EX-99.2 3 a2218153zex-99_2.htm EX-99.2
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Exhibit 99.2


PRESENTATION OF FINANCIAL AND OTHER INFORMATION

Financial Data

Unless otherwise indicated, (i) the historical consolidated financial information of B Communications we present herein has been prepared in accordance with International Financial Reporting Standards as adopted by the International Accounting Standards Board ("IASB IFRS"), and (ii) the financial information of Bezeq presented herein has been prepared in accordance with Israeli International Financial Reporting Standards (IFRS) and in accordance with the Israeli Securities Regulations (Annual Financial Statements), 2010. In this Offering Memorandum, we use the term "IFRS" to refer to IASB IFRS.

This Offering Memorandum includes:

the audited consolidated financial statements of B Communications and its subsidiaries, as of December 31, 2010, 2011 and 2012 and for the years ended December 31, 2010, 2011 and 2012, which have been audited by Somekh Chaikin (KPMG Israel); and

the unaudited consolidated interim financial statements of B Communications and its subsidiaries, as of and for the nine months ended September 30, 2012 and 2013.

The historical results of the companies mentioned above do not necessarily indicate results that may be expected for any future period. B Communication's financial results are reported in NIS.

Effective January 1, 2013, we began applying a recently enacted amendment to IAS 19, Employee Benefits (the "Amendment"). As a result of the application of the Amendment, the measurement method of the liability regarding vacation days was changed. In addition, at the date of the first-time application of the Amendment, Bezeq recognized the full obligation to its employees who transferred from state service to Bezeq, which until that time was treated as the cost of past services and had been recognized over the future service period. The change in accounting policy will be applied retrospectively. Due to the Amendment, our unaudited consolidated interim financial statements for the nine months ended September 30, 2013 contain comparative period information for the nine months ended September 30, 2012 and for the year ended December 31, 2012, to which the change in accounting policy has been retrospectively applied. Consequently, we decreased the equity attributable to our shareholders as of September 30, 2012 by NIS 2 million. However, the information as of and for the years ended December 31, 2010, 2011 and 2012 included elsewhere in this Offering Memorandum, has been derived from our audited consolidated financial statements as of and for the years ended December 31, 2010, 2011 and 2012 before taking into account the application of the Amendment. We will restate our consolidated balance sheet, consolidated statements of income and our consolidated statements of comprehensive income for the years ended December 31, 2011 and 2012 in our financial statements for the year ended December 31, 2013, giving retroactive application to the Amendment. Our financial statements for the year ended December 31, 2013, which have not yet been prepared, are expected to reflect an increase in net income attributable to owners of our company. For more information, see note 3 in the unaudited consolidated interim financial statements for the nine months ended September 30, 2013.

In addition to the above, this Offering Memorandum includes certain financial information for the twelve months ended September 30, 2013. This information was calculated by taking the results of operations for the nine months ended September 30, 2013 and adding to it the difference between the results of operations for the full year ended December 31, 2012 and the historical nine months ended September 30, 2012. The consolidated financial information for the twelve months ended September 30, 2013 has been prepared solely for the purposes of this Offering Memorandum and is for illustrative purposes only and is not necessarily representative of our results of operations for any future period or our financial condition at any future date.

Other

Unless otherwise indicated, convenience translations into dollars have been calculated as of December 31, 2012 and September 30, 2013. The representative rate of exchange was NIS 3.7330 = $1.00 at December 31, 2012 and NIS 3.5370 = $1.00 at September 30, 2013. Certain amounts and percentages presented herein have been rounded and, accordingly, the sum of amounts presented may not equal the total. See "Exchange Rate Information."

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All references in this document to NIS refer to New Israeli Shekels, all references to "$" are to U.S. dollars and all references to "€" are to euro.

The financial information included in this Offering Memorandum is not intended to comply with the applicable accounting requirements of the U.S. Securities Act and the related rules and regulations that would apply if the Notes were to be registered in the United States. Compliance with such requirements would require the modification or exclusion of certain information included in this Offering Memorandum and the presentation of certain information which is not included in this Offering Memorandum.

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CERTAIN DEFINITIONS

Unless otherwise stated or the context otherwise requires, the terms "we," "us" and "our" as used in this Offering Memorandum refer to the Restricted Group.

"B Communications" refers to B Communications Ltd.

"B Communications Dividend Distribution" refers to the aggregate NIS 102 million dividend to shareholders paid by B Communications on December 3, 2013.

"B Communications Refinancing and Repayments" refers to (i) the one time early principal repayment of NIS 400 million under the Existing Bank Loan Agreement on November 5, 2013; (ii) the scheduled principal payment of NIS 120 million under the Existing Bank Loan Agreement on November 30, 2013; and (iii) the repayment of a NIS 5 million loan on February 1, 2014.

"Bezeq" refers to Bezeq—The Israel Telecommunication Corp. Ltd.

"Bezeq Debenture Issuance" refers to the issuance by Bezeq of NIS 500 million of its Series 6 debentures on November 25, 2013.

"Bezeq Group" refers to Bezeq and its subsidiaries (including YES, except that with respect to references to consolidated financial data, it does not include YES).

"Bezeq International" refers to Bezeq International Ltd., the operator of the Bezeq Group's Internet service provider, international telephony services, international and domestic data transfer and network services and information and communication technology services businesses.

"Existing Bank Loan Agreement" refers to credit agreement dated February 11, 2010 between SP2, Bank Hapoalim Ltd. (as lender, facility agent and security trustee), Bank Leumi le-Israel BM, Amitim (Senior Pension Funds), Israel Discount Bank Ltd. (a TASE Member affiliated with Discount Underwriting & Issuing Ltd.), Mizrahi Tefahot Bank Ltd., HSBC Bank PLC, First International Bank of Israel Ltd. and Union Bank of Israel (as lenders), as amended.

"Existing Migdal Loan Agreement" refers to loan agreement dated February 18, 2010, between SP1 and entities within the Migdal Insurance and Financial Holdings Ltd. group.

"Existing Unsecured Notes" refers to the Series A Debentures and the Series B Debentures of B Communications traded on the TASE.

"Expected Series A Debentures Redemption" means the use of unrestricted cash on hand to redeem the NIS 186 million outstanding under our Series A Debentures as of September 30, 2013, which we intend to carry out subject to the completion of this Offering.

"Guarantors" refers to SP1 and SP2.

"Issuer" refers to B Communications.

"Means of Control" refers to the right to vote at a general meeting of a company, appoint a director or general manager of the company, or to participate in the profits of the company or a share of its remaining assets after payment of its debts upon liquidation.

"NIS" refers to New Israeli Shekels.

"Pelephone" refers to Pelephone Communications Ltd., the operator of the Bezeq Group's cellular telephony business.

"Restricted Group" refers to B Communications, SP1 and SP2.

"Series A Debentures" refers to the NIS 186 million principal amount of Series A unsecured notes of B Communications traded on the TASE that were outstanding as of September 30, 2013 and which mature in March 2016.

"Series B Debentures" refers to the NIS 706 million principal amount of Series B unsecured notes of B Communications traded on the TASE that were outstanding as of September 30, 2013 and which mature in March 2019.

"SP1" refers to B Communications (SP1) Ltd.

"SP2" refers to B Communications (SP2) Ltd.

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"TACT Institutional" refers to the system of the TASE for trading securities by institutional investors.

"TASE" means the Tel Aviv Stock Exchange.

"U.S. Exchange Act" refers to the U.S. Securities Exchange Act of 1934, as amended.

"U.S. Securities Act" refers to the U.S. Securities Act of 1933, as amended.

"YES" refers to D.B.S. Satellite Services (1998) Ltd., which operates its business as "YES," the operator of the Bezeq Group's pay television business.

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DEFINED LEGAL AUTHORITIES

Certain of the legal authorities used in this Offering Memorandum are defined below.

"Broadcasting Authority" refers to the Israeli Broadcasting Authority.

"Broadcasting Council" refers to the Israeli Council for Cable and Satellite Broadcasting.

"Broadcasters Rights Law" refers to the Israeli Broadcasters and Performers Rights Law, 1984.

"Communications Order" refers to the Israeli Communications (Telecommunications and Broadcasts) (Determination of an Essential Service Provided by Bezeq—The Israel Communication Corp. Ltd.) Order, 1997.

"Communications Rules" refers to the Israeli Communications (Broadcasting Licensee) Rules, 1987.

"Concentration Law" refers to the Israeli Law for Increasing Competition and Reducing Concentration, 2013.

"Control Permit" refers to the permit to control Bezeq issued to the Issuer, the Guarantors and additional members of the Eurocom Group on April 13, 2010, as supplemented.

"Director General" refers to the Director General of the Ministry of Communications.

"Hayek Committee" refers to the committee headed by Mr. Amir Hayek for reviewing the structure and updating of Bezeq tariffs and for setting wholesale service tariffs in fixed-line communications market.

"Israeli Antitrust Authority" refers to the Israeli Antitrust Authority.

"Israeli Antitrust Law" refers to the Israeli Antitrust Law, 1988.

"Israeli Antitrust Commissioner" refers to the Israeli Commissioner of the Antitrust Authority.

"Israeli Communications Law" refers to the Israeli Communications (Telecommunications and Broadcasts) Law, 1982.

"Israeli Companies Law" refers to the Israeli Companies Law, 1999.

"Israeli Consumer Protection Law" refers to the Israeli Consumer Protection Law, 1981.

"Israeli Copyright Law" refers to the Israeli Copyright Law, 2007.

"Israeli Radiation Law" refers to the Israeli Non-Ionizing Radiation Law, 2006.

"Israeli Securities Law" refers to the Israeli Securities Law, 1968.

"Israeli Tax Ordinance" refers to the Israeli Income Tax Ordinance (New Version), 1961.

"Knesset" refers to the Israeli legislature.

"Ministers" refers to the Prime Minister of Israel and the Minister of Communications.

"Minister of Communications" refers to the Israeli Minister of Communications.

"Minister of Finance" refers to the Israeli Minister of Finance.

"Ministry of Communications" refers to the Israeli Ministry of Communications.

"Planning and Construction Law" refers to the Israeli Planning and Construction Law, 1965.

"Second Authority" refers to the Israeli Second Television and Radio Authority.

"Second Authority Law" refers to the Israeli Second Authority for Television and Radio Law, 1990.

"Telegraph Ordinance" refers to the Israeli Wireless Telegraph Ordinance (New Version), 1972.

"Wholesale Market Policy Document" refers to a policy document published by the Ministry of Communications on May 2012.

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SUBSCRIBER, MARKET AND INDUSTRY DATA

Key Operating Measures

This Offering Memorandum includes information relating to certain key operating measures of the Bezeq Group, including the number of total access lines, Average Revenue per Line ("ARPL"), churn rate, number of broadband Internet lines, number of subscribers and Average Revenue per User ("ARPU"), which track the financial and operating performance of the Bezeq Group's businesses. None of these terms are measures of financial performance under IFRS, nor have these measures been audited or reviewed by an auditor, consultant or expert. All of these measures are derived from the internal operating systems of the individual members of the Bezeq Group, including Bezeq, Pelephone, Bezeq International and YES, as applicable. As defined by the management of Bezeq, Pelephone, Bezeq International and YES or the other members of the Bezeq Group (as the case may be), the meaning of these terms may differ among Bezeq, Pelephone, Bezeq International and YES and the other members of the Bezeq Group. Additionally, such terms may not be directly comparable to corresponding or similar terms used by competitors or other companies. Please refer to the meanings of these terms as defined by Bezeq, Pelephone, Bezeq International and YES included below and elsewhere in the Offering Memorandum.

ARPU/ARPL is an average monthly measure that the Bezeq Group companies use to evaluate how effectively they are realizing revenues from subscribers for certain services. ARPU/ARPL is calculated as follows:

Fixed-line telephony:  By dividing the total revenues from fixed telephony lines for the period, not including revenues from fixed-line broadband Internet infrastructure access services, air time transferred to cellular telephony operators, revenues from transmission services and data communication, services to communications operators and contractors and other services, by the average number of lines for the period.

Fixed-line broadband Internet infrastructure access:  By dividing the total revenue from fixed-line broadband Internet infrastructure access services (including revenue from the sales of Internet equipment and revenue from directory services) for the period, by the average number of active subscribers for the period.

Cellular telephony:  By dividing the average monthly revenues from cellular telephony services, from Pelephone subscribers and other telecommunications operators (including revenues from cellular telephony operators who use Pelephone's network), repair services and warranty in the period, by the average number of active Pelephone subscribers for the period.

Multi-channel pay television:  By dividing the total revenues of YES (revenues from content and equipment, premium channels, advanced products and other revenues) for the period, by the average number of subscribers for the period.

Churn is calculated as follows:

Fixed-line telephony:  By dividing the sum of the total number of subscribers who disconnected from Bezeq's fixed-line telephony services during the period, by the average number of fixed-line telephony subscribers during the period.

Cellular telephony:  By dividing the sum of the total number of subscribers who disconnected from Pelephone's services during the period plus the number of subscribers who became inactive during the period, by the average number of active subscribers during the period.

ISP:  By dividing the number of ISP subscribers who became inactive during the period, by the average number of ISP subscribers during the period.

Multi-channel pay television:  By dividing the number of YES subscribers who disconnected from YES services during the period, by the average number of YES subscribers during the period.

Market and Industry Data

We operate in an industry in which it is difficult to obtain precise market and industry information. We have generally obtained the market and competitive position data in this Offering Memorandum from our competitors' public filings, from industry publications and from surveys or studies conducted by third party sources that we believe to be reliable. Certain information in this Offering Memorandum contains independent market research carried out by TeleGeography, Informa Telecoms & Media, World Cellular

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Information Service (WCIS), The Economist Intelligence Unit (EIU) and Akamai or comes from official reports released by the Israeli Central Bureau of Statistics and Ministry of Communications, the Bank of Israel, the Organisation for Economic Co-operation and Development (OECD) and the United Nations. In addition, we calculate market share for each of our segments based on our competitors' public filings and reported subscriber base, other public information and the Bezeq Group's internal estimates, calculated as follows:

Fixed-line telephony:  By dividing the sum of Bezeq's active lines by the total active fixed telephony lines in Israel.

Fixed-line broadband Internet infrastructure access:  By dividing the sum of the total number of Bezeq's fixed-line broadband Internet infrastructure access subscribers by the total number of subscribers for such service in Israel.

Cellular telephony:  By dividing the sum of the total number of Pelephone's cellular telephony subscribers by the total number of subscribers for such services in Israel.

ISP:  By dividing the sum of the total number of Bezeq's International's ISP services subscribers by the total number of fixed-line broadband Internet infrastructure access subscribers in Israel.

ILD:  By dividing the sum of the total number of outgoing minutes of Bezeq's International's ILD services by the total number outgoing minutes in Israel.

Multi-channel pay television:  By dividing the sum of the total number of YES multi-channel pay television subscribers by the total number of subscribers for such services in Israel.

However, neither we nor the Initial Purchasers nor any of our or their respective advisors can verify the accuracy and completeness of such information and none of us, the Initial Purchasers or any of our or their respective advisors has independently verified such market and position data. We do, however, accept responsibility for the correct reproduction of this information and, as far as we are aware and are able to ascertain from information published, no facts have been omitted that would render the reproduced information inaccurate or misleading.

In addition, in many cases we have made statements in this Offering Memorandum regarding our industry and our position in the industry based on our experience and our own investigation of market conditions. Neither we nor the Initial Purchasers nor any of our or their respective advisors can assure you that any of these assumptions are accurate or correctly reflect our position in the industry, and none of our or their internal surveys or information has been verified by independent sources.

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FORWARD LOOKING STATEMENTS

This Offering Memorandum contains "forward-looking statements" as that term is defined by the U.S. federal securities laws. These forward-looking statements include, but are not limited to, statements other than statements of historical facts contained in this Offering Memorandum, including, but without limitation, those regarding our future financial condition, results of operations and business, our product, acquisition, disposition and finance strategies, our capital expenditure priorities, regulatory or technological developments in the market, subscriber growth and retention rates, competitive and economic factors, the maturity of our markets, anticipated cost increases, liquidity, credit risk and target leverage levels. In some cases, you can identify these statements by terminology such as "aim", "anticipate", "believe", "continue", "could", "estimate", "expect", "forecast", "guidance", "intend", "may", "plan", "potential", "predict", "project", "should", and "will" and similar words used in this Offering Memorandum.

By their nature, forward-looking statements are subject to numerous assumptions, risks and uncertainties. Many of these assumptions, risks and uncertainties are beyond our control. Accordingly, actual results may differ materially from those expressed or implied by the forward-looking statements.

Such forward-looking statements are based on numerous assumptions regarding our present and future business strategies and the environment in which we operate. We caution readers not to place undue reliance on the statements, risks, uncertainties and other factors, which speak only as of the date of this Offering Memorandum, and we expressly disclaim any obligation or undertaking to disseminate any updates or revisions to any forward-looking statement contained herein, to reflect any change in our expectations with regard thereto, or any other change in events, conditions or circumstances on which any such statement is based.

Where, in any forward-looking statement, we express an expectation or belief as to future results or events, such expectation or belief is expressed in good faith and believed to have a reasonable basis, but there can be no assurance that the expectation or belief will result or be achieved or accomplished.

Risks and uncertainties that could cause actual results to vary materially from those anticipated in the forward-looking statements included in this Offering Memorandum include those described under "Risk Factors."

The following are some but not all of the factors that could cause actual results or events to differ materially from anticipated results or events:

fluctuations in currency exchange rates, inflation, Israeli consumer price index, interest rates, general economic environment and financial condition of the capital markets in Israel and worldwide;

competition from other telecommunications providers and recent and potential changes in the competitive environment and communications technologies;

regulations limiting the flexibility in managing the business of the Bezeq Group;

Bezeq's inability to control its tariffs for its services as a result of the government's control;

Bezeq's competitive disadvantage due to restrictions on intercompany relations with affiliated companies;

actual and alleged health risks related to cellular network sites and cellular telecommunication devices;

difficulties in obtaining some of the building and environmental permits required for the establishment and operation of Bezeq Group network sites;

economic and business conditions, trends and decrease in demand in the segments in which the Bezeq Group operates;

damage or interruption to the Bezeq Group's infrastructure systems;

limited spectrum availability in Israel;

the outcome of any pending or threatened litigation;

capital investments in services and equipment and competitor responses to Bezeq Group's products and services;

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risks related to the Bezeq Group's licenses;

the Bezeq Group's ability to manage its brands and reputational risks;

negotiation of labor contracts or organizing activities;

providers of hardware, software and other outsourced services may discontinue their services or products;

claims against the Bezeq Group of intellectual property infringement;

adverse decisions of tax authorities or changes in tax treaties, laws, rules or interpretations;

the loss of key employees and the availability of qualified personnel and a deterioration of the relationship with employee representatives;

any disruptions in the credit and equity markets which could affect our and Bezeq's credit instruments and cash investments;

barriers to entry in the Israeli domestic fixed-line communications segment have lessened considerably;

risks of YES not being able to obtain attractive programming on satisfactory terms for its pay television services;

changes in, or failure or inability to comply with, government regulations in Israel and adverse outcomes from regulatory proceedings or the Control Permit;

risks associated with the Concentration Law;

risks of becoming subject to the Investment Company Act of 1940;

failure to maintain effective internal control over financial reporting;

conflicts of interest arising between us and our parent and companies within the Eurocom Group;

the impact of Bezeq's future financial performance, or market conditions generally, on the availability, terms and deployment of capital;

events that are outside of our control, such as breaches of network or information technology security, natural disasters, political, economic and military instability, or other national emergency;

the obligation of our personnel to perform military service; and

other factors discussed in this Offering Memorandum.

The communications, domestic fixed-line telephony, cellular telephony, pay television, broadband Internet infrastructure access and Internet service provider services markets are changing rapidly and, therefore, the forward-looking statements of expectations, plans and intent in this Offering Memorandum are subject to a significant degree of risk.

The cautionary statements set forth above should be considered in connection with any subsequent written or oral forward-looking statements that we or persons acting on our behalf may issue. We do not undertake any obligation to review or confirm analysts' expectations or estimates or to release publicly any revisions to any forward-looking statements to reflect events or circumstances after the date of this Offering Memorandum.

We disclose important factors that could cause our actual results to differ materially from our expectations in this Offering Memorandum. These cautionary statements qualify all forward-looking statements attributable to us or persons acting on our behalf. When we indicate that an event, condition or circumstance could or would have an adverse effect on us, we mean to include effects upon our business, financial and other conditions, results of operations and ability to make payments under the Notes.

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SUMMARY CONSOLIDATED HISTORICAL FINANCIAL INFORMATION AND OTHER DATA

The tables below set forth the summary consolidated income statement, balance sheet and cash flow statement information of B Communications as of and for the years ended December 31, 2010, 2011 and 2012 and as of and for the nine months ended September 30, 2012 and 2013, each of which has been prepared in accordance with IFRS, and summary consolidated income statement information for the twelve months ended September 30, 2013.

Our summary financial information as of and for the years ended December 31, 2010, 2011 and 2012 has been derived from our audited consolidated financial statements as of and for the years ended December 31, 2010, 2011 and 2012 included elsewhere in this Offering Memorandum. Such financial information was prepared in accordance with IFRS and has been audited by Somekh Chaikin (KPMG Israel). Our summary financial information as of and for the nine months ended September 30, 2012 and 2013 has been derived from our unaudited interim financial statements as of and for the nine months ended September 30, 2012 and 2013, included in this Offering Memorandum. Such financial information was prepared in accordance with IAS 34 Interim Financial Reporting. Interim results of operations are not necessarily indicative of the results of operations that may be expected for any other period or for the full year.

Information for the twelve months ended September 30, 2013 was derived by taking the results of operations for the nine months ended September 30, 2013 and adding to it the difference between the results of operations for the full year ended December 31, 2012 and the historical nine months ended September 30, 2012. The consolidated financial information for the twelve months ended September 30, 2013 has been prepared solely for the purposes of this Offering Memorandum and is for illustrative purposes only and is not necessarily representative of our results of operations for any future period or our financial condition at any future date.

The following tables should be read in conjunction with, and are qualified in their entirety by reference to our financial statements included elsewhere in this Offering Memorandum. The tables should also be read together with "Management's Discussion and Analysis of Financial Condition and Results of Operations." Our and Bezeq's historical results do not necessarily indicate results that may be expected in the future.

Our financial statements reflect the consolidation of the Bezeq Group. As such, our financial statements include all of the costs and expenses incurred by us and all of the revenues, costs and expenses reflected in the consolidated financial statements of the Bezeq Group, which are also prepared in accordance with IFRS and have been audited by Somekh Chaikin (KPMG Israel).

 

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B Communications Consolidated Statements of Income

 
  For the Year ended December 31,   For the Nine Months ended September 30,   For the Twelve Months ended September 30,  
 
  2010   2011   2012   2012   2013   2013   2013(1)  
 
  (NIS in millions)
  ($ in millions)
 

Revenues

    8,657     11,373     10,278     7,829     7,154     9,603     2,715  

Depreciation and amortization

    2,294     2,984     2,367     1,767     1,514     2,114     598  

Salaries

    1,488     2,114     1,984     1,528     1,436     1,892     533  

General and operating expenses

    3,640     4,462     3,995     3,016     2,610     3,589     1,015  

Other operating expenses (income)

    5     326     (11 )   52     (30 )   (93 )   (26 )
                               

Operating income

    1,230     1,487     1,943     1,466     1,624     2,101     595  

Finance expense

    600     983     915     731     644     828     235  

Finance income

    (313 )   (485 )   (562 )   (463 )   (403 )   (502 )   (142 )
                               

Income after financing expenses (income), net

    943     989     1,590     1,198     1,383     1,775     502  

Share of losses in equity-accounted investee

    235     216     245     233     195     207     59  
                               

Income before income tax

    708     773     1,345     965     1,188     1,568     443  

Income tax

    385     653     555     404     427     578     164  
                               

Net income for the period

    323     120     790     561     761     990     279  
                               
                               

Income (loss) attributable to:

                                           

Owners of the company

    (140 )   (219 )   45     29     113     129     37  

Non-controlling interests

    463     339     745     532     648     861     242  
                               

Net income for the period

    323     120     790     561     761     990     279  
                               
                               

(1)
Currency translation has been calculated using an exchange rate of NIS 3.5370 = $1.00.

 

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B Communications Consolidated Balance Sheet

 
  As at December 31,   As at September 30,  
 
  2010   2011   2012   2013   2013(1)  
 
  (NIS in millions)
  ($ in millions)
 

Assets

                               

Cash and cash equivalents

    383     1,369     757     1,013     286  

Investments, including derivative financial instruments

    789     1,284     1,484     1,603     453  

Trade receivables

    2,701     3,059     2,927     2,791     789  

Other receivables

    231     295     330     345     98  

Inventory

    177     204     123     122     34  

Assets classified as held-for-sale

    194     158     164     229     65  
                       

Total current assets

    4,475     6,369     5,785     6,103     1,725  
                       

Investments, including derivatives

    129     119     90     90     25  

Long-term trade and other receivables

    1,114     1,499     1,074     700     198  

Property, plant and equipment

    7,392     7,143     6,911     6,590     1,863  

Intangible assets

    9,163     8,085     7,252     6,759     1,913  

Deferred and other expenses

    423     412     384     389     109  

Investment in equity-accounted investee (mainly loans)

    1,084     1,059     1,005     1,000     283  

Deferred tax assets

    254     223     126     93     26  
                       

Total non-current assets

    19,559     18,540     16,842     15,621     4,417  
                       

Total assets

    24,034     24,909     22,627     21,724     6,142  
                       
                       

Liabilities

   
 
   
 
   
 
   
 
   
 
 

Short-term bank credit, current maturities of long-term liabilities and debentures

    1,380     1,185     1,582     1,484     420  

Trade payables

    1,061     892     792     629     178  

Other payables, including derivatives

    850     840     734     849     239  

Dividend payable

        669     669          

Current tax liabilities

    346     499     588     774     219  

Provisions

    251     186     145     124     35  

Employee benefits

    269     389     258     248     70  
                       

Total current liabilities

    4,157     4,660     4,768     4,108     1,161  
                       

Debentures

    2,776     5,403     5,018     5,555     1,571  

Bank loans

    6,138     6,843     6,422     6,184     1,748  

Loans from institutions and others

    541     544     540     549     155  

Dividend payable

        636              

Employee benefits

    305     229     246     258     73  

Other liabilities

    150     96     67     82     23  

Provisions

    69     69     66     67     19  

Deferred tax liabilities

    1,555     1,426     1,159     1,081     306  
                       

Total non-current liabilities

    11,534     15,246     13,518     13,776     3,895  
                       

Total liabilities

    15,691     19,906     18,286     17,884     5,056  
                       
                       

Total equity attributable to equity holders of the Company

    1,212     936     961     1,067     302  

Non-controlling interests

    7,131     4,067     3,380     2,7784     73  
                       

Total equity

    8,343     5,003     4,341     3,840     1,086  
                       

Total liabilities and equity

    24,034     24,909     22,627     21,724     6,142  
                       
                       

(1)
Currency translation has been calculated using an exchange rate of NIS 3.5370 = $1.00.

 

12


 

B Communications Consolidated Cash Flow Statement

 
  Year ended December 31,   Nine Months ended September 30,  
 
  2010   2011   2012   2012   2013   2013(1)  
 
  (NIS in millions)
  ($ in millions)
 

Net cash provided by operating activities

    2,596     3,184     3,996     3,003     3,216     909  

Net cash used in investing activities

    (6,073 )   (2,048 )   (1,273 )   (1,078 )   (746 )   (211 )

Net cash provided by (used in) financing activities

    2,920     (150 )   (3,335 )   (2,615 )   (2,214 )   (626 )
                           

Net increase (decrease) in cash and equivalents

    (557 )   986     (612 )   (690 )   256     72  
                           
                           

(1)
Currency translation has been calculated using an exchange rate of NIS 3.537 = $1.00.

B Communications Other Financial Data and Pro Forma Financial Information

 
  As at and for the Year ended December 31,   As at and for the Nine Months ended September 30,   As at and for the Twelve Months ended September 30, 2013  
 
  2010   2011   2012   2012   2013  
 
  (NIS in millions except for percentages and ratios)
 

Other Financial Data

                                     

Revenues of the Bezeq Group

    11,987     11,373     10,278     7,829     7,154     9,603  

Adjusted EBITDA of the Bezeq Group(1)

    5,153     4,637     4,471     3,338     3,209     4,342  

Adjusted EBITDA Margin of the Bezeq Group(2)

    43.0 %   40.8 %   43.6 %   42.6 %   44.9 %   45.2 %

Adjusted EBITDA(3)

    3,524     4,471     4,310     3,233     3,138     4,215  

Adjusted EBITDA Margin(4)

    40.7 %   39.3 %   41.9 %   41.3 %   43.9 %   43.9 %

Capital expenditure

    1,252     1,903     1,540     1,209     910     1,241  

Capital expenditure, net(5)

    1,127     1,637     1,235     1,043     691     883  

Capital expenditure, net as % of revenue

    13.0 %   14.4 %   12.0 %   13.3 %   9.7 %   9.2 %

Other Financial Data (Restricted Group)

                                     

Total cash items(6)

    800     355     694     388     1,360     1,360  

Total debt(7)

    5,027     4,266     3,929     4,013     3,878     3,878  

Total secured debt(8)

    4,243     3,535     3,156     3,235     2,993     2,993  

Net debt(9)

    4,227     3,911     3,235     3,625     2,518     2,518  

Other Financial Data (Bezeq Group)

                                     

Total cash items(10)

    372     2,298     1,547     1,747     1,256     1,256  

Total debt(11)

    5,717     9,578     9,546     8,939     9,838     9,838  

Net debt(12)

    5,345     7,280     7,999     7,192     8,582     8,582  

(1)
Adjusted EBITDA of the Bezeq Group represents profit before income tax, share of loss of equity-accounted investee, financing expenses, net and depreciation and amortization for the Bezeq Group. Bezeq presents Adjusted EBITDA because its management believes that it and similar measures are widely used by certain investors, securities analysts and other interested parties as supplemental measures of performance and liquidity. Adjusted EBITDA may not be comparable to similarly titled measures of other companies, have limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of Bezeq's operating results as reported under IFRS. For more information, see "Presentation of Financial and Other Information—Non-IFRS Financial Measures."

 

13


 

    The following table reconciles the Bezeq Group's net income and Adjusted EBITDA for the periods indicated:

   
   
   
   
  Nine Months ended September 30,    
 
   
  Year ended December 31,   Twelve Months ended September 30, 2013  
   
  2010   2011   2012   2012   2013  
   
  (NIS in millions)
 
 

Net income of the Bezeq Group

    2,442     2,061     1,864     1,345     1,419     1,938  
 

Depreciation and amortization

    1,409     1,395     1,436     1,075     983     1,344  
 

Financing expenses, net

    109     210     149     88     96     157  
 

Income tax

    932     755     777     597     516     696  
                             
 
 

EBITDA of the Bezeq Group

    4,892     4,421     4,226     3,105     3,014     4,135  
                             
 
 

Share of loss of equity-accounted investees

    261     216     245     233     195     207  
                             
 
 

Adjusted EBITDA of the Bezeq Group

    5,153     4,637     4,471     3,338     3,209     4,342  
                             
 
 
                             
(2)
Adjusted EBITDA Margin of the Bezeq Group represents Adjusted EBITDA of the Bezeq Group divided by revenues of the Bezeq Group.

(3)
Adjusted EBITDA represents our consolidated profit before income tax, share of loss of equity-accounted investee, financing expenses, net and depreciation and amortization. Adjusted EBITDA may not be comparable to similarly titled measures of other companies, have limitations as an analytical tool and should not be considered in isolation or as a substitute for analysis of our operating results as reported under IFRS. For more information, see "Presentation of Financial and Other Information—Non-IFRS Financial Measures."

    The principal differences between Bezeq's Adjusted EBITDA and our consolidated Adjusted EBITDA results from our standalone salaries and general and operating expenses (NIS 8 million for the twelve months ended September 30, 2013), as well as from cancellations of capital gains that result from the sale of Bezeq Group assets to which we assigned fair value on the date we acquired our interest in Bezeq (NIS 119 million for the twelve months ended September 30, 2013). For more information, see "Management's Discussion and Analysis of Financial Condition and Results of Operation—Explanation of Key Income Statement Items."

    The following table reconciles our consolidated net income and consolidated Adjusted EBITDA for the periods indicated:

   
   
   
   
  Nine Months ended September 30,    
 
   
  Year ended December 31,   Twelve Months ended September 30, 2013  
   
  2010   2011   2012   2012   2013  
   
  (NIS in millions)
 
 

Net income for the period

    323     120     790     561     761     990  
 

Depreciation and amortization

    2,294     2,984     2,367     1,767     1,514     2,114  
 

Financing expenses, net

    287     498     353     268     241     326  
 

Income tax

    385     653     555     404     427     578  
                             
 
 

EBITDA

    3,289     4,255     4,065     3,000     2,943     4,008  
                             
 
 

Share of loss of equity-accounted investees

    235     216     245     233     195     207  
                             
 
 

Adjusted EBITDA

    3,524     4,471     4,310     3,233     3,138     4,215  
                             
 
 
                             
(4)
Adjusted EBITDA Margin represents Adjusted EBITDA divided by revenues.

(5)
Capital expenditure, net represents the purchase of property, plant and equipment (PPE) plus investments in intangible assets, less proceeds from the sale of PPE, which primarily relate to the sale of real estate and copper in the years presented.

(6)
Total cash items of the Restricted Group represents cash and cash equivalents plus invesments, including derivative financial instruments of the Restricted Group.

(7)
Total debt of the Restricted Group represents current and non-current financial liabilities of the Restricted Group, which are comprised of bank and institutional borrowings and debentures. Amounts reflected exclude accrued interest, but include unamortized premiums, discounts and debt issuance costs.

(8)
Total secured debt of the Restricted Group represents secured debt of the Restricted Group, which is comprised of banks and institutional borrowings. Amounts reflected exclude accrued interest, but include unamortized premiums, discounts and debt issuance costs.

(9)
Net debt of the Restricted Group represents total debt of the Restricted Group less total cash of the Restricted Group.

(10)
Total cash items of the Bezeq Group represents cash and cash equivalents plus invesments, including derivative financial instruments of the Bezeq Group.

(11)
Total debt of the Bezeq Group represents current and non-current financial liabilities of the Bezeq Group, which are comprised of bank borrowings and debentures. Amounts reflected exclude accrued interest, but include unamortized premiums, discounts and debt issuance costs.

(12)
Net debt of the Bezeq Group represents total debt of the Bezeq Group less total cash of the Bezeq Group.

 

14


Bezeq Group Key Financial Data(1)

 
  Year ended December 31,   Nine Months ended September 30,  
 
  2010   2011   2012   2012   2013  
 
  (NIS in millions)
 

Bezeq

                               

Revenues

    5,263     4,648     4,630     3,509     3,377  

EBITDA(2)

    2,733     2,346     2,638     1,936     2,048  

EBITDA margin

    51.9 %   50.5 %   57.0 %   55.2 %   60.6 %

Capital expenditures, net

    900     937     658     592     353  

Pelephone

                               

Revenues

    5,732     5,548     4,468     3,441     2,826  

EBITDA(2)

    1,984     1,921     1,423     1,127     877  

EBITDA margin

    43.6 %   52.8 %   43.6 %   44.9 %   41.3 %

Capital expenditures, net

    397     382     381     308     242  

Bezeq International

                               

Revenues

    1,380     1,354     1,340     1,001     1,064  

EBITDA(2)

    414     350     355     260     268  

EBITDA margin

    30.0 %   25.8 %   26.5 %   26.0 %   25.2 %

Capital expenditures, net

    180     288     173     135     79  

YES(3)

                               

Revenues

    1,583     1,619     1,636     1,229     1,218  

EBITDA(2)

    463     571     501     364     400  

EBITDA margin

    29.2 %   35.3 %   30.6 %   29.6 %   32.8 %

Capital expenditures, net

    277     264     284     212     241  

(1)
Table sets forth results on a stand-alone basis prior to the elimination of intercompany revenues.

(2)
EBITDA is profit before income tax, financing expenses, net and depreciation and amortization. EBITDA for the year ended December 31, 2010 for Bezeq International includes NIS 57 million from the step acquisition of an interest in Walla! to Bezeq.

(3)
Bezeq does not consolidate YES's results into its financial statements.

 

15


 

Bezeq Group Other Operating Data:

 
  Year ended December 31,   Nine Months ended September 30, 2013  
 
  2010   2011   2012  

Bezeq

                         

Total telephony access lines (000's)

    2,366     2,367     2,268     2,223  

Market Share

                         

Fixed-Line Telephony

    69 %   67 %   65 %   63 %

Fixed-Line Broadband

    59 %   59 %   60 %   62 %

ARPL (NIS in millions)

    81     76     73     68  

Fixed-line Telephony Churn rate

    12.6 %   11.6 %   15.3 %   10 %

Broadband Subscribers (000's)

    1,066     1,111     1,169     1,230  

Broadband Internet ARPU (NIS)

    75     80     81     85  

Pelephone

                         

Subscribers (000's)

    2,857     2,847     2,800     2,683  

Market Share

    29 %   29 %   28 %   27 %

ARPU (NIS)

    111     107     95     86  

Churn rate

    15.3 %   22.9 %   22.4 %   20.3 %

Bezeq International

                         

ISP Market Share

    35.9 %   37.5 %   38.85 %   40 %

International Telephony Market Share

    30.7 %   30 %   27.2 %   22 %

ISP Churn rate

    12.7 %   12.6 %   18.4 %   13.4 %

YES(1)

                         

Subscribers (000's)

    578     586     578     593  

Market Share

    39 %   40 %   39 %   40 %

ARPU (NIS)

    230     232     234     233  

Churn rate

    13.0 %   11.9 %   15.4 %   10.4 %

(1)
Bezeq does not consolidate YES's results into its financial statements.

 

16



RISK FACTORS

An investment in the Notes involves a high degree of risk and uncertainty. You should carefully consider the risks and uncertainties described below, as well as the other information contained in this Offering Memorandum, before purchasing the Notes. If any of the events described below, individually or in combination, were to occur, this could have a material adverse impact on our business, prospects, results of operations and financial condition and our ability to make payments on the Notes and could therefore have a negative effect on the trading price of the Notes. Described below and elsewhere in this document are the risks considered to be the most material, although there may be other unknown or unpredictable economic, business, competitive, regulatory or other factors that also could have material adverse effects on our results of operations, financial condition, business or operations in the future. In addition, our past financial performance may not be a reliable indicator of future performance and historical trends should not be used to anticipate results or trends in future periods.

This Offering Memorandum also contains forward-looking statements that involve risks and uncertainties. Actual results may differ materially from those anticipated in these forward-looking statements as a result of various factors, including the risks described below and elsewhere in this Offering Memorandum. See "Forward Looking Statements."

Risks Relating to the Bezeq Group's Business

Competition from other telecommunications providers and recent and potential changes in the competitive environment and communications technologies could adversely affect the Bezeq Group's business, results of operations and financial condition.

The Bezeq Group faces significant competition from established and new competitors who provide fixed-line telephony, fixed-line broadband Internet infrastructure access, cellular telephony, ISP and pay television services. In addition to the entrance of new competitors, competition among the existing communications groups in Israel is intensifying. Four main groups, each consisting of companies under common or joint control, hold a significant share of the communications market in Israel today: the Bezeq Group, the Cellcom Group, the Partner Group and the HOT Group. The Bezeq Group's three principal competitors may in some cases be required to comply with fewer regulations because, among other reasons, they use different technologies to provide their services or do not own their own fixed-line network. There can be no assurance that the measures taken by the Bezeq Group companies to streamline their respective operations and improve the services they provide to differentiate themselves from their competitors will be successful.

In recent years, competition in the cellular telephony industry has intensified. This has led to lower prices and higher customer churn rates, which in turn has affected the Bezeq Group's results. Bezeq expects competition to continue to increase amid the changing legislation in Israel and consolidation in the telecommunications industry that permits certain service providers to market a combination of fixed-line telephony, fixed-line broadband Internet infrastructure access, ISP and pay television services (a "bundle") for an aggregate price which is lower than the price of the individual products and services in the bundle. The Bezeq Group is currently subject to restrictions on marketing bundles, which are stricter than the restrictions applicable to its competitors. In addition, Bezeq expects additional competitive pressure to result from the convergence of broadcasting and communication technologies, as a result of which other participants in the Israeli media and telecommunications industries may seek to offer bundles of fixed-line telephony and cellular telephony, Internet and/or video broadcast services in competition with it. These competitive forces may create further downward pressure on prices, which may result in a decrease in the Bezeq Group's ARPU and increase the Bezeq Group companies' churn rates. In addition, the Bezeq Group companies may bear higher costs if they introduce new products or services to maintain or improve their competitive positioning and reduce subscriber churn. Furthermore, technological developments and falling equipment prices could enable other operators to provide services similar to those provided by the Bezeq Group at much lower costs. In combination with difficult economic environments, these competitive pressures could adversely impact the Bezeq Group's ability to increase, or in certain cases maintain, its ARPUs, operating cash flows and liquidity.

In May 2012, the Ministry of Communications published a policy document with respect to the expansion of competition in the fixed-line communications wholesale market, which adopted the key recommendations of a committee appointed by the Ministers' of Communications and Finance, referred to as the Hayek Committee, for significant regulatory reforms in the Israeli communications market. Regulation relating to the wholesale market implementation could entitle other communications

17


companies network infrastructure access, which would enable such companies to lease such infrastructure from Bezeq and then sell access to their customers. Bezeq is preparing to implement a wholesale market and provide wholesale services. The effect on Bezeq will depend, in great measure, on the conditions, arrangements and similar variables associated with implementing such wholesale services, some of which have not yet been determined. Furthermore, a recent amendment to the Israeli Communications Law broadens the authorities of the Minister of Communications in connection with the supervising of competition after the implementation of the wholesale market, including authority to determine tariffs or other requirements with respect to certain fees. The manner in which the Minister of Communications exercises the authorities granted under the amendment, if exercised, could have an adverse impact on the Bezeq Group. In January 2014, Bezeq received a hearing document, under which the Minister of Communications announced its intention to determine, subject to a hearing, the framework for providing wholesale services, as well as the maximum fees for providing wholesale services on Bezeq's network. The implementation of the Wholesale Market Policy Document may have significant effects on the Bezeq Group. See "Regulatory—The Bezeq Group—General—Wholesale Market Regulation."

Fixed-Line Telephony.    Competition in the fixed-line telephony market is intense. We believe that competition in this market will continue to increase due to the low barriers to entry and regulations permitting new service providers who receive a license to provide telephony services using voice over Internet protocol ("VoIP") or voice over broadband ("VoB") technology. While such services utilize the fixed-line broadband Internet infrastructure access network owned by either Bezeq or HOT, and therefore require end-users to purchase fixed-line broadband Internet infrastructure access services directly from Bezeq or HOT, such services have reduced demand for fixed-line telephony services.

In addition, the implementation of the Wholesale Market Policy Document published by the Ministry of Communications in May 2012 may have significant effects on Bezeq. Furthermore, the growth in use of cellular telephony services, which has become a popular substitute for fixed-line telephony, has exacerbated the competitive pressures that Bezeq faces as a fixed-line telephony operator. Increasing use of alternative communications technologies, such as VoIP or VoB, may also continue to negatively affect Bezeq's fixed-line call usage volumes and subscriber growth. As new competitors and new technologies enter the market and prices decrease in line with the downward pressure on telephony prices, Bezeq's fixed-line telephony business may become less profitable and experience a decline in revenues and market share.

Fixed-Line Broadband Internet Infrastructure Access.    Bezeq's principal competitor in the fixed-line broadband Internet infrastructure access service market is HOT, which is currently the only other fixed-line broadband Internet infrastructure access provider in Israel. In addition, Bezeq's fixed-line broadband Internet infrastructure access services business faces competition from cellular telephony operators as they are increasingly able to utilize a combination of technologically advanced hand and high bandwidth technologies, such as universal mobile telecommunications system ("UMTS") and, potentially, long-term-evolution ("LTE") technology. The Ministry of Communications' policy for the establishment of a wholesale market for fixed-line telephony and broadband Internet infrastructure access, pursuant to which Bezeq would be required to provide access to its fixed-line broadband Internet network infrastructure to other service providers on a wholesale basis, may increase competition in the fixed-line broadband Internet infrastructure access market. The price for such access would be determined based on a commercial agreement between Bezeq and any such service provider, but if the Minister of Communications finds that the price and conditions for such services are anti-competitive or if the parties cannot reach a reasonable commercial agreement, he will be entitled to determine the price and conditions. To date, Bezeq has not reached any such commercial agreement and the Minister of Communications has not determined any conditions. In January 2014, the Ministry of Communications issued a hearing regarding the framework for providing wholesale services and maximum fees for wholesale services. Should the wholesale market develop, certain requirements for structural separation and limitations on bundling of products that apply to Bezeq and HOT may be lifted, as a result of which competition in the fixed-line broadband Internet infrastructure access market may increase significantly, which could negatively affect Bezeq's results of operations. See "Regulatory—The Bezeq Group—General—Wholesale Market Regulation."

Competition may also increase following the recent establishment of a telecommunications joint venture, IBC Israel Broadband Company (2013) Ltd. ("IBC"), between the government-owned Israel Electric Company ("IEC") and a consortium of non-government companies that was selected by the IEC in a tender procedure. In August 2013, IBC was granted a general license for the provision of telecommunications infrastructure services (including data services, digital transmissions and VPN) via

18


fiber optic networks to telecommunication services providers. According to the license, IBC will enter into an agreement with the IEC to use the IEC's fiber optic network in Israel to provide such wholesale products to telecommunication services providers. If IBC is successful, it will compete with Bezeq and HOT in the wholesale market and will provide such services directly to large business customers. Pursuant to the general license, IBC is not required to provide universal coverage, but rather is required to provide gradual universal coverage over a period of 20 years. In addition, IBC was granted a five-year special license to provide wired domestic data communications services, according to which it is entitled to provide IP virtual private network ("IPVPN") services and broadband data communications services, without an obligation to provide universal service. We believe that the significant relief granted to IBC under the general license, permitting it to gradually provide universal service, and the grant of the special license permitting it to provide services without an obligation to provide universal service, could adversely affect Bezeq's operations and results.

Cellular Telephony.    The cellular telephony market in Israel is characterized by saturation and a very high penetration level in excess of 100%. Until 2012, three cellular telephony operators, Cellcom, Partner and Pelephone, led the Israeli cellular telephony market. During 2012, a number of other cellular telephony operators began to operate, including Golan Telecom and HOT Mobile, which has led to intensified competition, resulting in higher churn rates among the existing operators, a significant decrease in tariffs and, consequently, a decrease in profits. Pelephone's current principal competitors, Cellcom, Partner and HOT Mobile (since February 2012), also provide ISP services and fixed-line communications, and they market a variety of joint service packages. Pelephone also faces competition from mobile virtual network operators ("MVNOs") that provide cellular telephony services under their own brand using the network infrastructure of another service provider. Following the Israeli government's decision to encourage competition in the cellular market, 11 MVNO licenses were granted to virtual operators. We believe that only four of the MVNO licensees currently provide services: Rami Levy Celluar Communications Ltd. ("Rami Levy") and Alon Blue Square Israel Ltd. ("Alon Cellular") (both of which signed hosting agreements with Pelephone), Azi Communications (which signed a hosting agreement with Partner) and Home Cellular (which signed a hosting agreement with Cellcom). A fifth MVNO, Cellact, which has not yet begun commercial operations, signed a hosting agreement with Pelephone. The Ministry of Communications has recently taken active steps to increase competition in the fixed-line and cellular telecommunications industries, including eliminating termination fees that operators can charge (except in limited circumstances) and since January 2013, prohibiting linkage of the price and terms of handset sales to the services or benefits of the cellular contract.

The Ministry of Communications formed an inter-ministerial task force to review regulation of the sharing of cellular infrastructures in Israel. In July 2011, the Ministry of Communications issued the following key recommendations of the inter-ministerial task force:

to determine a model of forced sharing of cellular infrastructure, while giving preference to the possibility of enabling the new operators (i.e., HOT Mobile and Golan Telecom) to share sites;

a permit to set up a cellular site will be conditional on a proposal for sharing such sites with all operators; cellular telephony operators will be required to erect sites that facilitate sharing with up to four participants;

all the components and infrastructures used for broadcasting from the facility will be shared, excluding active designated equipment (radio equipment); the costs of sharing sites will be shared; and

all license holders will be required to reduce the number of unshared sites each year.

If the foregoing recommendations are enacted into legislation, they could impose significant restrictions on Pelephone's ability to expand its network. In May 2013, the Ministry of Communications, Ministry of Health and the Ministry of the Environment announced that a pre-condition to the deployment of fourth generation cellular infrastructure is the implementation of the inter-ministerial task force's recommendations regarding the sharing of cellular infrastructures.

Since HOT Mobile and Golan Telecom have yet to complete the rollout of their networks, they use national roaming services on Pelephone and Cellcom's networks, respectively. HOT Mobile's roaming agreement with Pelephone will expire on December 31, 2014. In November 2013, Partner and HOT Mobile announced that they had entered into a 15-year network sharing agreement, the scope and terms of which are subject to approvals by the Israeli authorities, including the Israeli Antitrust Authority. Pursuant to the network sharing agreement, the parties agreed to form a 50%-50% joint venture, which will own, develop and operate a cellular network to be shared by both companies. As an intermediate measure,

19


Partner and HOT Mobile have entered into a rights of use agreement, which will be valid until no later than December 31, 2016, under which Partner will grant HOT Mobile, when possible, rights of use of its cellular network in order to supplement HOT Mobile's network coverage. For additional information, see "Description of Our Business—Networks—Cellular Telephony (Pelephone)." On December 9, 2013, Pelephone entered into an agreement with Cellcom and Golan Telecom for the construction and operation of a shared 4G network and an agreement with Cellcom for the sharing of passive elements of cell sites for existing networks. For additional information, see "Description of Our Business—Networks—Cellular Telephony (Pelephone)." Effectiveness of each of the agreements is subject to the approval of the Ministry of Communications and the Israeli Antitrust Commissioner, as well as an additional indefeasible right of use agreement between Cellcom and Golan Telecom regarding Cellcom's 2G and 3G radio networks. There is no assurance that the agreements will receive the requisite regulatory approvals. If either of the network sharing agreements obtains the requisite approvals and becomes effective while the other does not, the competitive position of the parties to the agreement that has not been approved could be adversely affected.

International Telephony.    The ILD market in Israel is characterized by a high degree of competition. At the end of 2012, there were eight companies offering ILD services to private and business customers in Israel. Changes in licensing policies and the expanded use of VoIP technology have significantly reduced the barriers of entry into this market. In addition, during 2012, cellular telephony operators began to offer ILD services as part of the unlimited packages they offered. In addition, a recent hearing published by the Ministry of Communications proposes the adoption of a new regulatory regime allowing domestic fixed-line operators and cellular telephony operators to provide ILD services as part of the service packages they offer to their subscribers (see "Regulatory—The Bezeq Group—Bezeq International—Recent Regulatory Developments—Offering of ILD Services by Cellular Telephony Operators; Hearing re Proposed Regulatory Regime in the ILD Market"). We expect competition in this market, including price competition, to increase in the future.

Internet Service Providers.    Access to broadband Internet in Israel requires households to purchase Internet access services from a licensed ISP and broadband Internet infrastructure access services from a separate provider. While there are only two fixed-line broadband Internet infrastructure access service providers in Israel (Bezeq and HOT), many telecommunication companies hold ISP licenses in Israel, including Bezeq International, 013 Netvision (which merged with Cellcom), 012 Smile (which merged with Partner), HOT Net (since February 2012) and numerous minor niche players. The Israeli ISP market is a saturated market and as competitors are typically unable to differentiate themselves based on price, they attempt to differentiate themselves primarily by strengthening customer loyalty; however, competition has led to increased churn rates and reduced income per customer.

Pay Television.    The Israeli television market is characterized by a very high penetration rate and an increasing emphasis on new television technology, in particular digital, HD and interactive television services, such as VOD, requiring high-bandwidth and bi-directional distribution platforms. In the multi-channel pay television market, YES and HOT are the only two companies in Israel licensed to provide multi-channel pay television broadcasts. Other factors impacting competition in the market include the availability of free-to-air digital terrestrial television ("DTT") channels and the increasing availability and quality of video content offered over the Internet and cellular networks, which is not currently regulated and does not require designated infrastructure. We believe that the implementation of certain regulatory changes, including the expansion in the number and variety of free-to-air DTT channels and the possible appointment of a private entity to operate the DTT system instead of the Second Authority, which is the public authority that supervises commercial broadcasting in Israel, may increase competition in the television market.

The Bezeq Group operates in a highly regulated telecommunications market, which limits its flexibility in managing its business and may materially and adversely affect our results of operations.

The Bezeq Group operates in a highly regulated industry in Israel, which limits its flexibility in managing its business efficiently, and may increase its administrative and operational expenses and limit its revenue. The Bezeq Group is subject to government supervision and regulation relating to, among other things:

regulations requiring structural separation between the members of the Bezeq Group;

regulations restricting the Bezeq Group's ability to market bundles;

price regulation for certain services that the Bezeq Group provides;

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rules and regulations imposed on telecommunications service providers with significant market share;

rules governing the interconnection between different telephone networks and the interconnection rates that the Bezeq Group can charge and pay;

regulations governing the prohibition of exit-fees or cancellation charges;

regulations requiring the Bezeq Group to grant other telecommunications operators access to its infrastructure;

regulations governing roaming charges and other billing and customer service matters;

rules for authorizations, licensing, acquisitions, renewals, pledging and transfers of licenses;

requirements covering a variety of operational areas such as land use, health and safety and environmental protection, technical standards and subscriber service requirements rules and regulations relating to subscriber privacy;

rules and regulations relating to payment of royalties (zero rate as of 2013);

rules and regulations relating to universal service provision and requirements to extend the Bezeq Group's services to areas of Israel even where it is not economically profitable to do so; and

regulations restricting the number of television channels YES can own and specifying the minimum investment YES is required to make in local content productions.

For additional information see "Regulatory."

Bezeq's tariffs for its fixed-line services are subject to government control, which harms its ability to compete and places downward pressure on its tariffs, which adversely affects its business.

Bezeq's fixed-line operation is restricted in its ability to give discounts on its principal services and to offer differential tariffs. Further, alternative payment packages, which should provide an immediate alternative to the regulated tariffs, are currently subject to certain conditions which often render the alternative payment package option moot. For additional information regarding government control over Bezeq's tariffs, including conditions for the offer of alternative payment packages, see "Regulatory—The Bezeq Group—Bezeq—Control of Bezeq's Tariffs." The foregoing factors harm Bezeq's ability to compete and place downward pressure on its tariffs, which adversely impacts its business.

Following the recommendations of the Hayek Committee, the Ministry of Communications has the power to set the price at which Bezeq sells its services to license holders. In addition, Bezeq received a hearing document, under which the Minister of Communications announced its intention to determine, subject to a hearing, the framework for providing wholesale services, as well as the maximum fees for providing wholesale services on Bezeq's network. An application of low prices by the Ministry may adversely affect Bezeq's revenues and profits. See "Regulatory—The Bezeq Group—General—Wholesale Market Regulation."

The Bezeq Group is subject to restrictions on intercompany relations with its principal subsidiaries, which harms its ability to compete and adversely affects its business.

Bezeq's general license for domestic fixed-line communication services obligates it to ensure that its relationships with its principal subsidiaries do not result in favoring them over their competitors. Bezeq is also subject to various limitations as a result of the State of Israel declaring it a monopoly in the fixed-line services business. In addition, Bezeq is subject to limitations set forth in merger approvals granted by the Israeli Antitrust Authority. As a result of such limitations, separation of Bezeq and its principal subsidiaries' management, financial and marketing systems, assets and employees is required, which results in high administrative overheads. Bezeq is also subject to limitations with respect to the offering of bundles with its principal subsidiaries, which adversely impacts its business, particularly in light of the entry into the market of communications companies competing directly with Bezeq in most of its areas of operation based on the provision of bundled services to the customer.

Potential health risks related to cellular network sites and cellular telecommunication devices could have a material adverse effect on Pelephone's business, results of operations and financial condition.

A number of studies have been conducted to examine the health effects of cellular phone use and network sites, and some of these studies have been construed as indicating that radiation from cellular phone use

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causes adverse health effects. Media reports have suggested that radio frequency emissions from cellular network sites, cellular handsets and other cellular telecommunication devices may raise various health concerns. In May 2011, the World Health Organization's International Agency for Research on Cancer announced that radiofrequency electromagnetic fields associated with the use of cellular phones may be carcinogenic to humans.

Several lawsuits have been filed against cellular telephony operators and other participants in the cellular industry alleging adverse health effects and other claims relating to radio frequency transmissions to and from sites, handsets and other cellular telecommunications devices, including lawsuits against Pelephone. Although these lawsuits were settled during 2012 with no material expenses incurred, there can be no guarantee that potential future lawsuits will have favorable outcomes. Any exposure to such liabilities could have a material adverse impact on our business, results of operations and financial condition.

Pelephone takes steps to ensure that the levels of radiation emitted by these transmission facilities, equipment and devices do not exceed the levels of radiation permitted in the directives of the Israeli Ministry of Environmental Protection which align with international standards. However, health risks may be found to exist and transmission sites or devices and equipment may emit more radiation than that allowed in radiation standards, causing a risk to health, which may have an adverse effect on Pelephone's business and could result in a reduction in the use of cellular telephony services, difficulty in renting sites, claims for physical and property damages in substantial amounts and attempts to exercise the deeds of indemnity that Pelephone deposited with the planning authorities pursuant to the Planning and Construction Law. Pelephone's third-party liability insurance policy does not currently cover electromagnetic radiation.

Under the Planning and Construction Law, local planning committees may be held liable for the depreciation of the value of nearby properties as a result of approving a building plan or permit. Under the Israeli Radiation Law, the National Council for Planning and Construction requires indemnification undertakings from cellular companies as a precondition for obtaining a building permit for new or existing cellular network sites. The National Council has decided that until the national building plan is amended to reflect a different indemnification amount, Pelephone, as well as other cellular telephony operators, will be required to indemnify the committee in full against all losses resulting from claims against the committee for reductions in property values as a result of granting a permit for the cellular site.

The Bezeq Group may face difficulties in obtaining some of the building and environmental permits required for the establishment and operation of its network sites, which could have an adverse effect on the coverage, quality and capacity of its network.

The Bezeq Group, mainly with respect to its Pelephone cellular telephony operations, is subject to the Israeli Radiation Law, which regulates the emission of electromagnetic radiation from broadcast facilities. The Israeli Radiation Law prohibits, among other things, the erection or operation of a source of radiation in contravention of any applicable permit and the erection or operation of a source of radiation without a permit. After receiving a written warning from the authorities, failure to remedy a violation will subject the permit holder, officers and directors to civil liability or criminal prosecution on a strict liability basis. While the Bezeq Group is constantly working to obtain or renew permits to set up and operate its various broadcasting installations, the policies maintained by the various regulators and amendments to applicable statutes and standards could adversely impact the infrastructure of such installations. Any such adverse impact could affect the services offered over Pelephone's infrastructure, the result of which could have a material adverse effect on the revenues of the Bezeq Group from such services. The establishment of a broadcasting site without obtaining a building permit constitutes, among other things, a breach of the Planning and Construction Law, and in some instances, this has resulted in demolition orders against sites, indictments or the initiation of civil proceedings against Pelephone and some of its officers. Pelephone has succeeded in most of these instances to avoid demolition or to delay the execution of demolition orders pursuant to arrangements it reached with the planning and building authorities to resolve the lack of licensing. These arrangements have not required any admission of guilt by officers of Pelephone or their conviction. However, it is not certain that this will continue in the future, or that there will be no further instances in which demolition orders are issued and indictments are filed in respect of building permits, including against officers.

In addition, the establishment and operation of communications facilities in Israel are subject to building permits from various planning and building committees, a process that involves a number of approvals from Israeli state entities and regulatory bodies. Bezeq's and Pelephone's inability to obtain such approvals

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and permits in the future may impair the quality and capacity of their existing networks and the deployment of new networks.

The deployment and manner of set-up of communications facilities in Israel are regulated by the National Outline Plan for Communications 36 ("NOP 36") and National Outline Plan for Communications 56 in the Palestinian Administered Territories ("NOP 56"). These plans were designed to ensure coverage for transmitting and receiving radio, television and wireless communications, while avoiding radiation hazards, minimizing damage to the environment and simplifying and increasing the efficiency of the processes involved in setting up new facilities. For additional information, see "Regulatory—The Bezeq Group—Pelephone—Network Site Permits—Local Building Permits."

Difficulties in obtaining approvals for the erection and operation of cellular network sites and other cellular network infrastructure could have an adverse effect on the extent, coverage and capacity of our cellular network, thus impacting the quality of our voice and data services and our ability to continue to market our products and services effectively.

Pelephone, like the other cellular telephony operators in Israel, provides repeaters, also known as bi-directional amplifiers, to subscribers seeking an interim solution to weak signal reception within specific indoor locations. In light of the lack of a clear policy of the local planning and building authorities, and in light of the practice of the other cellular telephone operators, Pelephone has not requested permits under the Planning and Construction Law for the repeaters. If the local planning and building authorities determine that permits under the Planning and Construction Law are also necessary for the installation of these devices, or any other receptors that Pelephone believes do not require a building permit, it could have a negative impact on its ability to obtain permits for its repeaters.

Approximately 20% of the Bezeq Group's cell sites are wireless access devices that operate in reliance on an exemption from the requirement to obtain a building permit. Bezeq Group's reliance on the exemption for wireless access devices have been challenged and is currently awaiting ruling by the Israeli Supreme Court. Under an interim order issued by the Supreme Court in September 2010, the Bezeq Group is unable to further construct wireless access devices in cellular networks in reliance on the exemption. Under a decision of the Supreme Court of February 2011, the order will not apply to the replacement of existing wireless access devices under certain conditions. In September 2011, the interim order was relaxed to allow two new UMTS operators, Hot Mobile and Golan Telecom, to construct wireless access devices in reliance on the exemption until July 31, 2012 and was thereafter extended several times until April 2014. Should the Israeli Supreme Court determine that all wireless access devices without building permits must be removed, it could have a negative impact on the Bezeq Group.

Bezeq's growth prospects depend on the continued demand for domestic fixed-line telephony, fixed-line broadband Internet infrastructure access, cellular telephony, ISP and pay television services.

The use of fixed-line broadband Internet infrastructure access services, cellular telephony services and pay television services in Israel has increased in recent years, making Israel one of the most highly penetrated countries in the world with respect to such services. The Bezeq Group has benefited from this growth, and its continued growth and profitability depend, in part, on the continued demand for these services and domestic fixed-line telephony services in the coming years. If demand for the Bezeq Group's current services and products decreases, its business, financial condition and results of operations could be adversely affected.

The Bezeq Group's systems and operations are vulnerable to damage or interruption, which could expose it to material risk of loss or litigation.

The Bezeq Group provides services using various infrastructure systems that include exchanges, transmission, data communication and access systems, cables and computerized systems. Any failure to manage the growth and complexity of the Bezeq Group's networks could lead to a degradation of service and network disruptions that could harm its reputation and result in a loss of subscribers. Furthermore, Pelephone's cellular telephony business uses two frequency ranges, 850 MHz and 2100 MHz, which are exposed to interruptions that could impair the service quality of the networks that Pelephone operates.

Although some of the Bezeq Group's systems have backup, damage to some or all of these systems, whether due to a technical fault or natural disaster, could cause extreme difficulties in providing services. If any part of the Bezeq Group's infrastructure, including its IT systems, cellular information systems, communications lines, antenna sites, equipment or technology becomes subject to a flood, fire, other

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natural disaster, terrorism, acts of war, a computer virus, a power loss, material bugs in software or other catastrophe or unauthorized access, its operations and customer relations could be materially adversely affected. In addition, disaster recovery, security and service continuity protection measures that the Bezeq Group companies have, or may in the future undertake, and their monitoring of network performance, may be insufficient to prevent losses.

Although no incidents have occurred in numbers that are statistically significant, the Bezeq Group's networks and other technical equipment have been, and may continue to be, subject to occasional malfunctions due to material bugs in software or technical shortcomings or imperfect interfaces with equipment in private homes, the networks of other operators or its own networks or with other surrounding equipment. The Bezeq Group might incur liabilities or reputational damages as a result of such malfunctions.

In addition, the Bezeq Group accumulates, stores and uses data in the ordinary course of its operations that is protected by data protection laws. Although the Bezeq Group takes precautions to protect subscriber and employee data in accordance with the applicable Israeli privacy requirements, it may fail to do so, and certain subscriber and employee data may be leaked or otherwise used inappropriately. Violation of data protection laws may result in fines, loss of reputation and subscriber churn and could have an adverse effect on the Bezeq Group's business, financial condition and results of operations.

Spectrum availability in Israel is limited. Pelephone's assigned frequency may not easily support the implementation of new technologies, which could have an adverse effect on Pelephone's competitive position in the cellular market.

Spectrum availability in Israel is limited and is allocated by the Ministry of Communications through a licensing process. In recent years, the Israeli government has been coping with a shortage of frequencies by limiting the number of licenses issued. In certain situations, the 850/2100 MHz frequencies available to Pelephone may not easily support the implementation of new technologies emerging in the cellular communication sector, which could make it difficult for Pelephone to implement them. Furthermore, Pelephone's frequencies are exposed to interference and could impair service quality of networks operated by Pelephone. The factors that could cause interference include among other things, the fact that the 850 MHz frequency is also used for terrestrial television broadcasts and by television stations broadcasting in the Middle East, which use could cause interference in Pelephone's networks.

The Bezeq Group companies are parties to legal proceedings, which could result in them being ordered to pay significant sums.

The Bezeq Group companies are parties to legal proceedings, including class actions, which could result in them being ordered to pay significant sums, the amount of which cannot be estimated. See "Description of our Business—Legal Proceedings." Class action claims can relate to a small loss for a single customer and yet can become a material claim for the Bezeq Group, if certified as a class action applicable to all customers or a significant portion of them. In addition, since Bezeq provides communications infrastructure as well as billing services to other licensees, parties suing those licensees in other class actions may also try to involve Bezeq as a party to such proceedings.

The markets in which the Bezeq Group operates are characterized by material capital investments in infrastructure, subscriber equipment and changing technology, which imposes a heavy financial burden on the Bezeq Group and consequently, its capital expenditures may not generate a positive return.

The markets in which the Bezeq Group operates are characterized by material capital investments in infrastructure and subscriber equipment as a result of changing technology. The frequent technological changes in infrastructure and terminal equipment and the intense competition in various market segments impose a heavy financial burden on the companies operating in the telecommunications market, requiring them to update their infrastructure technology from time to time or to introduce new devices into the market at heavy cost. The development of new technologies can render existing technologies obsolete, resulting in the need for large monetary investments in order to retain a competitive position. The Bezeq Group's future success will depend on its ability to develop and introduce, on a timely and cost-effective basis, new infrastructure and subscriber equipment that keep pace with technological developments. If the Bezeq Group is unable to respond promptly and effectively to changing technology, it will be unable to compete effectively in the future and its business could be adversely affected. No assurance can be given that the Bezeq Group's recent or future capital expenditures will generate a positive return or that it will have adequate capital available to finance such future upgrades. If the Bezeq Group is unable to, or elects

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not to, pay for costs associated with expanding or upgrading its networks, or making other capital expenditures, its growth and competitive position could be materially adversely affected.

The Bezeq Group requires licenses from the Ministry of Communications to operate its business and is subject to monitoring and enforcement by the regulator.

The Bezeq Group conducts its operations pursuant to licenses granted by the Ministry of Communications for specified periods, which may be extended for additional periods upon request. While the Bezeq Group's domestic operator license for domestic fixed-line telephony and fixed-line broadband Internet infrastructure access is valid indefinitely, its cellular telephony license is valid until September 2022, its ISP license until August 2014, its general ILD license until May 2025 and its broadcast license until January 2017. There is no certainty that such licenses will be renewed or extended in the future and any cancellation or change in the terms of the Bezeq Group's licenses may materially affect its business and results of operations, including the immediate acceleration of some of its debt.

Historically, the Bezeq Group was required to make certain royalty payments to the State of Israel in connection with its fixed-line domestic services license, Pelephone's cellular telephony license, Bezeq International's ILD services and YES's broadcast license. Although these royalty payments decreased in recent years and were reduced to zero in January 2013, there is no assurance that the Ministry of Communications and Ministry of Finance will not reinstate or increase them in the future, which could have a material effect on the Bezeq Group's results of operations.

Although we believe that the Bezeq Group is currently in compliance with all material requirements of its licenses, the interpretation and application of the technical standards used to measure these requirements, including the minimum quality standards and other license provisions, disagreements may arise in the future between the Ministry of Communications and the Bezeq Group. In addition, following recent amendments to the Communications Law introducing administrative enforcement, the Bezeq Group may be subjected to administrative enforcement proceedings and monetary sanctions. The Bezeq Group has provided significant bank guarantees to the Ministry of Communications to guarantee its performance under its licenses. If the Bezeq Group is found to be in material breach of its licenses, the guarantees may be forfeited and the licenses may be revoked. In addition, the Ministry of Communications is authorized to levy significant fines for breaches of the Bezeq Group's licenses, which could have a material adverse effect on the Bezeq Group's financial condition or results of operations.

Under the recently enacted Concentration Law, Bezeq and each corporation owned by Bezeq and by the Eurocom Group will be deemed a "Concentrating Entity," within the meaning of the Concentration Law. In addition, YES will be deemed to be an influential entity in the broadcasting field and, as a result, it too will be deemed a "Concentrating Entity." Accordingly, each award of rights (including the award of a license) by a governmental authority in an "Essential Infrastructure Field," within the meaning of the Concentration Law, and the extension of existing licenses held by any of the Bezeq Group companies, shall be subject to the procedures set out in the Concentration Law, including the consideration of control concentration factors and factors relating to the promotion of an industry's competitiveness, as well as consulting with the Committee for Reducing Concentration. The governmental authority and the Committee are obliged to consider, among other things, factors concerning the prevention of the expansion of the operations of the "Concentrating Entity." For additional information, see "Regulatory—Bezeq Group—General—The Concentration Law—Limitations on the Allocation of Rights in Public Assets." If, as a result of the implementation of the procedures under the Concentration Law, a license is not granted to a Bezeq Group company or an existing license is not extended, the Bezeq Group's business could be adversely impacted. Furthermore, some of the competitors of the Bezeq Group companies are not, and future competitors may not, be deemed a Concentrating Entity and therefore, are not subject to the foregoing restricting procedures which could give them a competitive advantage over the Bezeq Group companies.

The Bezeq Group's brands are subject to reputational risks.

The Bezeq Group's brands are well recognized in Israel. The Bezeq Group companies, including Bezeq, Pelephone, Bezeq International and YES, have developed their brands through extensive marketing campaigns, website promotions, customer referrals, and the use of sales forces and dealer networks. The Bezeq Group's brands represent a material and valuable asset. Although the Bezeq Group companies try to manage their brands, we cannot guarantee that such brands will not be damaged by any inability to

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remain technologically competitive, by circumstances that are external their control or by third parties with a resulting negative impact on the Bezeq Group's activities.

The Bezeq Group's results of operations are subject to market risks such as currency fluctuations, inflation in Israel and the general economic environment and financial condition of the capital markets in Israel and worldwide.

The Bezeq Group's results of operations are subject to market risks such as currency fluctuations, the general economic conditions, inflation in Israel and the financial condition of the capital market in Israel and worldwide. The Bezeq Group measures exposure to changes in exchange rates and inflation by the surplus or deficit of assets against liabilities. In addition, Bezeq is exposed to inflationary changes in Israel as well as to market risks associated with changes to the interest rates relating to its borrowings. In addition, Bezeq's tariff updating mechanism, which is subject to government regulation, is reviewed once a year and is influenced by the CPI. As a result, the annual rate of inflation and its distribution during the year can have a material influence on the erosion of Bezeq's tariffs and its revenues and expenses during the year, which in turn could have a material adverse impact on its operating results.

Bezeq collects payments from some of its customers in foreign currencies, primarily U.S. dollars. In addition, Bezeq consumes services from suppliers outside Israel and pays for these services in foreign currencies, primarily U.S. dollars. Changes in the exchange rates of the currencies in which Bezeq operates, primarily the NIS against the U.S. dollar, could have an adverse effect on Bezeq's cash flow and profitability. In addition, when the Israeli inflation rate exceeds the rate of the NIS depreciation against foreign currencies, some of the Bezeq Group's NIS expenses increase to the extent of the difference between the rates. A significant disparity of this kind may have a material adverse effect on our operating results.

From time to time, the Bezeq Group engages in currency hedging transactions to reduce the impact on its cash flows and results of operations of currency fluctuations. The Bezeq Group recognizes freestanding derivative financial instruments as either assets or liabilities in the statements of financial position and it measures those instruments at fair value. However, accounting for changes in the fair value of a derivative instrument, such as a currency hedging instrument, depends on the intended use of the derivative instrument and the resulting designation. For derivative instruments that are not designated as cash flow hedges, changes in fair value are recognized in our income statement without any reference to the change in value of the related budgeted expenditures. These differences could result in fluctuations in our reported net income on a quarterly basis.

In recent years, the general economic and capital market conditions in the EMEA region, including Israel, and other parts of the world have undergone significant turmoil. In addition, general market volatility has resulted from uncertainty about sovereign debt and fear that the governments of countries such as Greece, Portugal, Spain, Ireland and Italy may default on their financial obligations. Furthermore, continued hostilities in the Middle East and tensions in the region could adversely affect the Israeli economy. If these conditions continue or worsen, the Bezeq Group's future cost of debt and access to the capital markets along with its business, results of operations and financial condition could be adversely affected.

Negative developments in, or the general weakness of, Israel's economy, in particular increasing levels of unemployment, may have a direct negative impact on the spending patterns of retail consumers, both in terms of the products they subscribe for and usage levels. Because a substantial portion of our revenue is derived from residential subscribers who may be impacted by these conditions, such conditions may make it more difficult for us to attract new subscribers, more likely that certain of our subscribers will downgrade or disconnect their services and more difficult to maintain ARPUs at existing levels. In addition, there can be no assurance that deterioration in the Israeli economy would not lead to a higher number of customers defaulting on their contracts or increased levels of service disconnections. Therefore, a weak economy and negative economic developments may jeopardize the Bezeq Group's growth targets and may have a material adverse effect on the Bezeq Group's business, financial condition and results of operations.

A significant portion of the Bezeq Group's workforce is represented by labor unions, and the companies in the Bezeq Group could incur additional costs or experience work stoppages as a result of the negotiation of their labor contracts or organizing activities.

A significant portion of the employees of the Bezeq Group was represented by Israel's New General Federation of Workers (the "Histadrut"). In December 2006, a special collective agreement was signed between Bezeq, its workers' representatives and the Histadrut, regulating the labor relations in Bezeq following its privatization. In December 2013, Pelephone entered into a collective agreement with the

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Histadrut and its workers committee. See "Description of our Business—Employees." In light of the collective bargaining agreements, Bezeq's and Pelephone's ability to implement human resources and organization plans (including retirement plans and restructuring) requires coordination with the workers union and may involve significant cost. The process of implementing such plans may cause labor unrest and interfere with Bezeq's and Pelephone's regular course of activities.

The Bezeq Group depends on hardware, software and other providers of outsourced services, who may discontinue their services or products, seek to charge prices that are not competitive or choose not to renew their contracts.

The Bezeq Group has important relationships with several suppliers of hardware, software and related services that are used to operate its businesses. In certain cases, substantial investments have been made in the equipment or software of a particular supplier, making it difficult to quickly change supply and maintenance relationships in the event that the initial supplier refuses to offer favorable prices or ceases to produce equipment or provide the support that the Bezeq Group requires. Further, in the event that hardware or software products or related services are defective, it may be difficult or impossible to enforce recourse claims against suppliers, especially if warranties included in contracts with suppliers have expired or are exceeded by those in the Bezeq Group companies' contracts with their subscribers, in individual cases, or if the suppliers are insolvent, in whole or in part. In addition, there can be no assurances that the Bezeq Group will be able to obtain the hardware, software and services it needs for the operation of its business, in a timely manner, at competitive terms and in adequate amounts. The Bezeq Group's key suppliers include the following:

Bezeq: Alcatel Group (represented in Israel by Alcatel Telecom Israel Ltd.), Dialogic Networks (Israel) Ltd., Comverse, Inc., Adtran Holdings Ltd., Oracle, EMC, Vmware and ECI Telecom.

Pelephone: Apple Distribution International, Ericsson, Nortel and Motorola.

Bezeq International: British Telecom and MedNautilus.

YES: Eurocom Digital, Advanced Digital Broadcast S.A., Pace Micro Technology PLC, Altech Multimedia International (Pty) Ltd. and NDS Ltd.

The Bezeq Group's ability to renew its existing contracts with suppliers of products or services, or enter into new contractual relationships upon the expiration of such contracts, either on commercially attractive terms, or at all, depends on a range of commercial and operational factors and events, which may be beyond its control. The occurrence of any of these risks could create technical problems, damage the Bezeq Group's reputation, result in the loss of customer relationships and have a material adverse effect on its business, financial condition and results of operations. For more information about the Bezeq Group's suppliers, see "Description of our Business—Suppliers."

The Bezeq Group may be subject to claims of intellectual property infringement, which could have an adverse impact on its businesses or operating results.

The Bezeq Group is subject to the risk of intellectual property rights claims against it. The Bezeq Group has in the past and may in the future receive claims of infringement or misappropriation of other parties' proprietary rights. In addition to claims relating to broadcasts on channels YES owns, it may be subject to intellectual property infringement claims with respect to programs broadcast on foreign channels that it carries. Successful challenges to YES's rights to intellectual property could require YES to enter into royalty or licensing agreements on unfavorable terms, incur substantial monetary liability or be enjoined preliminarily or permanently from further use of the intellectual property in question. This could require a change in business practices and limit the ability to provide customers with the content that they expect. If YES is required to take any of these actions, it could have an adverse impact on its businesses or operating results.

Even if the claims of intellectual property infringement are without merit, defending against the claims can be time-consuming and costly and divert management's attention and resources away from its businesses. Israeli law relating to intellectual property contains provisions allowing the owner of an intellectual property right to apply to Israeli courts to grant various enforcement measures and other remedies, such as temporary and permanent injunctive relief and a right to confiscate infringing goods and damages. If any of these claims succeed, the Bezeq Group may be forced to pay damages or may be required to obtain licenses for the infringing product or service and may incur liabilities or reputational damages as a result. If the Bezeq Group cannot obtain all necessary licenses on commercially reasonable terms, it may be forced to stop using or selling the products and services, which could adversely affect its ability to provide certain services and products.

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Barriers to entry in the Israeli domestic fixed-line communications segment have lessened considerably in recent years.

Operating in the Israeli domestic fixed-line communications segment requires receipt of the appropriate domestic fixed-line licenses. Traditionally, the main barrier to entry in this segment arose from the need for heavy investment in technological infrastructure and in surrounding systems, which were necessary to achieve economies of scale, and from high costs involving the establishment of marketing, sales, collection and customer support systems and the building of a brand. In recent years, these traditional barriers to entry into the Bezeq Group's segments of operation have lessened considerably as a result of the following factors: technological improvements, lower infrastructure and equipment prices, easing of regulations applying to new competitors and the mandatory obligation to allow Bezeq's competitors to use Bezeq's and HOT's fixed-line infrastructures and services.

The regulation of competition in VoB-based telephony, which enables telephony services to be provided based on a broadband Internet infrastructure of another operator without need for an independent fixed-line infrastructure (and in the future, if it becomes possible, competition based on dividing the network into sections and wholesale sale of services), significantly reduces the size of investment required from those competing with Bezeq, thereby making barriers to entry in the fixed-line segment much lower.

If YES is unable to obtain attractive programming on satisfactory terms for its pay television services, the demand for these services could be reduced, which could adversely affect its revenue and profitability.

The success of YES's services depends on access to an attractive selection of television programming from content providers. The ability to provide movie, sports, popular series and other programming, including VOD content, is a major factor that attracts subscribers to pay television services, especially premium services. If YES was unable to obtain high-quality content, it could limit YES's ability to incentivize customers to migrate from lower priced packages to higher tier programming, which would inhibit its ability to execute its business strategy. Furthermore, there can be no assurance that YES will continue to be able to obtain an attractive selection of television programming or that the local content that YES provides will continue to be successful. Any or all of these factors could result in reduced demand for, and lower revenue and profitability from, YES's satellite broadcast services.

Adverse decisions of tax authorities or changes in tax treaties, laws, rules or interpretations could have a material adverse effect on the Bezeq Group's results of operations and cash flow.

The tax laws and regulations in Israel may be subject to change and there may be changes in interpretation and enforcement of tax law. As a result, we and the Bezeq Group may face increases in taxes payable if tax rates increase, or if tax laws and regulations are modified by the competent authorities in an adverse manner. We regularly assess the likelihood of such outcomes and have established tax provisions which represent management's best estimate of the potential assessments. The Israeli Tax Authority may challenge certain positions that we and the Bezeq Group have adopted in the past or that we and the Bezeq Group may adopt in the future. The resolution of any of these tax matters could differ from the amount we or Bezeq have reserved, which could have a material adverse effect on our cash flows, business, financial condition and results of operations.

Our success depends on the continued service of certain key executives and personnel.

The Bezeq Group's key executives and employees possess substantial knowledge of its business and operations. We cannot assure you that the Bezeq Group will be successful in retaining their services or that the Bezeq Group would be successful in hiring and training suitable replacements without undue costs or delays. As a result, the loss of any of these key executives and employees could cause significant disruptions in the Bezeq Group's business operations, which could materially adversely affect our results of operations.

Risks Related to the Restricted Group

Our operating results may be adversely affected by significant fluctuations in interest rates.

Our exposure to market risk for changes in interest rates relates to our investment in marketable securities. Investments in both fixed rate and floating rate interest bearing securities carry a degree of interest rate risk. The market pricing for such fixed rate securities may be adversely impacted due to a rise in interest rates, while floating rate securities may produce less income than predicted if interest rates fall. Due in

28


part to these factors, our future financial results may be negatively affected in the event that interest rates fluctuate.

We, Internet Gold and other members of the Eurocom Group are subject to the Control Permit for holding the controlling interest in Bezeq. Failure to comply with this permit or other regulatory provisions relating to the control of Bezeq may result in the revocation of the Control Permit and our rights with respect to our Bezeq interest would be adversely impacted, which would materially and adversely affect our business and financial position.

Pursuant to the Communications Order, we were required to obtain the prior written consent of the Ministers in order to obtain a permit to acquire the controlling interest in Bezeq. Under the Communications Order, no person may hold, directly or indirectly, "significant influence" over Bezeq or 5% or more of any particular class of Means of Control in Bezeq, nor may any person, together with any other person, appoint, elect or dismiss the general manager of Bezeq or cause the election, appointment or dismissal of any director of Bezeq, without the prior written consent of the Ministers. Subject to certain exceptions, prior written approval of the Ministers is also required to increase the holdings or other rights in excess of those determined in the initial approval, including by means of an agreement (including a voting agreement). No person may transfer control, "significant influence" or Means of Control in Bezeq to another, if, as a result of the transfer, the holdings of the transferee would require approval pursuant to the Israeli Communications Law or Communications Order and the transferor is aware that the transferee is not in possession of the requisite approval. For the foregoing purposes, "significant influence" means the ability to significantly influence the activity of a corporation, whether alone or together with or through others, directly or indirectly, other than as a result of holding Means of Control in that corporation or in another corporation, and including the ability derived from the corporation's articles of association, a written, oral or other kind of agreement, or from any other source. In this context, the right to appoint an officer or holding 25% of our Means of Control is presumed to confer significant influence. "Means of Control" means the right to vote at a general meeting of the company, appoint a director or general manager of the company, or to participate in the profits of the company or a share of the remaining assets of the company after payment of its debts upon liquidation.

The Control Permit includes several conditions, including, among others, the requirement that SP2 be controlled exclusively by the other parties to the Control Permit and that the parties to the Control Permit hold not less than 30% of any type of Means of Control of Bezeq and SP2. In February 2011, the Ministers permitted such percentage to decrease to 29% for a period of six months commencing from the date such holdings fall below 30%, in the event of dilution resulting from the exercise of options by Bezeq employees. In addition, the Control Permit requires that 19% of SP2 be held at all times by an "Israeli Party," as defined in the Communications Order. The Control Permit also includes certain notice requirements regarding changes in the composition of the board of directors and certain holdings in us and Internet Gold. If we, Internet Gold or any other member of the Eurocom Group subject to the Control Permit fails to comply with the terms of the Control Permit or with other regulatory provisions relating to the control of Bezeq, such permit could be revoked and our rights with respect to our Bezeq interest would be adversely impacted, which would have a material adverse effect on our business and financial position.

Any event in which a receiver is appointed with respect to our holdings in SP2 or SP2's holdings in Bezeq will constitute grounds for the cancellation of the Control Permit. In addition, in the event that the Ministers determine that a material change in the details included in the application for the Control Permit has occurred or the members to the Control Permit failed to provide requisite notifications in accordance with the Control Permit, and there is a real concern that the essential service provided by Bezeq will be harmed, the Ministers may cancel the Control Permit or set conditions for its continuation pursuant to the provisions of the Israeli Communications Law. In the event that the Control Permit is cancelled and an application to reissue another control permit is denied, our holdings in Bezeq must be liquidated within 15 to 60 days (depending on the cause for such cancellation) pursuant to the Communications Order.

In accordance with the recently enacted Concentration Law, if either we or Internet Gold are unable to delist our ordinary shares from the TASE and redeem any publicly held debt or go private prior to December 10, 2019, we will not be permitted to control Bezeq after such date.

Under the recently enacted Concentration Law, a second-tier company (i.e., a company with publicly held debt or equity securities that is subject to reporting obligations under the Israeli Securities Law and controlled by a first-tier company), is prohibited from controlling another tier company. In the case of existing companies, a second-tier company is entitled to continue to control another tier company that it controlled on the publication date of the Concentration Law for a period of six years from the date of

29


publication of the Concentration Law, i.e., until December 10, 2019. In the event that a second-tier company controls another tier company contrary to the provisions of the Concentration Law, a district court may appoint a trustee, who will be awarded the Means of Control in such tier company for the purpose of selling such Means of Control. The trustee shall act pursuant to the orders of such court with respect to the Means of Control. Such court may, instead of appointing a trustee and under certain circumstances, order that the Means of Control held by the controlling shareholder shall not provide any rights whatsoever. Until the appointment of a trustee by a district court, the Means of Control held by a tier company that illegally controls another tier company shall not grant any voting rights at the illegally held tier company's shareholder meetings. The Concentration Law sets forth certain mechanisms intended to enable a tier company to make various arrangements for the repurchase of its publicly-held shares and the early redemption of publicly-held debt in order to comply with the provisions of the law. For additional information, see "Regulatory—Regulation of Control over Bezeq—The Concentration Law."

Our company is deemed to be a second-tier company under the Concentration Law and Bezeq is deemed to be a third-tier company under the Concentration Law. Accordingly, if either Internet Gold or we are unable to redeem any publicly held debt and delist our ordinary shares from the TASE (which would require 90-days' prior notice to the TASE) or go private prior to December 10, 2019, we will not be permitted to control Bezeq after such date and our holdings in Bezeq may be transferred to a trustee for the purpose of selling such holdings. Furthermore, if a trustee is appointed, he may motion a district court to order the cancellation of distributions made by Bezeq prior to his appointment if they are deemed to not be in Bezeq's interest.

If we do not maintain control of Bezeq we may be deemed to be an "investment company" under the Investment Company Act of 1940, which could materially and adversely affect our business.

Section 3(a)(1)(A) of the Investment Company Act of 1940 (the "Investment Company Act"), defines an investment company as any issuer that is, holds itself out as being, or proposes to be, primarily engaged in the business of investing, reinvesting or trading in securities and Section 3(a)(1)(C) of the Investment Company Act defines an investment company as any issuer that is engaged or proposes to engage in the business of investing, reinvesting, owning, holding or trading in securities and owns or proposes to acquire "investment securities" (within the meaning of the Investment Company Act) having a value exceeding 40% of the value of the issuer's total assets (exclusive of U.S. government securities and cash items) on an unconsolidated basis. However, an issuer will be deemed not to be an investment company if no more than 45% of the value of such issuer's total assets (exclusive of government securities and cash items) consists of, and no more than 45% of such issuer's net income after taxes (for the last four fiscal quarters combined) is derived from, securities other than, among other things, securities issued by companies which are controlled primarily by such issuer. Primary control is presumed if the issuer owns over 25% of the controlled company's voting securities and the issuer has control greater than that of any other person. Accordingly, so long as we maintain control of Bezeq, we will not be deemed an investment company.

If we were to no longer maintain the control of Bezeq, we could, among other things, be required either (i) to change substantially the manner in which we conduct our operations to avoid being subject to the Investment Company Act or (ii) to register as an investment company. An investment company that is organized under the laws of a foreign country may not register as an investment company, or publicly offer its securities through interstate commerce in the United States, unless the company applies to the Securities and Exchange Commission (the "SEC"), for an order permitting the company to register under the Investment Company Act, and to make a public offering in the United States. The SEC may issue an order granting the application if it finds that, by reason of special circumstances or arrangements, it is both legally and practically feasible effectively to enforce the provisions of the Investment Company Act against the issuer, and further finds that granting the application is otherwise consistent with the public interest and the protection of investors.

If we were required to register as an investment company under the Investment Company Act, we would become subject to substantial regulation with respect to our capital structure (including our ability to use leverage), management, operations, transactions with certain affiliates, reporting, record keeping, voting, proxy and disclosure requirements, and meeting these requirements would be costly, if at all possible.

30


We may fail to maintain effective internal control over our financial reporting in accordance with Section 404 of the Sarbanes-Oxley Act of 2002, which could have an adverse effect on our financial results and the market price of our ordinary shares.

Section 404 of the Sarbanes-Oxley Act requires any company subject to the reporting requirements of the U.S. securities laws to do a comprehensive evaluation of its and its combined subsidiaries' internal control over financial reporting. To comply with this statute, we are required to document and test our internal control over financial reporting and our management is required to assess and issue a report concerning our internal control over financial reporting. The rules governing the standards that must be met for management to assess our internal control over financial reporting are relatively complex and require significant documentation, testing and possible remediation to meet the detailed standards under the rules.

Beginning in the second quarter of 2010, we began consolidating Bezeq's financial results into our financial statements following our acquisition of the controlling interest in Bezeq. Commencing with our management report on internal control over financial reporting for the year ended December 31, 2011, our management report on internal control over financial reporting must include an assessment of Bezeq's internal control over financial reporting. Prior to our acquisition of the controlling interest, Bezeq was not subject to Section 404 of the Sarbanes-Oxley Act. As such, we may in the future identify a material weakness in Bezeq's internal control over financial reporting. Failure to maintain effective internal control over financial reporting could result in investigation or sanctions by regulatory authorities and could have a material adverse effect on our operating results, investor confidence in our reported financial information and the market price of our ordinary shares.

Conflicts of interest may arise between Internet Gold, Eurocom Communications, other companies within the Eurocom Group and us that could be resolved in a manner unfavorable to us and result in reduced revenues and income.

Conflicts of interest may arise between Internet Gold, Eurocom Communications and us in a number of areas relating to our past and ongoing relationships. Areas in which conflicts of interest between Internet Gold, Eurocom Communications and us could arise include, but are not limited to, the following:

Cross officerships, directorships and share ownership.  A few of our directors and officers also serve or are employed by Internet Gold and/or Eurocom Communications. The cross officerships and directorships as well as the ownership interests of our directors and officers in the ordinary shares of Internet Gold or Eurocom Communications could create, or appear to create, conflicts of interest when directors and executive officers are faced with decisions that could have different implications for the different companies; and

Intercompany transactions.  From time to time, Internet Gold, Eurocom Communications or other companies within the Eurocom Group may enter into transactions with us or our subsidiaries or other affiliates. Although the terms of any such transactions will be established based upon negotiations between employees of such companies and us and, when appropriate, subject to the approval of our independent directors or a committee of disinterested directors and in some instances a vote of shareholders, the terms of any such transactions may not be as favorable to us or our subsidiaries or affiliates as may otherwise be obtained in arm's-length negotiations with unaffiliated third parties. For more information about intercompany transactions, see "Certain Relationships and Related Party Transactions."

Risks Related to the Operations of the Bezeq Group and Our Company in Israel

Political, economic and military instability in Israel may disrupt our operations and negatively affect our business condition, harm our results of operations and adversely affect our share price.

We and the Bezeq Group companies are organized and based in the State of Israel and Bezeq derives substantially all of its revenues from markets within the State of Israel. As a result, political, economic and military conditions affecting Israel directly influence us. Since its establishment in 1948, Israel has been involved in a number of armed conflicts with its Arab neighbors and a state of hostility, varying from time to time in intensity and degree, has continued into 2014. In recent years, there was an escalation in violence among Israel, Hamas, the Palestinian Authority and other groups. Also, since 2011, riots and uprisings in several countries in the Middle East and neighboring regions have led to severe political instability in several neighboring states and to a decrease in the regional security situation. Such instability may affect the local and global economy, could negatively affect business conditions and, therefore, could

31


adversely affect our operations. In addition, Iran has threatened to attack Israel and is widely believed to be developing nuclear weapons. Iran is also believed to have a strong influence among extremist groups in areas that neighbor Israel, such as Hamas in Gaza and Hezbollah in Lebanon. Although these matters have not had any material effect on our business and results of operations to date, the regional security situation and worldwide perceptions of it are outside our control and there can be no assurance that these matters will not negatively affect us in the future. Any major hostilities involving Israel, a full or partial mobilization of the reserve forces of the Israeli army, the interruption or curtailment of trade between Israel and its present trading partners, or a significant downturn in the economic or financial condition of Israel could have a material adverse effect on our business, financial condition and results of operations.

Our results of operations may be negatively affected by the obligation of our personnel to perform military service.

Many of the Bezeq Group's and our executive officers and employees in Israel are obligated to perform annual reserve duty in the Israeli Defense Forces and may be called for active duty under emergency circumstances at any time. If a military conflict or war arises, these individuals could be required to serve in the military for extended periods of time. Bezeq's operations could be disrupted by the absence for a significant period of one or more of its executive officers or key employees or a significant number of other employees due to military service. Any disruption in Bezeq's operations could adversely affect its business.

Bezeq may be restricted in the conduct of its operations during periods of national emergency, which could negatively affect its business operations.

During periods of national emergency, the Minister of Communications and other governmental authorities may issue various instructions regarding the use of Bezeq's network, including the use of the network by the Israeli security forces. In addition, the Israeli Equipment Registration and IDF Mobilization Law, 1987 permits the registration, taking and use of engineering equipment and facilities by Israel's Defense Forces. These actions could adversely affect Bezeq's business operations.

Risks Related to the Restricted Group's Ownership

The interests of the Restricted Group's shareholders may conflict with your interests.

Internet Gold owned approximately 68% of our outstanding ordinary shares as of January 23, 2014. For as long as Internet Gold has a controlling interest in our company, it, Mr. Shaul Elovitch, the chairman of our board of directors and the chairman of the board of directors of Internet Gold and its parent, Eurocom Communications, and the controlling shareholder of Eurocom Communications, will have the ability to exercise a controlling influence over our business and affairs, including any determinations with respect to potential mergers or other business combinations involving us, our acquisition or disposition of assets, our incurrence of indebtedness, our issuance of any additional ordinary shares or other equity securities, our repurchase or redemption of ordinary shares and our payment of dividends. Similarly, as long as Eurocom Communications has a controlling interest in Internet Gold, our corporate parent, Eurocom Communications and Mr. Elovitch will have the power to determine or significantly influence the outcome of matters submitted to a vote of our shareholders that require a simple majority, including the power to elect all of the members of our board of directors (except external directors, within the meaning of Israeli law). The shareholders' interests in the matters they are involved in, and other circumstances, may conflict with your interests as holders of the Notes and may conflict with potential transactions we may wish to undertake, and there can be no assurances that the interests of either of the shareholders will be consistent with the interests of the holders of the Notes, the Restricted Group or that the shareholders will exercise their rights for the benefit of all shareholders. See "Certain Relationships and Related Party Transactions," "Principal Shareholders," and "—Risks Related to Our Company—Conflicts of interest may arise between Internet Gold, Eurocom Communications, other companies within the Eurocom Group and us that could be resolved in a manner unfavorable to us and result in reduced revenues and income."

32



SELECTED HISTORICAL FINANCIAL INFORMATION

The tables below set forth the income statement, balance sheet and cash flow statement information of B Communications as of and for the years ended December 31, 2010, 2011 and 2012 and as of and for the nine months ended September 30, 2012 and 2013, each of which has been prepared in accordance with IFRS, and summary consolidated income statement information for the twelve months ended September 30, 2013.

Our summary financial information as of and for the years ended December 31, 2010, 2011 and 2012 has been derived from our audited consolidated financial statements as of and for the years ended December 31, 2010, 2011 and 2012 included elsewhere in this Offering Memorandum. Such financial information was prepared in accordance with IFRS and has been audited by Somekh Chaikin (KPMG Israel). Our summary financial information as of and for the nine months ended September 30, 2012 and 2013 has been derived from our unaudited interim financial statements as of and for the nine months ended September 30, 2012 and 2013, included in this Offering Memorandum. Such financial information was prepared in accordance with IAS 34 Interim Financial Reporting. Interim results of operations are not necessarily indicative of the results of operations that may be expected for any other period or for the full year.

Information for the twelve months ended September 30, 2013 was derived by taking the results of operations for the nine months ended September 30, 2013 and adding to it the difference between the results of operations for the full year ended December 31, 2012 and the historical nine months ended September 30, 2012. The consolidated financial information for the twelve months ended September 30, 2013 has been prepared solely for the purposes of this Offering Memorandum and is for illustrative purposes only and is not necessarily representative of our results of operations for any future period or our financial condition at any future date.

The following tables should be read in conjunction with, and are qualified in their entirety by reference to our financial statements included elsewhere in this Offering Memorandum. The tables should also be read together with "Management's Discussion and Analysis of Financial Condition and Results of Operations." Our and Bezeq's historical results do not necessarily indicate results that may be expected in the future.

Our financial statements reflect the consolidation of the Bezeq Group. As such, our financial statements include all of the costs and expenses incurred by us and all of the revenues, costs and expenses reflected in the consolidated financial statements of the Bezeq Group, which are also prepared in accordance with IFRS and have been audited by Somekh Chaikin (KPMG Israel).

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B Communications Consolidated Statements of Income

 
  For the Year ended December 31,   For the Nine Months ended September 30,   For the Twelve Months ended September 30,  
 
  2010   2011   2012   2012   2013   2013   2013(1)  
 
  (NIS in millions)
  ($ in millions)
 

Revenues

    8,657     11,373     10,278     7,829     7,154     9,603     2,715  

Depreciation and amortization

    2,294     2,984     2,367     1,767     1,514     2,114     598  

Salaries

    1,488     2,114     1,984     1,528     1,436     1,892     533  

General and operating expenses

    3,640     4,462     3,995     3,016     2,610     3,589     1,015  

Other operating expenses (income)

    5     326     (11 )   52     (30 )   (93 )   (26 )
                               

Operating income

    1,230     1,487     1,943     1,466     1,624     2,101     595  

Finance expense

    600     983     915     731     644     828     235  

Finance income

    (313 )   (485 )   (562 )   (463 )   (403 )   (502 )   (142 )
                               

Income after financing expenses (income), net

    943     989     1,590     1,198     1,383     1,775     502  

Share of losses in equity-accounted investee

    235     216     245     233     195     207     59  
                               

Income before income tax

    708     773     1,345     965     1,188     1,568     443  

Income tax

    385     653     555     404     427     578     164  
                               

Net income for the period

    323     120     790     561     761     990     279  
                               
                               

Income (loss) attributable to:

                                           

Owners of the company

    (140 )   (219 )   45     29     113     129     37  

Non-controlling interests

    463     339     745     532     648     861     242  
                               

Net income for the period

    323     120     790     561     761     990     279  
                               
                               

(1)
Currency translation has been calculated using an exchange rate of NIS 3.5370 = $1.00.

34


B Communications Consolidated Balance Sheet

 
  As at December 31,   As at September 30,  
 
  2010   2011   2012   2013   2013(1)  
 
  (NIS in millions)
  ($ in millions)
 

Assets

                               

Cash and cash equivalents

    383     1,369     757     1,013     286  

Investments, including derivative financial instruments

    789     1,284     1,484     1,603     453  

Trade receivables

    2,701     3,059     2,927     2,791     789  

Other receivables

    231     295     330     345     98  

Inventory

    177     204     123     122     34  

Assets classified as held-for-sale

    194     158     164     229     65  
                       

Total current assets

    4,475     6,369     5,785     6,103     1,725  
                       

Investments, including derivatives

    129     119     90     90     25  

Long-term trade and other receivables

    1,114     1,499     1,074     700     198  

Property, plant and equipment

    7,392     7,143     6,911     6,590     1,863  

Intangible assets

    9,163     8,085     7,252     6,759     1,913  

Deferred and other expenses

    423     412     384     389     109  

Investment in equity-accounted investee (mainly loans)

    1,084     1,059     1,005     1,000     283  

Deferred tax assets

    254     223     126     93     26  
                       

Total non-current assets

    19,559     18,540     16,842     15,621     4,417  
                       

Total assets

    24,034     24,909     22,627     21,724     6,142  
                       
                       

Liabilities

   
 
   
 
   
 
   
 
   
 
 

Short-term bank credit, current maturities of long-term liabilities and debentures

    1,380     1,185     1,582     1,484     420  

Trade payables

    1,061     892     792     629     178  

Other payables, including derivatives

    850     840     734     849     239  

Dividend payable

        669     669          

Current tax liabilities

    346     499     588     774     219  

Provisions

    251     186     145     124     35  

Employee benefits

    269     389     258     248     70  
                       

Total current liabilities

    4,157     4,660     4,768     4,108     1,161  
                       

Debentures

    2,776     5,403     5,018     5,555     1,571  

Bank loans

    6,138     6,843     6,422     6,184     1,748  

Loans from institutions and others

    541     544     540     549     155  

Dividend payable

        636              

Employee benefits

    305     229     246     258     73  

Other liabilities

    150     96     67     82     23  

Provisions

    69     69     66     67     19  

Deferred tax liabilities

    1,555     1,426     1,159     1,081     306  
                       

Total non-current liabilities

    11,534     15,246     13,518     13,776     3,895  
                       

Total liabilities

    15,691     19,906     18,286     17,884     5,056  
                       
                       

Total equity attributable to equity holders of the Company

    1,212     936     961     1,067     302  

Non-controlling interests

    7,131     4,067     3,380     2,7784     73  
                       

Total equity

    8,343     5,003     4,341     3,840     1,086  
                       

Total liabilities and equity

    24,034     24,909     22,627     21,724     6,142  
                       
                       

(1)
Currency translation has been calculated using an exchange rate of NIS 3.5370 = $1.00.

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B Communications Consolidated Cash Flow Statement

 
  Year ended December 31,   Nine Months ended September 30,  
 
  2010   2011   2012   2012   2013   2013(1)  
 
  (NIS in millions)
  ($ in millions)
 

Net cash provided by operating activities

    2,596     3,184     3,996     3,003     3,216     909  

Net cash used in investing activities

    (6,073 )   (2,048 )   (1,273 )   (1,078 )   (746 )   (211 )

Net cash provided by (used in) financing activities

    2,920     (150 )   (3,335 )   (2,615 )   (2,214 )   (626 )
                           

Net increase (decrease) in cash and equivalents

    (557 )   986     (612 )   (690 )   256     72  
                           
                           

(1)
Currency translation has been calculated using an exchange rate of NIS 3.537 = $1.00.

36



MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

The following discussion of our financial condition and results of operations should be read together with, and is qualified in its entirety by reference to, our consolidated financial statements and the related notes included elsewhere in this Offering Memorandum. The following discussion should also be read in conjunction with "Presentation of Financial Information and Other Data" and "Selected Historical Consolidated Financial Information." Except for the historical information contained herein, the discussion in this section contains forward-looking statements that reflect our current plans, estimates and beliefs and involve risks and uncertainties. Our actual results may differ materially from those discussed in the forward-looking statements. Factors that could cause or contribute to such differences include those discussed below and elsewhere in this Offering Memorandum, particularly under "Risk Factors" and "Forward-Looking Statements."

Overview

We are an Israeli company, publicly traded on the NASDAQ Global Select Market and the TASE. Our principal asset is our 30% controlling interest in Bezeq, Israel's largest telecommunications provider based on revenue and subscribers, and we currently hold 30.91% of its outstanding shares. The Bezeq Group operates the most comprehensive telecommunications infrastructure in Israel, with a broad range of telecommunications services across all of its markets. Through its wholly-owned subsidiaries and 49.8% ownership of the satellite television provider, YES, the Bezeq Group is a leading provider in Israel of fixed-line telephony services and fixed-line broadband Internet infrastructure access services, cellular telephony services, ISP services, ILD services, international and domestic data transfer and network services and ICT, pay television services and other communications infrastructures and services. In each of these markets, the Bezeq Group holds a significant market share, as indicated in the chart below.

 
   
  As of September 30, 2013  
Bezeq Group Segments
  Service   Estimated Market Share   Market Position  
Bezeq   Fixed-Line Telephony     63 %   1 of 4  
    Fixed-Line Broadband Internet Infrastructure Access     62 %   1 of 2  
Pelephone   Cellular Telephony     27 %   3 of 5  
Bezeq International   ISP     40 %   1 of 4  
    ILD     22 %   (— )
YES   Pay Television     40 %   2 of 2  

The Bezeq Group had approximately 2.22 million active fixed telephone lines in its fixed-line telephony business, 1.23 million fixed-line broadband Internet infrastructure access services subscribers, 2.68 million cellular telephony services subscribers and 593,000 pay television services subscribers as of September 30, 2013. For the twelve months ended September 30, 2013, the Bezeq Group had revenues of NIS 9.6 billion ($2.7 billion) and its Adjusted EBITDA was NIS 4.35 billion ($1.2 billion). Bezeq has not consolidated the results of YES's multi-channel pay television operation in its financial statements since August 2009, and its investment in YES is accounted for under the equity method. In addition to the three principal segments, Bezeq has other areas of operation that are not material to its consolidated operations and they are aggregated in the financial statements as "Other."

Key Factors Affecting the Businesses of the Bezeq Group

The operations of the Bezeq Group and the operating metrics discussed below have been, and will likely continue to be, affected by certain key factors as well as certain historical events and actions. The key factors affecting the business of the Bezeq Group and its results of operations include, among others, competition, government regulation, the build out of infrastructures, macro-economic and political risks, churn, seasonality, impact of currency fluctuations and inflation, effective corporate tax rate, conditions in Israel and trade relations. For further discussion of the factors affecting our results of operations, see "Risk Factors."

Competition

The Bezeq Group faces significant competition from established and new competitors who provide fixed-line telephony, fixed-line broadband Internet infrastructure access, cellular telephony, ISP and pay television services. In addition to the entrance of new competitors, competition among the existing

37


communications groups in Israel is intensifying. Four main groups, each consisting of companies under common or joint control, hold a significant share of the communications market in Israel today: the Bezeq Group, the Cellcom Group, the Partner Group and the HOT Group. The Bezeq Group's three principal competitors may in some cases be required to comply with fewer regulations because, among other reasons, they use different technologies to provide their services or do not own their own fixed-line network.

Bezeq expects competition to continue to increase amid the changing legislation in Israel and consolidation in the telecommunications industry that permits certain service providers to market a combination of fixed-line telephony, fixed-line broadband Internet infrastructure access, ISP and pay television services (a "bundle") for an aggregate price which is lower than the price of the individual products and services in the bundle. The Bezeq Group is currently subject to restrictions on marketing bundles, which are stricter than the restrictions applicable to its competitors.

Fixed-Line Telephony.    Competition in the fixed-line telephony market is intense. We believe that competition in this market will continue to increase due to the low barriers to entry and regulations permitting new service providers who receive a license to provide telephony services using voice over VoIP or VoB technology. While such services utilize the fixed-line broadband Internet infrastructure access network owned by either Bezeq or HOT, and therefore require end-users to purchase fixed-line broadband Internet infrastructure access services directly from Bezeq or HOT, such services have reduced demand for fixed-line telephony services.

Fixed-Line Broadband Internet Infrastructure Access.    Bezeq's principal competitor in the fixed-line broadband Internet infrastructure access service market is HOT, which is currently the only other fixed-line broadband Internet infrastructure access provider in Israel. In addition, Bezeq's fixed-line broadband Internet infrastructure access services business faces competition from cellular telephony operators as they are increasingly able to utilize a combination of technologically advanced handsets and high bandwidth technologies, such as UMTS and, potentially, LTE technology.

Cellular Telephony.    The cellular telephony market in Israel is characterized by saturation and a very high penetration level in excess of 100%. In recent years, competition in the cellular telephony industry has intensified. This has led to lower prices and higher customer churn rates, which in turn has affected the Bezeq Group's results. Until 2012, three cellular telephony operators, Cellcom, Partner and Pelephone, led the Israeli cellular telephony market. During 2012, a number of other cellular telephony operators began to operate, including Golan Telecom and HOT Mobile, which has led to intensified competition, resulting in higher churn rates among the existing operators, a significant decrease in tariffs and, consequently, a decrease in profits. Pelephone's current principal competitors, Cellcom, Partner and HOT Mobile (since February 2012), also provide ISP services and fixed-line communications, and they market a variety of joint service packages. Pelephone also faces competition from MVNOs that provide cellular telephony services under their own brand using the network infrastructure of another service provider.

International Telephony.    The ILD market in Israel is characterized by a high degree of competition. At the end of 2012, there were eight companies offering ILD services to private and business customers in Israel. Changes in licensing policies and the expanded use of VoIP technology have significantly reduced the barriers of entry into this market. In addition, during 2012, cellular telephony operators began to offer ILD services as part of the unlimited packages they offered.

Internet Service Providers.    Access to broadband Internet in Israel requires households to purchase Internet access services from a licensed ISP and broadband Internet infrastructure access services from a separate provider. While there are only two fixed-line broadband Internet infrastructure access service providers in Israel many telecommunication companies hold ISP licenses in Israel. The Israeli ISP market is a saturated market and as competitors are typically unable to differentiate themselves based on price, they attempt to differentiate themselves primarily by strengthening customer loyalty; however, competition has led to increased churn rates and reduced income per customer.

Pay Television.    The Israeli television market is characterized by a very high penetration rate and an increasing emphasis on new television technology, in particular digital, HD and interactive television services, such as VOD, requiring high-bandwidth and bi-directional distribution platforms. In the multi-channel pay television market, YES and HOT are the only two companies in Israel licensed to provide multi-channel pay television broadcasts. Other factors impacting competition in the market include the availability of free-to-air television DTT channels and the increasing availability and quality of video

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content offered over the Internet and cellular networks, which is not currently regulated and does not require designated infrastructure.

Government Regulation

The Bezeq Group operates in a highly regulated industry in Israel, which limits its flexibility in managing its business efficiently, and may increase its administrative and operational expenses and limit its revenue. The Bezeq Group is subject to government supervision and regulation relating to, among other things:

regulations requiring structural separation between the members of the Bezeq Group;

regulations restricting the Bezeq Group's ability to market bundles;

price regulation for certain services that the Bezeq Group provides;

rules and regulations imposed on telecommunications service providers with significant market share;

rules governing the interconnection between different telephone networks and the interconnection rates that the Bezeq Group can charge and pay;

regulations governing the prohibition of exit-fees or cancellation charges;

regulations requiring the Bezeq Group to grant other telecommunications operators access to its infrastructure;

regulations governing roaming charges and other billing and customer service matters;

rules for authorizations, licensing, acquisitions, renewals, pledging and transfers of licenses;

requirements covering a variety of operational areas such as land use, health and safety and environmental protection, technical standards and subscriber service requirements rules and regulations relating to subscriber privacy;

rules and regulations relating to payment of royalties (zero rate as of 2013);

rules and regulations relating to universal service provision and requirements to extend the Bezeq Group's services to areas of Israel even where it is not economically profitable to do so; and

regulations restricting the number of television channels YES can own and specifying the minimum investment YES is required to make in local content productions.

For additional information see "Regulatory."

Build Out of Infrastructure

The Bezeq Group has historically made substantial investments in its fully owned infrastructure, which is one of the most technologically advanced in Israel and enables the Bezeq Group to reach customers nationwide.

In the domestic fixed-line communications segment, Bezeq's NGN, which was completed in 2012, is the most advanced fixed-line communications network in Israel, offering broadband Internet bandwidth of up to 100 Mbps (download) speed, as well as innovative value-added services. The NGN has enabled Bezeq to provide its subscribers with a 92% increase in the average broadband bandwidth available per subscriber from September 2012 to September 2013. In January 2013, Bezeq began laying optical FTTB and FTTH and as of December 31, 2013, had completed laying optical fibers to over 400,000 households and businesses in Israel.

In the cellular telephony segment, Pelephone's nationwide 3.5G UMTS/HSPA+ network provides Pelephone subscribers with a fast, high quality and advanced network. The network is based on HSPA (High Speed Packet Access) technology, is connected to approximately 2,200 sites and supports download speeds of up to 42 Mbps and upload speeds of up to 5.7 Mbps. While Pelephone substantially completed the installation of its 3.5G UMTS/HSPA+ network in 2010, it has continued to invest in the network. We believe these network features provide Pelephone with a strong platform to continue to offer a variety of advanced services and products to its customers and to capitalize on the continued increasing demand for smartphones and advanced data services, which constitute the higher value segment of the cellular telephony market.

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In the ISP, ILD, data transfer, networks and ICT services segment, Bezeq International is currently the sole ISP in Israel that owns and operates its own high-speed submarine optical fiber communications cable system. The JONAH cable, which was launched in January 2012 provides Bezeq International with greater capacity for utilization than any other ISP in Israel. In addition, Bezeq International is able to obtain such capacity at an incremental cost, while other ISPs in Israel are required to purchase capacity and rely on one of the two other cable operators in Israel (MedNautilus and Tamares).

In the multi-channel pay television segment, YES is the only licensed provider of multi-channel television broadcasts via satellite in Israel and one of only two companies in the Israeli pay television services market. While YES relies on third party providers for the provision of satellite capacity, it owns the satellite dishes that carry the signals from such satellites to subscriber residences and set-top boxes. Such equipment and infrastructure act as a significant barrier to entry against any potential competitor in the satellite pay television market.

During the three years ended December 31, 2010, 2011 and 2012 and the nine months ended September 30, 2013, the Bezeq Group companies invested NIS 431 million, NIS 442 million, NIS 397 million and NIS 241 million, respectively, in capital improvements, substantially all of which was invested in infrastructure and technology.

Macro-Economic and Political Risks

The Bezeq Group is subject to macro-economic and political risks that are outside of its control. For example, high levels of sovereign debt in the U.S., certain European countries and countries in the Middle East, combined with weak growth and high unemployment, could lead to fiscal reforms (including austerity measures), sovereign debt restructurings, currency instability, increased counterparty credit risk, high levels of volatility and, potentially, disruptions in the credit and equity markets, as well as other outcomes that might adversely impact the Bezeq Group. Moreover, as a business operating in Israel, we and the Bezeq Group are subject to the inherent risks associated with the political and military conditions in Israel and the potential for armed conflicts with Israel's neighbors. Further, while the majority of the Bezeq Group's revenues are in NIS, a portion of the Bezeq Group's operational expenses are in U.S. dollars. The exchange rate between U.S. dollars and NIS has been volatile in the past and may continue to be so in the future. Although we attempt to mitigate currency rate risk through hedging, sharp changes in the exchange rate could have a material effect on our results of operations.

Churn

The fixed-line telephony, fixed-line broadband Internet infrastructure access, cellular telephony and multi-channel pay television industries typically exhibit churn as a result of high levels of competition. Churn levels may be affected by changes in our or our competitors' pricing, our level of customer satisfaction, disconnection of non-paying subscribers and changes in regulations. Increases in churn may lead to increased costs and reduced revenues. In recent years our churn rates increased, particularly in our cellular telephony segment as new competitors entered the market and advantageous billing plans were introduced. Similarly, competition has increased in recent years as a result of the prohibition on exit fees, long-term commitments and, as of January 2013, linkage of the price and terms of handsets sales to cellular telephony service prices and benefits.

Seasonality

Bezeq's consolidated operating results are generally not characterized by a seasonal pattern. In general, Bezeq's revenues from its cellular phone services are slightly higher in the second and third quarters of the fiscal year than the first and fourth quarters due to different usage patterns prevailing in the summer months compared to the winter months and the holiday season in Israel. In general, Bezeq's revenues from international communications, Internet and NEP services are affected in a minor way by the seasons and holidays. For example, voice services for the business sector decrease in August and during the Passover holiday; voice services for the private sector increase in the summer months and towards the end of the calendar year; sales of Internet services and NEP equipment usually increase in the fourth quarter; and Internet services for the business sector decrease in the summer months due to the closure of educational institutions.

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Impact of Currency Fluctuations and Inflation

Although the majority of our revenues and expenses are denominated in NIS, we are subject to risks caused by fluctuations in the exchange rate between the NIS and the U.S. dollar.

During 2012 and the first nine months of 2013, the U.S. dollar depreciated against the NIS. A devaluation of the dollar in relation to the NIS has the effect of reducing the NIS value of any of our expenses or liabilities which are payable in dollars, unless those expenses or liabilities are linked to the dollar. This devaluation of the dollar also has the effect of decreasing the NIS value of any asset which consists of dollars or receivables payable in dollars, unless the receivables are linked to the dollar.

From time to time we use derivative financial instruments, such as forward currency contracts to hedge certain of our risks associated with foreign currency fluctuations. These derivative financial instruments are carried at fair value.

Because exchange rates between the NIS and the U.S. dollar fluctuate continuously, exchange rate fluctuations, particularly larger periodic depreciations, may have an impact on our profitability and period-to-period comparisons of our results in U.S. dollars. We cannot assure you that in the future our results of operations may not be materially adversely affected by currency fluctuations. We recommend comparing our results between periods based on our NIS reports.

Effective Corporate Tax Rate

Israeli companies are generally subject to income tax on their taxable income. The applicable Israeli company income tax rate was 25% and 24% in 2010 and 2011, respectively, and 25% in 2012 and 2013. In 2014, our applicable income tax rate is expected to increase to 26.5% pursuant to the order of National Priorities (Legislative amendments to achieve budget objectives for 2013 and 2014)—2013.

The effect of the change on our financial statements as at September 30, 2013, was an increase in deferred tax balances of NIS 53 million ($15 million). The effect of the change to the equity attributable to our shareholders was a decrease of NIS 16 million ($5 million).

As of December 31, 2012, we had tax loss carryforwards in the amount of NIS 170 million ($47 million) and capital losses carry forward in the amount of NIS 8 million ($2 million). Under current Israeli tax laws, tax loss carryforwards do not expire and may be offset against future taxable income.

Conditions in Israel

We are organized in, based in and derive substantially all of our revenues from markets within the State of Israel. See "Risk Factors—Risks Relating to the Operations of the Bezeq Group and Our Company in Israel" for a description of governmental, economic, fiscal, monetary or political polices or factors that have materially affected or could materially affect our operations.

Trade Relations

Israel is a member of the United Nations, the International Monetary Fund, the International Bank for Reconstruction and Development, the International Finance Corporation and the World Trade Organization. In addition, Israel is a signatory to the General Agreement on Tariffs and Trade, which provides for reciprocal lowering of trade barriers among its member and has been granted preferences under the Generalized System of Preferences from the United States, Australia, Canada and Japan. These preferences allow Israel to export products covered by such programs either duty-free or at reduced tariffs.

Israel and the European Union Community concluded a Free Trade Agreement in July 1975, which confers certain advantages with respect to Israeli exports to most European countries and obligates Israel to lower its tariffs with respect to imports from these countries over a number of years. In 1985, Israel and the United States entered into an agreement to establish a Free Trade Area. The Free Trade Area has eliminated all tariff and specified non-tariff barriers on most trade between the two countries. On January 1, 1993, an agreement between Israel and the European Free Trade Association, known as EFTA, established a free-trade zone between Israel and the EFTA nations. In November 1995, Israel entered into a new agreement with the European Union, which included a refinement of rules of origin and other improvements, including providing for Israel to become a member of the research and technology programs of the European Union. In recent years, Israel has established commercial and trade relations with a number of other nations, including China, India, Russia, Turkey and other nations in Eastern Europe and Asia.

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On May 10, 2010, the Organization for Economic Co-operation and Development, or OECD, invited Israel to become a member of the organization, whose mission is to promote co-operation between its members while keeping high international economic standards. The invitation resulted from the OECD Council's positive assessment of Israel's position with respect to OECD instruments, standards and benchmarks. On June 29, 2010, an accession agreement was signed in Paris, France. This agreement defined the obligations of OECD membership and included Israel-specific remarks on acceptance of OECD legal instruments. On September 7, 2010, on signing the OECD Convention, Israel pledged its full dedication to achieving the Organization's fundamental aims. Israel was the 32nd country to join the organization, along with Estonia and Slovenia.

Key Operating Measures

Bezeq's management evaluates Bezeq's performance through focusing on key performance indicators, which include among others: number of subscribers, churn rate, ARPU and operating income and net income. These key performance indicators are primarily affected by the competitive and regulatory landscape in which Bezeq operates and its ability to adapt to the challenges it faces.

Explanation of Key Income Statement Items

Revenue.    Revenue from Bezeq's domestic fixed-line communications segment is derived primarily from fees received for (i) fixed-line telephony services, primarily including the basic fixed-line telephony service on the domestic telephone line, plus associated services such as voice mail, caller ID, call waiting, call forwarding, speed dial, conference calls, public telephones and a unified telephone directory; (ii) fixed-line broadband Internet infrastructure access services in xDSL technology; (iii) data communication services, including network services for transferring data from point to point, transferring data between computers and between various communications networks, services connecting communications networks to the Internet and remote access services; and (iv) other services including, services to communications operators, broadcasting services, contract work, IP Centrex services (lines in a virtual private exchange in a public network), data center services, a search engine for finding phone numbers (including a classified search) and new services.

Revenue from the Pelephone cellular telephony segment is derived primarily from fees received from its service offerings, including, voice transmission, transmission of text messages, roaming, data communications and advanced multimedia services. Pelephone also sells cellular phones, laptops and other portable devices and offers attendant repair services.

Bezeq International's revenues are primarily derived from ISP services for private and business customers (including terminal equipment and support), voice services (including, ILD services to business and private customers and international call routing and termination services), hosting services, supply of international data communication solutions for business customers and ICT solutions for business customers and PBX services.

YES's revenues are primarily derived from the sale of subscriptions for its multi-channel satellite pay television broadcast services. Revenue from subscriptions is recognized ratably over the contract period, which is generally one to twelve months. YES does not provide revenues to Bezeq.

Bezeq also includes a category of "Other" in its consolidated financial statements, which mainly includes revenue from customer call center services through its Bezeq Online Ltd. subsidiary, investments in a venture capital fund and ownership of Walla!, a popular Israeli provider of Internet and portal services.

Depreciation and Amortization.    Subsequent to our acquisition of the controlling interest in Bezeq, we adopted policies regarding the depreciation and amortization expenses related to Bezeq's communications business network equipment and capacity that were based on Bezeq's policies. Depreciation and amortization expenses primarily consist of depreciation on computer equipment, software, leasehold improvements, capitalized software development costs and amortization of purchased intangibles. In connection with our acquisition of the controlling interest, we assigned fair value to fixed assets acquired in the Bezeq acquisition. The difference between the book value and the fair value of those assets was recognized as an asset in our consolidated statement of financial position. The acquired assets are depreciated and amortized according to their expected useful life. Over time such assets are fully depreciated by Bezeq, and by us respectively. As a result, the excess fair value balance we assigned to the acquired assets decreases and our related depreciation expenses will decrease as well.

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Salaries.    Salaries include salary costs, social, statutory and employment benefits, and commissions of all our employees. Bezeq's consolidated salary expenses primarily consist of operating and general and administrative salaries, benefits, stock-based compensation and incentive compensation.

General and Operating Expenses.    Bezeq's consolidated general and operating expenses primarily consist of cellular telephone expenses, general expenses including outside consulting, legal and accounting services, materials and spare parts, building maintenance, services and maintenance by sub-contractors, international communication expenses, vehicle maintenance expenses, royalties paid to the State of Israel and collection fees.

Other operating expenses.    Other operating expenses primarily include Bezeq's provision for severance pay on early retirement, capital gains from the sale of property, plant and equipment, provisions for contingent liabilities and losses from copper forward contracts.

Finance Expenses.    Our finance expenses primarily include interest expenses and CPI linkage expenses on our bank and institutional loans and debentures. Bezeq's financing expenses primarily consist of interest expenses for its financial liabilities, linkage and exchange rate differences, changes in fair value of financial assets measured at fair value through profit or loss, financing expenses for employee benefits and other financing expenses.

Income Tax.    Income tax expense is comprised of current and deferred tax. Bezeq recognizes current and deferred tax expense in profit or loss except to the extent that it relates to items recognized directly in equity or in other comprehensive income. Current tax is the expected tax payable on the taxable income for the year, using tax rates enacted or substantively enacted at the reporting date, and any adjustment to tax payable in respect of previous years. Our assessment considers that deferred tax is recognized using the statements of financial position method, providing for temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for taxation purposes. Under our assessment, deferred tax is measured at the tax rates that are expected to be applied to temporary differences when they reverse, based on the laws that have been enacted or substantively enacted by the reporting date. Deferred tax assets and liabilities are offset if there is a legally enforceable right to offset current tax liabilities and assets, and they relate to income taxes levied by the same tax authority on the same taxable entity, or on different tax entities, but they intend to settle current tax liabilities and assets on a net basis or their tax assets and liabilities will be realized simultaneously. A deferred tax asset is recognized to the extent that it is probable that future taxable profits will be available against which the temporary difference can be utilized. Deferred tax assets are reviewed at each reporting date and are reduced to the extent that it is no longer probable that the related tax benefit will be realized.

The applicable Israeli company income tax rate for 2010 was 25% and it decreased to 24% in 2011. At the end of 2011 the Knesset passed an amendment to the Israeli Tax Ordinance, pursuant to which the 2010 corporate tax rate of 25% was reinstated for an indefinite period, commencing on January 1, 2012. In 2014, our applicable income tax rate is expected to increase to 26.5% pursuant to the order of National Priorities (Legislative amendments to achieve budget objectives for 2013 and 2014)—2013.

Results of Operations

The following five tables provide summary financial information regarding the operating results of the individual operating segments of the Bezeq Group and on a consolidated basis for the nine months ended September 30, 2012 and 2013 and for the years ended December 31, 2010, 2011 and 2012.

As a result of our acquisition of Bezeq, we assigned fair value to the assets acquired and liabilities assumed using the acquisition method. Adjustments to record the allocation of the consideration paid for assets acquired and liabilities assumed for Bezeq have not been reflected in the separate reporting of the segments because they are not reviewed by our Chief Executive Officer in order to make decisions about resources to be allocated to the segments and assess their performance. Accordingly, the purchase accounting adjustments are presented under the "adjustments" column.

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  For the Nine Months ended September 30, 2012 (unaudited)  
 
  Bezeq   Pelephone   Bezeq International   YES*   Others   Adjustments   Consolidated  
 
  (NIS in millions)
 

Revenue from external entities

    3,289     3,370     962     1,228     190     (1,228 )   7,811  

Inter-segment revenues

    220     71     39         30     (342 )   18  
                               

Total revenue

    3,509     3,441     1,001     1,228     220     (1,570 )   7,829  

Depreciation and amortization

    541     402     103     184     18     519     1,767  

Segment results—operating income

    1,358     725     157     180     (3 )   (951 )   1,466  

Finance income

    254     111     8     2         88     463  

Finance expenses

    (455 )   (79 )   (14 )   (470 )   (5 )   292     (731 )
                               

Total finance income (expense), net

    (201 )   32     (6 )   (468 )   (5 )   380     (268 )
                               

Segment profit (loss) after finance expenses, net

    1,157     757     151     (288 )   (8 )   (571 )   1,198  

Share in losses of equity-accounted investee

            1             (234 )   (233 )
                               

Segment profit (loss) before income tax

    1,157     757     152     (288 )   (8 )   (805 )   965  

Income tax

    337     193     37     1     (1 )   (163 )   404  
                               

Segment results—net profit (loss)

    820     564     115     (289 )   (7 )   (642 )   561  
                               
                               

*
Bezeq does not consolidate the results of YES into its financial statements.

 
  For the Nine Months ended September 30, 2013 (unaudited)  
 
  Bezeq   Pelephone   Bezeq International   YES*   Others   Adjustments   Consolidated  
 
  (NIS in millions)
 

Revenue from external entities

    3,166     2,775     1,020     1,217     181     (1,217 )   7,142  

Inter-segment revenues

    211     51     44     1     14     (309 )   12  
                               

Total revenue

    3,377     2,826     1,064     1,218     195     (1,526 )   7,154  

Depreciation and amortization

    509     345     97     192     23     348     1,514  

Segment results—operating income

    1,532     532     171     207     (6 )   (812 )   1,624  

Finance income

    249     115     7     5     1     26     403  

Finance expenses

    (414 )   (39 )   (17 )   (509 )   (6 )   341     (644 )
                               

Total finance income (expense), net

    (165 )   76     (10 )   (504 )   (5 )   367     (241 )
                               

Segment profit (loss) after finance expenses, net

    1,367     608     161     (297 )   (11 )   (445 )   1,383  

Share in losses of equity-accounted investee

            1             (196 )   (195 )
                               

Segment profit (loss) before income tax

    1,367     608     162     (297 )   (11 )   (641 )   1,188  

Income tax

    316     154     42     1     2     (88 )   427  
                               

Segment results—net profit (loss)

    1,051     454     120     (298 )   (13 )   (553 )   761  
                               
                               

*
Bezeq does not consolidate the results of YES into its financial statements.

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  Year ended December 31, 2010  
 
  Bezeq   Pelephone   Bezeq International   YES*   Others   Adjustments   Consolidated  
 
  (NIS in millions)
 

Revenue from external entities

    3,581     3,957     949     1,187     162     (1,112 )   8,724  

Inter-segment revenues

    195     186     38     5     26     (442 )   8  
                               

Total revenue

    3,776     4,143     987     1,192     188     (1,554 )   8,732  

Depreciation and amortization

    496     431     68     221     14     1,065     2,295  

Segment results—operating income

    1,486     1,015     248     119     13     (1,652 )   1,229  

Finance income

    140     67     5             115     327  

Finance expenses

    (229 )   (101 )   (9 )   (424 )   (3 )   50     (716 )
                               

Total finance income (expense), net

    (89 )   (34 )   (4 )   (424 )   (3 )   165     (389 )
                               

Segment profit (loss) after finance expenses, net

    1,397     981     244     (305 )   10     (1,487 )   840  

Share in losses of equity-accounted investee

            5             (240 )   (235 )
                               

Segment profit (loss) before income tax

    1,397     981     249     (305 )   10     (1727 )   605  

Income tax

    379     241     47     1     4     (287 )   385  
                               

Segment results—net profit (loss)

    1,018     740     202     (306 )   6     (1,440 )   220  
                               
                               

Additional information:

                                           

Segment assets

    6,352     4,892     1,032     1,243     291     6,307     20,117  

Goodwill

            6         141     2,686     2,833  

Investment in equity-accounted investee

                        1,084     1,084  

Segment liabilities

    7,964     1,930     304     4,665     241     587     15,691  

Investments in property, plant, equipment and intangible assets

    816     322     142     234     12     (234 )   1,292  

*
Bezeq does not consolidate the results of YES into its financial statements.

 
  Year ended December 31, 2011  
 
  Bezeq   Pelephone   Bezeq International   YES*   Others   Adjustments   Consolidated  
 
  (NIS in millions)
 

Revenue from external entities

   
4,371
   
5,454
   
1,288
   
1,619
   
236
   
(1,619

)
 
11,349
 

Inter-segment revenues

    277     94     66         41     (454 )   24  
                               

Total revenue

    4,648     5,548     1,354     1,619     277     (2,073 )   11,373  

Depreciation and amortization

    688     561     109     276     21     1,329     2,984  

Segment results—operating income

    1,695     1,360     241     295     3     (2,107 )   1,487  

Finance income

    304     105     9     23         44     485  

Finance expenses

    (531 )   (67 )   (11 )   (547 )   (5 )   178     (983 )
                               

Total finance income (expense), net

    (227 )   38     (2 )   (524 )   (5 )   222     (498 )
                               

Segment profit (loss) after finance expenses, net

    1,468     1,398     239     (229 )   (2 )   (1,885 )   989  

Share in losses of equity-accounted investee

            1             (217 )   (216 )
                               

Segment profit (loss) before income tax

    1,468     1,398     240     (229 )   (2 )   (2,102 )   773  

Income tax

    366     342     58     1     4     (118 )   653  
                               

Segment results—net profit (loss)

    1,102     1,056     182     (230 )   (6 )   (1,984 )   120  
                               
                               

Additional information:

                                           

Segment assets

    9,202     5,404     1,260     1,282     314     3,552     21,014