UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

 

FORM 6-K

REPORT OF FOREIGN PRIVATE ISSUER

PURSUANT TO RULE 13a-16 OR 15D-16

UNDER THE SECURITIES EXCHANGE ACT OF 1934

FOR THE MONTH OF APRIL 2012

 

 

Telecom Italia S.p.A.

(Translation of registrant’s name into English)

 

 

Piazza degli Affari 2

20123 Milan, Italy

(Address of principal executive offices)

 

 

Indicate by check mark whether the registrant files or will file annual reports under cover of Form 20-F or Form 40-F: FORM 20-F  x  FORM 40-F  ¨

Indicate by check mark if the registrant is submitting the Form 6-K in paper as permitted by Regulation S-T Rule 101(b)(1):  ¨

Indicate by check mark if the registrant is submitting the Form 6-K in paper as permitted by Regulation S-T Rule 101(b)(7):  ¨

Indicate by check mark whether by furnishing the information contained in this Form, the registrant is also thereby furnishing the information

to the Commission pursuant to Rule 12g3-2(b) under the Securities Exchange Act of 1934.  YES  ¨  NO  x

If “Yes” is marked, indicate below the file number assigned to the registrant in connection with Rule 12g3-2(b): 82-             

 

 

 

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The present document has been translated from the document issued and filed in Italy, from the Italian into the English language solely for the convenience of international readers. Despite all the efforts devoted to this translation, certain errors, omissions or approximations may subsist. Telecom Italia, its representatives and employees decline all responsibility in this regard.

Cautionary Statement for Purposes of the "Safe Harbor" Provisions of the United States Private Securities Litigation Reform Act of 1995

The Private Securities Litigation Reform Act of 1995 provides a "safe harbor" for forward-looking statements, which reflect management's current views with respect to certain future events, trends and financial performance. Actual results may differ materially from those projected or implied in the forward-looking statements. Such forward-looking information is based on certain key assumptions which we believe to be reasonable but forward-looking information by its nature involves risks and uncertainties, which are outside of our control, that could significantly affect expected results of future events.

The following important factors could cause actual results to differ materially from those projected or implied in any forward-looking statements:

- our ability to successfully implement our strategy over the 2012-2014 period;

- our ability to successfully achieve our debt reduction targets;

- the continuing impact of increased competition in a liberalized market, including competition from established domestic competitors and global and regional alliances formed by other telecommunications operators in our core Italian domestic fixed-line and wireless markets;

- the impact of the global recession in the principal markets in which we operate;

- our ability to utilize our relationship with Telefónica to attain synergies primarily in areas such as network, IT, purchasing and international mobile roaming;

- our ability to introduce new services to stimulate increased usage of our fixed and wireless networks to offset declines in the traditional fixed-line voice business due to the continuing impact of regulatory required price reductions, market share loss, pricing pressures generally and shifts in usage patterns;

- our ability to successfully implement our internet and broadband strategy both in Italy and abroad;

- the impact of regulatory decisions and changes in the regulatory environment in Italy and other countries in which we operate;

- the impact of economic development generally on our international business and on our foreign investments and capital expenditures;

- our services are technology-intensive and the development of new technologies could render such services non-competitive;

- the impact of political developments in Italy and other countries in which we operate;

- the impact of fluctuations in currency exchange and interest rates;

- our ability to build up our business in adjacent markets and in international markets (particularly in Brazil), due to our specialist and technical resources;

- our ability to achieve the expected return on the investments and capital expenditures we have made and continue to make (such as those in Brazil);

- the amount and timing of any future impairment charges for our licenses, goodwill or other assets; and

- the outcome of litigation, disputes and investigations in which we are involved or may become involved.

The foregoing factors should not be construed as exhaustive. Due to such uncertainties and risks, readers are cautioned not to place undue reliance on such forward-looking statements, which speak only as of the date hereof. We undertake no obligation to release publicly the result of any revisions to these forward-looking statements which may be made to reflect events or circumstances after the date hereof, including, without limitation, changes in our business or acquisition strategy or planned capital expenditures, or to reflect the occurrence of unanticipated events.

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Annual Report
2011

Contents

Letter to the Shareholders

4

Report on Operations

6

Key Operating and Financial Data – Telecom Italia Group

9

Review of Operating and Financial Performance – Telecom Italia Group

16

Research and Development

36

Events Subsequent to December 31, 2011

36

Business Outlook for the Year 2012

36

Consolidated Financial Statements – Telecom Italia Group

38

The Business Units of the Telecom Italia Group

46

Domestic

46

Brazil

62

Argentina

66

Media

71

Olivetti

77

Review of Operating and Financial Performance - Telecom Italia S.p.A.

80

Financial Statements – Telecom Italia S.p.A.

92

Reconciliation of Consolidated Equity

97

Corporate Boards at December 31, 2011

98

Macro-Organization Chart of the Telecom Italia Group at December 31, 2011

100

Information for Investors

101

Related Party Transactions

105

Sustainability Section

106

Customers

110

Suppliers

112

The Environment

114

The Community

122

Human Resources

126

Shareholders

136

Alternative Performance Measures

136

Glossary

140

Telecom Italia Group Consolidated Financial Statements

147

Contents

148

Consolidated Statements of Financial Position

150

Separate Consolidated Income Statements

152

Consolidated Statements of Comprehensive Income

153

Consolidated Statements of Changes in Equity

154

Consolidated Statements of Cash Flow

155

Notes to the Consolidated Financial Statements

157

Certification of the Consolidated Financial Statements pursuant to art. 81-ter of

Consob Regulation 11971 dated May 14, 1999, with Amendments and Additions

299

Independent Auditors’ Report

300

Telecom Italia S.p.A. Separate Financial Statements

302

Contents

303

Statements of Financial Position

305

Separate Income Statements

307

Statements of Comprehensive Income

308

Statements of Changes in Equity

309

Statements of Cash Flow

310

Notes to the Separate Financial Statements

312

Certification of the Separate Financial Statements pursuant to art. 81-ter of

Consob Regulation 11971 dated May 14, 1999, with Amendments and Additions  

433

Independent Auditors’ Report

434

Other Information

434

Board of Statutory Auditors’ Report

441

Motions for Resolutions

460

Useful Information

480

This document has been translated into English solely for the convenience of the readers.

In the event of a discrepancy, the Italian language version prevails.

Board of Directors

At December 31, 2011, the board of directors of Telecom Italia is composed of the following 15 directors:

Board of Statutory Auditors

The board of statutory auditors of Telecom Italia was elected by the shareholders’ meeting held on April 8, 2009 and will remain in office until the approval of the 2011 annual financial statements.

The board of statutory auditors is composed as follows:

Letter to the Shareholders

To the Shareholders,

2011 was a difficult year for the global economy and, to an even greater extent, for the Italian economy, which became entangled in the sovereign debt crisis.

The increase in the cost of capital, resulting from the rise in interest rates, led to a downward revision of the present value of future cash flows used to determine the value of goodwill, which also had repercussions on Telecom Italia. Consequently, it proved necessary to write down a part of the goodwill which arose following the Olivetti/Telecom Italia operations of 1999 and 2003 and the acquisition of TIM’s minority shares in 2005.

However, the writedowns did not affect business and operational results which, on the contrary, improved yet again. In 2011, Telecom Italia’s market share in mobile telephone lines once more began to grow, gaining in the last two quarters of the year almost half a percentage point.

At the same time, there was less erosion of Telecom Italia’s market share in the sphere of fixed telephone services.

In Brazil, the results exceeded all expectations, with an increase in revenues of 18% favoring a significant rise in operating profit, with a market share which, in terms of lines, reached 26.5% and which, during the last 12 months, registered an increase of almost 1.5 percentage points. Moreover, in 2011, we brought to a close the acquisition of Aes Atimus. Thanks to the Aes Atimus fiber optic network, re-christened TIM Fiber, it will be now possible to develop further the mobile network and, at the same time, offer fixed network services, Including ultra-broadband services, in the two most important areas of the country, which generate almost one quarter of Brazilian GDP.

In Argentina, too, the relaunch and consolidation of the Telecom Argentina Group continues and a very positive year closes with 26% higher revenues and a significant increase in operating profit. The number of lines rose by more than two million, growing the market share by more than one percentage point.

At the Group level, the deleverage process continued. This has made it possible to reduce consolidated debt year-over-year by 1 billion euros and over three years by more than 4 billion euros, amply fulfilling the objectives laid down in the 2008 business plan. It is particularly significant that the reduction in the level of debt has been achieved, despite the investments of almost 2 billion euros made for the acquisition of the frequencies for the LTE mobile networks and for the acquisition of Aes Atimus.

These investments are of strategic importance for the future, since they allow a further strengthening of our position in Brazil and, at the same time, make it possible to expand the range of services offered in Italy.

Despite these investments and future commitments to develop ultra-broadband networks, the Group’s deleverage process is sustainable in terms of the Group’s capacity to generate cash flow. Considering the sovereign debt crisis and the considerable increase of the spreads in the Italian debt, the Board of Directors has thus decided to reduce the amount of resources available for dividends in the three-year period, with the aim of safeguarding the Group’s rating, that is, the rating issued by the agencies with regard to the sustainability of a company’s level of debt. Notwithstanding this, we believe that the dividends established for the current year will reflect a level of remuneration in line with that offered by other large international telecommunications groups.  

Reducing the level of debt is a fundamental step for our Group. We must continue to reduce the burden which is weighing heavily on the future prospects of the Group and is suffocating its ambitions with regard to future growth. The results achieved in this area over the last three years, in an extremely challenging economic and financial context, make us confident that we can also achieve the ambitious objectives we have set ourselves for the next three years.

The aim is to reach the year 2015 with a level of debt that can be regarded as “normal”, in other words, a level of debt which, from the point of view of our capacity to generate cash flow, is absolutely in line with, if not better than, that of other large international telecommunications groups.

In conjunction with the progress made on the debt front, we have achieved significant progress in terms of the relaunch of commercial activities and more efficient management of the processes and, more generally, growth strategies.

Our aims have not changed: we intend to continue our action to consolidate the domestic market, promote growth in Latin America and encourage continuous improvements in the efficiency of management and productive processes. In addition, we nurture a strong innovative drive with regard to future developments in the sector, which Telecom Italia must look at and invest in, as one of the world’s leading international telecommunications companies.

We intend to achieve all of this with maximum respect for the professional and ethical values of a company that is socially aware, and able to play a crucial part, shouldering its responsibilities in helping to develop the countries where it operates, and when dealing with its partners and customers. The Group therefore conducts its affairs, and will continue to do so, in a correct, transparent way, open to confrontation and dialog with the institutions, organizations on behalf of society and competitors.

On this solid basis of ethical priorities, the Group is continuing along the path of relaunching it activities begun more than three years ago, a path which has brought much satisfaction, despite the presence of an overall negative economic scenario which does not appear likely to improve in the short term. We are confident that, with commitment and hard work on everybody’s part, we shall succeed in restoring the capacity of Telecom Italia Group to create the value, which our shareholders expect.

Franco Bernabè

Key Operating and Financial Data – Telecom Italia Group

Highlights 2011

•

In a macroeconomic and market climate marked by deceleration in higher growth economies and fears of a recession in mature ones, the Group reaches all its 2011 targets in terms of revenues and earnings and also a reduction in net financial debt.

•

The enormous effort to improve efficiency, especially in the Domestic market, brings operating free cash flow to 5,767 million euros in 2011 notwithstanding the investment of 1.2 billion euros for the acquisition of LTE mobile frequencies in Italy. Excluding this investment, operating cash flow generated by the Group improves from last year to about 7 billion euros.

•

The greater focus on investments, equal to about 6.1 billion euros, including LTE frequencies acquired in the last quarter, did not stand in the way of reducing adjusted net debt which falls by more than 1 billion euros compared to December 31, 2010 and totals 30.4 billion euros at the end of the year.

•

The strengthening process continues in markets which have better development potential and will produce a growth in results for the Group.  Thanks to the consolidation of Argentina and the strong advances made by Brazil, consolidated revenues gain 8.7% over the prior year (+2.7% in organic terms), reaching 30 billion euros.

•

The change in earnings is also positive: EBITDA, although hurt by the negative trend of the domestic business (-3.9% compared to the prior year in organic terms) still grew over last year by 7.3% (stable in organic terms) thanks to the contribution of international operations.

•

In 2011, operations in South America, in organic terms, account for 35% of sales and 16% of the operating cash flow (EBITDA-Capex) of the Group.

•

The Domestic market continues to feature a declining business trend due to the difficult macroeconomic picture and is accentuated in the last quarter by financial pressure which particularly involves the countries of southern Europe. Nevertheless, the competitive repositioning begun last year and the positive change from data services and evolved handset sales in the mobile area lead progressively to a slowdown in the decline of revenues compared to the prior year; in the last quarter -2% (-5.7% for the first nine months of 2011).

•

As for Goodwill allocated to Core Domestic, the results of the impairment test indicate an overall impairment charge of 7.3 billion euros, mainly due to the deterioration of the parameters of reference in the financial markets and a general decline in the macroeconomic scenario. Such Goodwill, which originated during the period 1999-2005 after acquisition operations and the shortening of the chain of control of the Company, is recalculated at 34.2 billion euros. As a result of the impairment test, the Goodwill of the Media Business Unit is also written down for 57 million euros. The Goodwill impairment charges have no financial consequences and therefore no effect on the direction of deleveraging already announced to the market.

•

Such impairment charges are reflected in the negative EBIT of 603 million euros and the Loss attributable to owners of the Parent of 4,726 million euros. Organic EBIT is 6,808 million euros (+5.1% compared to 2010), while the Profit attributable to owners of the Parent, on a comparable basis – excluding the impact of the goodwill impairment charge and other non-recurring items – would be 2.6 billion euros in 2011, in line with that of 2010, also in comparable terms.

•

The Parent, Telecom Italia S.p.A., reports a loss of 3,571 million euros. In comparable terms – excluding the impact of the goodwill impairment charge and other non-recurring items – the Profit would be 1.8 billion euros in 2011.

The performance of the main financial indicators for 2011

The trend of the key operating and financial indicators for the year and the fourth quarter of 2011 can be summarized as follows:

Consolidated Reported Revenues: in 2011 are 29,957 million euros with a positive change of 8.7% (+2,386 million euros). The increase is due to the Latin America operations which benefit from the entry of the Argentina Business Unit in the scope of consolidation for the full year, and the positive performance by the Brazil Business Unit (7,343 million euros, +1,144 million euros compared to 2010, or +18.5%). The change in consolidated Organic Revenues⁽¹⁾ in 2011 comes to +2.7%, displaying a trend of constant improvement during the year; consolidated Organic Revenues for the fourth quarter of 2011 in fact recorded a 5.0% increase compared to the fourth quarter of 2010.  

More to the point:

•

the organic reduction in Domestic Business Unit Revenues in 2011 is 4.8% (-2.1% in the fourth quarter of 2011); as for revenues by customer segment, 2011 records a reduction of 5.0% in the Consumer segment, a contraction of 6.9% in the Business segment and 5.4% in the Top Clients segment.

•

Revenues in Brazil show organic growth of 18.2% compared to 2010 (+1,129 million euros); in the fourth quarter of 2011, organic revenue growth is 20.0% (+325 million euros).

•

Revenues in Argentina increase 26.5% in organic terms compared to 2010 (+674 million euros); in particular, Revenues of the Mobile business are up 32.3% while the Fixed area expands by 15.0%. For the fourth quarter of 2011, organic revenue growth is 24.1% (+174 million euros).

Consolidated Reported EBITDA: grows 834 million euros (from 11,412 million euros in 2010 to 12,246 million euros in 2011); a positive contribution to this result is made by the entry of the Argentina Business Unit in the scope of consolidation for the entire year; for the fourth quarter of 2011, EBITDA increases 4.6% (+134 million euros). The consolidated Reported EBITDA margin falls 0.5 percentage points to 40.9% in 2011 (41.4% in 2010). The consolidated Organic EBITDA Margin is down 1.1 percentage points to 41.2% in 2011 (42.3% in 2010). Such performance is linked to the higher contribution to revenues by South America, where margins are lower than those of the Domestic Business, as well as the increase in sales of mobile handsets, aimed at a greater penetration of data services. In terms of the amount, organic EBITDA is 12,339 million euros (12,335 million euros in the prior year); in the fourth quarter of 2011, organic EBITDA is 3,105 million euros, up 3.3% compared to 3,006 million euros in the fourth quarter of 2010.

Consolidated Reported EBIT: is a negative 603 million euros in 2011 (a positive 5,818 million euros in 2010) and is penalized by the impact of the above impairment charges for a total of 7.4 billion euros relating to the Goodwill allocated to Core Domestic and Media.

Consolidated Organic EBIT: is 6,808 million euros in 2011 (+5.1% compared to 2010) and 1,756 million euros in the fourth quarter of 2011 (+5.9%). The consolidated Organic EBIT Margin is 22.7%, with an improvement of 0.5 percentage points compared to the prior year.

Finance income/expenses and Investment Results: show the balance of Finance income and expenses presenting an improvement of 76 million euros mainly in connection with the reduction in Net financial debt. At the same time, investment management and the equity valuation of associates display an overall decline of 411 million euros; the change is mainly due to the presence, in 2010, of the positive impact of the fair value adjustment of the stake held in the Sofora group prior to acquisition of control (266 million euros) and the negative effect of the equity valuation of associates (negative for 39 million euros in 2011 and positive for 99 million euros in the prior year).

Loss for the year attributable to owners of the Parent: is 4,726 million euros, with a reduction of 7,847 million euros compared to 2010 (profit of 3,121 million euros). In comparable terms, the result attributable to owners of the Parent is in line with 2010. In particular, comparable profit in 2011 would be 2.6 billion euros, calculated by excluding the impact of the goodwill impairment charge and other non-recurring items; the profit in 2010 would have been the same amount if calculated by excluding the positive impact connected with the acquisition of control of Sofora, the benefit of over 600 million euros from the recognition of deferred tax assets in Brazil and other non-recurring items.

Operating free cash flow: is 5,767 million euros in 2011 and 446 million euros lower than the prior year mainly owing to the acquisition of LTE (Long Term Evolution) frequencies for 1,223 million euros. Excluding the impact of the acquisition of LTE frequencies in 2011 and the payment made to the Revenue Agency relating to the Telecom Italia Sparkle case in 2010, operating free cash flow would record an improvement of 388 million euros. This is a confirmation of the Group’s strong and growing capacity to generate cash flow, thanks to the staying power of Domestic and the positive contribution of Brazil and also the entry of the Argentina Business Unit in the scope of consolidation.

Adjusted net financial debt: is 30,414 million euros at December 31, 2011, with a reduction of 1,054 million euros compared to December 31, 2010 (31,468 million euros). This reduction is even more significant when considering that in the fourth quarter of 2011 an amount of 1,223 million euros was spent for the acquisition of LTE  frequencies. Excluding this investment, net financial debt would have been more than 2 billion euros lower.

More to the point, cash generated by operating activities, together with the receipt of 464 million euros from the sale of the investments in EtecSA (Cuba) and Loquendo and the effects of the subscription by the market to the TIM Participações S.A. capital increase (about 240 million euros, net of the relative incidental expenses), more than guaranteed the cash requirements for the payment of dividends (1,326 million euros, of which 1,183 million euros was distributed to the market by the Parent), income taxes (1,381 million euros), acquisition of control of two companies in the AES Atimus group in Brazil (about 686 million euros) and purchases of shares which in 2011 enabled the Telecom Italia Group to increase its economic interest in the Telecom Argentina group from 16.2% to 22.7%.

Liquidity margin: at December 31, 2011 is 14.7 billion euros and consists of liquidity for 7.7 billion euros and long-term irrevocable credit lines for 7 billion euros (6 billion euros expiring in 2014 and 1 billion euros expiring in 2013), not subject to restrictions on their utilization. During 2011, three new bonds were issued on the European market for a total of 2.75 billion euros while about 5.3 billion euros of debt was repaid or repurchased. Given the particular context of the financial markets, the Telecom Italia Group has adopted a more prudent approach and – at the end of 2011 – the Group’s liquidity margin is more than sufficient to meet its debt repayment obligations for the next 24 months.

The Telecom Italia Group consolidated financial statements for the year ended December 31, 2011 and the comparative figures for the prior year have been drawn up in accordance with international accounting standards issued by the International Accounting Standards Board and adopted by the European Union (“IFRS”).

The Telecom Italia Group, in addition to the conventional financial performance measures established by IFRS, uses certain alternative performance measures in order to present a better understanding of the trend of operations and financial condition. Specifically, these alternative performance measures refer to: EBITDA, EBIT, the organic change in revenues, EBITDA and EBIT and accounting and adjusted net financial debt. Further details on such measures are presented under “Alternative performance measures”.

Furthermore, the part entitled “Business Outlook for the Year 2012” contains forward-looking statements in relation to the Group’s intentions, beliefs or current expectations regarding financial performance and other aspects of the Group’s operations and strategies. Readers of the Annual Report are reminded not to place undue reliance on forward-looking statements; actual results may differ significantly from forecasts owing to numerous factors, the majority of which are beyond the scope of the Group’s control.

PRINCIPAL CHANGES IN THE SCOPE OF CONSOLIDATION

Companies entering the scope of consolidation:

•

Tim Fiber – Brazil: on October 31, 2011, acquisitions were made for a 100% stake in the company Eletropaulo Telecomunicações Ltda and a 98.3% stake in AES Communications Rio de Janeiro S.A., both telecommunications infrastructure operators in the states of San Paolo and Rio de Janeiro, now renamed Tim Fiber SP and Tim Fiber RJ, respectively. The acquisitions were carried out through the subsidiary Tim Celular S.A. – Brazil Business Unit.

•

4GH group - Domestic: on July 27, 2011, the 4G Holding group entered the scope of consolidation (in the Domestic Business Unit)  after the acquisition of 71% of the ordinary shares of 4G Holding S.p.A. which in turn holds 100% of 4G Retail S.r.l.. The acquisition of 4G Holding, with its approximate 200 points-of-sale located in the most important shopping malls in Italy, will enable Telecom Italia to build up its positioning in the retail distribution market specialized in the sale of telephony equipment and broaden its nationwide presence.

•

Sofora – Telecom Argentina group: on October 13, 2010, the Sofora – Telecom Argentina group entered the scope of consolidation following the increase, from 50% to 58%, of the stake held by the Telecom Italia Group in the share capital of Sofora Telecomunicaciones S.A., the controlling holding company of the Telecom Argentina group. During 2011, further shares were acquired which increased the economic interest in the Telecom Argentina group from 16.2% at December 31, 2010 to 22.7% at December 31, 2011.

Companies exiting the scope of consolidation:

•

Loquendo – Domestic: on September 30, 2011, Loquendo S.p.A. was sold and consequently exited the scope of consolidation.

•

BBNed and Elettra: in 2010, Elettra (a company included in the Domestic Business Unit – International Wholesale), sold on September 30, 2010, and the BBNed group (included in Other Operations), sold on October 5, 2010, exited the scope of consolidation.

⁽¹⁾

The organic change in Revenues, EBITDA and EBIT is calculated by excluding the effects of the change in the scope of consolidation, exchange differences and non-organic components constituted by non-recurring items and other non-organic income/expenses.

Tables

Consolidated Operating and Financial Data

Consolidated Financial Position Data

Consolidated Profit Ratios

⁽¹⁾

Details are provided in the section “Alternative Performance Measures”.

⁽²⁾

Adjusted net invested capital = Total equity + Adjusted net financial debt.

Headcount, number in the Group at period-end ⁽¹⁾

Headcount, average number in the Group⁽¹⁾

Financial Ratios

Telecom Italia S.p.A.

(euros)	2011	2010	2009
Share prices (December average)
- Ordinary	0.83	0.98	1.08
- Savings	0.69	0.81	0.76
Dividends per share (2)
- Ordinary	0.043	0.058	0.050
- Savings	0.054	0.069	0.061
Pay Out Ratio (2) (*)	51%	32%	54%
Market to Book Value (**)	0.74	0.76	0.83
Dividend Yield (based on December average) (2) (***)
- Ordinary	5.21%	5.93%	4.63%
- Savings	7.79%	8.47%	8.03%

Telecom Italia Group

(euros)	2011	2010	2009
Basic earnings per share – ordinary shares	(0.24)	0.16	0.08
Basic earnings per share – savings shares	(0.24)	0.17	0.09

⁽¹⁾

Headcount includes the number of persons with temp work contracts.

⁽²⁾

For the year 2011, the ratio was calculated on the basis of the proposed resolutions submitted to the shareholders’ meeting held on May 15, 2012. For all periods under comparison, the reference index was assumed to be the Parent’s Normalized Earnings, calculated by excluding Non-recurring items, as detailed in the Note “Significant non-recurring events and transactions” in the separate financial statements of Telecom Italia S.p.A. at December 31, 2011.

^(*)

Dividends paid in the following year/Profit for the year.

^(**)

Capitalization/Equity of Telecom Italia S.p.A.

^(***)

Dividends per share/Share prices.

Review of Operating and Financial Performance – Telecom Italia Group

2011 Consolidated Operating Performance

The main profit indicators in 2011 compared to 2010 are the following:

Revenues

Revenues amount to 29,957 million euros in 2011, increasing 8.7% compared to 27,571 million euros in 2010 (+2,386 million euros). In terms of the organic change, consolidated revenues increased 2.7% (+785 million euros).

Specifically, the organic change in revenues is calculated by excluding:

•

the effect of the change in the scope of consolidation (+1,703 million euros), principally in reference to the entry of the Argentina Business Unit since October 13, 2010;

•

the effect of exchange differences (-74 million euros, due to the change in the exchange rates of the Brazil Business Unit ⁽¹⁾ and of the Argentina Business Unit ⁽¹⁾ for +15 million euros and -77 million euros, respectively, and other Group companies for -12 million euros);

•

other non-organic revenues, equal to 28 million euros in 2010, principally relating to the end, in the second quarter of 2010, of the “1001TIM” loyalty program which had resulted in the recognition of revenues of 35 million euros from previously deferred bonus points that had not been used by the customer.

⁽¹⁾

The average exchange rate used to translate the Brazilian real to euro (expressed in terms of units of local currency per 1 euro), is equal to 2.32669 in 2011 and 2.33215 in 2010. The average exchange rate used to translate Argentine pesos (expressed in terms of units of local currency per 1 euro) is equal to 5.74419 in 2011 and 5.18735 in 2010. The effect of the change in exchange rates is calculated by applying, to the period under comparison, the foreign currency translation rates used for the current period.

The breakdown of revenues by operating segment is the following:

(*)

In the scope of consolidation since October 13, 2010.

The following chart summarizes the changes in organic revenues in the periods under comparison:

The Domestic Business Unit (divided into Core Domestic and International Wholesale) reports a declining trend in organic Revenues of 4.8% compared to 2010; the decrease in revenues, notwithstanding greater tension in the macroeconomic and competitive scenario, is slowing down and improving and, in the fourth quarter of 2011, is equal to -2.1% (compared to -3.8% in the third, -6.0% in the second and -7.4% in the first). This is due to higher mobile revenues (particularly revenues from services and internet mobile devices), protection of the value of the customer base and development of ICT services in the fixed area.

Organic revenues from services (18,132 million euros in 2011) record a contraction of 5.2% and confirm the cited improving trend over the prior year (-3.2% in the fourth quarter of 2011, compared to -3.7% in the third, -6.2% in the second and -7.6% in the first). Organic revenues from services in the mobile area (-8.7% in 2011, -7.1% in the fourth quarter of 2011) are still feeling the efforts, but to a lesser degree, of competitively repositioning TIM’s plans particularly as regards voice traffic, which is offset only in part by the positive trend in mobile internet revenues.

The fixed-line area, with a contraction in revenues from services of 466 million euros (-3.5%), displays a considerable improvement in the fourth quarter of 2011 (-1.9%). In particular, revenues from retail customers (-5.1%) show a reduction which is lower than that recorded in 2010 (-6.7%) and an improving trend during the course of the year (-4.0% in the fourth quarter of 2011).

As for handset sales, revenues total 900 million euros in 2011, indicating a recovery entirely driven by the mobile area which benefits from a greater sales push on handsets offering mobile internet connectivity.

As for the Brazil Business Unit, organic revenues grew 18.2% in 2011 compared to the prior year. Revenues from services confirm the positive trend (+13.1% compared to 2010), propelled by the growth of the customer base (over 64 million lines at December 31, 2011, up 25.6% over the prior year). Handset revenues also show a significant increase (+95.6% compared to 2010) boosted, like the domestic business, by the strategy focusing on smartphones and webphones as the lever for the growth of mobile data traffic revenues.

As for the Argentina Business Unit, organic revenues gained 26.5% compared to 2010 (+674 million euros); mobile business revenues (+564 million euros) jumped and recorded a growth of 32.3% while the fixed area grew 15.0% over the prior year.

An in-depth analysis of revenue performance by individual Business Unit is provided in the section “The Business Units of the Telecom Italia Group”.

EBITDA

EBITDA is 12,246 million euros, increasing 834 million euros (+7.3%) compared to the prior year; the EBITDA margin is 40.9% (41.4% in 2010). In organic terms, EBITDA is in line with the prior year and the EBITDA margin is down 1.1 percentage points (41.2% in 2011 vs. 42.3% in 2010) owing partly to a higher percentage of total revenues by South America where margins are lower than those of the Domestic Business as well as higher mobile handset sales, aimed at a greater penetration of data services.

Details of EBITDA and EBITDA margins by operating segment are as follows:

(*)

In the scope of consolidation since October 13, 2010.

The following chart summarizes the changes in organic EBITDA:

Specifically, the organic change in EBITDA is calculated by excluding:

•

the effect of the change in the scope of consolidation (592 million euros, mainly referring to the consolidation of Argentina Business Unit);

•

the effect of exchange differences (-23 million euros);

•

(Revenues and income) / Costs and expenses as described below:

EBITDA was particularly impacted by the change in the line items analyzed below:

•

Acquisition of goods and services: the increase of 1,476 million euros is largely due to the entry of the Argentina Business Unit in the scope of consolidation for the full year 2011 (+1,052 million euros, including a negative exchange rate effect for 34 million euros) and the surge in the sales and technical costs of the Brazil Business Unit – the main cause of the overall increase of +879 million euros – needed to support the growth of the customer base and sales. Countering these changes is the domestic business which benefits from cost cutting actions which contributed to a reduction in purchases of 365 million euros compared to 2010 (-5.1%).

•

Employee benefits expenses: record a net decrease of 104 million euros.

The change was influenced by:

–

the impact of +364 million euros, including the negative exchange rate effect of 11 million euros, due to the entry of the Argentina Business Unit in the scope of consolidation for the full year 2011 (+11,521 people compared to 2010);

–

the reduction of the Italian component of ordinary employee benefits expenses, mainly due to the reduction in the average headcount of the salaried workforce by 3,526 compared to 2010 (of whom -1,188 are under so-called “solidarity contracts” in Telecom Italia S.p.A. and Shared Service Center S.r.l.);

–

the reduction of 113 million euros owing to the actuarial effects relating to employee severance indemnities in connection both with the change in the economic parameters of reference (discount rate and inflation rate) and the new law concerning pensions (Law 214 of December 22, 2011) which extends the estimated period in which a person works;

–

lower expenses of 246 million euros in connection with the mobility procedure under Law 223/91. It should be recalled in particular that employee benefits expenses in 2010 included expenses for 258 million euros relating to the start of the mobility procedure under Law 223/91 by the Parent, Telecom Italia, SSC, TI Sparkle, Olivetti S.p.A. and Olivetti I-Jet. In 2011, the provisions were adjusted by another 12 million euros, of which 9 million euros is for the Parent, Telecom Italia, and 3 million euros for SSC.

•

Other operating expenses: grew 437 million euros compared to 2010, largely on account of the entry of the Argentina Business Unit in the scope of consolidation for the full year 2011 (+248 million euros, including a negative exchange rate effect of 8 million euros), the increase in the Brazil Business Unit (+159 million euros) and the Domestic Business Unit (+69 million euros). In particular:

–

writedowns and expenses in connection with credit management include mainly 397 million euros (317 million euros in 2010) referring to the Domestic Business Unit, 100 million euros (133 million euros in 2010) to the Brazil Business Unit and 29 million euros to the Argentina Business Unit;

–

provision charges recorded for pending disputes refer mainly to 60 million euros (18 million euros in 2010) of the Brazil Business Unit, 50 million euros (53 million euros in 2010) of the Domestic Business Unit, and 17 million euros of the Argentina Business Unit;

–

telecommunications operating fees and charges comprise 554 million euros (412 million euros in 2010) referring primarily to the Brazil Business Unit, to the Argentina Business Unit for 61 million euros and to the Domestic Business Unit for 58 million euros (56 million euros in 2010).

Details of the main line items which impacted EBITDA are presented in the following tables:

Acquisition of goods and services

Employee benefits expenses

Average headcount of the salaried workforce

(1)

The increment in the average headcount of the salaried workforce is primarily attributable to the consolidation of the Argentina Business Unit for the full year 2011(15,232 average headcount 2011).

(2)

Includes the average headcount with temp work contracts: 87 in 2011 (75 in Italy and 12 outside Italy). In 2010 the headcount was 84 (68 in Italy and 16 outside Italy).

Headcount at year-end

(1)

Includes headcount with temp work contracts: 42 at December 31, 2011 and 71 at December 31, 2010.

Other income

Other operating expenses

Depreciation and amortization

Details are as follows:

The increase in amortization and depreciation charges is due to the entry of the Argentina Business Unit in the scope of consolidation (+390 million euros, including a negative exchange rate effect of 13 million euros) offset by the decrease in amortization and depreciation charges of the Domestic Business Unit (-329 million euros) and the Brazil Business Unit (-108 million euros, including the effect of the change in the real/euro exchange rate of +3 million euros).

Net gains (losses) on disposals of non-current assets

Net gains on disposals of non-current assets total 3 million euros. The gain of 35 million euros, net of the relative incidental expenses, realized on the sale of Loquendo at the end of September 2011 is offset by net losses from the disposal of tangible assets, mainly of the Parent, for the replacement and subsequent disposal of dedicated mobile telephony plant.

In 2010, net gains on disposals of non-current assets were recorded for 11 million euros and included the gain, net of the incidental expenses of 19 million euros, in connection with the completion of the transactions for the sale of Elettra by the Domestic Business Unit - International Wholesale.

Impairment reversals (losses) on non-current assets

Net impairment losses on non-current assets amount to 7,358 million euros in 2011 (63 million euros in 2010). The line item includes 7,307 million euros for the impairment charge on the goodwill allocated to the Core Domestic cash-generating unit in the Domestic Business Unit and 57 million euros for the impairment charge on the goodwill allocated to the Media Business Unit, which had already been written down for 46 million euros in 2010.

In particular, in preparing the annual financial statements, the Telecom Italia Group repeated the impairment test that had been carried out in the first half of 2011 which led to the recognition in the half-year condensed consolidated financial statements at June 30, 2011 of an impairment loss of 3,182 million euros on the Core Domestic cash-generating unit.

The macroeconomic and market climate was marked by a slowdown in the higher growth economies and fears of a recession in the mature ones which was more accentuated in the domestic market. Added to this was an escalation, in the second half of the year, of financial market pressures, with particular reference to the trend of interest rates. The test therefore took into account such deterioration of the financial markets in general terms, with reference to interest rates, while the worsening of expectations regarding the market prospects of the Business Unit in question were considered in specific terms.

Further details are provided in the Note “Goodwill” in the consolidated financial statements at December 31, 2011 of the Telecom Italia Group.

The line item also comprises other impairment charges on intangible and tangible assets.

EBIT

EBIT is a negative 603 million euros in 2011 (a positive 5,818 million euros in 2010) and is penalized by the impact of the impairment charge of 7,364 million euros on the goodwill allocated to the Domestic and Media Business Units. Organic EBIT, calculated by also excluding the above goodwill impairment charges, is 6,808 with a positive change of 333 million euros (+5.1%); the organic EBIT margin increased from 22.2% in 2010 to 22.7% in 2011.

In detail, the organic change in EBIT is calculated by:

•

considering the effect of the change in the scope of consolidation (286 million euros, mainly in reference to the consolidation of the Argentina Business Unit);

•

considering the effect of exchange differences (-12 million euros);

•

excluding (Revenues and income)/Costs and expenses, with details as follows:

Share of profits (losses) of associates and joint ventures accounted for using the equity method

Details are as follows:

The Share of profits (losses) of associates and joint ventures accounted for using the equity method is a loss of 39 million euros in 2011 (profit of 99 million euros in 2010). In particular, the year 2011 was negatively affected by the writedown of the entire investment in the Italtel Group: the overall macroeconomic situation on the one hand and the specific prospects of future evolution of the company’s business on the other, have led to believe, in fact, that the recovery of the entire amount of the associate is not probable.

The year 2010 included the positive impact relating to the investment in EtecSA (Cuba), including the share of results up to September 30, 2010 and the reversal of impairment losses (30 million euros) after agreements were reached at the end of 2010 for the sale of the investment which was subsequently finalized on January 31, 2011.

Other income (expenses) from investments

In 2011, Other income (expenses) from investments is an income balance of 16 million euros and includes 17 million euros for the net gain on the sale of the entire 27% investment in the Cuban operator EtecSA. That amount is in addition to the benefit from the impairment reversal of 30 million euros, recorded in 2010.

In 2010, Other income (expenses) from investments was an income balance of 289 million euros and specifically included the revaluation, net of the negative exchange rate effect, of 266 million euros on the investment interest already held in Sofora Telecomunicaciones (50%). In particular, as set forth in IFRS 3, following the acquisition of control of Sofora Telecomunicaciones, which took place on October 13, 2010, the investment interest previously held in the subsidiary, accounted for using the equity method, was remeasured at fair value at the acquisition date of control. The line item also included the net gain of 29 million euros realized on the settlement agreement reached between the Telecom Italia Group and the Bolivian government for the resolution of the dispute over the May 1, 2008 expropriation by that government of the investment held by the Group in Entel Bolivia.

Finance income (expenses)

Finance income (expenses) is an expense balance of 1,998 million euros (an expense balance of 2,074 million euros in 2010), with a positive change of 76 million euros largely arising from lower net debt exposure.

Income tax expense

Income tax expense is 1,643 million euros and posts an increase of 1,093 million euros compared to 2010 (550 million euros). In particular, income taxes in 2010 comprised a benefit of more than 600 million euros deriving mainly from the recognition of deferred tax assets by the Brazil Business Unit in connection with tax loss carryforwards which became recoverable on the basis of the prospects of earnings of the companies in the Business Unit. In addition to this effect, the increase in income taxes is also due to the higher taxable base of the Parent, Telecom Italia, the Brazil Business Unit as well as the consolidation of the Argentina Business Unit for the full year 2011.

Profit (loss) from Discontinued operations/Non-current assets held for sale

In 2011, the balance is a loss of 13 million euros and includes expenses incurred in connection with sales transactions of prior years. In 2010, the balance was a loss of 7 million euros and included the same type of transactions.

Profit (loss) for the year

The loss for the year can be analyzed as follows:

In comparable terms, the result for the year attributable to owners of the Parent is in line with that of 2010. Specifically, the comparable profit in 2011 would have been 2,604 million euros and is calculated by excluding the impact of the previously mentioned goodwill impairment charge and other non-recurring items; the profit in 2010 would have been basically the same (2,608 million euros) when calculated by excluding the positive impact of the acquisition of control of Sofora, the benefit of more than 600 million euros deriving from the recognition of deferred tax assets and other non-recurring items in Brazil.

Consolidated financial position performance

Financial position structure

Non-current assets

•

Goodwill: is 6,966 million euros lower due not only to the previously mentioned impairment charge of 7,364 million euros but also to the following variations:

–

increase of 556 million euros for the recognition of the provisional amount of goodwill following the acquisition of control and the subsequent consolidation of Tim Fiber RJ (formerly AES Communications Rio de Janeiro) and Tim Fiber SP (formerly Eletropaulo Telecomunicações) in the Brazil Business Unit;

–

increase of 16 million euros for the recognition of the provisional amount of goodwill following the acquisition of control and the subsequent consolidation of the 4GH group.

–

decrease of 10 million euros in connection with the sale of the subsidiary Loquendo on September 30, 2011;

–

change in the exchange rates of the Brazilian and Argentine companies.

As set forth in IFRS 3, within 12 months of the above acquisitions, the accounting transactions for the business combinations must be closed by the definitive allocation of the purchase prices paid. It should be noted that the price paid on October 13, 2010 for the acquisition of control of the Sofora – Telecom Argentina group was definitively allocated during 2011. As a result, the goodwill of the Sofora – Telecom Argentina group recorded provisionally in the consolidated financial statements at December 31, 2010 for 166 million euros was adjusted to 177 million euros to reflect the definitive fair value of the Sofora – Telecom Argentina group at the acquisition date of relative control.

•

Other intangible assets: increased 664 million euros, from 7,936 million euros at the end of 2010 to 8,600 million euros at December 31, 2011, being the balance of the following:

–

additions (+3,066 million euros);

–

amortization charge for the year (-2,162 million euros);

–

disposals, exchange differences, changes in the scope of consolidation, reclassifications and other movements (for a net balance of -240 million euros).

•

Tangible assets: decreased 467 million euros from 16,415 million euros at the end of 2010 to 15,948 million euros at December 31, 2011, being the balance of the following:

–

additions (+3,029 million euros);

–

depreciation charge for the year (-3,332 million euros);

–

disposals, exchange differences, changes in the scope of consolidation, reclassifications and other movements (for a net balance of -164 million euros).

Discontinued operations/Non-current assets held for sale

At December 31, 2010, this line item included the entire investment held in EtecSA (Cuba) which was disposed of on January 31, 2011.

Consolidated equity

Consolidated equity amounts to 26,695 million euros (32,555 million euros at December 31, 2010), of which 22,791 million euros is attributable to owners of the Parent (28,819 million euros at December 31, 2010) and 3,904 million euros is attributable to Non-controlling interests (3,736 million euros at December 31, 2010).

In greater detail, the changes in equity are the following:

Cash flows

The following chart summarizes the main transactions which had an impact on the change in net financial debt during 2011:

Change in adjusted net financial debt

(*)

Includes the change in trade payables for amounts due to fixed asset suppliers.

In addition to what has already been described with reference to EBITDA, net financial debt during 2011 has been particularly impacted by the following items:

Capital expenditures on an accrual basis

The breakdown of capital expenditures by operating segment is as follows:

(millions of euros)	2011		2010		Change
		% of total		% of total
Domestic	4,200	68.9	3,106	67.8	1,094
Brazil	1,290	21.2	1,216	26.5	74
Argentina	556	9.1	188	4.1	368
Media, Olivetti and Other Operations	66	1.1	76	1.7	(10)
Adjustments and Eliminations	(17)	(0.3)	(3)	(0.1)	(14)
Total consolidated capital expenditures	6,095	100.0	4,583	100.0	1,512
% of Revenues	20.3		16.6		3.7

Capital expenditures total 6,095 million euros in 2011, increasing 1,512 million euros (+33%) compared to 2010. In particular, the increase is due to: investments made by the Domestic Business Unit for the acquisition of user rights for the 800 MHz, 1800 MHz and 2600 MHz frequencies to be used for broadband mobile communication services, for a total amount of 1,223 million euros, the consolidation of the Argentina Business Unit for the full year (+368 million euros, including the negative exchange rate effect of 18 million euros) and higher capital expenditures by the Brazil Business Unit (+74 million euros, including a positive exchange rate effect of 3 million euros). Further details on the aforementioned acquisition of the user rights to the frequencies are provided in the paragraph “Principal changes in the regulatory framework” of the Domestic Business Unit.

Sale of investments and other disposals flow

Sale of investments and other disposals flow totals 486 million euros and principally relates to:

•

411 million euros for the portion already received, net of related incidental expenses, on the sale of EtecSA (Cuba). The transaction specifically provides that the Telecom Italia Group will receive a total of 706 million U.S. dollars, of which 500 million U.S. dollars has already been paid by the buyer on January 31, 2011; the remaining amount will be paid by EtecSA in 36 monthly installments. The receivable is secured by specific guarantees;

•

53 million euros received, net of related incidental expenses and the net financial debt of the subsidiary, on the sale of the entire stake held in Loquendo on September 30, 2011.

Financial investments flow

•

Acquisition of interests in the Sofora – Telecom Argentina group

During 2011, the Telecom Italia Group increased the stakes held in Sofora Telecomunicaciones S.A., in Nortel Inversora S.A. (the controlling holding company of the Telecom Argentina group, which, in turn, is controlled by Sofora Telecomunicaciones) and in Telecom Argentina S.A. for a total investment of 211 million euros. Following these acquisitions, the economic interest of the Telecom Italia Group in Telecom Argentina went from 16.2% at December 31, 2010 to 22.7% at December 31, 2011.

In particular:

–

on January 24, 2011, the Telecom Italia Group, through its subsidiary Telecom Italia International N.V., purchased 2,351,752 Nortel American Depositary Shares (ADS), representing Preferidas B shares, from Fintech Investment Ltd for 65.8 million U.S. dollars (approximately 48 million euros).  The ADSs in question represent 117,587.6 Preferidas B shares (without voting rights). This share package was later conferred to the Argentina company Inversiones Milano S.A., later renamed Tierra Argentea S.A., a wholly-owned subsidiary of the Telecom Italia Group;

–

on March 9, 2011, Telecom Italia, through its subsidiary Telecom Italia International N.V., purchased a 10% stake for approximately 104 million euros in Sofora Telecomunicaciones S.A. from the local partner Werthein and by so doing increased its investment holding in Sofora from 58% to 68% of the company’s share capital;

–

on October 27, 2011, Tierra Argentea S.A., a wholly-owned subsidiary of the Telecom Italia Group, purchased 14.48 million Telecom Argentina Class B shares at the price of 20.50 Argentine pesos per share. In the following months of November and December, the company purchased another 1.1 million shares of the same class. The equivalent amount of the transactions was equal in total to 319 million Argentine pesos (equal to about 56 million euros).

The transactions did not alter or modify either the governance rights of the Telecom Argentina group established by agreement between the shareholders signed by the Telecom Italia Group and Werthein group, which is still in force, or the commitments undertaken by the Telecom Italia Group with the Argentine antitrust authorities.

•

Acquisition of control of the 4GH group

On July 27, 2011, Telecom Italia, after having received the National Antitrust Authority’s (AGCM) approval, finalized the acquisition of a 71% stake in the company 4G Holding S.p.A., with a total impact on net financial debt of 27.4 million euros, for an outlay of about 8.6 million euros (including incidental expenses) and the consolidation of the financial debt of the acquired companies. The deal was carried out through the wholly-owned subsidiary of the Parent Telecom Italia, TLC Commercial Services S.r.l..

The acquisition of the 4GH group, with its approximate 200 points-of-sale located in the most important shopping centers in Italy, will make it possible for the Telecom Italia Group to build up its positioning in the retail distribution market specialized in the sale of telephony equipment on the domestic market.

•

Acquisition of control of the companies Tim Fiber SP and Tim Fiber RJ

On October 31, 2011, two companies belonging to the AES Atimus group, telecommunications infrastructure operator in the states of San Paolo and Rio de Janeiro, were acquired from Companhia Brasiliana de Energia, through the subsidiary Tim Celular S.A. The total impact on net financial debt is 686 million euros, for an outlay of about 656 million euros (including incidental expenses) and the consolidation of the financial debt of the acquired group.

Capital increases

On October 27, 2011, the share capital increase of Tim Participações S.A. ended with a cash in for the Telecom Italia Group of 240 million euros, net of the relative incidental expenses. In particular, the capital was increased by means of the issue of 200,258,368 ordinary shares at the offering price of 8.60 reais each for a total of 1.7 billion reais (equal to about 700 million euros).  Besides the 190,796,858 shares in the initial offering, there were 9,461,510 shares of the greenshoe option, completely exercised, granted by Tim Participações S.A. to Morgan Stanley S.A. and Morgan Stanley & Co. LLC, part of the placement consortium.

The Telecom Italia Group, through Telecom Italia International N.V. – the parent of the holding company Tim Brasil Serviços e Participações S.A. – subscribed to its entire share of the reserved capital increase in Tim Participações S.A. for 1.1 billion reais (equal to about 450 million euros), but was unable to subscribe to any of the shares issued following exercise of the greenshoe. Consequently, the percentage investment in Tim Participações S.A. fell to 66.68% from the previous 66.94%.

In 2010, capital increases amounted to a total of 67 million euros and of that amount 44 million euros referred to the Telecom Italia Media increase and 23 million euros to the Parent, Telecom Italia S.p.A., as part of the broad-based employee share ownership Plan.

Finance expenses, income taxes and other net non-operating requirements flow

Finance expenses, income taxes and other net non-operating requirements flow mainly includes the payment, during 2011, of net finance expenses (1,712 million euros), income taxes (1,381 million euros) and also the change in non-operating receivables and payables.

Net Financial Debt

Net financial debt is composed as follows:

The financial risk management policies of the Telecom Italia Group are directed towards diversifying market risks, hedging exchange rate risk in full and optimizing interest rate exposure by an appropriate diversification of the portfolio, which is also achieved by using carefully selected derivative financial instruments. Such instruments, it should be stressed, are not used for speculative purposes and all have an underlying.

Furthermore, in order to determine its exposure to interest rates, the Group defines an optimum composition for the fixed-rate and variable-rate debt structure and uses derivative financial instruments to achieve that prefixed composition. Taking into account the Group’s operating activities, the optimum mix of medium/long-term non-current financial liabilities has been established, on the basis of the nominal amount, in a range of 65% - 75% for the fixed-rate component and 25% - 35% for the variable-rate component.

In managing market risks, the Group has adopted a “Guideline policy for debt management using derivative instruments” and mainly uses IRS and CCIRS derivative financial instruments.

The volatility of interest rates and exchange rates, featuring prominently in the financial markets since the fourth quarter of 2008, has significantly impacted the fair value measurement of derivative positions and the related financial assets and liabilities. Having said this and in order to present a more realistic analysis of net financial debt, starting from the actual figures at June 2009, in addition to the usual indicator (renamed “Accounting net financial debt”), a new indicator was also presented denominated “Adjusted net financial debt” which excludes effects that are purely accounting and non-monetary in nature deriving from the fair value measurement of derivatives and related financial assets and liabilities. The measurement of derivative financial instruments, which also has the objective of pre-setting the exchange rate and the interest rate of future variable contractual flows, does not, in fact, require an actual financial settlement.

Sales of receivables to factoring companies

The sales of receivables to factoring companies finalized during 2011 resulted in a positive effect on net financial debt at December 31, 2011 of 1,334 million euros (1,209 million euros at December 31, 2010).

Gross financial debt

Bonds

Bonds at December 31, 2011 are recorded for 28,373 million euros (29,578 million euros at December 31, 2010). Their nominal repayment amount is 26,975 million euros, decreasing 1,354 million euros compared to December 31, 2010 (28,329 million euros).

The change in bonds during 2011 is as follows:

^(*)

On October 20, 2011, bonds were issued for 750 million euros; subsequently, on November 3, 2011, the issue was reopened and increased for another 250 million euros.

(1)

Net of buybacks by the company for 209 million euros during the years 2009-2011.

As occurred in past years, during 2011, the Telecom Italia Group bought back bonds, with the aim of:

•

giving investors a further possibility of monetizing their positions;

•

partially repaying some debt securities before maturity, increasing the overall return on the Group’s liquidity without inviting any additional risks.

In particular, the following bonds were repurchased:

(*)

Bonds had already been bought back for 116 million euros in the years 2009 and 2010. Therefore the total amount bought back is 209 million euros.

In reference to the Telecom Italia S.p.A. 2002-2022 bonds, reserved for subscription by employees of the Group, at December 31, 2011, the nominal amount is equal to 266 million euros and decreased by 39 million euros compared to December 31, 2010 (305 million euros).

Revolving credit facility and term loan

The following table shows the composition and the drawdown of the committed credit lines available at December 31, 2011. These are represented by the revolving credit facility for a total of 8 billion euros expiring August 2014, the syndicated revolving line for a total of 1.25 billion euros expiring February 2013 and the revolving credit line for a total of 200 million euros signed December 20, 2010 and expiring June 19, 2012 (renewable at the discretion of Telecom Italia, up to December 18, 2013):

On August 3, 2011, a bilateral stand-by credit line was secured for a period of five years (expiring August 3, 2016) for 100 million euros from Banca Regionale Europea, drawn down for the full amount.

Maturities of financial liabilities and average cost of debt

The average maturity of non-current financial liabilities (including the current portion of medium/long-term financial liabilities due within 12 months) is 7.26 years.

The average cost of the Group’s debt, considered as the cost for the year calculated on an annual basis and resulting from the ratio of debt-related expenses to average exposure, is about 5.6%.

For details of the maturities of financial liabilities in terms of expected nominal repayment amounts, as contractually agreed, reference should be made to the Notes “Financial liabilities (current and non-current)” and “Financial risk management” in the consolidated financial statements at December 31, 2011 of the Telecom Italia Group.

Current financial assets and liquidity margin

The Telecom Italia Group’s available liquidity margin, calculated as the sum of Cash and cash equivalents and current Securities other than investments, amounts to 7,721 million euros at December 31, 2011 (6,842 million euros at December 31, 2010) which, together with its unused committed credit lines for 7 billion euros, allows the Group to amply meet its repayment obligations over the next 24 months.

In particular:

•

Cash and cash equivalents amount to 6,714 million euros (5,526 million euros at December 31, 2010). The different technical forms of investing available cash at December 31, 2011, which include euro commercial paper for 220 million euros, can be analyzed as follows:

–

Maturities: investments have a maximum maturity of three months;

–

Counterpart risk: investments by the European companies are made with leading banking, financial and industrial institutions with high-credit-quality and at least an A- rating. Investments by the companies in South America are made with leading local counterparts;

–

Country risk: investments are made mainly in major European financial markets.

•

Securities other than investments amount to 1,007 million euros (1,316 million euros at December 31, 2010). Such forms of investment represent alternatives to the investment of liquidity with the aim of raising the return. These mainly consist of 864 million euros of Italian treasury bonds purchased by Telecom Italia S.p.A., which pursuant to Consob Communication DEM/11070007 of August 5, 2011 represent investments in “Sovereign debt securities” and have been made in accordance with the “Guideline for investments of liquidity using financial instruments” adopted by the Telecom Italia Group in July 2009, and also 142 million euros of bonds with different maturities, but all with an active market, that is, readily convertible into cash. For further details, reference should be made to the Note “Financial risk management” in the consolidated financial statements at December 31, 2011 of the Telecom Italia Group.

In the fourth quarter of 2011, adjusted net financial debt increased 466 million euros. The operating cash generated was absorbed by the payment of income taxes, the acquisition of the companies in the AES Atimus Group in Brazil and the acquisition of LTE frequencies in Italy.

Adjusted net financial debt

Research and Development

As for “Research and Development”, this area is discussed in a specific paragraph of the Sustainability Section of this Report on Operations, under “The Community” in this Report on Operations.

Events Subsequent to December 31, 2011

With regard to subsequent events, reference should be made to the specific Note “Events subsequent to December 31, 2011” in the consolidated financial statements at December 31, 2011 of the Telecom Italia Group.

Business Outlook for the Year 2012

As for the Telecom Italia Group’s outlook for the current year, the objectives linked to the principal economic indicators, as outlined in the Business Plan 2012-2014, are, for the full year 2012:

•

Revenues and EBITDA basically stable compared to 2011

•

Adjusted net financial debt of about 27.5 billion euros

Principal risks and uncertainties

The business outlook for 2012 could be affected by risks and uncertainties caused by a multitude of factors, the majority of which are beyond the Group’s control.

The following are the main risks and uncertainties concerning the Telecom Italia Group’s activities in 2012.

Macroeconomic trend

Italy’s exposure to the sovereign debt crisis overshadowing the Euro area may cause a new weakening of the Italian economy, after the slight recovery that in 2010 and in 2011 had followed the heightened downward swing produced by the global economic crisis that began at the end of 2008. The Italian economy is facing a restrictive fiscal policy (a mix of spending cuts and tax increases) aimed at putting into place a long-term plan to reduce the budget deficit with the objective of balancing the budget by 2013. Such restrictive fiscal policy pursues structural adjustments which guarantee the sustainability over the long term of public finances. Furthermore, the tight credit situation deriving from the growing problems of the banking sector in the Eurozone, contributes further to lowering the forecasts of growth for the next few years: the climate for investments remains difficult and the confidence of the consumer low.

The macroeconomic scenario in Brazil is expected to show steady growth, supported by high levels of domestic and foreign investments, high consumption, falling inflation and a steady rate of exchange. The overall economic equilibrium has permitted the Central Bank to cut interest rates as a precautionary measure, in case the economy is affected by the global recession. At the moment, the Brazilian macroeconomic context seems to be fairly stable, although it is expanding more slowly than in the past, but any worsening of the situation could have an adverse effect on the demand for telecommunications services.

The Argentine economy is expected to grow in 2012, although at a lower rate than in the previous years when the country recorded strong economic expansion. Private consumption should continue to be the primary driver of the economy, however, the effects of the fall in agriculture production, of growing external restrictions and of a more conservative tax approach could give rise to growth that is in some ways lower but more balanced. In this context, inflation will continue to represent a pivotal element.

Finally, the international landscape will represent a determining factor for economic growth, where the prices of raw materials and the evolution of the global financial markets exemplify the main critical elements.

Telecommunications market trend

The telecommunications sector is generally regarded as being less cyclical than other sectors, since, in the business segment, telecommunications services are perceived as an effective tool through which companies can improve productivity. In the residential segment, on the other hand, they are becoming a factor of increasing importance in the budgets of family expenditures. However, the recession has had a major impact on the growth prospects of our domestic market, and may continue to do so. In particular, the weakness of the economy may lead companies to adopt a more cautious approach when it comes to acquiring telecommunication services due to the overall reduction in expenditures (operating costs and investments) of industrial sectors, whereas, in the residential segment, the fall in consumption may implicate a further lowering of the prices of telecommunications services and a fall in the demand for our products and services.

The market of telecommunications in Brazil is primed for further growth, sustained by the development of the mobile area (both phone and data services) and broadband for fixed phone lines. In particular, the trend of replacing fixed services with mobile services, seen in recent years, is expected to continue.  

On the Argentine market, growth is expected, driven by the evolution of both fixed and mobile broadband. However, the evolution of the Argentine telecommunications market may be influenced by the unfurling of the effects of number portability on mobile phones, and may lead to a rise in the level of competition.

As for the domestic market, the development of the Brazilian and Argentine telecommunications markets is influenced by the evolution of the macroeconomic context. As a result, if the macroeconomic figures were to be worse than anticipated, this could reflect negatively on the demand for telecommunications services.

Furthermore, on a global scale, the telecommunications sector is being subjected to growing pressure from lateral competition by operators in the IT, Media and Devices/Consumer Electronics sectors, and by OTT operators which offer content and services via the internet to people who do not have their own TLC network. Because of this, the evolution of the telecommunications markets in the main countries in which we operate (Italy, Brazil and Argentina) may be influenced by the development of the competitive scenario with regard to these players.

Financial risks

The Telecom Italia Group pursues a policy of managing financial risks (market risk, credit risk and liquidity risk) by the definition, at a central level, of guidelines for directing operations, the identification of the most suitable financial instruments to reach prefixed objectives, the monitoring of the results achieved and the exclusion of the use of financial instruments for speculative purposes.

Furthermore, the Group pursues the objective of achieving an “adequate level of financial flexibility” which is expressed by maintaining a treasury margin to cover refinancing requirements at least for the next 12-18 months with liquidity and committed syndicated credit lines.

The particular climate of the financial markets has persuaded the Telecom Italia Group to adopt a more conservative approach than the aforementioned policy and – at the end of 2011 – the Group has a liquidity margin able to amply meet debt repayment obligations for the next 24 months. Consequently, the Telecom Italia Group can wait for the most appropriate time to access the financial markets. Further details are provided in the Note “Financial risk management” to the consolidated financial statements at December 31, 2011 of the Telecom Italia Group.

Consolidated Financial Statements – Telecom Italia Group

Separate Consolidated Income Statements

Consolidated Statements of Comprehensive Income

In accordance with IAS 1 (Presentation of Financial Statements), the following statements of comprehensive income include the profit (loss) for the year as shown in the separate consolidated income statements and all non-owner changes in equity.

Consolidated Statements of Financial Position

Consolidated Statements of Cash Flows

Additional Cash Flow Information

Analysis of Net Cash and Cash Equivalents

Highlights – The Business Units of the Telecom Italia Group

The highlights of the Telecom Italia Group are presented in this Annual Report based on the following operating segments:

•

Domestic Business Unit: includes domestic operations for voice and data services on fixed and mobile networks for final customers (retail) and other operators (wholesale), the operations of the Telecom Italia Sparkle group (international wholesale) as well as the relative support activities;

•

Brazil Business Unit: includes mobile (Tim Celular) and fixed (Intelig, Tim Fiber SP and Tim Fiber RJ) telephone operations in Brazil;

•

Argentina Business Unit: comprises fixed (Telecom Argentina) and mobile (Telecom Personal in Argentina and Núcleo in Paraguay) telephone operations;

•

Media Business Unit: includes telephone network operations and management;

•

Olivetti Business Unit: includes manufacturing operations for digital printing systems, office products and Information Technology services;

•

Other Operations: includes finance companies and other minor companies not strictly related to the core business of the Telecom Italia Group.

Information by operating segment is as follows:

(*)

In the scope of consolidation since October 13, 2010.

Highlights of the operating data of the Telecom Italia Group Business Units are presented in the following table:

(1)

The data refers to total lines. The churn rate represents the number of mobile customers who discontinued service during the period expressed as a percentage of the average number of customers.

(2)

The values are calculated on the basis of revenues from services (including revenues from prepaid cards) as a percentage of the average number of lines.

(*)

The operating data of the Argentina Business Unit for the year 2009 is presented only for illustration purposes. The Argentina Business Unit has been consolidated by the Telecom Italia Group since October 13, 2010.

The Business Units of the Telecom Italia Group

Domestic

The Domestic Business Unit operates as the consolidated market leader in the sphere of voice and data services on fixed and mobile networks for final retail customers and other wholesale operators. In the international field, the Business Unit develops fiber optic networks for wholesale customers (in Europe, in the Mediterranean and in South America).

The Structure of Business Unit

The Domestic Business Unit is organized as follows:

(*)

Principal companies: Telecom Italia S.p.A., Matrix S.p.A., 4GH group, Telecontact Center S.p.A., Path.Net S.p.A., Telenergia S.p.A., HR Services S.r.l. and Shared Service Center S.r.l..

The principal operating and financial data of the Domestic Business Unit are now reported according to two Cash-generating units (CGU):

•

Core Domestic: includes all telecommunications activities inherent to the Italian market. Revenues are broken down in the following tables according to the net contribution of each market segment to the CGU’s results, excluding intrasegment transactions. The sales market segments defined on the basis of the “customer centric” organizational model are as follows:

—

Consumer: comprises the aggregate of voice and internet services and products managed and developed for persons and families in the fixed and mobile telecommunications markets, from public telephony to the web portal/services of the company Matrix;

—

Business: is constituted by the aggregate of voice, data, internet and ICT solutions services and products managed and developed for SMEs (small and medium enterprises) and SOHOs (Small Office Home Office) in the fixed and mobile telecommunications markets;

—

Top: comprises the aggregate of voice, data, internet and ICT solutions services and products managed and developed for Top, Public Sector, Large Account and Enterprise clientele in the fixed and mobile telecommunications markets;

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National Wholesale: consists of the management and development of the portfolio of regulated and unregulated wholesale services for fixed and mobile telecommunications operators in the domestic market;

—

Other (Support Structures): includes:

—

Technology & IT: constitutes services related to the development, building and operation of network infrastructures, real estate properties and plant engineering, delivery processes and assurance regarding clientele services in addition to the development and operation of information services;

—

Staff & Other: services carried out by Staff functions and other support activities performed by minor companies of the Group also offered to the market and other Business Units.

•

International Wholesale: International Wholesale includes the activities of the Telecom Italia Sparkle group which operates in the international voice, data and internet services market aimed at fixed and mobile telecommunications operators, ISPs/ASPs (Wholesale market) and multinational companies through its own networks in the European, Mediterranean and South American markets.

Main operating and financial data

Key results of the Domestic Business Unit in total and by customer/business segment in 2011 compared to 2010 are as follows:

Domestic Business Unit

Core Domestic

International Wholesale