Blue Label Telecoms

Entities classified as held-for-sale fall within the Africa, International and Mobile segments. The remaining entities fall within all segments other than the Mobile segment and as such this segment will cease to exist on conclusion of the disposals referred to in note 7.

Financial guarantee contracts are recognised at fair value, on the date that the Group becomes a party to an irrevocable commitment. Financial guarantee contracts are subsequently stated at the higher of the amount of the expected credit loss (ECL) allowance and the amount initially recognised. Any difference between the redemption value guarantee obligation and the amount paid is recognised in the income statement.

A portion of the financial guarantee contract obligation to RBL Bank was called upon in the current period.

Included in the closing balance above is a guarantee to the value of R73.2 million (2019: R121.6 million) which has been issued in favour of RBL Bank. During the period, R44.2 million was called upon by RBL Bank and settled. The guarantee called upon was related to the cash-backed portion of this liability at 31 May 2019. Should the remaining guarantees be called upon, the Group will be required to settle these amounts within seven days. An amount of R113.2 million (2019: R121.7 million) is owed to Investec Limited by Glocell Proprietary Limited, and has been guaranteed by Glocell Distribution Proprietary Limited should the former not be able to meet its obligations.

Financial guarantee in respect of Cell C’s facility

On 2 August 2018, Cell C procured R1.4 billion of funding from a consortium of financial institutions for a tenure of 12 months, secured by airtime to the value of R1.75 billion. In the event of default, The Prepaid Company could be required by the consortium to purchase such inventory from the consortium on a piecemeal basis over a specified period that has been agreed upon. These purchases would be made in lieu of purchases that would have been made from Cell C within that period.

As reported at 31 May 2019, the above funding had declined from R1.4 billion to R1.25 billion as a result of BLT purchasing from the security airtime. At that stage, the financial institutions had agreed to extend the repayment date to 30 November 2019. Per the aforementioned extension, if Cell C was unable to meet this commitment by that date, and no further extension was granted, BLT would be required to purchase R100 million of security airtime in November 2019 and R300 million per month in December 2019, January 2020 and February 2020 respectively. As at 30 November 2019, the above funding had declined to R1.04 billion as a result of BLT purchasing from the security airtime. Prior to 30 November 2019, the consortium elected not to enforce their rights to require Cell C and The Prepaid Company to purchase the inventory from the consortium and such election was in effect until 31 December 2019. Further discussions are in progress with the consortium to further extend the payment date and amend the terms of the airtime purchase by BLT.

It is the intention of The Prepaid Company to accelerate payments to the banking consortium in order to distribute the vault stock in full if there is risk/indication that Cell C will not be able to meet its obligations to the banking consortium in terms of the agreement currently being negotiated. The fair value of the financial guarantee issued in respect of Cell C’s facility was valued to be insignificant taking into account the inventory held as collateral.

Critical accounting judgements and assumptions

Financial guarantee

As explained above under the heading “financial guarantee in respect of Cell C’s facility”, management is of the view that the purchasing of such inventory will not result in an onerous contract as this inventory is capable of being realised in the ordinary course of business without any negative impact being incurred by The Prepaid Company.

Financial instruments at fair value through profit or loss are classified as level 3 instruments in the fair value hierarchy. Changes in level 3 instruments are as follows:

Bond notes and liquidity support

With effect from 2 August 2017, The Prepaid Company 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. The Prepaid Company 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.

As part of the restructure of the debt into Cell C by third-party lenders, The Prepaid Company 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 and will be in the form of subordinated funding to SPV2. Oger Telecoms contributed USD36 million of the aforesaid USD80 million thus reducing The Prepaid Company’s obligation in this regard to a maximum of USD44 million. As at 30 November 2019, the Group had contributed USD24 million to SPV2 towards the latter amount.

Fair value estimate

SPV1 and SPV2 own 11.8% and 16% of the shares issued by Cell C Limited 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.

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

The derivatives are not traded in an active market and therefore the fair value is determined by the use of a valuation technique. The valuation was performed using a binomial model taking into account the value of Cell C Limited. 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 instruments in the fair value hierarchy.

As at 30 November 2019, a qualified independent third-party specialist attributed no value to Cell C Limited. As a result, the value of SPV1 remains zero, and the fair value movement in SPV2 relates to a change in the exchange rate.

Loans at fair value

The Prepaid Company acquired a 48% share in Glocell Distribution Proprietary Limited (Glocell Distribution) on 30 June 2018.

In terms of an agreement entered into between The Prepaid Company and Glocell Proprietary Limited (Glocell) during the year ended 31 May 2019, Glocell pledged its 40% shareholding in Glocell Distribution to The Prepaid Company in the event of Glocell defaulting on amounts owing of R343 million to The Prepaid Company. The right to enforce this pledge is currently not exercisable. The right only becomes exercisable once Glocell has settled its outstanding debt of R113 million to Investec Bank Limited.

Glocell’s ability to repay The Prepaid Company the amounts owing to it is dependent on the extent of dividends receivable from Glocell Distribution on a piecemeal basis. The contractual terms of the loan have no fixed repayment dates, and in the event that the loan defaults, the only recourse the Group has is to the shares of Glocell Distribution held by Glocell. As such the Group is of the view that the instrument does not meet the requirements to be measured at amortised cost, and therefore this instrument has been reclassified from trade receivables to financial instruments measured at fair value through profit or loss.

Fair value estimate

A discounted cash flow valuation of Glocell Distribution has been used to determine the value of Glocell’s 40% shareholding in Glocell Distribution. This is used to determine the fair value of the loan. This valuation has been performed by the finance department of the Group using cash flow projections based on forecasts for up to five years, which are based on assumptions of the business, industry and economic growth.

Based on the outcome of the value-in-use calculation, no fair value movements were recognised against the financial asset (31 May 2019: fair value loss of R141 million).

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

Put option liability

Put option liabilities represent contracts that impose an obligation on Blue Label Telecoms Limited 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 put option liabilities are level 3 instruments in the fair value hierarchy.

Changes in level 3 instruments are as follows:

This relates to a put option that Blue Label Telecoms Limited has against it on the remaining 40% shareholding in Airvantage and AV Technology. This is exercisable within the next 12 months. Blue Label Telecoms will settle this from available cash resources. The option is valued based on the audited net profit after tax for 12 months ending 31 May 2020 at a six times earnings multiple.

The sensitivities of the put options in aggregate are as follows:

Accounting policy

Non-current assets (or disposal groups) are classified as held-for-sale if their carrying amount will be recovered principally through a sale transaction rather than through continuing use and a sale is considered highly probable. They are measured at the lower of their carrying amount and fair value less costs to sell, except for assets such as deferred tax assets, assets arising from employee benefits, financial assets and investment property that are carried at fair value and contractual rights under insurance contracts, which are specifically exempt from this requirement.

An impairment loss is recognised for any initial or subsequent write-down of the asset (or disposal group) to fair value less costs to sell. A gain is recognised for any subsequent increases in fair value less costs to sell of an asset (or disposal group), but not in excess of any cumulative impairment loss previously recognised. A gain or loss not previously recognised by the date of the sale of the non-current asset (or disposal group) is recognised at the date of derecognition.

Non-current assets (including those that are part of a disposal group) are not depreciated or amortised while they are classified as held-for-sale. Interest and other expenses attributable to the liabilities of a disposal group classified as held-for-sale continue to be recognised.

Non-current assets classified as held-for-sale and the assets of a disposal group classified as held-for-sale are presented separately from the other assets in the statement of financial position. The liabilities of a disposal group classified as held-for-sale are presented separately from other liabilities in the statement of financial position.

A discontinued operation is a component of the entity that has been disposed of or is classified as held-for-sale and that represents a separate major line of business or geographical area of operations, is part of a single co-ordinated plan to dispose of such a line of business or area of operations, or is a subsidiary acquired exclusively with a view to resale. The results of discontinued operations are presented separately in the statement of comprehensive income.

Description

On 25 September 2019 the Group announced it had entered into an agreement to dispose of its 85% shareholding in Blue Label Mobile (which includes Airvantage, Airvantage Brazil, AV Technology, Cellfind and Viamedia) as well as its 51% shareholdings in Simigenix Proprietary Limited (Simigenix) and Panacea Proprietary Limited (Panacea) (together the VAS Operations), to DNI 4PL Contracts Proprietary Limited (DNI), for a purchase consideration of R450 million, inclusive of loan claims, plus the amounts which Blue Label Mobile has disbursed towards the acquisition of 50% of Hyve as at the transaction closing date (amounting to approximately R81 million). As there are amounts owing to the shareholders with respects to the Hyve purchase, the Hyve transaction is not yet effective and its results have not been included in the Group's results at 30 November 2019. At 30 November 2019 certain conditions precedent remain outstanding, the completion of which is at an advanced stage and as such the sale is expected to be completed within 12 months from the reporting date. The purchase price will be as follows:

• R350 million plus the amounts BLT has disbursed for the acquisition of 50% of Hyve as at the transaction closing date (amounting to approximately R81 million); and
• R100 million, bearing interest at prime overdraft rates plus 2% per annum compounded on a monthly basis, which is contingent upon the solvency and liquidity status of Cell C being proven.

The above proceeds received will be applied to reduce interest-bearing debt.

Post-disposal of Blue Label Mobile, BLT will continue to assume the obligation with respect to the put and/or call options on 40% of the shares in Airvantage and AV Technology, until such time as the solvency and liquidity status of Cell C is proven. At that stage the obligation in respect of the put and/or call options will revert back to Blue Label Mobile. The put and/or call options cannot be exercised prior to the finalisation of the 31 May 2020 financial results of both entities. Should BLT be obligated to meet the commitment relating to the put option, and the solvency and liquidity is never proven thereafter, then the R100 million contingent purchase price and the interest accrued thereon will be forfeited by BLT, but in lieu thereof, BLM will transfer an additional 24% of the issued share capital of Airvantage and AV Technologies to BLT, resulting in BLT ownership of these entities amounting to 64%. Should BLT be obligated to meet the commitment relating to the put option, and the solvency and liquidity of Cell C is proven thereafter, then the R100 million contingent purchase price and the interest accrued thereon will be payable to BLT plus the cost of the 40% put option shares that will be transferred to Blue Label Mobile.

Also on 25 September 2019 the Group announced that 3G Mobile Proprietary Limited (3G) will distribute its shares in Comm Equipment Company (CEC) to its shareholder, The Prepaid Company. The latter will thereafter dispose of 100% of the shares in 3G to DNI for a purchase consideration of R544 million. This disposal group will be referred to as 3G Mobile. The sale of 3G Mobile was completed on 14 February 2020.

The above proceeds received will be applied to reduce interest-bearing debt.

For further details related to the proposed transactions and the historical financial information of the VAS Operations and 3G Mobile refer to the circular distributed to shareholders on 4 November 2019 available on Blue Label’s website, www.bluelabeltelecoms.co.za.

Assets and liabilities classified as held-for-sale

The following assets and liabilities were reclassified as non-current assets and liabilities held-for-sale in relation to the discontinued operations as at 30 November 2019:

Critical accounting judgements and assumptions

As explained under the heading "Financial performance and cash flow information", management performed an exercise in terms of IFRS 5 under which the fair value less cost to sell was estimated for the VAS Operations. The fair value of the VAS Operations was determined using the fair value of the selling price. Since the ultimate consideration realised for the VAS Operations will depend partly on whether Cell C's solvency and liquidity is proven, and if not, it will depend partly on the value of 24% of the shares in Airvantage and AV Technology, the determination of the fair value of the selling price involved significant management judgement and, accordingly, is a level 3 input per the fair value hierarchy. The fair value was determined using a probability-weighted basis which reflects the extent to which management believes that Cell C's solvency and liquidity will be proven, as well as management's estimate of the fair value of 24% of Airvantage and AV Technology:

The fair value of 24% of Airvantage and AV Technology was determined taking account of the adverse impact on Airvantage's operations should the solvency and liquidity of Cell C remain unproven since the Airvantage business is largely dependent on Cell C. It has been assumed that Airvantage would not continue to trade and hence no value has been attributed to its 24% share capital. The fair value of 24% of AV Technologies' share capital is estimated to be R43 million which was determined with reference to its contribution to the total profit of the VAS Operations applied to the total selling price as per the VAS Operations sales agreement.

In determining the extent to which management believes that Cell C's solvency and liquidity will be proven, the fair value less cost to sell of the contingent portion of the consideration related to the solvency and liquidity status of Cell C, management has considered the following qualitative considerations:

• MTN national roaming agreement: The long-form agreements, relating to the extended national roaming agreement, were signed by Cell C and MTN South Africa on 18 November 2019, subject to certain conditions precedent. If successfully implemented, the national roaming agreement will result in substantial cost-savings for Cell C by reducing network and capex spend.
• Recapitalisation and/or debt restructuring of Cell C: A recapitalisation of Cell C and/or a debt restructuring is essential in order to avoid further defaults on debt repayments when due. A capital restructure programme is under way and if successfully implemented would have a positive impact on Cell C's solvency and liquidity position.

These ongoing matters cast significant doubt over Cell C's ability to continue as a going concern should they not materialise. Nevertheless, management believes it is more likely than not that Cell C will continue as a going concern.

IFRS 16

The Group has adopted IFRS 16 – Leases from 1 June 2019 under the modified retrospective approach, and has therefore not restated comparatives for the previous reporting period, as permitted under this specific transitional provision in the standard. The reclassifications and the adjustments arising from the new leasing rules are therefore recognised in the opening balance sheet on 1 June 2019

On adoption of IFRS 16, the Group recognised lease liabilities in relation to leases which had previously been classified as operating leases under the principles of IAS 17 – Leases. These liabilities were measured at the present value of the remaining lease payments, and discounted using the lessee's incremental borrowing rate as of 1 June 2019. Lease payments escalate at fixed rates. The weighted average lessee's incremental borrowing rate applied to the lease liabilities on 1 June 2019 was 10.44%.

The associated right-of-use assets are measured at the amount equal to the lease liability, adjusted by the amount of any prepaid or accrued lease payments relating to that lease recognised in the balance sheet as at 31 May 2019.

Operating profit increased by R3.6 million and earnings per share decreased by 0.27c for the six months to 30 November 2019 as a result of the adoption of IFRS 16. On the Group statement of financial position a right-of-use asset of R122 million, a non-current lease liability of R96 million and a current lease liability of R35 million has been recognised as at 30 November 2019 as a result of the adoption of IFRS 16. There was no effect on opening retained earnings.

In applying IFRS 16 for the first time, the Group has used the following practical expedients permitted by the standard:

• the use of a single discount rate to a portfolio of leases with reasonably similar characteristics;
• reliance on previous assessments on whether leases are onerous of which the Group had none;
• the accounting for operating leases with a remaining lease term of less than 12 months as at 1 June 2019 as short-term leases;
• the exclusion of initial direct costs for the measurement of the right-of-use asset at the date of initial application; and
• the use of hindsight in determining the lease term where the contract contains options to extend or terminate the lease.

The Group has also elected not to reassess whether a contract is, or contains a lease at the date of initial application. Instead, for contracts entered into before the transition date the Group relied on its assessment made applying IAS 17 and IFRIC 4 – Determining whether an Arrangement contains a Lease.

The Group leases various offices, warehouses and retail stores. Rental contracts are typically made for fixed periods of one to four years but may have extension options. Lease terms are negotiated on an individual basis and contain a wide range of different terms and conditions. The lease agreements do not impose any covenants, but leased assets may not be used as security for borrowing purposes.

Until 31 May 2019, leases of property, plant and equipment were classified as operating leases. Payments made under operating leases were charged to profit or loss on a straight-line basis over the period of the lease.

From 1 June 2019, leases are recognised as a right-of-use assets and a corresponding liability at the date at which the leased asset is available for use by the Group. Each lease payment is allocated between the liability and finance cost. The finance cost is charged to profit or loss over the lease period so as to produce a constant periodic rate of interest on the remaining balance of the liability for each period. The right-of-use asset is depreciated over the shorter of the asset’s useful life and the lease term on a straight-line basis.

The lease payments are discounted using the interest rate implicit in the lease. If that rate cannot be determined, the lessee’s incremental borrowing rate is used, being the rate that the lessee would have to pay to borrow the funds necessary to obtain an asset of similar value in a similar economic environment with similar terms and conditions.

Right-of-use assets are measured at cost comprising the following:

• the amount of the initial measurement of lease liability;
• any lease payments made at or before the commencement date less any lease incentives received;
• any initial direct costs; and
• restoration costs.

Payments associated with short-term leases (12 months or less) and leases of low-value assets (less than R50 000) are recognised on a straight-line basis as an expense in profit or loss.

Critical estimates

The term of a lease includes periods covered by an option to extend the lease if the lessee is reasonably certain to exercise that option. The Group did not take into account renewals in the majority of leases as there is material uncertainty as to whether the option to renew will be exercised. Material uncertainty arises in cases where BLT is not locked into renewals, alternative leasing arrangements are available and there is no firm commitment or formal decision to renew.

Venture capital accounting to equity accounting

As reported in 31 May 2019 annual financial statements, the Group has amended the way it accounts for its investment in Oxigen Services India, Oxigen Online and 2DFine Holdings Mauritius from venture capital investments to using equity-accounting principles. The details regarding this error have been disclosed in the integrated annual report for 31 May 2019 (note 11).

Subsequent events

Agreements for the disposal of Blue Label’s interests in Blue Label Mobile and the handset division of 3G Mobile were entered into on 25 September 2019 and approved by Blue Label shareholders on 4 December 2019.

With regard to the disposal of 3G Mobile’s trading operations all suspensive conditions have been fulfilled and the purchase price of R544 million was received on 14 February 2020.

In relation to the disposal of Blue Label Mobile, certain conditions precedent remain outstanding, the completion of which is at an advanced stage. Upon fulfilment thereof, R350 million of the selling price of R450 million as well as all monies paid by Blue Label Mobile towards the acquisition of Hyve Mobile Proprietary Limited and Mobile Content Africa Limited amounting to approximately R81 million will be received. The remaining R100 million plus interest thereon is contingent on the terms of the conditions contained in the circular to shareholders published on 6 November 2019.

As at the date of publication of the 31 May 2019 financial statements, The Prepaid Company’s Investec banking facilities had been extended to 29 November 2019. On 29 November 2019, these banking facilities totalling R2.176 billion were successfully renewed, of which R1.5 billion was extended for a period of 12 months and R676 million for nine months. Of the latter amount, R131 million has been paid to date, with the remaining balance of R545 million to be repaid by 31 August 2020.

In February 2020, The Prepaid Company renegotiated a further extension of the R1.5 billion facility to 31 March 2021, at which date the exposure to Investec is required to be no more than R1 billion.

As at 30 November 2019 the Investec facilities were disclosed as current borrowings amounting to R2.1 billion, as the extension to 31 March 2021 was only granted in February 2020.

The Board of Directors have evaluated the going concern assumption as at 30 November 2019 and considered it to be appropriate in the preparation of these interim financial statements.

Update on Cell C

On 2 August 2017, Blue Label, through its wholly owned subsidiary, The Prepaid Company, acquired 45% of the issued share capital of Cell C for a purchase consideration of R5.5 billion. For the six months ended 30 November 2019, management appointed an independent third-party valuation specialist to determine the value-in-use based on cash flow projections incorporated in the five-year Cell C business plan. They applied assumptions relating to the business, the industry and economic growth. Cash flows beyond this point were then extrapolated, applying terminal growth rates that did not exceed the expected long-term economic growth rate. The valuation remained at a Rnil value at 30 November 2019 (31 May 2019: Rnil).

The long-form agreements, relating to the extended national roaming agreement, were signed by Cell C and MTN South Africa on 18 November 2019, subject to certain conditions precedent. If successfully implemented, the national roaming agreement will result in substantial cost-savings for Cell C by reducing network and capex spend. A recapitalisation of Cell C and/or a debt restructuring is essential in order to avoid further default on debt repayments when due. A capital restructure programme is in process and if successfully implemented would have a positive impact on Cell C’s solvency and liquidity position. The impact of the above transactions in progress relating to a national roaming agreement and the recapitalisation of Cell C were not in effect as at 30 November 2019 and as such have not been accounted for in the valuation at that date.

These ongoing matters cast significant doubt over Cell C’s ability to continue as a going concern should they not materialise and the Group will update the market on any significant developments related to these ongoing matters as and when they occur. On 23 January 2020 Cell C notified its noteholders that is has defaulted on the payment of interest on its USD184 002 000 note which was due in December 2019 as well as interest and capital repayments related to the respective bilateral loan facilities between Cell C and Nedbank Limited, China Development Bank Corporation, Development Bank of Southern Africa Limited and Industrial and Commercial Bank of China Limited which was due in January 2020. Noteholders are aware and support that Cell C is committed to resolving the situation by agreeing to restructuring terms with its lenders while it also continues to work proactively with all stakeholders to improve its liquidity, debt profile and long-term competitiveness.

For purposes of the Group’s interim financial statements for the half-year ended 30 November 2019, Cell C has been accounted for using the going concern assumption. As the Group’s share of Cell C’s losses exceed the carrying amount of the investment (Rnil), the Group has ceased recognising its share of further losses. If Cell C subsequently generates profits, the Group will resume recognising its share of profits only after its share of the profits equals the share of losses not recognised.

The condensed consolidated interim financial statements are prepared in accordance with International Financial Reporting Standard, (IAS) 34 – Interim Financial Reporting, the SAICA Financial Reporting Guides as issued by the Accounting Practices Committee and Financial Pronouncements as issued by Financial Reporting Standards Council and the requirements of the Companies Act of South Africa. The accounting policies applied in the preparation of these interim financial statements are in terms of International Financial Reporting Standards (IFRS) and are consistent with those applied in the previous annual financial statements.

The accounting policies used in preparing the condensed reviewed consolidated interim report are consistent with those applied in the previous annual financial statements, except for the adoption of IFRS 16 – Leases and the application of IFRS 5 – Non-current Assets Held-for-Sale and Discontinued Operations. See note 8 and note 7 respectively for more detail.

We aim to provide stakeholders with the same additional information that management uses to evaluate the performance of the Group’s operations. Accordingly, we make reference to operating profit before depreciation, amortisation and impairment charges (EBITDA). In addition, the Group applies core net profit and core headline earnings as non-IFRS measures in evaluating the Group’s performance. This supplements the IFRS measures. Core net profit is calculated by adjusting net profit for the year with the amortisation of intangible assets that arise as a consequence of the purchase price allocations completed in terms of IFRS 3(R) – Business Combinations. Core headline earnings are calculated by adjusting core net profit with the headline earnings adjustments required by SAICA Circular 4/2018.

The results for the period ended 30 November 2019 have been reviewed.