Blue Label Telecoms

Financial instruments

For the year ended 31 May 2018

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Financial asset at fair value through profit and loss

	Bond notes Audited R’000		Liquidity  Support  Audited  R’000		Other Audited R’000		Total  Audited  R’000
Opening balance	–		–		–		–
Acquisition of subsidiary	–		–		106		106
Additions	117 037		–		–		117 037
Fair value gain/(loss) recognised in profit or loss	50 482		(45 360)		519		5 641
Closing balance	167 519		(45 360)		625		122 784
Financial assets at fair value through profit and loss	167 519		–		625		168 144
Financial liabilities at fair value through profit and loss	–		(45 360)		–		(45 360)
Closing balance	167 519		(45 360)		625		122 784

Bond notes

With effect from 2 August 2017, TPC purchased bond notes, issued by Cedar Cellular Investments 1 Proprietary Limited (“SPV1”), from Saudi Oger Limited with a capital redemption value of USD42 million and with a coupon rate of 8.625% per annum for a purchase consideration of USD18 million. TPC was entitled to assign its rights and obligations, in whole or in part, to a nominee. Accordingly, it has assigned such rights and obligations in respect of 50% of the bond notes, resulting in an effective purchase consideration of USD9 million with a capital redemption value of USD21 million.

Liquidity support

As part of the restructure of the debt into Cell C by third-party lenders, TPC will be required to provide liquidity support to Magnolia Cellular Investment 2 (RF) Proprietary Limited (“SPV2”), which is 100% held by 3C Telecommunications Proprietary Limited, of up to USD80 million, which liquidity support will be provided over 24 months and will be in the form of subordinated funding to SPV2. Oger Telecoms contributed USD36 million of the aforesaid USD80 million thus reducing TPC’s obligation in this regard to a maximum of USD44 million. As at 31 May 2018, the Group has not paid any amounts to SPV2.

Fair value estimate

SPV1 and SPV2 own 11.8% and 16%of the shares issued by Cell C respectively . No other assets are held by these entities, and as such the Group’s bond note and liquidity support arrangements will be settled only when the value of the Cell C shares are realised by SPV1 and SPV2. The substance of these arrangements are therefore derivatives exposing the Group to the share price of Cell C. Blue Label has a further revisionary pledge amounting to 5% of the shares issued by Cell C relating to the Group’s exposure in SPV2.

The derivatives are initially recognised by the Group at fair value and subsequently measured at fair value through profit or loss.

The fair value of the derivatives are not traded in an active market and are therefore determined by the use of a valuation technique. The Group has performed the valuations using a Monte Carlo simulation taking into account the expected exit event date of Cell C in the next 11 to 24 months. These calculations use a valuation of Cell C provided by a qualified independent third-party valuation specialist. By way of simulation, the model generates a large number of random paths for the value of the Cell C share price from 31 May 2018 to the expected listing date. The average payoffs across the simulated paths are then discounted at the risk-free rate to obtain the present value of the shares owned by SPV1 and SPV2. As both arrangements are USD denominated, the model accounts for the forward rate of the USD at the expected listing date.

The derivatives are level 3 valuations in the fair value hierarchy.

The breakeven valuation of Cell C is R18.60 billion, which represents the minimum valuation of Cell C required before a collective fair value loss would be recognised on the derivatives. The following table represents the sensitivity of the valuation of Cell C used in the Monte Carlo simulations to value the derivatives:

Unobservable input	Change to  inputs	Movement in  fair value of  SPV1  R’000	Movement in  fair value of  SPV2  R’000	Total  movement  in fair value  R’000
Valuation of Cell C	5%	7 968	61 267	69 235
	(5%)	(8 211)	(59 975)	(68 186)

Financial liabilities

Contingent consideration

Contingent considerations, included in trade and other payables, are level 3 financial liabilities. Changes in level 3 instruments are as follows:

	2018  Audited  R’000		2017  Audited  R’000
Opening balance	32 974		83 563
Acquisition of Reware Proprietary Limited	–		1 150
Acquisition of Utilities World Proprietary Limited	–		4 516
Settlements	(27 867)		(50 666)
Gains or losses recognised in profit or loss	(548)		(5 589)
Closing balance	4 559		32 974
Total gains or losses for the period included in profit or loss for liabilities held at the end of the reporting period, under:
Other income	(1 390)		(10 210)
Interest paid	590		4 621
Unrealised gains or losses recognised in profit or loss for liabilities held at the end of the reporting period	800		5 304

The fair value of the contingent consideration is estimated by applying the income approach. The fair value is based on the discount rates applicable to the Group and management’s probability assumptions on certain warranties being achieved. There have been changes in management’s probability assumptions in respect of certain of the companies. The resulting changes in the fair values are accounted for in other income in the statement of comprehensive income. The discount rate has been increased in line with the increase in the prime lending rate. The resulting changes in the fair values are accounted for in finance costs in the statement of comprehensive income.

Put option liability

Put option liabilities represent contracts that impose an obligation on the Group to purchase the shares of a subsidiary for cash or another financial asset. Put option liabilities are initially raised from the transaction with non-controlling interest reserve in equity at the present value of the expected redemption amount payable. Subsequent revisions to the expected redemption amount payable as well as the unwinding of the discount related to the measurement of the present value of the put option liability, are recognised in the income statement. Where a put option liability expires unexercised or is cancelled, the carrying value of the financial liability is released to the transaction with non-controlling interest reserve in equity. The Group recognises the non-controlling interest over which a put option exists at acquisition date. Put option liabilities are presented within trade and other payables in the Group statement of financial position.

Changes in level 3 instruments are as follows:

	2018 R’000		2017 R’000
Opening balance	–		–
Acquisition of Airvantage	93 966		–
Remeasurements recognised in the income statement	3 981		–
Closing balance	97 947		–

Acquisition of Airvantage

This relates to a put option that the Group has on the remaining 40% shareholding in Airvantage. This is exercisable within the next 12 months. The Group will settle this from available cash resources. The option is valued based on the forecast net profit after tax for the 12 months ending 28 February 2019 at a six multiple, present valued to the date of the acquisition 2 January 2018, as per the contract.

Sensitivity analysis

	2018  R’000
Increase/(decrease) in put option liabilities and loss/(gain) in the income statement
1% increase in discount rate, 10% decrease in net profit after tax	(10 664)
1% decrease in discount rate, 10% increase in net profit after tax	10 869

The investment in Oxigen Services India, Oxigen Online and 2DFine Holdings Mauritius are viewed as venture capital investments and accounted for at fair value, and are level 3 instruments. Refer to “investment and loans to venture capital associates and joint venture.”

The Group has not disclosed the fair values of all financial instruments measured at amortised cost, as its carrying amounts closely approximate its fair values.