TI / Olivetti. On the eve of TI control chain shortening

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1 Company Flash Telecommunications Italy Telecom Italia / Olivetti merger /3/03 March7 th, A member of European Securities Network TI / Olivetti 4.50 M A M J J A S O N D J F M A M J J A S O N D J F On the eve of TI control chain shortening We believe the collapse of the chain, that currently allows Pirelli to control Telecom Italia, will likely take place in the coming days. Pressure from rating agencies and the low level of prices of both Olivetti and TI would suggest the launch of a deal notwithstanding current market conditions. We favour the scenario of a straight merger of Pirelli into Pirelli & C. and the solution of a reverse merger between Olivetti and Telecom Italia in the lower end of the control chain. In our view Olivetti shareholders could be offered a mix of new TI shares and cash or the option of receiving only shares (1 TI for 6-7 OL). In view of the Olivetti TI merger, with the purpose of limiting the dilution to the control stake of Olimpia in the resulting entity, an Olivetti rights issue, at a premium to market price, could be subscribed only by Olimpia (because of unattractive conditions), assuming the holding could fund it. A similar impact could also be obtained by recognising a withdrawal right to Olivetti shareholders in occasion of the merger. The above options suggest that Olivetti shareholders could be in a safer position if the deal takes place. We consider unlikely the approval of an exchange ratio significantly lower than the one implied in current market prices (approx. 1 Telecom Italia ordinary share for 7 Olivetti). In this very volatile market phase we consider TIM a safer play on the Italian telecoms with an upside determined by the possible distribution of an extra dividend. Financial Research Department Viale Eginardo Milan Italy Telecom Italia saving shares would not be involved in the deal. The expectation of a conversion, that have narrowed the discount to ordinary shares in the past, could be disappointed for the foreseeable future. Notwithstanding after the merger dividend distribution could be confirmed, we think the spread between the two categories could widen especially if the voting shares price recovers. Francesco Previtera francesco.previtera@bancaakros.it Pietro Gasparri pietro.gasparri@bancaakros.it

2 CONTENTS WHY A REVERSE MERGER OF OLIVETTI INTO TI 3 WHICH COULD BE A RELATIVE VALUATION FOR OLIVETTI? 4 HOW CAN OLIMPIA LIMIT CONTROL DILUTION? 4 CONCLUSIONS 6 This research is distributed to clients of Banca Akros by electronic mail or mail, starting as of March 7 th, 2003, and as of May 5 th, 2003 is disclosed to the public through filing of same with Borsa Italiana S.p.A.. In compliance with article 69 of Consob regulation no /99, as amended, (Regulation implementing Legislative Decree no. 58 dated February 24, 1998, regarding the regulations applicable to issuers) and Consob Notice no of April 20, 2001, we inform that Banca Akros does not have specific interests with respect to the issuer object of the research (hereinafter the Issuer ), the financial instruments issued by same or with respect to the described operations. Furthermore, pursuant to the above-mentioned regulations, Banca Akros is not aware of specific interests on the part of Banca Popolare di Milano, which is its controlling entity. The information provided and, in particular, the data utilised for this research have been taken from information disclosed to the public by the Company. This research has been prepared by Pietro Gasparri and Francesco Previtera in their capacity as Financial Analyst of the secondary stock market with the Banca Akros Financial Research Department ( DAF ). The opinions contained in this research have been provided exclusively by the Banca Akros DAF, also on the basis of discussions with the Company's management. The Company data and information have not been subjected to any independent assessment or examination by the Banca Akros DAF or by Pietro Gasparri and Francesco Previtera. As a consequence, no guarantee is given, either explicitly or implicitly, with regard to the accuracy, precision, correctness or completeness of the data and information contained in this research. Banca Akros has previously published researches on Telecom on February 7 th, 2003 and on Olivetti on December 5 th, Under no circumstances shall Banca Akros, or any of its directors, officers, employees or the author of this research, be held liable (due to misconduct or otherwise) for damages deriving from the use of same or of information or opinions contained herein or for damages connected with this research or its contents. March 7 th, 2003 Page 2

3 WHY A REVERSE MERGER OF OLIVETTI INTO TI The reverse merger of Olivetti into TI seems to be the most viable solution We expect that the awaited shortening in the lower end of the control chain to be obtained through a reverse merger of Olivetti into Telecom Italia. The more common alternative to a reverse merger would be a straight merger of TI into Olivetti which would have the same dilutive effect on Olimpia control in the new entity. However there are at least two main reasons that suggest a reverse merger: 1) no need to involve saving shareholders in the approval process of the deal while in the case of a straight merger (TI into OL) the group would be forced to exchange the TI non voting category by creating the new category of Olivetti saving shares; 2) no need of a listing of Olivetti on the US market which authorisation process could require considerable time and legal efforts. Pirelli Telecom Italia: control chain March 7 th, 2003 Page 3

4 WHICH COULD BE A RELATIVE VALUATION FOR OLIVETTI? We expect Olivetti shares could be valued pretty in line with current market prices Because of the significant debt held by the holding, Olivetti valuation is highly sensitive to the market price of TI. In the recent month Olivetti market value has been implying an increasing premium on net asset value (NAV) due to the better performance posted by the holding in comparison to TI. This can be justified by a number of factors: 1) Telecom Italia capital structure will become more and more inefficient because of rapid de-leveraging. In a certain extent, Olivetti has offered in the past months the opportunity to invest in a more geared integrated operator especially in a phase in which only the highly indebted Telcos have outperformed the market; 2) Control premium on TI; 3) Investors playing the exchange rate forward in other words traders were already arbitraging the most likely exchange ratio that a simplification of the control chain could adopt when a merger between OL and TI would become viable (i.e. with TI trading at EUR 8 Olivetti could be exchanged with TI shares 6 for 1). OLIVETTI: premium on NAV At current market price OL shares could be exchanged into TI ordinary at around 7 for 1. However this would imply TI is buying its own shares at around EUR 7.75 or at a premium of 28% on TI market price. HOW CAN OLIMPIA LIMIT CONTROL DILUTION? TI could exchange part of the Olivetti shares held by minorities with cash A merger between TI and Olivetti would dilute at current market price Olimpia to 13%. We think several solution to limit the dilutive impact of this deal could be considered: 1) Olivetti shares held by minorities could be partly exchanged with a cash offer instead of new TI ordinary shares. We estimate that TI could buy in cash March 7 th, 2003 Page 4

5 50% of the Olivetti floating supply at EUR 1 for a total consideration of EUR 3.16bn with the result of reducing the dilution of the Olimpia stake in the new entity by 1.7% (15% relutive effect on the capital after merger ); Olimpia could inject capital with a premium in Olivetti Olivetti shareholders could obtain a withdrawal right at EUR 1 2) Capital increase of Olivetti at a premium subscribed only by Olimpia this could be a viable solution assuming that Olimpia could find sufficient financial resources. By injecting 10% more capital in Olivetti at par value (EUR 1), for approx. EUR 900m, Olimpia could increase its stake from the current 28.5% to 35% after the capital increase. This would increase the stake of Olimpia in the new entity by 5.5% after the reverse merger (assuming 50% of cash consideration is offered to minorities); 3) Withdrawal right to Olivetti shareholder in case the corporate object of the new entity is different from the one of Olivetti according to Italian market rules Olivetti shareholders could ask for a liquidation of their shares at the 6 months average market price (currently around EUR 1). Finally the scenario of a reverse merger with partial consideration offered to Olivetti shareholder in cash by TI could increase the probability of an extra dividend to be distributed by TIM in order to improve the capital structure of the Mobile operator and at the same time grant to the new company TI / Olivetti a consistent cash in. Reverse Merger of Olivetti in Telecom Italia TI / OL TI shares TI shares Total TI Olimpia Exchange Telecom It. issued to issued to shares stake ratio free float minorities OLIMPIA after merger in TI+OL 7.5 2, , % 7.4 2, , % 7.3 2, , % 7.2 2, , % 7.1 2, , % 7.0 2, , % 6.9 2, , % 6.8 2, , % 6.7 2, , % 6.6 2, , % 6.5 2, , % 6.4 2, , % 6.3 2, , % 6.2 2, , % 6.1 2, , % 6.0 2, , % March 7 th, 2003 Page 5

6 Reverse Merger of Olivetti TI: 50% of Olivetti free float exchanged with cash TI / OL TI shares Olivetti sh Total TI Olimpia Exchange Telecom It. issued to exchanged shares stake ratio free float minorities cash after merger in TI+OL 7.5 2, ,767 3, % 7.4 2, ,767 3, % 7.3 2, ,767 3, % 7.2 2, ,767 3, % 7.1 2, ,767 3, % 7.0 2, ,767 3, % 6.9 2, ,767 3, % 6.8 2, ,767 3, % 6.7 2, ,767 3, % 6.6 2, ,767 3, % 6.5 2, ,767 3, % 6.4 2, ,767 3, % 6.3 2, ,767 3, % 6.2 2, ,767 3, % 6.1 2, ,767 3, % 6 2, ,767 3, % CONCLUSIONS We think that a collapse of the control chain could be announced in the coming days notwithstanding current difficult market conditions. This could be suggested by pressure from rating agencies and by the opportunity offered by the low price of Olivetti to exchange part of the minorities in cash. Our base scenario is for a reverse merger of Olivetti into Telecom Italia with the option for Olivetti shareholders to receive 50% of the consideration in cash. It is difficult to figure out both the exchange ratio and the possible portion of cash to be offered: however we consider unlikely an exchange ratio significantly lower than the one implied in current market prices (approx. 1 Telecom Italia ordinary share for 7 Olivetti). In this particularly volatile market phase we consider TIM a safer play on the Italian telecoms with an upside determined by the possible distribution of an extra dividend. Finally saving Telecom Italia shares would not be involved in the deal. The expectation of a conversion that have determined the decrease in the discount to ordinary shares could be disappointed in the foreseeable future. This we think could widen the discount with the ordinaries if the voting shares price recovers. March 7 th, 2003 Page 6

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