500 golden shares with special veto power on strategic decisions (Exhibit 1). The company is listed in the Euronext Lisbon stock exchange, as well as in the NYSE.

Company description

PT is a global telecom operator, providing fixed and mobile telephony, paging, Internet access, IT and call-centre services, outsourcing, data communication and Pay-tv1. The company serves over 65mn customers in 12 countries2. In Portugal,

PTC (100%) and PT Prime (100%) are responsible for providing fixed telephony,

Pay-tv and internet services. TMN (100%) is the leader in the domestic mobile

market with 40.1%3_{market share in 2008, offering mobile voice and broadband}

internet services. Vivo (29.71%), PT’s most relevant holding overseas, is controlled

in 59.42% by Brasicel, a 50-50% joint-venture between PT and Telefónica. Vivo is the leader in the mobile market in Brazil and the largest telecom operator in Latin America, serving over 48mn customers. The African businesses are held under the umbrella of Africatel (75%) and comprise Unitel (Angola), MTC (Namibia), CVT (Cape Verde) and CST (São Tomé e Principe). Other investments include 41.12% stake in Timor Telecom (East Timor) and 28% in CTM (Macau).

Shareholder structure

The major shareholders of the Group are Telefónica (10%), Brandes Investments Partners (9.48%), Grupo Espírito Santo (9.34%) and Grupo Caixa Geral de Depósitos (7.28%) – Exhibit 2.

Among these shareholders, some are also business partners of the company. Visabeira has been the privileged cable provider for the roll-out of fibre, while CGD and BES are the major financial sponsors. In total, PT and its core shareholders realized joint business transactions over €200mn in 2008 (the company reported in 2008).

The core shareholders are very supportive of the management team, both on capital market decisions (dividend policy and refusal of the hostile take-over from Sonaecom in 2006), as well as in strategic terms. The company’s shareholders are responsible for appointing the remuneration board and the members of the board of directors that in turn appoints the executive commission.

1_{Commercial offer launched in 2007}

2_{Portugal, Brazil, Angola, Morocco, Mozambique, São Tomé e Príncipe, Cape Verde Islands, Namibia, Kenya, East Timor, Macau and Hungary}

3_{ANACOM, 2008,}

The state of communications in Portugal. Lisbon

Common shareholders' actions susceptible to veto from the state:

• Capital increases

• Authorization of a dividend payoff above

40%

• Issuance of bonds and other securities • Authorization of a stake above 10% for a

shareholder competing in the same sector

• Definition of investment policies • Election of the chairman of the auditing

committee and the board of the General Meeting of Shareholders

Exhibit 1: Veto power extent of the Portuguese state Source: PT’s 2008 Form 20-F

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PAGE 4/32

Investment case

Our DCF valuation resulted in a FY10 price target of €9.05/share, implying a 5%

upside potential from PT’s closing price on the 4th_{of January. The new valuation}

represents a 9% revision from previous target, echoing more optimistic prospects for the domestic wireline business (new FY10 market share in Pay-tv of 24.1% against 22.3% and 50.1% in FY18 vs. old estimate of 40.4%).

Executive summary

The present report comprises our valuation of PT and Vivo. We use both Discounted Cash Flow (DCF) and Customer Life Time Value (CLV)4 to value the Group and analyse the impact of a potential bid for Vivo from Telefónica on the value of PT. The last section comprises an outlook for the European industry for 2010-2013, with main trends, regulatory moves and economics of major operators.

Operating execution

Performance in the domestic market has been solid, sustained by triple-play and

mobile data solutions. Pay-tv continues to present strong growth, with 62k net adds in 3Q09 (vs. 59k in 2Q09, 72k in 1Q09, 101k in 4Q08 and 95k in 3Q08), showing a slight deceleration from FY08, as expected. Towed by “Meo”5_{, net disconnections in}

fixed telephony slowed down to 14k in 3Q09 (vs. 35k in 2Q09, 30k in 1Q09, 32k in 4Q08 and 34k in 3Q08). Regarding wholesale, we expect net disconnections to reach 26k in FY09 and 12k in FY10, maintaining the downward trend initiated in end-2007. Revenue is expected to be flat in FY09 vs. FY08 (~0.06%), which represents a reversal from historical decreases of 1.58% in FY08 and 5.28% in FY07. For coming years, we expect PT to reaffirm its leading position in wireline6_{and the market to}

present very attractive prospects, reason why Vodafone, the second mobile player in Portugal, launched its first offers in this market7_{in 2009.}

TMN reinforced its position as leader in the mobile market, reaching 7mn

subscribers for the first time in 3Q09. The data segment has been the most dynamic, with revenue growing 3% in 9M09 versus 9M08, while overall revenue decreased by 4.7% in the same period (driven by -31.8% in interconnection revenue). Data accounted for 23.4% of total revenue in 9M09 and is expected to reach 1/3 by FY14, underpinned by the recent launch of the first smartphone with Windows software in Portugal and the investment in HSPA+ and MIMO technologies which will allow 28.8Mb speed in mobile broadband (against current maximum of 21.6Mb). Likewise, we expect revenues to speed up in FY10 and FY11 (2% and 2.5%, respectively), reversing from -4% in FY09 (yoy). Regarding regulation, the European Commission (EC) imposed significant changes on pan-European roaming tariffs in last June, with

4_{Even though we apply CLV to value the company, our recommendation is based on the price target calculated using DFC as the CLV methodology is still}

germinal and, therefore, is thought to be in the early stage of the learning curve

5_{PT’s triple-play product}

6_{~70% share of market revenue according to the EU, Progress report on the single European electronic}

communications market, 2008

7_{Commercial offers, using IPTV (Internet Protocol TV) technology}

Performance in Pay-tv exceeded expectations amid strong market evolution with customer growth approaching 10.3% yoy and 2% qoq in 3Q09

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PAGE 5/32 SMS tariffs slashed to €0.11 (from average of €0.28), while voice prices dropped to €0.43/min for making a call and €0.19/min for receiving it. Data charges for wholesale were capped at €1/megabyte.

Vivo is in our opinion the main trigger for PT. In the last two years, Vivo was able

to sustain its market share - at 29.3% in FY09 (from 29.8% in FY08 and 36.7% in FY07) - despite fierce competition from Claro, TIM and Oi (with 25.5%, 23.7% and 20.9% market share in 11/2009, respectively8) through the roll-out of free SIM cards. After completing its expansion to the Northeast states in October 2008, the company now covers the entire territory with a network based on up-to-date technology9. The market is by far one of the most vibrant in the world (5% average growth in active users in the past ten quarters vs 3.5% world average according to ITU World Communications - WTI), with a penetration rate of 87%10_{in 3Q09 (vs 70% estimated}

average in the world, WTI reports), well below the 137% in Portugal. Vivo reported over 48mn customers in 3Q09 (15.5% yoy and 4.3% qoq) and is expected to reach 54mn in FY10. Revenues showed resilience to the economic turmoil (0.3% yoy and 3.9% qoq in 3Q09) and are forecasted to reach R$16 091mn in FY09 (4% yoy) and R$16 113mn in FY10. The Brazilian economy is also one of the fastest growing, with nominal GDP expected to grow 3.5% for FY10-F12, according to the IMF11_{. Sport}

events in 2014 and 2016 are anticipated to boost the economy and the telecom industry, specially what concerns sales of handsets and roaming calls.

Debt position

According to our estimates PT should be operating at 2.6x and 2.3x Net debt/EBITDA (above current market average of 2x) in FY09 and FY10, respectively, plus 0.48x and 0.45x of net unfunded post retirement liabilities in the same years12_.

Despite this, we anticipate no need for capital increase since according to our projections, the company will be able to generate enough cash in the future with consolidated gross debt expected to approach €6 837mn (Exhibit 3) and Net Debt/EBITDA to stand at 1.7x in FY18. Capex efforts in 2009 were partly funded with €750mn raised through the issuance of a 10Y Eurobond (5% coupon rate and a spread of 145bps over 10Y mid swaps).

Shareholders’ remuneration

Since 2007, PT has been very aggressive on shareholders’ remuneration. Dividend yield in 2007 and 2008 stood at 5.3% and 9.5%, respectively, one of the most generous remuneration policies in the sector (Exhibit 4 presents dividend evolution). PT has also rolled-out a share buyback program in the aftermath of the attempted hostile takeover from Sonaecom, acquiring 16.5% of its capital from 2007 to 2009.

8_{According to Teleco.com}

9_{Vivo has also been investing in GSM/EDGE and WCDMA/HSUPA technology to support accelerated the growth} 10_{According to ANATEL, the Brazilian regulator}

11_{World Economic Outlook Database, October 2009 Edition} 12_{Considering 6% expected return on funds for the coming years}

PT's consolidated

gross debt €mn 2007 6 217 2008 6 696 2009E 7 861 2010E 7 384 2011E 7 337 2012E 6 700 2013E 6 373 2014E 6 036 2015E 5 763 2016E 6 415 2017E 6 570 2018E 6 837

Exhibit 3: PT’s debt position

Source: NOVA ER estimates

Mobile users in Brazil have been growing sequentially at an average of 5% in last ten quarters (vs. 3.5% world average). For coming years, we anticipate yoy a growth rate in active mobile

subscribers of 14%, 7.3% and 4.6% in FY09, FY10 and FY11, respectively

PT presents one of the most attractive dividend

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PAGE 6/32

Year Performance

2002 -24.9%

2003 21.5%

2004 15.0%

2005 -6.1%

2006 15.4%

2007 -9.2%

2008 -25.0%

2009 31.9%

Exhibit 5: PT market performance Source: Bloomberg

The company’s dividend policy for the next three years was already approved by the shareholders, setting an annual dividend per share of €0.575, corresponding to a dividend yield of 6.7% at closing price on 4th_January.

However, regarding market performance, if we analyse the past eight years (Exhibit 5), shareholders were able to get positive capital returns in only four, including the year of the hostile takeover, yielding a compounded capital return of merely 2.2% from 2002 to 2009.

A defensive move towards FTTH

PT outlined its plans for the roll-out of Fibre-to-the-home (FTTH) in April, setting a target of 1mn houses covered by YE09, corresponding to 22%13_{of the number of}

houses with TV in Portugal. The investment in fibre was revised in November to €715mn, 11% above the budgeted Capex in legacy infrastructures.

Without doubt, optical fibre14 will be the end game of Internet and TV delivery. The main advantages of fibre over traditional copper or DSL15 include signal stability, fewer transmission losses and higher transmission capacity, allowing for 1 million times more speed than traditional cable. The main alternatives to fibre are coaxial cable (used by ZON, ~58% of active subscribers) and IPTV.

The first two operators rolling-out fibre in Portugal were Clix (February 2008) and Oni (January 2009). According to ANACOM, there already were 731k households covered by optical fibre by 3Q09, a remarkable penetration not followed by commercial offers that are still dominated by legacy technologies (Exhibit 6).

Exhibit 6: Market share of broadband offers per technology in Portugal 2007-2008. Source: ANACOM

In fact, of the total households covered in 2008, only 36k (estimated 65k in 3Q09 based on 38k reported by ZON16 and 58% market share for this operator) households were users of one of the two high-speed technologies17_{and 13.3k}18

used fibre (we estimate PT to reach 7k in FY09).

13_{There are in Portugal circa 3,5 mn first-homes and 1,7 mn second-homes, of which 87% of the total have access to TV}

14_{Technology that carries electrical impulses converted into light and then re-converted back to electrical impulses at destination (customer home)} 15_{Digital Subscriber Line}

16_{ZON’s 3M09 Results release}

17_{The other technology is EuroDOCIS 3.0, which consists in the upgrade of traditional coaxial cable and is offered by ZON} 18_{Taking corporate customers into account, the number for fibre rises to 14k at the end of the same period}

Exhibit 4: PT’s dividend/share history

Source: 2008 company report

Target of 1 million houses covered with fibre by the end of 2009 is expected imply initial investment in YE09 of €715mn

Regarding Digital Terrestrial Television (DTT), PT

announced reopening of negotiations for investment in the infrastructure for Pay-tv channels (Multiplexers B to F) with ANACOM – remember that the tender concerning these Muxes, which leased the market to PT was judicially contested by competitors. Regarding free-to-air

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PAGE 7/32

We are sceptical on PT’s ambitious plan for three reasons:

1. Massive roll-out of fibre puts pressure on cash flow preservation in 2009 and

2010, which has been the main concern of European operators in the current

conditions. Contrasting to PT, they opted for the most cost-effective solution, maximizing existing copper infrastructure to deliver IPTV services. Even though this Capex in fibre has little impact in our valuation (demonstrated later), it is difficult to sell it to both the credit and capital markets. We remember that PT issued two Eurobonds in 2009, the first in April and the second in October with a yield of 345bps and 145bps above mid swap rate, implying a total yield of ~6.08% and ~4.71%, respectively (compared with a reported cost of debt excluding Brazil of 4.3% in FY08). Two explanations for the higher cost of debt arise: (1) the market perceives the investment in fibre as riskier than previous projects; (2) it was a consequence of the economic turmoil and in that case the company should have delayed the investment (given that its future competitive position would not be threatened as shown in point 2).

2. We are less optimistic on demand for very-high speed in the near-future than the management. Although we recognise fibre will indeed dominate, it will take a

long time for the investment to pay-off. We remind EuroDOCIS 3.0 offered by ZON has a capacity of up to 100 Mbps and thus only when the market demands superior speeds, will fibre excel over other technologies. Until then, we see this investment to be rather defensive in competitive terms. On top of this, we believe the main driver of demand for higher speed will be the content industry, a sector where PT has no presence at all and hence has a very limited power to make things happen.

As shown in Exhibits 7 and 8, the speeds most used by the market go only up to 30 Mbps (which is theoretically the maximum copper can handle), with a cumulative market share of 99.9% and 99.8% in 2007 and 2008, respectively.

Exhibits 7 and 8: Market share of broadband offers in Portugal, 2007-2008. Source: ANACOM

From this analysis we also learn that the market is moving very slowly, as the share of speeds above 30 Mbps only increased by 0.1% from 2007 to 2008 (while installed capacity of optical fibre increased from 2% to 9% of total as shown in Exhibit 6).

In a study presented by Grant, Robert M., Contemporary Strategy Analysis, 5th Edition, Blackwell Publishing, Malden, 2005, 341, based on Teece, David, The

Competitive Challenge: Strategies for Industrial Innovation and Renewall, Cambridge Ballinger, 1987, 186-188, from eighteen very successful product

segments (from coke to ink jet printer), only in four of them the leader (meaning the first operator presenting the technology) succeeded. In all the rest (except for plain-papper copier, where Xerox and Canon seem to compete face-to-face) the follower outpaced the innovator. Although PT is not the leader in fibre in this sense (as it was not the first entering the market), it is without doubt the most aggressive operator at such an early stage and therefore bears the same risks the operators presented in the study above Major European operators stepped away from

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3. European regulator has already signalled obligation to infrastructure sharing for significant market power (SMP) operators. Though legislation on fibre is still

incipient, the EC, on its Draft from 06/2009 on regulated access to Next Generation Access Networks (NGA), has already defined the relevant markets concerning NGA networks: Market 4 (wholesale network infrastructure access) and Market 5 (wholesale broadband access). As the Commission puts it, “demand and supply-conditions are expected to change significantly at both wholesale and retail level [...]

Therefore, new remedies may need to be imposed”. The first of these remedies

concerns access to civil engineering infrastructure (the so-called dark fibre) for the

deployment of parallel fibre networks (already used by ZON up to the local loop) and that should be granted at a price accommodating no risk premium from that of existing copper infrastructures. As far as the local loop is concerned, the recommendation of the EC is still vague but mandates national regulatory authorities (NRAs) to build on their experience with copper local loop unbundling (LLU) and to require the SMP operator to specify the conditions to grant access to other operators (which have to be the same as the imposed by the SMP operator to its downstream arm, so that competitiveness in the downstream market is not compromised). This should include the definition of a cost-oriented access price, implying a reasonable

return on the capital employed. Therefore, it is going to be the ability of PT to negotiate the appropriate price that will determine the future position of ZON in this market. On LLU, the EC also wants to ensure the SMP operator provides access to the local loop at a point in the network where the new entrant can still achieve efficient scale to be competitive.

All in all, we have no doubt fibre will dominate in the future despite the inherent technological risk. What we put at stake is the timing of the investment and the lack of cooperation among internal players towards joint investments and risk-sharing. By sharing the burden, PT could have preserved its cash flow in 2009 and 2010 and, therefore, avoided the recent issuance of debt. We remember that depending on the remuneration defined by the regulator, there can be arbitrage opportunities for the major competitors in the fibre market. Under the scenario of obligation to infrastructure sharing, these players would pay WACC plus a spread to PT for

access to the network, and therefore entering the retail market (which historically presents higher returns than the wholesale19). In the extreme case (where competitors get the entire retail market using PT’s network), they would have access to retail returns and pay WACC plus spread to PT, while PT would get WACC plus

spread and pay WACC. Only in the case where this spread is higher than the

difference between WACC plus spread and the retail return PT would be better-off

than competitors.

19_{We estimate PT’s RoIC including goodwill at 12% and 16% in 2010 and 2011, respectively, which is structurally driven by the retail market as the wholesale}

market commonly pays WACC (plus a small spread in some cases).

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Operating execution

Exhibit 9 summarizes the core estimates underpinning our valuation.

€ mn20 FY08 FY09E FY10E FY11E FY12E FY13E FY18E CAGR21

Consolidated revenue 6 734 6 767 6 840 6 980 7 134 7 308 8 539 3.2%

Wireline 1 931 1 932 1 887 1 917 1 946 2 010 2 433 3.9%

TMN 1 593 1 529 1 560 1 599 1 646 1 704 1 960 2.8%

Vivo @50% 3 040 3 118 3 163 3 199 3 237 3 243 3 582 2.0%

Consolidated EBITDA 2 487 2 547 2 623 2 700 2 816 2 907 3 590 4.4%

Wireline 842 704 655 683 711 722 933 5.3%

TMN 682 670 669 681 706 732 842 2.9%

Vivo @50% 900 968 878 879 901 900 1 047 3.1%

EBITDA margin 36.9% 37.6% 38.4% 38.7% 39.5% 39.6% 42.0% +2.4pp

Wireline 43.6% 36.4% 34.7% 35.6% 36.5% 35.9% 38.4% +2.5pp TMN 42.8% 43.8% 42.9% 42.6% 42.9% 42.9% 43.0% +0.1pp Vivo @50% 29.6% 31.1% 27.8% 27.5% 27.8% 27.7% 29.2% +1.5pp

Depreciation 1 268 1 384 1 256 1 107 971 1 035 1 207 3.1%

EBIT 1 063 1 030 1 233 1 458 1 710 1 727 2 248 5.4%

EBT 914 940 989 1 227 1 502 1 532 1 834 3.2%

Net income 561 604 672 844 1 036 1 063 1 246 2.7%

Consolidated Capex 1 462 1 202 1 291 1 155 1 031 1 102 1 307 3.5%

Wireline 403 493 485 436 373 391 473 3.9%

TMN 245 178 270 208 173 217 249 2.8%

Vivo @50% 744 459 452 414 373 366 378 0.6%

Africa 71 75 85 97 112 129 207 10.0%

Cash flow to investors22

Wireline -151 -89 154 241 323 319 451 7.2%

TMN 935 11 263 348 400 374 420 2.4%

Vivo @50% -581 150 233 290 319 324 423 4.5%

Africa 83 116 126 145 166 191 308 10.0%

Exhibit 9: Core estimates per business segment Source: Nova ER estimates, company reports Our estimates for the underlying EUR/BRL exchange rates follow:

FY08 FY09E FY10E FY11E FY12E FY13E FY18E CAGR

EUR/BRL 2.674 2.760 2.691 2.727 2.782 2.813 3.081 1.8% Exhibit 11: EUR/BRL estimates. Source: Nova ER estimates, Banco de Portugal

Domestic Operations - Wireline

PT is undertaking a structural revolution on its wireline business. The company is building the basis for the future and is well ahead of both international incumbents and domestic competitors. Bundled offers will continue to be the main driver, with emphasis on the Pay-tv offer. Meo has been doing substantially better than both ours and PT’s forecasts, reporting 62k net adds in 3Q09 (+31.9% above our estimates but -34.8% yoy), driving ADSL net adds up 12.7% yoy in the same quarter. We find the Pay-tv market very attractive and expect PT to consolidate its position (Exhibit 13 and 14).

Market data FY07 FY08 FY09E FY10E FY11E FY12E FY13E FY18E CAGR

TV Customers ('000) 2 014 2 286 2 469 2 672 2 769 2 859 2 937 3 245 2.0%

% First homes23 _{54.3% 61.6% 66.4% 71.7% 73.5% 75.1% 76.4% 80.3% +3.9pp} % Total homes 37.5% 42.5% 45.9% 49.5% 50.8% 51.9% 52.7% 57.1% +4.4pp

PT's share 1.0% 13.7% 21.5% 24.1% 26.1% 29.3% 32.5% 50.1% +17.6pp

ZON's share 78.4% 72.3% 65.5% 64.9% 63.9% 60.7% 57.5% 39.9% -17.6pp

Market of PT ('000) 21 312 530 643 722 837 953 1 625 11.3%

PT share of net adds 26.0% 110.3% 119.1% 55.7% 80.9% 128.1% 149.8% 305.9% +156pp Exhibit 13: Pay-tv market base estimates. Source: Nova ER estimates, company reports

20_{Sum-of-the-parts might not be equal to consolidated due to intra-group transactions, Africa and other holdings and consolidation procedures}

21_(X t/Xt-n)1/n-1 22

Operating cash flow (EBIT minus taxes plus change in non-cash items) minusinvestment cash flow (Capex minus financial revenues plus changes in other assets and liabilities)

23_{Penetration in first homes, calculated with a base estimate of 3.7mn first homes in FY09 and growing at the population growth rate of}

Exhibit 10: Past and forward consolidated revenue and EBITDA evolution from FY07 to FY12E, per quarter Source: company reports, NOVA ER estimates

Exhibit 12: Past and forward EUR/BRL exchange rate Source: Banco de Portugal, NOVA ER estimates

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PAGE 10/32 • Although net adds in Pay-tv are expected to decline as churn increases, we estimate PT to be able to increase its customer base in FY10 by 21.3% (vs FY09), reaching 643k, underpinned by strong market performance. Exhibit 15 presents our estimates for the evolution of the wireline customer base.

Wireline operating KPIs FY08 FY09E FY10E FY11E FY12E FY13E FY18E CAGR

Main accesses ('000) 4 302 4 550 4 681 4 792 5 056 5 324 6 756 4.9%

Retail accesses 3 867 4 142 4 285 4 408 4 684 4 964 6 456 5.4% PSTN/RDIS24_{(voice lines)} _{2 828 2 748 2 663 2 614 2 638 2 661 2 679} _0.1% Traffic generating lines25 _{2 654 2 613 2 557 2 515 2 546 2 576 2 629} _0.4% Carrier pre-selection lines26 ₁₇₄ ₁₃₅ ₁₀₆ ₉₉ ₉₂ ₈₅ _{50 -10.1%} ADSL retail 727 864 979 1 072 1 210 1 350 2 152 9.8%

Tv customers 312 530 643 722 837 953 1 625 11.2%

DTH and IPTV27 ₃₁₂ ₅₂₃ ₅₉₃ ₆₀₅ ₅₇₅ ₄₉₉ ₁₇ _ns

FTTH28 ₀ ₇ ₅₀ ₁₁₇ ₂₆₁ _{455 1 608} _28.7%

Wholesale accesses 434 408 396 384 372 360 300 -3.6%

Unbundled local loop lines 306 295 289 283 277 271 241 -2.3% Wholesale line rental (WLRO) 76 59 54 49 44 39 14 -18.5%

ADSL wholesale 53 54 53 52 51 50 45 -2.1%

Net additions ('000) 125 253 131 111 264 268 285 1.3%

Retail accesses 184 278 143 123 276 280 297 1.2%

PSTN/RDIS (Voice lines) -182 -94 -85 -49 24 23 -5 ns Traffic generating lines -119 -56 -56 -42 31 30 2 -43.3% Carrier pre-selection lines -63 -39 -29 -7 -7 -7 -7 ns

ADSL retail 75 155 115 93 137 140 165 3.3%

Tv customers 291 218 113 79 115 117 138 3.4%

DTH and IPTV 291 213 70 12 -29 -77 -81 1.1%

FTTH 0 5 43 67 144 193 219 2.5%

Wholesale accesses -59 -26 -12 -12 -12 -12 -12 ns

Unbundled local loop lines 15 -11 -6 -6 -6 -6 -6 ns

Wholesale line rental (WLRO) -65 -16 -5 -5 -5 -5 -5 ns

ADSL wholesale -10 1 -1 -1 -1 -1 -1 ns

RGUs29

1.4 1.5 1.6 1.7 1.8 1.9 2.4 5.2%

ARPU (Euro) 30 29.55 30.65 31.16 30.61 32.91 33.16 35.75 1.5%

Exhibit 15: Wireline customer base estimates Source: Nova ER estimates

• As bundled offers spread (Exhibit 16), we expect ADSL customers to track evolution on Pay-tv, reaching near 1mn subscribers in FY11, the same for traffic generating lines for which we anticipate net disconnections to slow down in the upcoming years, from 56k in FY09 to 42k in FY11. Overall, retail RGUsare expected to evolve to 1.6 in FY10, 1.7 in FY11 and 2.4 in FY18. As for 2018, this reiterates our faith on bundled offers, with PT being able to sell on average 2.4 products per client, based on strong cross-selling efforts. Accompanying increase in RGUs, we expect ARPU to go up, from €30.65 in FY09 to €31.16 in FY10 (+1.7% yoy).

Bundled offers31

FY08 FY09E FY10E FY11E FY12E FY13E FY18E CAGR

Single-play 74.1% 68.1% 62.6% 58.1% 52.9% 47.6% 12.5% -35.1pp Double-play 14.7% 12.2% 12.6% 13.4% 14.1% 14.9% 19.7% +4.8pp Triple-play 11.0% 19.3% 24.1% 27.6% 31.7% 35.8% 60.6% +24.8pp Quadruple-play 0.2% 0.4% 0.6% 0.9% 1.2% 1.6% 7.2% +5.5pp Exhibit 16: Share of bundle offers in PT portfolio (as % of retail clients) Source: Nova ER estimates

• According to our forecasts, the wholesale unit continues losing track, both on wholesale access and carrier pre-selection, a consequence of PT’s performance in the retail market and roll-out of infrastructure by competitors, with WLRO and carrier

24_{Public Switched Telephone Network – the traditional telephony service over copper/ Digital Network with Service Integration - a digital network that allows}

simultaneous transmission of voice and data over a fixed line

25_{Direct users}

26_{Indirect users – clients that use the network of other player but chose PT as voice calls provider} 27_{DTH – Direct To the Home, is the traditional satellite technology/ IPTV – Internet Protocol TV}

28_{Fibre To The Home}

29_{Revenue Generating Units (number of revenue sources per access, measured by total retail accesses divided by voice line clients - direct and pre-selection)} 30_{Average Revenue Per Unit}

31_{Single play includes only fixed voice, Double-play includes fixed voice and broadband internet, Triple-play includes fixed voice, broadband internet and Pay-tv}

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PAGE 11/32 pre-selection being the most damaged (54k in FY10 vs. 59k in FY09 and 106k in FY10 vs. 135k in FY09, respectively).

• Overall customer base will evolve strongly (Exhibit 17) in next years compared with the past (4 681k in FY10 vs. 4 550k in FY09 and FY13-18 CAGR of +4.9%). Despite strong customer acquisition, we expect the monetization of this growth to be rather weak. Competition is likely to maintain pressure on EBITDA margins (Exhibit 18), offsetting reduction on programming costs. PT will have to be very careful on balancing price discounts, acquisition promotions and investment in the wireline division to be able to attain sustainable cash flow generation.

Wireline operating data FY08 FY09E FY10E FY11E FY12E FY13E FY18E CAGR

Operating Revenues 1 931 1 932 1 88732

1 917 1 946 2 010 2 433 3.9%

Retail 953 973 937 959 990 1 044 1 355 5.4%

Wholesale 488 491 478 465 453 442 391 -2.4%

Data & corporate 287 299 316 318 322 335 422 4.7%

Other wireline revenues 203 169 156 176 181 189 265 6.9%

Operating costs, excluding D&A 1 089 1 228 1 232 1 234 1 235 1 288 1 500 3.1%

Wages and salaries 227 231 232 234 236 238 248 0.8%

Post retirement benefits (PRBs) 45 88 89 89 89 89 89 0.0%

Direct costs 391 404 390 338 338 335 378 2.5%

Commercial costs 113 113 123 148 147 162 213 5.6%

Other operating costs 314 393 397 424 425 464 571 4.3%

EBITDA 842 704 655 683 711 722 933 5.3%

EBITDA pre PRBs 887 792 744 772 799 811 1 022 4.7%

Depreciation and amortization 366 381 436 393 335 352 425 3.9%

Income from operations 477 324 219 290 375 370 508 6.5%

EBITDA margin 43.6% 36.4% 34.7% 35.6% 36.5% 35.9% 38.4% +2.5pp EBITDA margin pre PRBs 45.9% 41.0% 39.4% 40.3% 41.1% 40.3% 42.0% +1.7pp

Capex 403 493 485 436 373 391 473 3.9%

Capex as % of revenues 20.9% 25.5% 25.7% 22.8% 19.1% 19.4% 19.4% +0pp EBITDA pre PRBs minus Capex 484 300 259 336 427 420 550 5.5% Exhibit 18: Wireline operating data estimates Source: Nova ER estimates

We forecast revenue to increase to €1 946mn in FY12 vs. €1 887mn in YE10 and to reach a FY13-FY18 CAGR of 3.9%, mainly underpinned by growth in retail and Data & corporate. Revenue performance in 2010 and 2011 reflect tough economic prospects countrywide. EBITDA margin should drop to 34.7% in FY10 (36.4% in FY09), as we anticipate customer acquisition to be based on aggressive pricing while operating costs should approach revenue growth as Meo reaches critical mass and customer support-related costs decrease. On Capex we are very conservative as current investment in fibre is at least 57% customer related according to the company, implying growth in customer base to drive a considerable part of Capex33. On depreciation, it will be led by current investment in fibre, as well as terminal equipment.

Domestic Operations - Mobile

Despite strong competition and market maturation, we believe TMN will continue delivering attractive operating performance. We expect ARPU to go up to €16.7 in FY10 vs. €16.1 in YE09, with a FY13-FY18 CAGR of 3.0%, mainly underpinned by customer-related revenue. ARPU from interconnection loses track after FY10 as

32_{Already incorporates the announced 10.5% drop in fixed voice prices for 2010}

33_{The bulk of the investments in fibre are related to the local loop as PT decided to roll-out fibre to the home of each customer}

Exhibit 17: Wireline customer base evolution vs. net adds Source: company reports, NOVA ER estimates

Until PT does not embrace aggressive cross-selling to its newly acquired

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PAGE 12/32 MRT should be revised by the regulator (Exhibit 20 for ARPU scheme in the market). A summary follows in Exhibit 19.

TMN operating KPIs FY08 FY09E FY10E FY11E FY12E FY13E FY18E CAGR

Customers (K) 6 944 7 099 7 136 7 173 7 199 7 225 7 313 0.2%

Net additions 683 155 37 37 26 26 10 -17.4%

Total traffic34_{(mn minutes)} _{9 047 9 818} _{9 911 9 970 10 028 10 069 10 340} _0.5%

MOU35_(minutes) ₁₁₅ ₁₁₅ ₁₁₆ ₁₁₆ ₁₁₆ ₁₁₆ ₁₁₈ _0.3%

ARPU (Euro) 18.0 16.1 16.7 17.0 17.5 18.1 21.0 3.0%

Customer 14.7 13.8 14.3 14.7 15.2 16.0 19.2 3.7%

Interconnection 2.9 2.0 2.0 1.9 1.8 1.7 1.2 -6.4%

Roamers 0.3 0.3 0.3 0.4 0.5 0.5 0.7 7.2%

Data as % of service revenues 20.4% 22.8% 24.0% 26.0% 27.5% 30.4% 36.7% +6,3pp SARC36_(Euro) _38.01 _35.1 _32.8 _32.9 _33.1 _33.2 _33.6 _0.3%

Exhibit 19: TMN operating KPIs estimates Source: Nova ER estimates

• Net adds are forecasted to decline significantly in the upcoming years, reaching 37k in FY10 vs. 155k in FY09, due to very high market penetration and fierce competition from Vodafone, Optimus and emergent MVNOs

• Data solutions will, in our opinion, be the main trigger of revenue in the future as we expect the voice market to stagnate, with MOU constant at 116 minutes until FY13. We forecast data to reach 24.0% of service revenues in FY10 against 22.8% in FY09 and to evolve +6.3pp in FY18 from FY13. This business segment should drive billing revenue up to €1 228mn in FY10 (Exhibit 21), a 3.45% increase from FY09. Revenue from sales will, in our opinion, decrease in the next years (with FY13-FY18 CAGR of -3.1%) as good performance on smart phones will not make up for the reduction in sales of legacy handsets.

TMN operating data (€ mn) FY08 FY09E FY10E FY11E FY12E FY13E FY18E CAGR

Operating revenues 1 593 1 529 1 560 1 599 1 646 1 704 1 960 2.8%

Services rendered 1 425 1 377 1 429 1 466 1 511 1 573 1 845 3.2% Billing37 _{1 167 1 187 1 228 1 266 1 316 1 388} _{1 682} _3.9%

Interconnection 231 163 172 165 154 144 105 -6.2%

Roamers 26 27 30 35 41 40 58 7.4%

Sales 159 140 120 122 124 119 102 -3.1%

Other operating revenues 9 12 10 11 12 12 13 2.0%

Operating costs, excluding D&A 911 859 890 918 940 972 1 117 2.8%

Wages and salaries 52 49 48 50 52 54 66 4.1%

Direct costs 279 262 279 299 295 260 329 4.9%

Commercial costs 324 306 379 418 437 496 480 -0.6%

Other operating costs 257 242 184 151 156 163 242 8.3%

EBITDA 682 670 669 681 706 732 842 2.9%

Depreciation & amortization 232 221 243 187 156 195 224 2.8%

Income from operations 450 448 427 494 550 536 618 2.9%

EBITDA Margin 42.8% 43.8% 42.9% 42.6% 42.9% 42.9% 43.0% 2,7pp

Capex 245 178 270 208 173 217 249 2.8%

Capex as % of revenues 15.3% 11.6% 17.3% 13.0% 10.5% 12.7% 12.7% -3,4pp

EBITDA minus Capex 438 492 400 473 533 515 593 2.9%

Exhibit 21: TMN operating data estimates Source: Nova ER estimates

• EBITDA margin is expected to be resilient to market competition, evolving from 43.8% in FY09 to 42.9% in FY10 and constant thereafter, driven by strong revenue growth. Exhibit 22 presents the evolution of EBITDA margin for FY07-FY12.

• We expect Capex to increase in 2010 to €270mn (51.7% yoy) as the company increases investment in 4G networks, Femtocells and HSPA+ technologies, Wi-Fi

terminals and much of the delayed UMTS-related Capex is finally undertaken.

34_{Outbound traffic (originated in TMN’s network)}

35_{Minutes of Usage (average of monthly inbound and outbound minutes per average number of users in the period)}

36_{Subscriber Acquisition and Retention cost - as measured by (70% of marketing costs + commissions & subsidies)/(gross adds and upgrades)} 37_{Revenue from calls originated in TMN’s network}

Exhibit 20: ARPU evolution for the three mobile operators in Portugal Source:

companies reports

As the market stagnates, net adds will be mostly feed by disconnections from competitors

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PAGE 13/32 • Finally, on MRTs38_{we do not expect major changes in 2010 after significant cuts}

(-59.1% in last the two years) by ANACOM. In addition, the gap between origination and termination rates in Portugal is wider than in Europe (with MTRs < origination rates) and therefore we expect the regulator to try to shrink this gap (recall that ANACOM does not regulate origination rates, reason why it has little power over this side of the gap). In the long-run, however, we forecast MTRs in Portugal to approach best practices in the EU, reaching €3.5cents/min. in FY18, still above the €1- €2cents/min target defined by ARCEP in France as the efficient cost termination (Exhibit 24 for comparison in Europe).

€ FY07 FY08 FY09E FY10E FY11E FY12E FY13E FY18E CAGR

Termination rates39 0.11 0.075 0.065 0.065 0.060 0.050 0.045 0.035 -5.0%

% change 0.0% -31.8% -13.3% 0.0% -7.3% -16.8% -10.1% ns ns Exhibit 23: MTRs estimates. Source: Nova ER estimates

• For the future, the mobile market in Portugal is quite mature and the competitive position of all players is relatively defined. The main source of uncertainty concerns the third operator, currently struggling with declining ARPU (recall Exhibit 20) despite robust mobile subscribers’ growth. Sonaecom (the parent company) has been appointed as likely candidate for a merger with ZON. In our opinion, though, the merger has no momentum, as ZON recently signed a mobile virtual network operator (MVNO) agreement with Vodafone and consequently managed to bridge the most relevant economic rationale for the operation (to feed the trend for fixe-mobile convergence). In the case of no merger, we nevertheless expect Optimus to keep its market share relatively constant in the future (though mostly concentrated on mobile services), especially due to regulatory efforts (recent rumours on the reintroduction of the asymmetry in favour of Optimus, the local press says).

Brazilian operations - Vivo

In our opinion, Vivo will be the main trigger of PT’s stock in the upcoming years. The Brazilian operator is the perfect vehicle to be exposed to growth in Latin America as it operates in the most dynamic and fast-growing country in the region (Brazil) and is the leader of one of the most promising markets (mobile telecom).

• Despite intense competition from Oi and Claro, with massive roll-out of naked SIM cards and aggressive marketing shots, Vivo has been able to keep its market share relatively constant after 2007 (Exhibit 25) and we expect it to stabilize at ~29.4% in the forthcoming years from 29.3% in FY09 (Exhibit 18).

• As a consequence of market growth (100% market penetration of mobile cards in YE10 according to ANATEL40) and market share preservation, revenues are expected to reach R$16 113mn in FY10 and R$ 17 061mn in FY12, accumulating a FY13-FY18 CAGR of 3.9%. Following the introduction of smart phones in the market and the expansion of the post-paid segment, total revenue should be underpinned by services and sales revenues (FY13-FY18 CAGR of 4.0% and 3.2%, respectively).

38_{Mobile Termination Rates (rates paid by other players for terminating calls in TMN’s network)} 39_{Rates are the same for mobile-mobile, fixed-mobile and international-mobile.}

40_{ANATEL is the Brazilian telecom regulator}

Exhibit 25: Market share evolution for top-four mobile operators in Brazil

Source: Teleco.com

Exhibit 24: Average MTRs in seven European countries, 3Q09 Source:

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PAGE 14/32

Vivo operating data (R$ mn) FY08 FY09E FY10E FY11E FY12E FY13E FY18E CAGR

Operating Revenues 15 470 16 091 16 113 16 530 17 061 17 287 20 911 3.9%

Services 13 652 14 666 14 610 15 162 15 559 15 748 19 136 4.0%

Sales 1 624 1 280 1 373 1 233 1 364 1 399 1 639 3.2%

Other operating revenues 193 145 130 135 139 140 137 -0.4%

Operating costs, excluding D&A 10 928 11 089 11 665 12 008 12 332 12 513 14 826 3.5%

Wages as salaries 757 792 658 681 706 731 870 3.5%

Direct Costs 3 383 3 636 3 990 4 248 4 540 4 785 5 396 2.4% Commercial costs 2 910 2 620 2 728 2 841 3 174 3 004 3 866 5.2% Other operating costs 3 879 4 041 4 290 4 238 3 912 3 992 4 694 3.3%

EBITDA 4 542 5 002 4 448 4 522 4 729 4 774 6 085 5.0%

Depreciation and amortization 3 041 3 339 2 377 2 189 2 015 1 998 2 260 2.5%

Income from operations 1 501 1 663 2 071 2 333 2 715 2 776 3 825 6.6%

EBITDA Margin 29.4% 31.1% 27.6% 27.4% 27.7% 27.6% 29.1% +1.5pp

Capex 4 016 2 497 2 432 2 257 2 077 2 060 2 330 2.5%

Capex as % of revenues 26.0% 15.5% 15.1% 13.7% 12.2% 11.9% 11.1% -0.8pp EBITDA minus Capex 526 2 505 2 016 2 265 2 652 2 714 3 755 5.6%

Exhibit 26: Vivo operating data estimates Source: Nova ER estimates

• EBITDA margin is expected to decline in FY10 to 27.6% (-3.5pp than in FY09) and stabilize until FY18 (29.1%) amid ongoing increase in commercial and direct costs (consumer campaigns) to sustain pace in customer acquisition.

• Capex should continue to be a critical variable for the Brazilian operation as Vivo continues expanding its network. We nevertheless anticipate Capex to smoothly decrease as % of revenues until FY18 (15.5% in FY09, 15.1% in FY10, 13.7% in FY11 and 11.1% in FY18). Part of this Capex will be also driven by investment in terminal equipment and handsets portfolio as smart phones’ take-off is expected to happen in end-2010 and throughout 2011, accompanying world trend.

• We expect ARPU to decline to R$23.5 in FY10 (-9.3% yoy) and R$22.4 in FY13, with a FY13-FY18 CAGR of 2.8% (to R$25.8). Our view on ARPU is based on increasing customer base (54 202k customers in FY10 or 7.7% yoy, 62 519k estimated for FY18 – Exhibit 28), market expansion to lower-end social classes through continuing roll-out of naked SIM cards and pressure on retail prices due to fierce competition. The recovery in ARPU from FY13 onwards should be underpinned by data penetration (increasing RGUs per subscriber and increase in usage, with MOU presenting a FY13-FY18 CAGR of 1%).

Vivo operating KPIs FY08 FY09E FY10E FY11E FY12E FY13E FY18E CAGR

Customers ('000) 44 945 50 307 54 202 56 747 58 512 59 645 62 519 0.9%

Post-paid 8 561 9 567 10 283 10 628 10 799 10 917 11 111 0.4% Pre-paid 36 384 40 740 43 919 46 119 47 713 48 728 51 408 1.1%

Market share (%) 29.8% 29.3% 29.4% 29.4% 29.4% 29.3% 29.4% +0.1pp

Net additions ('000) 11 461 5 362 3 895 2 545 1 765 1 133 425 -17.8%

Post-paid 2 314 1 006 716 345 171 118 22 -28.3%

Pre-paid 9 147 4 356 3 179 2 200 1 594 1 015 403 -16.9%

ARPU (R$) 29.4 25.9 23.5 23.0 22.7 22.4 25.8 2.8%

Customer41 _17.2 _15.7 _14.6 _14.7 _14.7 _14.8 _18.6 _4.8%

Interconnection 12.2 38.8 34.5 32.5 31.5 30.3 28.5 -1.2% Data as % of revenues 10.2% 12.0% 12.1% 13.8% 15.2% 16.2% 18.7% +2.5pp

MoU (minutes) 87 80 86 91 95 97 102 1.0%

Incoming 32 27 29 31 32 33 34 1.0%

Outgoing 55 52 57 61 63 64 68 1.0%

Exhibit 29: Vivo operating KPIs estimates Source: Nova ER estimates

41_{Billing and sales of equipment}

Exhibit 28: Historical evolution of Vivo’s customer base and net adds Source:

company reports

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PAGE 15/32

Valuation - Vivo

All in all, our DCF valuation of Vivo implies a price target for YE10 of R$60 for preferred shares and R$59 for common shares42, based on a WACC of 10.1% and a 2.5% growth rate of unlevered FCF in perpetuity.

Balance sheet Vivo (R$ mn) FY08 FY09E FY10E FY11E FY12E FY13E FY18E CAGR

Cash 2 272 1 500 1 500 1 500 1 500 1 500 1 000 -7.8% WC items 3 357 3 044 3 024 3 131 3 208 3 264 3 987 4.1% Intangible assets, net 3 015 5 716 5 459 5 226 5 007 4 786 3 622 -5.4% Tangible assets, net 7 184 6 752 7 064 7 364 7 646 7 929 9 411 3.5% Deferred tax assets 5 079 4 939 5 227 5 276 5 331 5 362 5 537 0.6% Other assets 2 879 969 1 012 1 034 1 057 1 080 1 168 1.6%

Total assets 23 785 22 920 23 286 23 532 23 749 23 921 24 725 0.7%

Accounts payable 3 726 2 891 2 871 2 973 3 046 3 099 3 786 4.1% Gross debt 8 003 5 185 5 533 5 829 5 851 5 928 7 284 4.2% Other liabilities 3 200 3 325 3 490 3 692 3 852 3 998 4 885 4.1%

Total liabilities 14 930 11 400 11 895 12 494 12 749 13 025 15 954 4.1%

Total shareholders' equity 8 855 11 519 11 392 11 038 11 000 10 896 8 771 -4.2%

Exhibit 30: Vivo balance sheet FY08 – FY18E, nominal terms43Source: Nova ER estimates

Cash flow (R$ mn) FY08 FY09E FY10E FY11E FY12E FY13E FY18E CAGR

EBIT 1 485 1 621 2 071 2 333 2 715 2 776 3 825 6.6%

D&A 3 069 3 381 2 377 2 189 2 015 1 998 2 260 2.5%

∆ NWC -145 -523 1 -5 -4 -3 -9 ns

Income taxes paid -365 -410 -465 -477 -588 -606 -891 ns

∆ Deferred assets -1 031 140 -289 -49 -55 -31 81 ns

Other 250 255 31 -126 -171 -183 -235 ns

Op.CF 3 262 4 464 3 727 3 864 3 911 3 952 5 032 5.0%

Capex -4 003 -2 497 -2 432 -2 257 -2 077 -2 060 -2 330 ns

Financial income -29 112 -96 -96 -96 -96 -122 ns

Other -2 339 -1 253 56 73 36 29 25 -3.0%

Inv.CF -6 371 -3 638 -2 472 -2 280 -2 137 -2 128 -2 428 ns

FCF to investors -3 109 826 1 255 1 583 1 774 1 824 2 604 7.4%

∆ in Net debt44 -3 601 2 046 -348 -295 -23 -77 -927 ns

Exhibit 31: Vivo cash flow statement FY08 – FY18E Source: Nova ER estimates

Exhibit 32: DCF assumptions for Vivo Source: Nova ER estimates

42_{By deducting estimated interest on equity (to preferred shares) liability of R$531 by FY10 from enterprise value}

43_{NOVA ER inflation estimates for the Brazilian economy:}

% FY09E FY10E FY11E FY12E FY13E FY18E Inflation estimates 4.3% 4.5% 4.5% 4.5% 4.5% 4.0%

44_{Free cash flow to investors adjusted for dividends, stock repurchases and interest expenses}

45_{Annualized (arithmetic) average yield on 10Y Brazilian Sovereign Bond using weekly data from 12/2004 to 12/2008} 46_{Calculated as}

) ( / ) ;

cov( _VIVO _market _market

levered = r r Var r

β , with 4 years (12/2004 - 12/2008) of weekly data for Vivo and the Brazilian Bovespa

47 )) 1 ( 1 /( _c levered

unlevered = β + D E× −t

β , assuming beta of debt equal to zero

48_{Annualized average excess return of Brazilian Bovespa over 10Y Brazilian Sovereign Bond, using 4 years (from 12/2004 to 12/2008) of weekly data} 49_{Calculated using CAPM as defined by}

) (

.equity f unlevered market f

unlevered r r r

r = +β × − and using inputs above

50_{Using Modigliani-Miller proposition II with taxes (34%),}

) 1 ( ) . . cos ( . .

.equity unleveredequity unleveredequity c

levered r D E r tof debt t

r = + × − × −

51_{Equal to current cost of debt reported by Vivo in 3Q09 earnings release as debt level is estimated to remain relatively constant in FY10} 52_{Current D/E, computed using market value of equity by the 4}th_{of January and assuming book value of debt equal to market value} 53       _× ₊ _× _× ₋

= E levered.equity D_EV cost.of.debt (1 tc)

W r

EV W

WACC , considering a tax rate of 34%

54_{Discounted FCF of explicit period calculation as given by}

∑

= + = 8 0 ) 1 ( i i i WACC FCF FCF

Discounted , FY10-FY18

55_{Calculated using perpetuity formula discounted to FY10, assuming WACC equal to explicit calculation and FCF growth rate of 2.5%} 56_{Total estimated gross debt in FY10 minus market value of cash and cash equivalents in FY10}

57_{Using current number of preferred shares of 263.4mn and common shares of 137.3mn}

Risk free 5.2%45

Beta levered 0.89546

Beta unlevered 0.76147

Market risk premium 7.5%48

Return on unlevered equity 10.9%49

Return on levered equity 11.9%50

Cost of debt before tax 5.3%51

D/E 26.6%52

WACC 10.1%53

Discounted FCF R$ 11 98254

Terminal Value R$ 16 16255

Enterprise value R$ 28 144

Net debt R$ 4 03356

Equity value R$ 24 111

Price per preferred share R$ 6057

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PAGE 16/32 At our price target, Vivo trades with a potential upside of 11% and 9.3% (over R$54 closing price on 4th January for both types of shares) for preferred and common shares, respectively. The company would trade at 6.3x EV/EBITDA, 28.5x (preferred) and 28.7x (common58_{) P/E (vs. 26.9x and 27.1x for preferred and}

common shares respectively, in FY09E) and 0.9x Net debt/EBITDA (vs. 0.74x in FY09E and 1.3 in FY08).

M&A in Brazil

As in any joint venture, the possibility that PT and Telefónica do not agree on the strategy for Vivo is real, making the corporate governance of Brasicel (Exhibit 33) prone to be unsustainable in the future, in our opinion. Besides that, both the fixed-mobile convergence, the need for providing a global solution to its clients and the reduction of the exposure to fixed-to-mobile migration may encourage Telefónica to proceed with a bid for the 50% stake held by PT in Brasicel (which controls 59.42% of Vivo). In our opinion, this would be the most likely move (instead of PT presenting the offer), precisely because Telefónica’s interests in Brazil are broader than PT’s. We believe the most probable vehicle for this transaction would be Telesp, the fixed operator of Telefónica in Brazil. Telesp is the market leader in the fixed segment, controlling 79.02% of the market with 11 662mn subscribers, annual revenues of R$15 979mn (FY08) and EBITDA margin of 41% in FY08, according to ANATEL.

• Unfavorable market trends (see Exhibit 34 for recent growth in active fixed

subscribers) and tough competition have been pressuring the performance of Telesp in the previous quarters. We see the trend towards fixed-to-mobile to continue squeezing margins in the fixed segment, with forecasted EBITDA margin for the next 4 years approaching 38.4%. Revenue growth is also expected to slow down in the coming years, with an expected FY09-FY12 CAGR of 0.4%. Competition has also been more active than expected, consolidating its position by betting on bundled offers. The contest with Embratel and NET resulted in a reduction of Telesp’s market share from 85.2% in FY07 to 79.02% in FY08, according to the local regulator.

• Therefore, poor prospects on organic growth might require more extreme moves. In fact, the economic rationale for the above mentioned bid is legitimate. Synergies from both cost and revenue sides could be attainable for the newly-formed entity, reducing spending on administrative, marketing and other general functions and empowering the cross-selling of products. The possibility of horizontally covering the spectrum of services demanded by the market would trigger an increase of RGUs per client, increasing ARPU per client and reducing churn. Exhibit 35 presents a summary of the main sources of synergies identified, as well as their forecasted impact.

58_{Adjusted for 2.9% preferred dividends anticipated for 2010}

Exhibit 34: Active fixed subscribers in Brazil Source: ANATEL

Exhibit 33: Governance model of Brasicel and stake in Vivo Source: Vivo 3Q09 reports

Fixed operations in Brazil can only return to past performance under organizational changes of installed operators, merging mobile and fixed platforms to provide global solutions to clients

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PAGE 17/32

Exhibit 35: Potential synergies for Telefónica and forecasted impact Source: NOVA ER estimates

• Estimated potential synergies amount to $R9billion based on the comparison of the most important operating and financial KPIs of the otherwise similar operation of Telefónica in Argentina (where the group controls both fixed and mobile operations) vs. Telesp and Vivo as stand-alone companies, presented in Exhibit 36.

Mobile Fixed

VIVO Movistar Argentina Telesp Telefónica Argentina

Growth in revenues 3.5% 15.0% 0.4% 14.90%

EBITDA growth 5.6% 39.0% -6.20% 6.00%

EBITDA margin 30.3% 35.7% 38.40% 32.80%

CAPEX/revenue1 _20.0% _6.3% _14.5% _10.6%

1_{Comparable: Telefónica consolidated data instead of operations in Argentina}

Exhibit 36: Telefónica’s LatAm portfolio comparison (avge from last 7 quarters) Source: company reports

Both fixed and mobile operations in Argentina present much faster growth rates than in Brazil though fixed operations in Brazil seem to be more efficient than the Argentinean (higher EBITDA margin). We remind that Telefónica has been able to attain this performance in Argentina despite being a much mature market than the Brazilian, with 117% penetration in the mobile market against 86.5% in Brazil (refer to Exhibit 37 for Telefónica penetration). In fact, as shown in Exhibit 38, in 2008 the Brazilian broadband internet and mobile markets presented much higher growth rates than the Argentinean.

Broadband internet Total subscribers (mn) Growth rate

Subscribers per 100 inhab. Growth rate

2007 2008 2007 2008

Argentina 2 600 3 185 22.5% 6.58 7.99 21.4%

Brazil 7 608 10 098 32.7% 4.00 5.26 31.5%

Mobile cellular Total subscribers (mn) Growth

rate

Subscribers per 100 inhab. Growth rate

2 007 2 008 2007 2008

Argentina 40 402 46 509 15.1% 102.31 116.61 14.0%

Brazil 120 980 150 641 24.5% 63.63 78.47 23.3%

Exhibit 38: Market data for Brazil and Argentina. Source: International Telecommunication Union

This means that by controlling for market growth, the operating performance in Brazil vs. that in Argentina looks even gloomier. On Capex, there are also some discrepancies between Telefónica’s average Latin-American operations and in Brazil. However, in this regard we are more cautious as the level of infrastructure development is different. Additionally, the dimension of the two countries is dissimilar (Brazil is as much as three times larger than Argentina), requiring larger investments Exhibit 37: Penetration of Telefónica

subsidiaries in each market (Telefónica costumers as % of population) Source:

company 3Q09

The market knows it all

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jbgoncalves@fe.unl.pt

The market knows it all

Good ride to Brazil, though

Table of Contents

Company overview ...3

Investment case ...4

Operating execution ...9

Valuation Vivo ... 15

Valuation PT ... 19

The new paradigm ... 21

The Sector ... 26

Conclusion ... 29

Financials ... 30

Company overview

Company description

Shareholder structure

Investment case

Executive summary

Operating execution

Debt position

Shareholders’ remuneration

A defensive move towards FTTH

We are sceptical on PT’s ambitious plan for three reasons:

Operating execution

Domestic Operations - Wireline

Domestic Operations - Mobile

Brazilian operations - Vivo

Valuation - Vivo

∑

M&A in Brazil