**As filed with the Securities and Exchange Commission on February 22, 2007**

**UNITED STATES SECURITIESAND EXCHANGE COMMISSION**

**WASHINGTON,D.C. 20549**

----

**Form 20-F**

**ANNUALREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGEACT OF 1934**

**Forthe fiscal year ended December 31, 2005**

**Commissionfile number 1-14720**

----

**MAGYAR TELEKOM NYILVÁNOSANM**ŰKÖDŐ RÉSZVÉNYTÁRSASÁG

(Exact Name of Registrantas Specified in Its Charter)

**MAGYAR TELEKOM TELECOMMUNICATIONSPUBLIC LIMITED COMPANY**

(Translation of Registrant’sName Into English)

**Hungary**

(Jurisdiction ofIncorporation or Organization)

**Budapest, 1013, Krisztinakrt. 55, Hungary**

(Address of PrincipalExecutive Offices)

Securities registered or tobe registered pursuant to Section 12(b) of the Act

| **Title of each class**                                               | ** ** | **Name of  each exchange  on which registered**    |
|-----------------------------------------------------------------------|------------|----------------------------------------------------|
| American  Depositary Shares,   each representing five Ordinary Shares |       | New York Stock  Exchange                           |
| Ordinary Shares                                                       |       | New York Stock  Exchange*  Budapest Stock Exchange |

 

Securities registered or tobe registered pursuant to Section 12(g) of the Act: **N/A**

Securities for which thereis a reporting obligation pursuant to Section 15(d) of the Act: **N/A**

----

*Indicatethe number of outstanding shares of each of the issuer’s classes of capital orcommon stock as of the close of the period covered by the annual report:*

**OrdinaryShares......1,042,811,600nominal value HUF 100 per share**

(as of December 31,2005)

*Indicateby check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405of the Securities Act.*

|  |   |   |   | YES               x |   | NO                 o |
|--|--------|--------|--------|-------------------------------------------------------------------------------------------|--------|------------------------------------------------------------------------------------------------------|

 

*Ifthis report is an annual or transition report, indicate by check mark if theregistrant is not required to file reports pursuant to Section 13 or 15(d) ofthe Securities Exchange Act of 1934.*

|  |   |   |   | YES               o |   | NO                 x |
|--|--------|--------|--------|-------------------------------------------------------------------------------------------|--------|------------------------------------------------------------------------------------------------------|

 

*Indicateby check mark whether the registrant (1) has filed all reports required tobe filed by Section 13 or 15 (d) of the Securities Exchange Act of1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject tosuch filing requirements for the past 90 days.*

|  |   |   |   | YES               x |   | NO                 o |
|--|--------|--------|--------|-------------------------------------------------------------------------------------------|--------|------------------------------------------------------------------------------------------------------|

 

*Indicateby check mark whether the registrant is a large accelerated filer, anaccelerated filer, or a non-accelerated filer. See definition of “acceleratedfiler and large accelerated filer” in Rule 12b-2 of the ExchangeAct.*

| Large accelerated filer     x |   | Accelerated filer     o |   | Non-accelerated  filer     o |
|--------------------------------------------------------|--------|--------------------------------------------------|--------|-------------------------------------------------------|

 

Indicate by check markwhich financial statement item the registrant has elected to follow.

|  |   |   |   | Item 17          x |   | Item 18          o |
|--|--------|--------|--------|-----------------------------------------------------------------|--------|-----------------------------------------------------------------|

 

*If thisis an annual report, indicate by check mark whether the registrant is a shellcompany (as defined in Rule 12b-2 of the Exchange Act).*

|  |   |   |   | YES               o |   | NO                 x |
|--|--------|--------|--------|-------------------------------------------------------------------------------------------|--------|------------------------------------------------------------------------------------------------------|

 

*                     Not for trading, but only in connection with theregistration of American Depositary Shares.

 

----

**TABLE OF CONTENTS**
|         | ** ** | ** **                                                                         | ** ** | **Page** |
|---------|------------|------------------------------------------------------------------------------------|------------|----------|
|    |       | **PART I**                                                                         |       |     |
|    |       | Explanatory Note                                                                   |       | iv       |
|    |       | Certain  Defined Terms and Conventions                                             |       | iv       |
|    |       | Forward-looking  Statements                                                        |       | iv       |
| Item 1  |       | Identity  of Directors, Senior Management and Advisers                             |       | 1        |
| Item  2 |       | Offer  Statistics and Expected Timetable                                           |       | 1        |
| Item 3  |       | Key  Information.                                                                  |       | 1        |
|    |       | Selected  Financial Data                                                           |       | 1        |
|    |       | Exchange  Rate Information                                                         |       | 2        |
|    |       | Risk Factors                                                                       |       | 4        |
| Item  4 |       | Information  on the Company                                                        |       | 9        |
|    |       | Organization                                                                       |       | 9        |
|    |       | History and  Development                                                           |       | 10       |
|    |       | Description  of Business and its Segments                                          |       | 11       |
|    |       | Strategy                                                                           |       | 13       |
|    |       | Overview  of Magyar Telekom’s Revenues and Principal Activities               |       | 17       |
|    |       | Fixed  Line Telecommunications Services Segment                                    |       | 17       |
|    |       | Hungarian  Fixed Line Operations                                                   |       | 18       |
|    |       | International  Fixed Line Operations                                               |       | 26       |
|    |       | Mobile  Telecommunications Services Segment                                        |       | 28       |
|    |       | Hungarian  Mobile Operations                                                       |       | 28       |
|    |       | International  Mobile Operations                                                   |       | 31       |
|    |       | Marketing  and Distribution                                                        |       | 33       |
|    |       | Hungarian  Fixed Line Operations                                                   |       | 33       |
|    |       | International  Fixed Line Operations                                               |       | 36       |
|    |       | Hungarian  Mobile Operations                                                       |       | 36       |
|    |       | International  Mobile Operations                                                   |       | 38       |
|    |       | Competition                                                                        |       | 38       |
|    |       | Hungarian  Fixed Line Operations                                                   |       | 38       |
|    |       | International  Fixed Line Operations                                               |       | 40       |
|    |       | Hungarian  Mobile Operations                                                       |       | 40       |
|    |       | International  Mobile Operations                                                   |       | 41       |
|    |       | Regulation                                                                         |       | 42       |
|    |       | Development  of the Telecommunications Regulatory Regime in Hungary                |       | 42       |
|    |       | The  Electronic Communications Act and the Contract on Universal Service Provision |       | 42       |
|    |       | Mobile  Concession Contracts                                                       |       | 45       |
|    |       | Competition  Law Restrictions                                                      |       | 47       |
|    |       | Hungary  and the European Union                                                    |       | 47       |
|    |       | Broadcasting  and Transmission                                                     |       | 48       |
|    |       | Development  of the Telecommunications Regulatory Regime in Macedonia         |       | 49       |
|    |       | Macedonia  and the European Union                                                  |       | 50       |
|    |       | Development  of the Telecommunications Regulatory Regime in  Montenegro            |       | 50       |
|    |       | Montenegro  and the European Union                                                 |       | 51       |

i

----

 
|          |   | Pricing.                                                             |   | 51  |
|----------|--------|----------------------------------------------------------------------|--------|-----|
|     |   | Hungarian  Fixed Line Operations                                     |   | 51  |
|     |   | Hungarian  Mobile Operations                                         |   | 54  |
|     |   | Macedonian  Fixed Line and Mobile Operations                         |   | 54  |
|     |   | Organizational  Structure                                            |   | 55  |
|     |   | Property,  Plants and Equipment.                                     |   | 55  |
|     |   | Infrastructure  and Technology                                       |   | 56  |
|     |   | Hungarian  Fixed Line Operations                                     |   | 56  |
|     |   | Hungarian  Mobile Operations                                         |   | 57  |
|     |   | Macedonian  Fixed Line Operations                                    |   | 58  |
|     |   | Macedonian  Mobile Operations                                        |   | 59  |
|     |   | Environment  Protection                                              |   | 59  |
| Item  4A |   | Unresolved  Staff Comments                                           |   | 59  |
| Item  5  |   | Operating  and Financial Review and Prospects                        |   | 59  |
|     |   | Operating results.                                                   |   | 59  |
|     |   | Results  of Operations—Total                                    |   | 59  |
|     |   | Results  of Operations—By Segment                               |   | 64  |
|     |   | Critical  Accounting Policies                                        |   | 81  |
|     |   | Liquidity  and Capital Resources                                     |   | 82  |
|     |   | Capital  Expenditures                                                |   | 87  |
|     |   | Reconciliation  to U.S. GAAP                                         |   | 87  |
|     |   | Research  and Development                                            |   | 88  |
|     |   | Hungarian  Fixed Line Operations                                     |   | 88  |
|     |   | Macedonian  Fixed Line Operations                                    |   | 89  |
|     |   | Hungarian  Mobile Operations                                         |   | 89  |
|     |   | Macedonian  Mobile Operations                                        |   | 90  |
|     |   | Risk  Management Policies                                            |   | 91  |
| Item  6  |   | Directors,  Senior Management and Employees                          |   | 92  |
|     |   | Board of  Directors.                                                 |   | 92  |
|     |   | Management  Committee                                                |   | 96  |
|     |   | Supervisory Board                                                    |   | 98  |
|     |   | Indemnification  of the Board of Directors and the Supervisory Board |   | 101 |
|     |   | Compensation  of Directors and Officers                              |   | 101 |
|     |   | Board Practices                                                      |   | 102 |
|     |   | Employees.                                                           |   | 103 |
|     |   | Share  Ownership of Management                                       |   | 105 |
| Item  7  |   | Major  Shareholders and Related Party Transactions.                  |   | 105 |
|     |   | Major  Shareholders.                                                 |   | 105 |
|     |   | Related  Party Transactions                                          |   | 107 |
| Item 8   |   | Financial  Information                                               |   | 108 |
|     |   | Consolidated  Financial Statements                                   |   | 108 |
|     |   | Other  Financial Information                                         |   | 108 |
|     |   | Legal proceedings                                                    |   | 108 |
|     |   | Dividend Policy                                                      |   | 114 |
|     |   | Significant  Changes                                                 |   | 115 |
| Item 9   |   | The Offer  and Listing                                               |   | 115 |
| Item  10 |   | Additional  Information                                              |   | 116 |
|     |   | Share Capital                                                        |   | 116 |
|     |   | Option  to Purchase Securities from Registrant or Subsidiaries       |   | 117 |
|     |   | Memorandum  and Articles of Association                              |   | 117 |

ii

----

 
|           |   | Significant  Differences in Corporate Governance Practices for Purposes of  Section 303A.11 of the New York Stock Exchange Listed Company Manual |   | 122    |
|-----------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------|--------|--------|
|      |   | Material  Contracts                                                                                                                                   |   | 124    |
|      |   | Exchange Control                                                                                                                                      |   | 125    |
|      |   | Taxation                                                                                                                                              |   | 126    |
|      |   | Documents on  Display                                                                                                                                 |   | 128    |
| Item  11  |   | Quantitative  and Qualitative Disclosures About Market Risk                                                                                           |   | 129    |
| Item  12  |   | Description  of Securities Other than Equity Securities                                                                                               |   | 129    |
|      |   | **PART II**                                                                                                                                      |   |   |
| Item  13  |   | Defaults,  Dividend Arrearages and Delinquencies                                                                                                      |   | 130    |
| Item  14  |   | Material  Modifications to the Rights of Security Holders and Use of Proceeds                                                                         |   | 130    |
| Item  15  |   | Controls  and Procedures                                                                                                                              |   | 130    |
| Item  16A |   | Audit  Committee Financial Expert                                                                                                                     |   | 131    |
| Item 16B  |   | Code of Ethics                                                                                                                                        |   | 132    |
| Item  16C |   | Principal  Accountant Fees and Services                                                                                                               |   | 132    |
| Item  16D |   | Exemptions  from the Listing Standards for Audit Committees                                                                                           |   | 133    |
| Item  16E |   | Purchases  of Equity Securities by the Issuer and Affiliated Purchasers                                                                               |   | 133    |
|      |   | **PART III**                                                                                                                                     |   |   |
| Item 17   |   | Financial  Statements                                                                                                                                 |   | 133    |
| Item 18   |   | Financial  Statements                                                                                                                                 |   | 133    |
| Item 19   |   | Exhibits                                                                                                                                              |   | 133    |

 

iii

----

**Explanatory Note**

In the course ofconducting their audit of our 2005 financial statements, PricewaterhouseCoopersKönyvvizsgáló és Gazdasági Tanácsadó Kft. (“PwC”) identified certain contractsthe nature and business purposes of which were not readily apparent. PwCnotified the Audit Committee of the Supervisory Board (the “Audit Committee”)and advised them to retain independent counsel to conduct an investigation intothese contracts. Our Audit Committee retained the law firm of White &Case LLP (“White & Case”), as its independent legal counsel, toconduct the investigation. Based on the documentation and other evidenceobtained by it, the White & Case investigation has preliminarilyconcluded that it was unable to determine a proper business purpose for fourconsulting contracts entered into in 2005, and further found that certainemployees had destroyed evidence that was relevant to the investigation. Wehave taken and are taking remedial measures to address weaknesses in ourcontrol environment that were revealed by the investigation. The investigationand consequent delay in completing the audit of our 2005 financial statementshas led to a delay in filing this annual report. See “Item 3—Risk Factors” and “Item15—Controls and Procedures.”

**Certain DefinedTerms and Conventions**

In this annual report the terms “Magyar Telekom”, the “Group”,the “Company”, “we”, “us” and “our” refer to Magyar Telekom Plc. and, ifapplicable, its direct and indirect subsidiaries as a group; the term “MagyarTelekom Plc.” refers to Magyar Telekom Plc. without its subsidiaries; the term “TMH”refers to T-Mobile Magyarország Távközlési Rt. (formerly known as Westel MobilTávközlési Rt., “Westel”); the term “DT” refers to Deutsche Telekom AG.

On May 6, 2005, Magyar Távközlési Rt. (“Matáv”)changed its name to Magyar Telekom Távközlési Rt. (Magyar TelekomTelecommunications Co. Ltd.) and its abbreviated name became Magyar Telekom Rt.

On March 1, 2006, Magyar Telekom changed its nameto Magyar Telekom Távközlési Nyilvánosan Működő Rt. (Magyar TelekomTelecommunications Public Limited Company) and its abbreviated name becameMagyar Telekom Nyrt. (Magyar Telekom Plc.).

In this annual report, the term “Minister” refers tothe Minister heading the Ministry of Informatics and Communications(Informatikai és Hírközlési Minisztérium, “IHM”), a ministry of the Hungariangovernment in charge of regulating the telecommunications industry. On June 1,2006 the Ministry of Informatics and Communications merged into the Ministry ofEconomy and Transport.

Totals in tables may beaffected by rounding. Segment revenue and operating expense figures included inthis annual report do not give effect to intersegment eliminations.

**Forward-lookingStatements**

The Company may from time to time make written or oralforward-looking statements. Written forward-looking statements appear indocuments the Company files with the Securities and Exchange Commission,including this annual report, reports to shareholders and other communications.The U.S. Private Securities Litigation Reform Act of 1995 contains a safeharbor for forward-looking statements. Actual results may differ materiallyfrom a forward-looking statement made by Magyar Telekom or on its behalf.Readers should also consider the information contained in Item 3, “KeyInformation—Risk Factors” and Item 5, “Operating and Financial Review andProspects”, as well as the information contained in the Company’s periodicfilings with the Securities and Exchange Commission for further discussion ofthe risks and uncertainties that may cause such differences to occur. TheCompany’s forward-looking statements speak only as of the date they aremade, and the Company does not have an obligation to update or revise them,whether as a result of new information, future events or otherwise.

iv

----

**PART I**

**ITEM 1—IDENTITY OFDIRECTORS, SENIOR MANAGEMENT AND ADVISERS**

Not applicable.

**ITEM 2—OFFERSTATISTICS AND EXPECTED TIMETABLE**

Not applicable.

**ITEM 3—KEY INFORMATION**

**SELECTED FINANCIAL DATA**

This selected consolidatedfinancial and statistical information should be read together with theconsolidated financial statements, including the accompanying notes, includedin this annual report. We derived these financial data from our consolidatedfinancial statements as of and for the years ended December 31, 2001,2002, 2003, 2004 and 2005 and the accompanying notes, which have been auditedby PricewaterhouseCoopers Könyvvizsgáló és Gazdasági Tanácsadó Kft. (“PwC”).These consolidated financial data are qualified by reference to ourconsolidated financial statements and accompanying notes, which we haveprepared in accordance with International Financial Reporting Standards (“IFRS”).IFRS differs from U.S. Generally Accepted Accounting Principles (“GAAP”). For adiscussion of the principal differences between IFRS and U.S. GAAP as theyrelate to us, see Note 34 to the consolidated financial statements.

| ** **                                   | ** ** | **Year ended December 31,**                           | ** ** |
|----------------------------------------------|------------|----------------------------------------------------------------------|------------|
| ** **                                   | ** ** | **2001**(3)                                                          | ** ** | **2002** | ** ** | **2003** | ** ** | **2004** | ** ** | **2005** | ** ** | **2005** | ** ** |
| ** **                                   | ** ** | **HUF**                                                              | ** ** | **HUF** | ** ** | **HUF** | ** ** | **HUF** | ** ** | **HUF** | ** ** | **U.S.$**(1) | ** ** |
| ** **                                   | ** ** | **(in millions, except per share amounts)** | ** ** |
| **Consolidated  Income Statement Data:**     | ** ** | ** **                                                           | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |   | ** ** | ** ** |   |
| Amounts in accordance  with IFRS             |       |                                                                 |       |   |   |   |   |   |   |   |   |   |   | ** ** |   |
| Revenues                                     |       | 547,735                                                              |       | 590,585 |   | 607,252 |   | 601,438 |   | 620,697 |   |   | 2,906 | ** ** |   |
| Operating profit                             |       | 119,400                                                              |       | 122,240 |   | 122,064 |   | 85,264 |   | 133,388 |   |   | 624 | ** ** |   |
| Net income                                   |       | 82,560                                                               |       | 68,128 |   | 57,475 |   | 34,641 |   | 78,564 |   |   | 368 | ** ** |   |
| Operating profit  per share                  |       | 115.14                                                               |       | 117.76 |   | 117.60 |   | 82.14 |   | 128.41 |   |   | 0.60 | ** ** |   |
| Basic earnings per  share(2)                 |       | 79.59                                                                |       | 65.66 |   | 55.38 |   | 33.38 |   | 75.63 |   |   | 0.35 | ** ** |   |
| Diluted earnings  per share(2)               |       | 79.59                                                                |       | 65.66 |   | 55.37 |   | 33.37 |   | 75.60 |   |   | 0.35 | ** ** |   |
| Amounts in accordance  with U.S. GAAP        |       |                                                                 |       |   |   |   |   |   |   |   |   |   |   | ** ** |   |
| Revenues                                     |       | 550,900                                                              |       | 592,294 |   | 610,946 |   | 607,599 |   | 625,851 |   |   | 2,930 | ** ** |   |
| Operating profit                             |       | 120,144                                                              |       | 132,585 |   | 132,715 |   | 91,839 |   | 122,652 |   |   | 574 | ** ** |   |
| Net income                                   |       | 82,403                                                               |       | 78,619 |   | 66,404 |   | 39,684 |   | 69,260 |   |   | 324 | ** ** |   |
| Operating profit  per share                  |       | 115.86                                                               |       | 127.73 |   | 127.86 |   | 88.48 |   | 118.07 |   |   | 0.55 | ** ** |   |
| Basic earnings per  share(2)                 |       | 79.47                                                                |       | 75.77 |   | 63.98 |   | 38.23 |   | 66.67 |   |   | 0.31 | ** ** |   |
| Diluted earnings  per share(2)               |       | 79.47                                                                |       | 75.77 |   | 63.97 |   | 38.22 |   | 66.65 |   |   | 0.31 | ** ** |   |
| **Consolidated Balance Sheet  Data:**        |       |                                                                 |       |   |   |   |   |   |   |   |   |   |   | ** ** |   |
| Amounts in accordance  with IFRS             | ** ** | ** **                                                           | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |   | ** ** | ** ** |   |
| Total assets                                 |       | 1,104,196                                                            |       | 1,077,451 |   | 1,058,837 |   | 1,029,558 |   | 1,082,948 |   |   | 5,070 | ** ** |   |
| Net assets as  reported                      |       | 508,469                                                              |       | 575,580 |   | 630,384 |   | 576,664 |   | 597,694 |   |   | 2,797 | ** ** |   |
| Capital stock                                |       | 103,736                                                              |       | 104,281 |   | 104,281 |   | 104,281 |   | 104,281 |   |   | 488 | ** ** |   |
| Total  shareholders’ equity as reported |       | 460,300                                                              |       | 516,144 |   | 560,110 |   | 516,567 |   | 527,567 |   |   | 2,469 | ** ** |   |
| Amounts in  accordance with U.S. GAAP        |       |                                                                 |       |   |   |   |   |   |   |   |   |   |   | ** ** |   |
| Total assets                                 |       | 1,118,015                                                            |       | 1,099,634 |   | 1,090,308 |   | 1,070,591 |   | 1,115,991 |   |   | 5,225 | ** ** |   |
| Net assets                                   |       | 493,357                                                              |       | 570,541 |   | 633,783 |   | 592,872 |   | 610,035 |   |   | 2,856 | ** ** |   |
| Total  shareholders’ equity             |       | 448,440                                                              |       | 514,664 |   | 567,452 |   | 534,907 |   | 542,098 |   |   | 2,538 | ** ** |   |

 

1

----

 

| ** **                        | ** ** | **Year ended December 31,** | ** ** |
|-----------------------------------|------------|--------------------------------------------|------------|
| ** **                        | ** ** | **2001**                                   | ** ** | **2002** | ** ** | **2003** | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                        | ** ** | **(in millions)**                     | ** ** |
| **Other  data:**                  |       |                                       |       |   |   |   |   |   |   |   |   |
| Weighted average number of shares |       |                                       |       |   |   |   |   |   |   |   |   |
| Basic                             |       | 1,037                                      |       | 1,038 |   | 1,038 |   | 1,038 |   | 1,039 |   |
| Diluted                           |       | 1,037                                      |       | 1,038 |   | 1,038 |   | 1,038 |   | 1,039 |   |

----

(1)           Translated into U.S. dollars at the official exchangerate of the National Bank of Hungary on December 31, 2005 of U.S. dollar1.00 = HUF 213.58. These translations are unaudited and presented forconvenience purposes only.

(2)           Basic earnings per share under IFRS and basic earningsper share under U.S. GAAP are calculated by dividing net income by the weightedaverage number of shares outstanding during each period.

(3)           In December 2001, Magyar Telekom Plc.acquired a 49 percent interest in TMH and Westel Rádiótelefon Kft. (“Westel0660”) from Deutsche Telekom AG. As Magyar Telekom Plc. is controlled by DeutscheTelekom AG this was a transaction between parties under common control. Thefinancial statements have been restated as if TMH and Westel 0660 were whollyowned subsidiaries of Magyar Telekom since March 23, 2000, the date onwhich Deutsche Telekom AG acquired a 49 percent interest in TMH and Westel0660.

**Dividends**

Thefollowing table sets forth the dividend per Magyar Telekom ordinary share forthe years 2001, 2002, 2003, 2004 and 2005. The table shows the dividend amountsin Hungarian forints, together with U.S. dollar equivalents, for each of theyears indicated.

| ** ** | ** ** | **Dividend Paid   Per Ordinary Share** | ** ** |
|------------|------------|------------------------------------------------------------|------------|
| ** ** | ** ** | ** HUF **                                        | ** ** | **U.S.$(1)** | ** ** |
| **Year**   |       |                                                       |       |   |   |   |   |   |   |
| 2001       |       |                                                       | 11         |   |   |   | 0.0394 |   |   |
| 2002       |       |                                                       | 18         |   |   |   | 0.0799 |   |   |
| 2003       |       |                                                       | 70         |   |   |   | 0.3367 |   |   |
| 2004       |       |                                                       | 70         |   |   |   | 0.3883 |   |   |
| 2005       |       |                                                       | 73         |   |   |   | 0.3418 |   |   |

----

(1)          Translatedinto U.S. dollars at the official exchange rate of the National Bank of Hungaryon December 31, 2005 of U.S. dollar 1.00 = HUF 213.58; December 31,2004 of U.S. dollar 1.00 = HUF 180.29; December 31, 2003 of U.S. dollar1.00 = HUF 207.92; December 31, 2002 of U.S. dollar 1.00 = HUF 225.16and on December 31, 2001 of U.S. dollar 1.00 = HUF 279.03.

**EXCHANGE RATEINFORMATION**

As used in this document, “Hungarian forint” or “HUF”mean the lawful currency of Hungary. “EUR”, “euro” or “€”mean the single unified currency of the European Union. “U.S. dollar,” “USD” or “$”mean the lawful currency of the United States.

The National Bank of Hungary (“NBH”) quotes andpublishes official exchange rates of the Hungarian forint for all major currenciesbased on prevailing market rates. Unless otherwise stated, conversion ofHungarian forint into U.S. dollars have been made at the rate of USD 1.00 toHUF 213.58, which was the official rate quoted and published on December 31,2005.

The NBH has a policy to intervene in the foreignexchange market to stabilize the exchange rate of the Hungarian forint for theeuro. On any given day, the market exchange rate of the Hungarian forintagainst euro may vary from the official rate of the NBH. Prior to May 4,2001, the NBH had a policy of 

2

----

intervening in the foreignexchange market, if the market rate deviated more than 2.25 percent above orbelow the official rate. On May 4, 2001, the NBH announced that it hadwidened this intervention band to 15 percent above and below the official rate.This decision was taken as a step toward convergence with the European Unionexchange rate regime and as a measure against inflation.

Thefollowing tables set forth, for the periods and dates indicated, theperiod-end, average, high and low official rates quoted and published by theNBH for Hungarian forint per U.S.$1.00 and EUR1.00.

| ** ** | ** ** | **Exchange Rates**              | ** ** |
|------------|------------|--------------------------------------|------------|
| ** ** | ** ** | **Period-End**                       | ** ** | **Average(1)** | ** ** | **High** | ** ** | **Low** | ** ** |
| ** ** | ** ** | **(amounts in HUF/U.S.$)** | ** ** |
| **Year**   |       |                                 |       |   |   |   |   |   |   |   |   |   |   |
| 2001       |       |                                 | 279.03     |   |   |   | 286.54 |   |   | 304.06 |   | 271.35 |   |
| 2002       |       |                                 | 225.16     |   |   |   | 258.00 |   |   | 283.98 |   | 225.16 |   |
| 2003       |       |                                 | 207.92     |   |   |   | 224.44 |   |   | 237.63 |   | 206.61 |   |
| 2004       |       |                                 | 180.29     |   |   |   | 202.63 |   |   | 217.24 |   | 180.19 |   |
| 2005       |       |                                 | 213.58     |   |   |   | 199.66 |   |   | 217.54 |   | 180.58 |   |
| 2006       |       |                                 | 191.62     |   |   |   | 210.51 |   |   | 225.01 |   | 191.02 |   |
| 2006       |       |                                 |       |   |   |   |   |   |   |   |   |   |   |
| August     |       |                                 | 213.89     |   |   |   | 213.99 |   |   | 217.56 |   | 209.44 |   |
| September  |       |                                 | 215.74     |   |   |   | 215.71 |   |   | 217.11 |   | 214.68 |   |
| October    |       |                                 | 206.42     |   |   |   | 211.83 |   |   | 217.83 |   | 205.85 |   |
| November   |       |                                 | 193.89     |   |   |   | 200.82 |   |   | 204.57 |   | 193.89 |   |
| December   |       |                                 | 191.62     |   |   |   | 192.26 |   |   | 194.21 |   | 191.02 |   |
| 2007       |       |                                 |       |   |   |   |   |   |   |   |   |   |   |
| January    |       |                                 | 199.52     |   |   |   | 195.22 |   |   | 199.52 |   | 189.25 |   |

----

(1)          Theaverage of the exchange rates on each business day during the relevant period.

| ** ** | ** ** | **Exchange Rates**            | ** ** |
|------------|------------|------------------------------------|------------|
| ** ** | ** ** | **Period-End**                     | ** ** | **Average(1)** | ** ** | **High** | ** ** | **Low** | ** ** |
| ** ** | ** ** | **(amounts in HUF/EUR)** | ** ** |
| **Year**   | ** ** |                               | ** ** | ** ** |   |   | ** ** | ** ** |   | ** ** | ** ** | ** ** | ** ** |
| 2001       |       |                               | 246.33     | ** ** |   |   | 256.68 | ** ** |   | 267.29 |   | 241.45 |   |
| 2002       |       |                               | 235.90     | ** ** |   |   | 242.97 | ** ** |   | 252.38 |   | 235.17 |   |
| 2003       |       |                               | 262.23     | ** ** |   |   | 253.51 | ** ** |   | 272.03 |   | 234.69 |   |
| 2004       |       |                               | 245.93     | ** ** |   |   | 251.68 | ** ** |   | 270.00 |   | 243.42 |   |
| 2005       |       |                               | 252.73     | ** ** |   |   | 248.05 | ** ** |   | 255.93 |   | 241.42 |   |
| 2006       |       |                               | 252.30     | ** ** |   |   | 264.27 | ** ** |   | 282.69 |   | 249.55 |   |
| 2006       |       |                               |       | ** ** |   |   |   | ** ** |   |   |   |   |   |
| August     |       |                               | 274.76     | ** ** |   |   | 274.25 | ** ** |   | 279.96 |   | 269.45 |   |
| September  |       |                               | 273.49     | ** ** |   |   | 274.74 | ** ** |   | 277.42 |   | 272.22 |   |
| October    |       |                               | 261.97     | ** ** |   |   | 267.29 | ** ** |   | 276.43 |   | 261.44 |   |
| November   |       |                               | 255.98     | ** ** |   |   | 258.88 | ** ** |   | 261.34 |   | 255.98 |   |
| December   |       |                               | 252.30     | ** ** |   |   | 254.08 | ** ** |   | 256.90 |   | 252.30 |   |
| 2007       |       |                               |       | ** ** |   |   |   | ** ** |   |   |   |   |   |
| January    |       |                               | 258.04     | ** ** |   |   | 253.83 | ** ** |   | 258.46 |   | 251.15 |   |

----

(1)          The average of theexchange rates on each business day during the relevant period.

3

----

We will pay any cashdividends in Hungarian forints, and if you are a holder of American DepositoryShares (“ADSs”) exchange rate fluctuations will affect the U.S. dollar amountsyou will receive upon conversion of cash dividends on the shares represented byADSs. Fluctuations in the exchange rate between the Hungarian forint and theU.S. dollar will also affect the prices of shares and ADSs.

**RISK FACTORS**

Prior to making anyinvestment decision, you should carefully consider the risks set forth below inaddition to other information contained in this annual report. The risks described below are not the onlyrisks we face. Additional risks not currently known to us or risks that wecurrently regard as immaterial also could have a material adverse effect on ourfinancial condition or results of operations or the trading prices of oursecurities.

**Our operations aresubject to substantial government regulation, which can result in adverseconsequences for our business and results of operations.**

The Electronic Communications Act of 2003 (“ElectronicCommunications Act”), which came into force in January 2004, was enactedby the Parliament to achieve harmonization of the telecommunications regulatoryregime in Hungary with the New Regulatory Framework (“NRF”) of the EuropeanUnion (“EU”) for electronic communications adopted in 2002, and to encouragefurther competition in the market. The NRF is currently under review in the EU;the amended regulation will not, however, affect business activities earlierthan 2010.

Under the Electronic Communications Act, the NationalCommunications Authority (“NCA”) was established to regulate thetelecommunications industry. The primary responsibility of the NCA isperformance of market analysis procedures, under which it defines “relevantmarkets,” or markets subject to the regulatory framework, analyzes such marketsfor the level of competition and, if the NCA finds a lack of sufficientcompetition in such markets, identifies service providers with significantmarket power (“SMP”), and imposes appropriate regulatory obligations on suchproviders to encourage competition.

The NCA initiated the market analysis procedure on 17out of 18 relevant markets identified in an applicable decree in 2004 and hasreached its final findings on 16 of these markets by February 2006. Underthese findings, Magyar Telekom was found to have SMP on 12 of the 16 markets(i.e., markets 1-9 and 11-13) and TMH was found to have SMP on onemarket (i.e., market 16). As a result, the NCA imposed various obligationson Magyar Telekom and TMH with respect to these markets. See “Item 4—Regulationand Pricing”.

The Recommendation of the European Commission onrelevant product and service markets within the electronic communicationssector susceptible to *ex ante*regulationin accordance with Directive 2002/21/EC of the European Parliament and of theCouncil on a common regulatory framework for electronic communication networksand services (2003/311/EC) (“Recommendation”), the regulation on which themarket analysis procedure of the NCA is based, is also under review. The newrecommendation is expected to enter into force in 2007.

In addition, our businesses in Macedonia andMontenegro are also subject to various regulatory developments.

We cannot fully anticipatethe combined impact of these regulatory developments on our business andresults of operations. Our business and results of operations may be adverselyaffected by these changes.

**We are subject tomore intense competition due to the liberalization of the telecommunicationssector.**

The Electronic Communications Act was enacted tofacilitate further competition and encourage new entrants to the market.Although identities of such entrants are already known to some degrees, thescope 

4

----

of competition and anyadverse effect on our results will depend on a variety of factors that wecurrently cannot assess with precision and are for the most part not within ourcontrol. Among such factors are business strategies and capabilities of newcompetitors, prevailing market conditions, as well as the effectiveness of ourefforts to prepare for new market conditions.

In the mobile communications business, we already faceintense competition. As all telecommunications markets have become increasinglysaturated, the focus of competition is starting to shift from customeracquisition to retention. Significant customer defections could have an adverseeffect on results of operations, and customer acquisition and retentionexpenses are substantial. Due to the increased level of competition, prices formobile telephone services have been declining over the past several years andmay continue to decline. We expect the competition in the mobile sector tointensify in the near future, if Mobile Virtual Network Operators (“MVNOs”) wina regulatory approval to provide mobile telecommunications services in Hungary.MVNOs are mobile operators that do not own their own spectrum or often networkinfrastructure, buy the use of the spectrum and network infrastructure fromtraditional mobile operators and provide mobile telecommunications services toconsumers based on such purchased capacity. MVNOs will likely target the lowersegment of the market and such development will likely increase price-basedcompetition.

We also face intense competition in the market forInternet services, as well as in the data communications markets from otherfixed line, mobile and cable television service providers.

In Macedonia, the exclusive rights of MakedonskiTelekommunikacii AD (“Maktel”) to provide fixed line telecommunicationsservices expired at the end of 2004 as a result of the market liberalization.Competition posed by new entrants may result in a downward pressure on Maktel’spricing, sales volume and profitability, which would have an adverse effect onour financial condition and results of operations. In addition, depending onthe liberalization process in Macedonia, a new third mobile operator mightenter the market as well.

In Montenegro the de facto exclusivity of CrnogorskiTelekom in international voice traffic has come to an end as Promonte, theMontenegrin market leader in mobile telephony has acquired a license forinternational voice traffic valid from January 1, 2007. There are severalpublic tenders ongoing in Montenegro that will have a significant long termeffect on the telecommunication market. The Montenegrin TelecommunicationAgency has announced a public tender for cable television services, and newcable television service providers may enter traditional telecommunicationsmarkets in 2007.

The Montenegrin Telecommunication Agency has alsoannounced a public tender for providing Third Generation (“3G”) mobile servicesand a combined new license to provide 2G/3G mobile telephony services inMontenegro. The combined license is likely to be acquired by a new, thirdoperator which would further increase competition in the Montenegrin mobilemarket.

The Montenegrin Telecommunication Agency has alsoannounced a public tender for providing telecommunication services using WorldInteroperability for Microwave Access (“WiMAX”) technology. The outcome of thistender might further increase competition in Montenegro.

Competition posed bypotential new entrants may result in a downward pressure on Crnogorski Telekom’sand T-Mobile Montenegro’s pricing, sales volume and profitability, which wouldhave an adverse effect on our financial condition and results of operations.

**Our ability tosustain revenue growth will depend in part on our ability to increase trafficand offer value added and data services to our customers.**

We expect the number offixed access lines and rates for fixed and mobile telephone services todecrease as competition increases. Our ability to sustain revenue growth willtherefore depend on our ability to increase the amount of traffic over existingfixed lines and to increase revenues from value added 

5

----

and dataservices. We also plan to grow our mobile subscriber base and our related linesof business, such as Internet and cable television, and expand our coveragearea. We may not be able to sustain revenue growth, if we are not able to offerattractive and affordable value added services in the future or if ourcustomers do not purchase our services.

**We may be unable toadapt to technological changes in the telecommunications market.**

The telecommunications industry is characterized byrapidly changing technology with related changes in customer demands for newproducts and services at competitive prices. Technological developments arealso shortening product life cycles and facilitating convergence of varioussegments of the increasingly global industry. Our future success will largelydepend on our ability to anticipate, invest in and implement new technologieswith the levels of service and prices that customers demand. Technological advancesmay also affect our level of earnings and financial condition by shortening theuseful life of some of our assets.

The operation of our businesses depends in part uponthe successful deployment of continually evolving mobile communicationstechnologies, which requires significant capital expenditures. There can be noassurance that such technologies will be developed according to anticipatedschedules, that they will perform according to expectations, or that they willachieve commercial acceptance. We may be required to make more capitalexpenditures than we currently expect if suppliers fail to meet anticipatedschedules, performance of such technologies fall short of expectations, orcommercial success is not achieved.

The effects of technological changes on our businessescannot be predicted. In addition, it is impossible to predict with anycertainty whether the technology selected by us will be the most economic,efficient or capable of attracting customer usage. There can be no assurancethat we will be able to develop new products and services that will enable usto compete effectively.

TMH launched 3G-basedservices in Hungary in 2005 before any of its competitors. TMH is currentlyupgrading the network infrastructure to better provide the new generation ofservices. However, new alternative technologies and standards, e.g., WirelessFidelity (“WiFi”), WiMAX, or Voice over Internet Protocol (“VoIP”), may keepconsumers from choosing 3G-based services. We are not able to predict at themoment which of these competing technologies will be the most widely acceptedplatform, however we think that High Speed Downlink Packet Access (“HSDPA”) andHigh Speed Uplink Packet Access (“HSUPA”) enabled 3G network is the most likelycandidate.

**Developments in thetechnology and telecommunications sectors have resulted and may result inimpairments in the carrying value of certain of our assets.**

Developments in thetechnology and telecommunications sectors, including significant declines instock prices, market capitalization and credit ratings of market participantsmay result in impairments of our tangible, intangible and financial assets.Future changes in these areas could lead to further impairments at any time.Recognition of impairment of tangible, intangible and financial assets couldadversely affect our financial condition and results of operations and mightlead to a drop in the trading price of our shares. We review on a regular basisthe value of each of our subsidiaries and their assets. The value of goodwillis reviewed annually. In addition to our regular valuations, whenever weidentify any indication (due to changes in the economic, regulatory, businessor political environments) that goodwill, intangible assets or fixed assets mayhave been impaired, we consider the necessity of performing certain valuationtests which may result in an impairment charge.

**We depend on alimited number of suppliers for equipment and maintenance services.**

In each of our operatingdivisions, there are a limited number of suppliers for necessary equipment andmaintenance services. The failure of these suppliers to meet our equipment andmaintenance needs in a timely manner could have a significant effect on ourrevenues and market position. The construction and 

6

----

operationof our networks and the provision of our services and network infrastructure,especially mobile telecommunications services, are dependent on our ability toobtain adequate supplies of a number of key items on a timely andcost-efficient basis. These include handsets and transmission, switching andother network equipment. Significant delays in obtaining such equipment andmaintenance services could have a material adverse effect on our business andresults of operations.

**Our business may beadversely affected by actual or perceived health risks associated with mobilecommunications technologies.**

Media reports havesuggested that radio frequency emissions from mobile telephones are linked tomedical conditions such as cancer. In addition, a number of consumer interestgroups has requested investigations into claims that digital transmissions fromhandsets used in connection with digital mobile technologies pose health risksand cause interference with hearing aids and other medical devices. There canbe no assurance that the findings of such studies will not have a materialeffect on our mobile business or will not lead to additional governmentregulations. Our ability to install new mobile telecommunications base stationsand other infrastructure may also be adversely affected, and related costs mayincrease, due to regulations or consumer action in response to concerns overhealth risks and adverse effect on the value of properties adjacent to suchfacilities. The actual or perceived health risks of mobile communicationsdevices could adversely affect mobile communications service providers,including us, through increased barriers to network development, reducedsubscriber growth, reduced network usage per subscriber, threat of productliability lawsuits or reduced availability of external financing to the mobilecommunications industry.

**System failurescould result in reduced user traffic and revenue and could harm our reputation.**

Our technologyinfrastructure (including our network infrastructure for fixed network servicesand mobile telecommunications services) is vulnerable to damage andinterruption from information technology failures, power loss, floods,windstorms, fires, intentional wrongdoing and similar events. Unanticipatedproblems at our facilities, system failures, hardware or software failures orcomputer viruses could affect the quality of our services and cause serviceinterruptions. Any of these occurrences could result in reduced user trafficand revenue and could harm our reputation.

**Loss of keypersonnel could weaken our business.**

Our operations are managedby a small number of directors and key executive officers. The loss ofdirectors or key executive officers could significantly impede our financial,marketing and other plans. We believe that the growth and future success of ourbusiness will depend in large part on our continuing ability to attract andretain highly skilled and qualified personnel at all levels; however, thecompetition for qualified personnel in the telecommunications industry isintense. We can give no assurances that we will be able to hire or retainnecessary personnel.

**Our independentregistered public accounting firm identified two contracts for which it wasunable to identify a proper business purpose. A subsequent independentinvestigation into these and other contracts revealed weaknesses in ourinternal controls, and we may not be able to remedy these weaknesses or preventfuture weaknesses.**

In connection with their audit of our consolidatedfinancial statements for the year ended December 31, 2005, PwC, ourindependent auditor, identified two consulting contracts entered into by two ofour subsidiaries for which it was unable to identify a proper business purpose.A subsequent independent investigation, carried out by the law firm of White &Case under the supervision of our Audit Committee, and which is still ongoing,concluded that four consulting contracts were entered into by us and oursubsidiaries without there being adequate documentation of a proper business purposefor them. 

7

----

The investigation was alsoimpeded by the destruction by certain employees of documents relevant to thesefour contracts.

The independent investigation revealed certainweaknesses in our internal controls and procedures, including a lack ofconsistent group-wide approval procedures for procurement and third-partycontracts and a lack of a comprehensive group-wide compliance-training program.

The investigation delayed the finalization of our 2005financial statements, and as a result we and some of our subsidiaries havefailed and may fail to meet certain deadlines prescribed by applicable laws andregulations for preparing and filing audited annual results and holding annualgeneral meetings. We have to date been fined HUF 13 million as a consequence ofthese delays and additional fines could be imposed in the future. For furtherdiscussion of the independent legal investigation, its conclusions and thesteps that we are taking to remedy our control deficiencies, see “Item 15—Controlsand Procedures.”

Notwithstanding the stepswe are taking to address these issues, we may not be successful in remedyingthese weaknesses or preventing future weaknesses. If we are unable to remedythese weaknesses, there is a risk that we may not be able to prevent or detectimproper third-party contracts that could cause a material misstatement of ourannual or interim consolidated financial statements. In addition any failure toimplement new or improved internal controls, or resolve difficultiesencountered with their implementation, could harm our operating results orcause us to fail to meet our reporting obligations and consequently subject usto regulatory fines. Inferior internal controls could also cause investors tolose confidence in our reported financial information, which could have anegative effect on the trading price of our shares and ADSs.

**Our share price maybe volatile, and your ability to sell our shares may be adversely affected dueto the relatively illiquid market for our shares and ADSs.**

The Hungarian equitymarket is relatively small and illiquid compared to major global markets. As aresult of the limitations of the Hungarian equity market and the volatility ofthe telecommunications sector in general, the price of our shares and ADSs may berelatively volatile and you may have difficulty selling your shares in theevent of unfavorable market conditions.

**We have asubstantial business interest based in Macedonia, where ethnic hostilities andeconomic pressures could reduce the value of our investment in that region.**

We own a 100 percent interest in StonebridgeCommunications AD (“Stonebridge”), which owns a 51 percent interest inMaktel, a formerly state-owned public telecommunications services provider inMacedonia. Maktel became a consolidated subsidiary of Magyar Telekom on January 15,2001.

Ethnic hostilities, whilegetting better, continue to pose a significant risk to the economy ofMacedonia. The negative pressure on the economy could lead to devaluation ofthe currency. In case of devaluation of the Macedonian denar, the value of ourinterest in Maktel would be reduced and our financial condition and results ofoperations could be adversely affected.

**The value of ourinvestments, results of operations and financial condition could be adverselyaffected by economic developments in Hungary and other countries.**

Our business depends on general economic conditions inHungary and abroad. There are many factors, which are outside of our controlthat influence global and regional economies. A cautious or negative businessoutlook may cause our customers to delay or cancel investment in informationtechnology and telecommunications systems and services, which would adverselyaffect our revenues directly and, in turn, slow the development of new servicesand applications that could become future revenue sources.

8

----

Due to the substantialstate budget deficit, the Hungarian government passed a stabilization packagein June 2006. The stabilization program provides for significant tax hikesfor both corporations and individuals, including the introduction of an additionalincome tax on high-income individuals, increases in corporate taxes and VAT,and a new tax on healthcare contributions and other benefits. The stabilizationprogram also introduces material energy price increases. We expect thisstabilization program could have the effect of increasing the CPI anddecreasing GDP in 2007 and 2008 from the levels that might otherwise beattained without it. As an effect of any relative CPI increase and/or GDPdecrease, disposable income may decrease accordingly in both the corporate andthe residential segments. Any such decrease in disposable income couldnegatively affect spending on telecommunications, which could result indecreased revenues for Magyar Telekom.

**Fluctuations in thecurrency exchange rate could have an adverse effect on our results ofoperations.**

We are subject to currencytranslation risks, mainly relating to the results of our Macedonian andMontenegrin operations. Devaluation of the Macedonian denar or appreciation ofthe Hungarian forint may exert a negative influence on Maktel’s results thatare converted into HUF. The conversion of Crnogorski Telekom’s results into HUFdepends on the value of the HUF against the EUR. This is mainly a reportingrisk, but through the dividend payments it has direct financial (cashflow)effects on us as well.

**We are subject torisks resulting from fluctuations in interest rates.**

We are subject to risks resulting from fluctuations ininterest rates, which can affect costs associated with our interest bearingobligations and certain other payments. Our debt portfolio consists ofapproximately 25 percent floating rate and 75 percent fixed rate obligations.The floating rate loans decrease the predictability of our financing costssince interest is always paid according to the current market interest rates.Fixed rate loans also bear risks of fluctuating interest rates, as we may haveto pay interest at a higher rate on fixed rate loans than the prevailing marketinterest rate, and we may not be able to refinance at a lower interest rate.

In 2002 and 2003, werefinanced our indebtedness denominated in euro and replaced it withindebtedness in Hungarian forint. As the interest rate volatility associatedwith the Hungarian forint is much higher than that associated with the euro, wemay be exposed to higher interest rate volatility. To mitigate such volatility,our debt portfolio was modified to include a greater amount of fixed rateindebtedness. However, we cannot guarantee that such a strategy willsufficiently decrease our exposure to interest rate volatility. Such volatilitymay lead to an unexpected increase in interest payment obligations, which wouldadversely affect our financial positions and results of operations.

**ITEM 4—INFORMATIONON THE COMPANY**

**ORGANIZATION**

Until May 6, 2005, the legal name of the Companywas Magyar Távközlési Rt. and it operated under its commercial name, “Matáv”.On May 6, 2005, Magyar Távközlési Rt. was rebranded as Magyar TelekomTávközlési Rt. (Magyar Telekom Telecommunications Co. Ltd.) and its commercialname became Magyar Telekom Ltd. On March 1, 2006, Magyar Telekom changedits name to Magyar Telekom Nyilvánosan Működő Rt. (Magyar TelekomTelecommunications Plc.).

Magyar Telekom is alimited liability stock corporation incorporated and operating under the lawsof Hungary. Our shares are listed on the Budapest Stock Exchange, and our ADSsare listed on the New York Stock Exchange. Our headquarters are located at 55Krisztina krt., 1013 Budapest, Hungary. Our telephone numbers are +36-1-458-0000and +36-1-458-7000. Our agent for service of process in theUnited States is CT Corporation, 111 Eighth Avenue, New York, New York 10011,USA.

9

----

**HISTORY ANDDEVELOPMENT**

Prior to 1990, the Hungarian national postal,telephone and telegraph authority, Magyar Posta, provided all public telephoneservices in Hungary. On January 1, 1990, the Hungarian government splitMagyar Posta into three distinct entities based on the nature of theiroperations: postal services, telecommunications and broadcasting. The Hungariangovernment made Magyar Távközlési Vállalat, the predecessor to Matáv,responsible for telecommunications operations. This entity was transformed on December 31,1991 into a stock corporation, Magyar Távközlési Rt., or Matáv, then whollyowned by the predecessor of Állami Privatizációs és Vagyonkezelő Rt. (“State Privatizationand Holding Company” or “ÁPV”).

MagyarCom GmbH (“MagyarCom”), a holding company inwhich Deutsche Telekom and Ameritech Corporation (“Ameritech”) each held a 50percent interest, was selected by the Minister in an international tender andsubsequently purchased a 30.1 percent stake in Matáv for approximately U.S.$ 875million on December 22, 1993. ÁPV contributed U.S.$ 400 million of thepurchase price paid by MagyarCom to Matáv to provide it with capital to expandthe telephone network.

MagyarCom entered into a concession agreement with theHungarian government on December 19, 1993. MagyarCom then assigned certainof its rights under the concession agreement to Matáv. On December 22,1993, Matáv entered into a concession contract (the “Concession Contract”) withthe Hungarian government, which gave us the exclusive right to provide domesticlong distance and international public telephone services throughout Hungaryand local public fixed line voice telephone services in 31 of 54 Local PrimaryAreas for a term of eight years ending on December 22, 2001. On May 24,1994, we obtained the right to provide telephone services in an additional fiveLocal Primary Areas for a term of eight years ending in May 2002.

On December 22, 1995, MagyarCom acquired from ÁPVan additional 37.2 percent interest for approximately U.S.$ 852 million,raising its stake to 67.3 percent.

In connection with the Company’s initial publicoffering in November 1997, both MagyarCom and ÁPV collectively sold 272,861,367shares or 26.31 percent of then outstanding shares. In June 1999, ÁPV soldits remaining 5.75 percent stake in Matáv in a secondary offering.

On October 8, 1999, SBC Communications Inc. (“SBC”)completed its acquisition of Ameritech and thus gained control over Ameritech’s50 percent interest in MagyarCom.

On July 3, 2000, SBC sold its 50 percentownership in MagyarCom to Deutsche Telekom, making Deutsche Telekom a 100percent owner of MagyarCom.

As of December 31, 2005, 59.21 percent of MagyarTelekom’s ordinary shares was held by MagyarCom, 40.55 percent publicly tradedand 0.24 percent held as treasury shares. The Hungarian government owns one Series “B”voting preference share to which special rights attach.

On January 20, 2005, Magyar Telekom announcedthat the Board of Directors had made a decision to rename Matáv to MagyarTelekom. According to the resolution, the official name of the Company changedto Magyar Telekom Távközlési Rt. (Magyar Telekom Telecommunications Co. Ltd.)and its abbreviated name became Magyar Telekom Rt. (Magyar Telekom Ltd.). TheBoard of Directors’ decision was approved by the shareholders in theExtraordinary General Meeting on February 22, 2005.

On May 6, 2005, the change of the Company’s namewas registered with the Court of Registry. At the same time, we changed andregistered the name of two of our subsidiaries. Axelero, our Internetsubsidiary, is now named T-Online Hungary Internet Service Provider Co. Ltd. (“T-OnlineHungary”). MatávkábelTV, our cable television subsidiary is now named T-KábelHungary CableTV Servicing Limited Liability Company (“T-Kábel Hungary”).

10

----

On December 20, 2005, Magyar Telekom’sExtraordinary General Meeting approved the decision on the merger of MagyarTelekom Plc. and TMH. The court registration of the merger took place on February 28,2006. From March 1, 2006, Magyar Telekom is the legal successor of TMH.TMH continues its operations within Magyar Telekom under an independent brandand as an independent line of business.

On March 1, 2006, Magyar Telekom changed its nameto Magyar Telekom Nyilvánosan Működő Rt. (Magyar TelekomTelecommunications Public Limited Company) and its abbreviated name becameMagyar Telekom Plc.

For the details on ourprincipal acquisitions during the last three years, see “Item 10—Materialcontracts”.

**DESCRIPTION OFBUSINESS AND ITS SEGMENTS**

We are the principal provider of fixed linetelecommunications services in Hungary, with approximately 2.8 million fixedaccess lines as of December 31, 2005. We are also Hungary’s largest mobiletelecommunications services provider, with almost 4.2 million mobilesubscribers (including users of prepaid cards) as of December 31, 2005. Wehold a 100 percent interest in Stonebridge Communications AD, which controlsMaktel, the sole fixed line telecommunications services provider and, throughits subsidiary T-Mobile Macedonia, the leading mobile telecommunicationsoperator in Macedonia. We also hold a 76.53 percent ownership in CrnogorskiTelekom, the principal fixed line telecommunications services provider and,through its subsidiary T-Mobile Crna Gora, the second largest mobiletelecommunications operator in Montenegro.

Our consolidated revenues were HUF 620,697 million(U.S.$ 2,906 million), and our consolidated net income was HUF 78,564 million(U.S.$ 368 million) in 2005.

We are a full-service telecommunications provideroperating in two business segments:

*FixedLine Telecommunications Services.*   Our fixed linetelecommunications services consist of local, long distance and internationaltelephone as well as other telecommunications services, including datatransmission, cable television and Internet services. Magyar Telekom Plc. hadexclusive rights through December 2001 to provide domestic long distanceand international public telephone services throughout Hungary and to providelocal public fixed line telephone services in 31 of the 54 local primary areasin Hungary. Magyar Telekom Plc. had exclusive rights in five of the 54 localprimary areas until May 2002, while its subsidiary, Emitel, had exclusiverights in an additional three concession areas through November 2002. Our36 former local concession areas cover approximately 70 percent of Hungary’sgeographic area and include Budapest as well as nearly all other major citiesin Hungary. As there is limited competition for public telephone services evenafter the liberalization of the telecommunications market, we are still thedominant telephone service provider in these 36 areas. We also provide leasedlines, data transmission services and corporate network services, selltelecommunications equipment and offer network construction and maintenanceservices. We are the market leader for most of these services in Hungary.

The fixed line telecommunications service segment alsoincludes three Macedonian companies. Stonebridge is a holding company throughwhich Magyar Telekom controls Maktel. Telemacedonia is a management companythrough which Magyar Telekom provides management and consulting services toMaktel, T-Mobile Macedonia and Stonebridge. Maktel is Macedonia’s leading fixedline telecommunications company. Its exclusive rights in fixed linetelecommunications services expired in December 2004. These exclusiverights included local, national and international long distance public voiceservices, Voice-over Internet Protocol (“IP”) services, leased lines servicesand the construction and operation of public voice network services.

11

----

In addition, the fixed line telecommunications servicesegment also includes our Montenegrin subsidiary, Crnogorski Telekom.Crnogorski Telekom is the principal fixed line telecommunications serviceprovider in Montenegro.

On November 29, 2005 Magyar Telekom concluded anagreement to acquire a 100 percent stake in Orbitel for EUR 8 million. Orbitelis an alternative Bulgarian telecommunications and internet service provideroffering countrywide voice and data services to the business communityutilizing IP technology. In 2005, the company generated revenues of EUR 11.5million. The financial closing of the deal took place on February 3, 2006.

On December 12, 2005 Magyar Telekom agreed toacquire a 100 percent stake in Dataplex Kft. for HUF 5.1 billion, based on thenet debt position of the company at the time of the agreement. Dataplex is anoperator in the Hungarian Information Technology (“IT”) outsourcing market. Thefinancial closing of the transaction took place following the approval by theHungarian Competition Authority, on April 5, 2006.

In April 2006 Magyar Telekom acquired the 100percent ownership of iWiW Kft., the leading Hungarian online social network, fora purchase price of HUF 1.1 billion. iWiW (‘who is who’) operates the leadingonline social network for existing friendships and relationships with more thana million registered members, making it the fourth most visited web page inHungary. In 2005 iWiW generated revenues of HUF 5 million.

In May 2006 Magyar Telekom acquired the 100percent ownership of Adnetwork Kft, the leading Hungarian online advertisementnetwork for a purchase price of HUF 0.2 billion. Adnetwork was established in2005 and generated revenues of HUF 28 million in 2005.

In June 2006 Magyar Telekom signed a sharepurchase agreement to acquire the 100 percent ownership of KFKI-LNX, one of theleading Hungarian IT companies for a purchase price of HUF 8.2 billionplus an optional earn-out payment of HUF 1.5 billion dependent on the 2006financial performance. The acquisition was closed on September 15, 2006,from which date KFKI Group became consolidated in Magyar Telekom. In 2005, KFKIGroup’s revenues amounted to approximately HUF 17 billion. KFKI-LNXhas two 100 percent owned subsidiaries, ICON and IQSYS.

On December 13, 2006, Magyar Telekom agreed toacquire a 100 percent stake in MobilPress and a 75.05 percent stake in MFactoryfor a combined purchase price of HUF 1 billion. In addition, the company alsohas an option to increase its stake in MFactory to 100 percent from 2009.MobilPress is one of the major Hungarian mobile content providers and manages,among others, the t-zones portal. MFactory is one of the leading Hungarian mobilecontent producers and aggregators. This transaction will enable Magyar Telekomto enhance its presence in the mobile content business and develop amulti-channel multimedia service centre to capture opportunities in thisgrowing segment. The transaction closed in January 2007.

On January 1, 2007, Magyar Telekom acquired anadditional 2 percent of T-Systems Hungary for HUF 60 million, increasing itsstake to 51 percent. Our intention is to further increase Magyar Telekom’sshare in T-Systems Hungary to 100 percent by the end of the second quarter of2007.

*MobileTelecommunications Services.**  *Ourmobile telecommunications subsidiary, TMH, is a leading provider of mobiletelecommunications services in Hungary. TMH is one of three digital mobileservices providers in Hungary. Since December 7, 2004, TMH also has rightsto operate 3G, or Universal Mobile Telecommunications System (“UMTS”), mobiletelecommunications services. Mobile telecommunications services havecontributed significantly to our revenues. The number of TMH’s subscribersincreased from 3.4 million at the end of 2002 to 4.2 million at the end of2005.

12

----

The mobiletelecommunications service segment also includes T-Mobile Macedonia, a leadingmobile telecommunications services provider in Macedonia. T-Mobile Macedonia isa fully owned subsidiary of Maktel. The number of T-Mobile Macedonia’ssubscribers increased from 366,348 at the end of 2002 to 877,142 at the end of2005. In addition, the segment also includes T-Mobile Crna Gora, the secondlargest mobile telecommunications services provider in Montenegro, a fullyowned subsidiary of Crnogorski Telekom.

**STRATEGY**

Since becoming a listed company in 1997, we havemaintained our leading positions in the domestic fixed line, mobile, Internetand data businesses. We have successfully expanded into internationaloperations through selective acquisitions, and continuously produced solidresults.

The telecommunications industry is undergoing a majorchange globally. We have observed several long-term trends which are changingthe structure of the Hungarian telecommunications market. Key drivers of thelong-term trends include changes in technology (i.e., IP-based broadbandproducts and solutions, emerging wireless broadband technologies), customerrequirements (i.e., mobility and ease of use, triple-play solutions),competition and regulation (i.e., low entry barriers, new business models).

To adapt to these changes in the market, we are nowmoving from the traditional traffic-based revenue structure to an access-basedrevenue structure, which will allow us to substitute declining traffic revenueswith content, entertainment and bundled access revenues. In addition we areseeking new revenue sources by entering into new non-traditional convergedtelecommunications markets.

Accordingly, we have redefined the focus areas of ourcorporate strategies to better exploit our position as the only integratedtelecommunications operator with a full range of services in Hungary and theregion, as well as to ensure our long-term competitiveness. Our strategies aredesigned to enable us to exploit and develop our extended customer base,significantly improve efficiency and capture growth opportunities.

To ensure our continuing success, we have beenoperating under our Value Creation Program since mid-2004. We believethat the successful implementation of this Program is critical to capturing newgrowth opportunities as the telecommunications market rapidly develops in newdirections.

In order tocontinue our transformation to become a cost-efficient integrated servicecompany in an extended market of telecommunications and converged industries wehave set our strategic priorities as follows:

1.                Excellence

·        *Service excellence*—Provide best-in-class customer care,service delivery and provisioning to our customers in order to maintain ourleadership on the market

·        *Broadband push*—Aggressively expand broadband relations,exploit multi-access cost-efficient broadband rollout and content service

2.                Efficiency

·        *Operational efficiency—*Exploit efficiency improvementpotential in current operations and processes to improve our competitiveness

·        *Integrated operations—*Capture maximum revenue and costpotential in integrated operations and leverage economies of scale andsynergies in a converging market

13

----

3.                Expansion &Acquisition

·        *Content and media—*Move towards content and media businessesto support traditional access services and build new revenue streams/exploitnew revenue sources

·        *System integration—*Focus on complex service offering via managedservices, system integration and outsourcing through consultancy-based sales tocorporate customers

·        *New services expansion—*Capture potential growthopportunities on new converged market areas by extending our service portfolio

·        *International acquisitions—*Seek value-creating coreacquisition targets in the South-East European region with appropriate scaleand leverage our regional presence

We have developed acomprehensive market-oriented program designed to improve operationalperformance on Group level and in every division. Our primary focus is on thefollowing areas of business operations:

1.                Excellence

·        *Service Excellence—*As a service company operating on acompetitive market, one of our major strategic focuses has been to maximizecustomer satisfaction in all areas of operation. In order to achieve furtherimprovement in customer service, we are now developing a Group-level customervalue-based Customer Relationships Management (“CRM”) system. Throughout thepast years of servicing our mobile division, TMH has used a state-of-the-artcustomer value management system to track and monitor the value of eachcustomer. We are now in the process of extending this system to Group level.This will enable us to retain and target customer segments and sub-segmentseven more accurately. In addition, we aim to radically improve servicedelivery/provisioning capabilities as it is a vital component in increasing ourcompetitiveness.

·        *Broadband Push—*In 2004, we nearly doubled Hungary’sAsymmetrical Digital Subscriber Line (“ADSL”) access base to 200,000. In 2005and 2006, we extended our ADSL customer base further to over 500,000. As theleading broadband provider in Hungary, we are committed to accelerating growthin country-wide broadband penetration. Ongoing promotions, a new differentiatedproduct range and innovative broadband-specific content services are beingdeveloped to generate a strong increase in demand, while strategic pricingshould allow optimal subscriber and profit growth. In November 2006 we launchedIPTV services; in early 2007 we plan to double bandwidths on our network byutilizing ADSL2 technology and to further boost market development byintroducing naked DSL services. Also, we believe different wireless broadbandtechnologies will play an increasingly important role in the coming years.Applying the so-called “multi-access” (i.e., optimal combination of differentwired and wireless broadband access technologies) approach provides the mostcost-efficient means to expand broadband access base countrywide. Accordingly,leveraging first mover advantage on our newly built HSDPA capacities is one ofTMH’s primary strategic focuses on the fast growing wireless broadband market.

2.                Efficiency

·        *Operational Efficiency—*We plan to improve our internalefficiency by prolonging the aggressive internal cost reduction program, whichhas been underway for several years. A set of specific operational efficiencytargets has been set in place. Our initial 2006 goal to improve the efficiencyof our workforce by increasing the fixed lines (B-channel equivalent) peremployee ratio to over 500 (a ratio that corresponds to the best practice inWestern Europe) was already reached by the end of February 2006. We arecommitted to further simplification and 

14

----

improvement of processesand connected systems, accelerating decision making and therefore speeding uptime-to-market. In addition to organizational measures and process improvement,we seek cost savings by leveraging our group-wide synergies in procurement.

·        *Integrated Operations—*Fixed-mobile convergence is fastdeveloping in the telecommunications industry, particularly with respect totechnology, customer needs, products/services and organizational structures.Telecommunications companies are heading towards further integration of fixedand mobile businesses driven primarily by the technological developments andthe increasing customer demand for integrated services. We are expectingsignificant value generation through the gradual implementation of the integrationby seizing additional revenues and optimizing operating and capital expenses. Toensure our competitiveness and our ability to create shareholder value in thelong run, we decided to merge our mobile and fixed divisions effective from March 2006.

The integration of ourfixed and mobile businesses will particularly enhance our competitiveness inthe following areas:

·       Customer care and customerservice (e.g., common chain of retail stores, one-stop shopping for corporatecustomers and marketing); unified T-Shop retail network was successfully set upin 2006;

·       Back-officeand supporting systems (e.g., common use of functional services, procurementsynergies, unified supporting systems);

·       Network infrastructure(e.g., unified IP-based backbone network, joint platform planning anddevelopment); and

·       Products and valuepropositions (e.g., fixed-mobile bundled products, value-added services basedon broadband access and content).

Customers directlyexperience and benefit from the expansion of the service portfolio, easieraccess to products, and more competitive value propositions. Exploitation ofthe operational synergies, streamlined organizational structures and simplifiedprocesses will improve our corporate efficiency.

3.                Expansion &Acquisition

Traditionaltelecommunications markets of our core operations imply limited top line growthpotential, whereas surrounding convergent market areas—such as mass media,transactional services, commerce and info-communications (“ICT”) services—implystable growth over long term. Leveraging our relationship advantage, extendeddistribution network and strong brand awareness, we are in a strong position toenter these new markets and increase our market share in the extendedmarketplace. We also see significant growth potential in expanding our coreoperations further in the South-East European region, where we have gainedhands-on experience with a good track record.

·        *Content and media—*content and innovative broadband-basedservices play a crucial role in further enhancing broadband market development.We aim to further advance and extend our presence in this market segment.Accordingly, in April 2006, we gained control of iWiW Kft., the leadingHungarian online social network currently registering more than a million users.In May 2006, we acquired Adnetwork Kft., the leading domestic onlineadvertisement network, to leverage the online advertisement potential ofT-Online and partner web pages*.*

·        *Systems integration—*the growth potential of traditionaltelecommunications services in the Hungarian corporate market is limited. ITservices such as systems integration, managed 

15

----

network services, customapplication development, IT outsourcing and consultancy services are becomingthe new growth drivers in the corporate market. In line with changing customerdemands we believe IT services will become the new “gateway” to sell integratedtelecommunications services, and the winning telecommunications firms in thefuture Hungarian corporate market will be those that establish their credentialsas trusted IT/telecommunications service partners. Therefore, to maintainsustainable competitiveness in the corporate sector, we have committed tofurther developing our IT competencies. Acquisitions are an important part ofthis program, as they offer the fastest means to build our position and improveour competency mix in the corporate IT/telecommunications market. As a majorprovider of System Integration (“SI”)/IT services in Hungary, the acquisitionof KFKI Group in June 2006 was a major step towards this initiative.In April 2006, we acquired Dataplex, a major provider ofinfo-communications infrastructure outsourcing. Also, by acquiring additional 2percent of T-Systems Hungary in January 2007, we are now the majoritystakeholders of the company.

·        *New services expansion—*to further leverage our core assetswe are continuously exploring emerging business possibilities on new convergingmarkets through expanding our service portfolio. We are considering enteringnew market segments such as transactional services and commerce to generate newrevenue streams in case a potential business opportunity is arising*.*

·        *International acquisitions—*We acquired a 51.12 percent stakein the Crnogorski Telekom from the government of Montenegro in March 2005.At the same time, we acquired an additional 21.92 percent of CrnogorskiTelekom’s shares from minority shareholders. As a result of a public offer, weacquired an additional 3.49 percent stake in Crnogorski Telekom, increasing ourstake to 76.53 percent by May 24, 2005. In February 2006, weacquired a 100 percent stake in a Bulgarian alternative fixed linetelecommunications and Internet services provider, Orbitel. Leveraging ourhands-on experience and good track record in the region, we are committed tofurther strengthen and leverage our presence in the South-East European region.Therefore, we are continuously seeking for further value-creating acquisitionand investment targets with even larger scale.

16

----

**OVERVIEW OF MAGYARTELEKOM’S REVENUES AND PRINCIPAL ACTIVITIES**

Forthe years ended December 31, 2003, 2004 and 2005, our total revenues bybusiness segments were as follows:

| ** **                                  | ** ** | **Year ended December 31,** | ** ** | **Year ended  December 31,** | ** ** |
|---------------------------------------------|------------|--------------------------------------------|------------|----------------------------------------|------------|
| ** **                                  | ** ** | **2003**                                   | ** ** | **2004**                               | ** ** | **2005** | ** ** | **2005/2004** | ** ** |
| ** **                                  | ** ** | **(in HUF millions)**            | ** ** | **(% change)**                    | ** ** |
| **Revenues**                                | ** ** | ** **                                 | ** ** | ** **                             | ** ** | ** ** | ** ** |   | ** ** | ** ** |   |
| Hungarian Fixed                             |       | 324,552                                    |       | 301,743                                |       | 288,050 |   |   | (4.5 | ) |   |
| International  Fixed line                   |       | 49,690                                     |       | 45,184                                 |       | 55,850 |   |   | 23.6 |   |   |
| Total                                       |       | 374,242                                    |       | 346,927                                |       | 343,900 |   |   | (0.9 | ) |   |
| Less:  intra-segment revenues               |       | (1,553                                     | )          | (907                                   | )          | (1,006 | ) |   | 10.9 |   |   |
| Total revenue of  Fixed line segment        |       | 372,689                                    |       | 346,020                                |       | 342,894 |   |   | (0.9 | ) |   |
| Less: inter-segment revenues                |       | (14,034                                    | )          | (11,846                                | )          | (11,832 | ) |   | (0.1 | ) |   |
| Fixed line  revenue from external customers |       | 358,655                                    |       | 334,174                                |       | 331,062 |   |   | (0.9 | ) |   |
| Hungarian Mobile                            |       | 254,141                                    |       | 263,023                                |       | 270,362 |   |   | 2.8 |   |   |
| International  Mobile                       |       | 31,575                                     |       | 33,734                                 |       | 42,693 |   |   | 26.6 |   |   |
| Total                                       |       | 285,716                                    |       | 296,757                                |       | 313,055 |   |   | 5.5 |   |   |
| Less:  intra-segment revenues               |       | (20                                        | )          | (58                                    | )          | (27 | ) |   | (53.4 | ) |   |
| Total revenue of  Mobile segment            |       | 285,696                                    |       | 296,699                                |       | 313,028 |   |   | 5.5 |   |   |
| Less: inter-segment revenues                |       | (37,099                                    | )          | (29,435                                | )          | (23,393 | ) |   | (20.5 | ) |   |
| Mobile revenue  from external customers     |       | 248,597                                    |       | 267,264                                |       | 289,635 |   |   | 8.4 |   |   |
| Total revenue of  the Group                 |       | 607,252                                    |       | 601,438                                |       | 620,697 |   |   | 3.2 |   |   |

 

Most of our revenues in 2003, 2004 and 2005 werederived from services provided within Hungary, except for the internationalfixed line and international mobile revenues, which were mainly derived fromservices provided in Macedonia in 2003 and 2004, and in Macedonia and Montenegroin 2005.

Our business is notmaterially affected by seasonal variations.

**FIXED LINETELECOMMUNICATIONS SERVICES SEGMENT**

In 2005, our fixed line telecommunications servicesgenerated revenues of HUF 342,894 million before inter-segment eliminations.Fixed line telecommunications services consist of domestic and internationalservices, leased lines, data transmission, cable television and Internetservices, telecommunications equipment sales, construction, maintenance andother services.

The Hungarian fixed lineoperations include activities of Magyar Telekom in Hungary and South-EasternEurope. Magyar Telekom provides international network and carrier services inSouth-Eastern Europe through PoPs. Magyar Telekom entered the Romanianmarket in July 2004, the Bulgarian market in September 2004, and theUkrainian market in August 2005 to offer various wholesale services.Capitalizing on our experience in these markets, we have entered into theretail market segment in Romania with a full service portfolio and intend to doso in Bulgaria and Ukraine as soon as the regulatory environment becomesfavorable.

17

----

**Hungarian FixedLine Operations**

***Domestic Services***

Revenues fromdomestic fixed line telephone services consist of:

·       subscriptions,connections and other charges;

·       outgoingdomestic traffic revenues; and

·       incoming domestic trafficrevenues.

*Products andServices*

*Localand Long Distance Telephone Services.*   We providelocal, domestic and international long distance telephone services to our fixedline subscribers and to fixed line subscribers in other LocalTelecommunications Operator (“LTO”) areas.

*PublicSwitched Telephone Network (“PSTN”).**  *Due to the fierce competition and mobilesubstitution, the number of our PSTN lines decreased from 2,372,115 as of December 31,2004 to 2,252,943 as of December 31, 2005.

*IntegratedServices Digital Network (“ISDN”).**  *ISDNallows a single access line to be used simultaneously for a number of purposes,including voice, data, facsimile and video transmission. ISDN also provideshigher quality and faster transmission of signals while increasing thebandwidth capacity of the network. ISDN is available in our entire network. Weoffer both basic ISDN access lines with two channels and multiplex ISDN accesslines with 30 channels. As of December 31, 2005, we had installed 176,863ISDN access lines with two channels and 4,899 ISDN access lines with 30channels, for a total of 500,696 ISDN channels. We intend to extend the lifecycle of the ISDN product by offering various discounts to our customers.

*DigifonServices.**  *At theend of 2005, our network was 100 percent digitalized, which enable us toprovide value added services in our entire service area. We provide a number ofvalue added services, such as call forwarding, call waiting and callconference, to a significant number of our fixed line subscribers. Theseservices help increase fixed line usage as they make busy signals and unansweredcalls less common. We also offer bundled packages of digifon services. The mostpopular of these packages is the Összhang, which contains five services at adiscount price. Összhang package was introduced in May 2001 and hadapproximately 278,000 customers by the end of 2005.

*SharedCost/Toll Free Numbers.**  *Toenable business customers to better meet the needs of their clients, we haveintroduced “blue” numbers, which are shared cost numbers, and “green” numbers,which are toll free access numbers.

*Voice-mail.**  *We offer a voice-mail service including call returnand call capture. We also offer voice-mail Short Message Service (“SMS”),which provides an SMS alert to the mobile handset of the customer each time heor she receives a voice-mail message. These services allow better usage of thenetwork, provide convenience to our customers and decrease the ratio ofuncompleted calls.

*FixedSMS.**  *In September 2002,we launched a new messaging service called Fixed SMS. From a fixed lineterminal, short text messages can be sent with an SMS-capable telephone and SMStermination is available for every subscriber. If the addressee does not havean SMS-capable telephone, the text message is converted and sent as a voicemessage. The service has other useful functions as well: SMS to fixed faxmachines, SMS redirection and multi-SMS transmission. In 2005, we launched anew Internet-based SMS sender application, iSMS.

18

----

*PrivateBranch Exchange (“PBX”) Services.*   We offer PBXservices through one of our subsidiaries, BCN Rendszerház Kft. (“BCN Kft.”,formerly Matávcom Kft.). The vast majority of the leased equipment is digitaland meets the demands of developing technologies such as ISDN and digitallyenhanced cordless telecommunications.

*Directory Assistance.**  *We offer directory inquiry services. The domesticdirectory assistance database includes all fixed line and postpaid mobilesubscribers’ data in Hungary. We offer a call completion option to subscribers,whereby calls may be connected automatically. We also offer increasinglypopular Directory Assistance-Plus (“DA-Plus”) service. DA-Plus offers a widerange of information including Yellow Pages, residential classifiedadvertisements, encyclopedia- and dictionary-based information, recipes, poems,as well as telephone numbers, postal, e-mail and website addresses without anyquantity restrictions. The requestedinformation may be provided verbally, by e-mail or by fax. The fees forthe service are based on per minute usage. In 2005, we received the BestEuropean Directory Assistance Service award.

*Subscribers*

Thefollowing table sets forth information regarding total fixed access lines andpenetration rates in the service areas of Magyar Telekom Plc. and Emitel:

| ** **                                                                           | ** ** | **At December 31,** | ** ** |
|--------------------------------------------------------------------------------------|------------|-------------------------------|------------|
| ** **                                                                           | ** ** | **2003**                      | ** ** | **2004** | ** ** | **2005** | ** ** |
| Number of fixed lines                                                                |       |                          |       |   |   |   |   |
| Residential lines                                                                    |       | 2,078,088                     |       | 2,080,408 |   | 1,981,876 |   |
| Business lines                                                                       |       | 269,638                       |       | 263,889 |   | 248,955 |   |
| Public payphones                                                                     |       | 29,653                        |       | 27,818 |   | 22,112 |   |
| Total                                                                                |       | 2,377,379                     |       | 2,372,115 |   | 2,252,943 |   |
| ISDN channels                                                                        |       | 532,100                       |       | 530,250 |   | 500,696 |   |
| Total                                                                                |       | 2,909,479                     |       | 2,902,365 |   | 2,753,639 |   |
| Lines installed per 100 residents in the service  areas of Magyar Telekom Plc.       |       | 37.5                          |       | 37.5 |   | 35.6 |   |
| Digital exchange  capacity as% of Magyar Telekom Plc.’s total exchange capacity |       | 89.9                          |       | 92.9 |   | 100 |   |

 

Our domestic fixed line subscribers can be classifiedinto two categories: residential customers and business customers, whichinclude our customers in the public sector. As of December 31, 2005, 75percent of our access lines was utilized by our residential customers and 24percent by our business customers. The remaining one percent of access lineswas used for public payphones.

The Hungarian government,through its various institutions and departments, constitutes our largestcustomer group. We develop separate service packages for each of theseinstitutions and departments, as each of them generally has its own annualbudget, particular telecommunications needs and responsibilities. From astrategic perspective, however, we consider the Hungarian government a singlecustomer. We offer most of our largest customers, including the government,discounts for services we provide.

*Fees and Charges*

We charge fixed linesubscribers a one-time connection fee, monthly subscription charges and callcharges based on usage. A call charge contains two elements: a call set-upcharge and a traffic charge measured in seconds based on the call’s duration.In accordance with the Act LXXXVII of 1990 on Pricing (the “Pricing Act”), asmodified by the Electronic Communications Act, the Minister, together with the 

19

----

Ministerof Finance, is responsible for establishing the maximum rates for universalservices. We may, however, offer services at prices lower than thoseestablished by the Minister.

Our one-time connectionfee and monthly subscription charges are different for residential and businesscustomers. We do not, however, charge our business and residential customersdifferent traffic charges if they use the same price plan.

In 2005, we increased thenumber of price plans to allow customers in different market segments to chooseplans that best suit their calling patterns. These price plans also serve as atool to maintain our customer base in the fully liberalized market as thosecustomers who select us as the operator for every traffic direction (local,long distance and international) receive the highest discounts. In 2005, weintroduced flat rate price plans that offer free unlimited calls to customersduring a certain period of the day for an additional monthly fee. At the end ofDecember 2005, approximately 70 percent of Magyar Telekom Plc.’s customerschose customized price plans, the most popular of which are the Felező (Halving) price plan with over530,000 subscribers and the flat rate Favorit plan with over 320,000 customers.

*Public Telephones*

Asof December 31, 2005, Magyar Telekom operated 22,112 public payphones. Thecall charges for calls from public payphones are at a premium to those chargedto fixed line subscribers.

***International TelephoneServices***

International telephoneservices consist of outgoing and incoming international calls, including voiceand switched transit traffic through Hungary.

*Products and Services*

We provide internationalcalling access to our fixed line subscribers and to subscribers of other localtelephone operators and mobile service providers. Our Hungary Direct andCountry Direct services permit customers to charge calls made from 50 foreigncountries to their home phone numbers in Hungary.

International toll freeservice was launched in 1998. This service enables the caller to makeinternational calls free of charge to and from 38 countries, while thesubscriber of the toll free number is billed for these calls. Universal international toll free service was launchedin 2003. This service enables the subscriber to be called free of charge from22 foreign countries with the same telephone number.

In June 2000, weintroduced the international prepaid calling card, “Barangoló”, which allowscustomers to make phone calls, including IP-based calls, in approximately 40countries. This service enables customers to make international calls fromtouch-tone payphones in Hungary and abroad.

*Fees and Charges*

The call charge for aninternational call consists of two elements: a call set-up charge and a trafficcharge measured in seconds based on the call’s duration. Although the publishedprices of our international rates did not change in 2005, the average perminute rates decreased as a result of discounts given in various optional priceplans.

*Settlement Arrangements.**  *Under bilateral settlement arrangements, we pay othercarriers for the use of their networks for outgoing international calls andreceive payments from other carriers for the use of our network for incominginternational calls. In Europe, such settlement arrangements fall under thegeneral auspices of the International Telecommunications Union. Settlementpayments are generally denominated in Special Drawing Rights (“SDR”), based ona currency basket in which U.S. dollars have the greatest weight. Due to thelarge exchange rate fluctuations of the SDR caused by the recent volatility 

20

----

of the U.S. dollar,we started to shift our accounting rate agreements to euro-based arrangements.Most new international carrier partners prefer to use the euro as a settlementcurrency.

*International Telecommunications Hub*

We believe that Hungary isgeographically well positioned to serve as a telecommunications gateway betweenEastern and Western Europe. We have two state-of-the-art international gatewaysas well as fiber optic cable connections serving 12 border crossings. Thesefiber optic cable connections use synchronous digital hierarchy transmissionfacilities. We have X.25 links, which are used for packet switched datatransmission with 83 international networks. We also have ISDN connections withmore than 50 international networks. To increase the utilization of ourtransmission network, we offer attractive price schedules for dedicated transitservices through Hungary. We have launched our own Dense Wavelength-DivisionMultiplexing (“DWDM”) backbone network and are DT’s partner in Delivery ofAdvanced Network Technology to Europe (“DANTE”), which provides 10 Gbit/stransmission path interconnecting Budapest and Vienna and connection to theEuropean research and educational network, GEANT.

To seize the opportunitiespresented by the liberalization of the telecommunications market in Romania, weestablished interconnection arrangements with major Romanian alternativeservice operators and network service providers to offer transit services toWestern Europe. In addition, we use our own point of presence in Austria, whichenables us to engage in telephone and Internet business with alternativetelecommunications carriers located in Vienna. We are present at the Vienna InternetExchange (with a dedicated circuit for Internet data exchange) and have peeringarrangements with approximately 60 Internet Service Providers (“ISPs”) there.We have direct Internet peering connections with Serbia and Slovakia andprovide high-capacity international Internet transit service to ISPs inUkraine, Bosnia-Herzegovina and Macedonia.

***Leased Lines***

We are the principalprovider of leased lines in Hungary.

Leased line serviceestablishes a permanent connection for transmission of voice and data trafficbetween two geographically separate points (point-to-point connection) orbetween a point and several other points (point-to-multipoint connection).These points can be either all within Hungary or some in Hungary and othersabroad.

We lease lines to otherlocal telephone operators and mobile service providers, who use such lines aspart of their networks. We also lease lines to providers of data services. Inaddition, we lease lines to multi-site business customers who use leasedlines to transmit internal voice and data traffic.

We offer a broad varietyof standard analog and digital lines for lease, including two-wire and four-wireanalog lines and digital lines with capacities from 64 Kbit/s to 155 Mbit/s. Wealso offer high capacity customized digital lines to other telecommunicationsproviders.

*Flex-Com.**  *Since 1996, we have offered Flex-Com, domestic andinternational digital leased lines with managed back-up systems that arededicated to data transmission. The number of Flex-Com connections decreasedfrom 10,939 as of December 31, 2004 to 10,289 lines as of December 31,2005. However, during the same period the aggregate sum of the bandwidths ofthe connections has increased by 14.6 percent from 3.02 Gbit/s to 3.46 Gbit/s,which led to higher revenues.

*Frame-Flex.**  *We also use our managed leased line network to offerFrame-Flex, a public frame relay service that is particularly suited tocustomers who transmit data in bursts, such as connections between local areanetworks. In 2000, we introduced LANConnect, a frame relay-based managed routerservice. LANConnect is primarily targeted at small- and medium-size enterprisesallowing them to seamlessly interconnect their Local Area Networks (“LANs”). Asof December 31, 2005, we had 344 Frame-Flex connections.

21

----

*HighSpeed Leased Line (“HSLL”).*   The HSLL serviceprovides permanent, digital, transparent, point-to-point leased line servicebetween service access points (“SAPs”). The connections are established by aservice provider according to the needs of its customers. Transmission ratesprovided by the HSLL service are 2, 34, 45, 140 and 155 Mbit/s. We increasedour HSLL connections from 930 at December 31, 2004 to 1,355 by December 31,2005.

As an addition to the High Speed Leased Lineportfolio, we introduced a Wavelength Division Multiplexing (“WDM”)technology-based premium service, Gigalink, which provides leased line serviceat a higher speed (622 Mbit/s) to business customers and to other serviceproviders. In 2004, we expanded the speed of Gigalink from 2.5 Gbit/s to 10Gbit/s for the Campus backbone network (a link between universities andacademic institutions).

Our leased line customerspay a one-time connection fee based on the type of line leased. Monthlysubscription charges vary with the type and length of lines leased and, in somecases, with the term of the lease. With the exception of leased lines requiredfor connection with other networks, leased line charges are not subject toregulation. As part of the overall rebalancing of our rates, we have reducedour leased line charges in real terms over the last few years in response tocompetition, which partly offset the revenue increase generated by volume andbandwidth increases of the leased line services.

***Data Transmission and Related Services***

Data transmission and related services consistprimarily of data transmission and network services for business customers,such as financial institutions and insurance companies, and, to a lesserextent, residential customers. The market for data transmission and relatedservices in Hungary is highly competitive. We are the leading supplier of datatransmission and related services in Hungary.

Our revenues from data transmission have grownsignificantly as a result of both the development of the Hungarian economy andour increasingly sophisticated services. We expect the market for theseservices to grow with the proliferation of personal computers and increasingconsumer demand. We believe that the ability to offer new data products andservices will be critical to competing effectively in the future, particularlywith respect to business customers.

*Internet.**  *T-Online Hungary, our fully-owned ISP subsidiary,offers Internet services based on dial-up, ADSL technology as well asaccess through cable television, wireless LAN (“WLAN”) and leased lines toprovide residential and business customers with narrowband or broadbandInternet services at affordable prices.

In 2005, T-Online Hungary increased its subscriberbase by 23.5 percent to 328,535. T-Online Hungary is the largest Internetservice provider in Hungary with an estimated 42 percent market share based onthe number of dial-up subscribers. The number of T-Online Hungary’s broadband(ADSL, cable television, WLAN and leased line) customers reached 247,597 as of December 31,2005 compared to 154,382 a year earlier.

In 2005, the number of Internet users increasedsignificantly. Internet penetration rate among the population aged 14 and abovereached 33 percent in 2005 compared to 26 percent in 2004. By the end of 2005,19 percent of Hungarian households were connected to the Internet compared to15 percent at the end of 2004. T-Online Hungary is committed to acceleratingInternet penetration growth and has invested a significant amount of resourcesto develop attractive and innovative content and value added services, such as[origo] Téka video-on-demand, Zeneáruház (music download), T-Online InternetSecurity and Klip, our Voice-over Internet (“VoIN”) service.

In October 2005,T-Online and Magyar Telekom Plc. introduced a co-branded VoIP service, Klip.Within the first month of operation, approximately 10,000 users registered forthis service.

22

----

T-Online began developingan innovative Internet Protocol-based TV (“IPTV”) over Digital Subscriber Line(“DSL”) product in 2005. This new product line will have a great impact onHungarian viewers’ habits, with pushing passive TV-watching towards interactivecontent. We believe that the new services will help us better compete againstCable Television (“CATV”) operators, which are able to offer “triple-play” packagesof broadband Internet access, cable television and fixed line telephoneservices, based on a single access platform.

T-Online’s portal, [origo]held its leading position. The daily average number of visitors reached 666,000in December 2005, representing a 42 percent increase from December 2004.

*Datex-P.**  *We offer Datex-P, a packet-switched data transmissionservice based on the X.25 protocol. The service provides low to medium speeddomestic switched data communications services with international connectivityto business customers. As a result of the proliferation of new technologies,growth in the number of subscribers has stopped. Between 2003 and 2005, ourmajor objectives were to extend the lifecycle of the product, maintain profitability,optimize the network and reduce costs. In 2005, we assessed and commencedmigration of customers to other data transmission services. Full servicewithdrawal is planned for 2008-2009.

*rEDInet.**  *This service allows editing of business documentselectronically, quickly, accurately, remotely and with full security. Thetechnology behind the Electronic Data Interchange (“EDI”) service is usedworldwide. We also provide professional training and consultation services tothe users of our rEDInet service. The rEDInet covers more than 80 percent ofthe traditional EDI market in the Fast Moving Consumer Goods (“FMCG”) sector.In recent years the growth of the traditional EDI market has slowed in terms ofnew participants, but the number and type of transferred messages are growing.Further growth opportunities may appear with introduction of e-invoicesolutions and Internet-based services with lower costs. The Internet-basedsolution allows customers of the Small Office/Home Office (“SOHO”) and Smalland Medium size Enterprises (“SME”) segment without IT background to become amember of the electronic trading community. For our large customers and otherservice providers we introduced Virtual Private Network (“VPN”) access viaInternet.

*Magyar Telekom ADSL.**  *ADSL is a continuous, high-speed Internet accessservice based on the Asymmetric DSL technology. The service offers costefficient broadband Internet access together with telephone service overexisting copper wires. We sell these services mainly on a wholesale basis toISPs, which in turn resell the services to residential and small businesscustomers. The service has been available in certain parts of Budapest since September 1,2000. In 2005, this service saw a significant growth with the number of ADSLconnections reaching 329,314 by December 31, 2005 from 205,886 at December 31,2004.

In 2005, we implemented amajor infrastructure expansion project to accomplish our Internet market goals.A large amount of investment was used for the roll-out of broadband Internet.As a result of these steps, over 450 additional settlements were connected tothe service in 2005.

To better satisfy customerdemand, we increased the maximum download speed of our ADSL connections at noextra charge in May 2005. As a result, the maximum download bit-rate wasincreased by one third for the least expensive price plan and doubled for allother price plans at the same prices, terms and conditions. The higher bandwidth contributes to thefaster roll-out of ADSL and also encourages customers to download enrichedbroadband content. We also introduced a new low-end bandwidth to provideentry-level ADSL with a favorable monthly subscription fee.

*Volume-dependent ADSL.**  *On February 1, 2005, we introduced a newwholesale ADSL billing concept, the volume-based billing. Our ISP partners cannow choose between flat rate billing and volume-based billing. In case ofvolume-based billing the monthly fee of the wholesale ADSL consists of accessfee and traffic charges, based on the volume of the ADSL user traffic. This newpricing structure enable the ISP partners to offer a much wider choice ofservices better suited to the end users’ requirements.

23

----

*Do-it-yourself ADSL.**  *On August 20, 2005, we introduced a newwholesale ADSL product, the Do-it-yourself ADSL (ADSL without end-userdevices). The Do-it-yourself ADSL does not contain modem and on- siteinstallation and these parts are supplied separately. With Do-it-yourself ADSL,we reduce installation time, costs and also lower the ADSL price level.

*Magyar Telekom HotSpot.**  *Magyar Telekom HotSpot is a wireless broadbandInternet solution, based on the WiFi technology for public sites (i.e., hotels,conference centers and restaurants). The HotSpot payment methods include T-ComHotSpot cards, which are available in four levels of access time (0.5-hour,1-hour, 5-hour and 24-hour). The T-Com HotSpot service isalso available for T-Online Internet access subscribers, for whom the usage feeis paid through T-Online’s Internet access monthly bill. Customers with a validT-Mobile HotSpot access identification may also use the T-Com HotSpot service.The HotSpot service is also available online by bank card payment. At the endof 2005, there were 207 public HotSpot sites in operation (68 hotels, 17T-Ponts and 122 others).

*Magyar Telekom DataLink.*   In2004, we launched a new data transmission product that offers technologyindependent data transmission between business customers’ locations. Thecustomer only needs to define three main parameters, bandwidth, Service LevelAgreement (“SLA”) and interface. This service provides data connection below 2Mbit/s, with X.21 or Ethernet interfaces. With the introduction of this service,we can better utilize our spare data transmission capacity. In 2005, wesignificantly increased the number of endpoints as a result of two campaigns.

*IP Connect.**  *IP Connect service, a complete solution for ISPsproviding transport and access facilities to IP traffic, includes the provisionof ports in the service area, required for the subscribers of ISPs to dial-infrom analog or ISDN lines. The service also enables leased line access, andensures that traffic will be forwarded to both domestic and internationalswitches as well as to the domestic switch of a particular ISP. The domesticswitch of the ISP is connected to our IP network via a leased line. To maintainour market share and competitive position, a new product offering, calledSymmetrical Internet was introduced in 2003, which includes access andIP/Internet service. After the introduction of this new service, many of ourcustomers switched from IP Connect to Symmetrical Internet.

*IP Complex Plus.*   IPComplex Plus is an IP-based Virtual Private Network (“IP-VPN”) service.**IP Complex Plus service is offered to retail and wholesalecustomers having multiple remote sites. This service enables them to establishsecure data traffic between sites without the need of setting up “point-to-point”connections between two sites. The development of supplementary services, suchas ISDN back-up, integrated voice/data, ADSL/Single-Pair High-Speed DigitalSubscriber Line (“SHDSL”) access and dial-up access to IP-VPNs make thisproduct more attractive to a growing number of business customers. In 2004,monthly and online report services were introduced to allow users to check theservice quality. In October 2005, we launched new option to our integratedvoice/data product. In addition to the current function, we provide value-addedIntegrated voice/data service. Using this service, customers can transmit thevoice and data traffic between their premises through the same connection,independently from the public telephone networks and they can establish callsto the Public Services Telephone Network as well.

*MultiLAN.**  *Our system integration services are designedprimarily for business customers with separately located branch offices. Theyinclude the installation of LANs at customer premises and the provision of WideArea Network (“WAN”) services. We provide integrated network management, faultclearance and customer support for the LAN and WAN segments.

*Magyar Telekom Háttértár.*   MagyarTelekom Háttértár, launched in October 2004, allows users to automaticallyback-up files on their personal computers (“PCs”) on our background server. Ifcustomer’s PC crashes and the content of the hard disk cannot be recovered, theback-up files on our server can be accessed.

*International dataproducts.*   We provide signaling links for mobileoperators to facilitate international roaming. We also sell internationalleased lines, including international managed leased lines, 

24

----

international ISDN,X.400, X.25 and telegraph services. The sales of international leased lines aresteadily growing, partly due to the introduction of one-stop-shoppingagreements, whereby customers can order from and pay for the service at oneend-point of the connection, which eliminate the need to deal with multipleservice providers. International Internet connectivity was enhanced in 2004 toprovide services for Internet service providers. By the end of 2004, thecapacity of international Internet connections reached 3 Gbit/s.

***Fixed LineTelecommunications Equipment Sales***

We distribute an extensiverange of telecommunications equipment, from individual telephone sets tofacsimile terminals, PBXs and complete network systems, through a network ofcustomer service centers. In addition to stand-alone telephone-set sales, weoffer various packages combining telephone sets with telephone lines and priceplans.

We do not manufacturetelecommunications equipment but resell and lease equipment manufactured byother companies.

The telecommunicationsequipment sector is highly competitive and characterized by rapid technologicalinnovation. We believe that the supply and service of telecommunicationsequipment are integral element of full service telecommunications provider andare necessary for the expansion of our customer base. In addition, theseactivities allow to ensure that technologically advanced equipment required fornew services is available in Hungary.

***Other Revenues***

Other revenues includecable television, construction and maintenance services and other miscellaneousrevenues.

Our CATV group consists oftwo entities providing various cable television services in Hungary. The largerentity is T-Kábel Hungary, which began providing cable television services on January 1,1999.

Through networkdevelopment and acquisitions, our CATV group significantly increased its numberof cable television customers during the past five years. The CATV group hadapproximately 404,000 subscribers as of December 31, 2005 compared to384,000 a year earlier. Our CATV group is the second largest cable televisionprovider in Hungary.

T-Kábel Hungary offers 44television and radio channels in three program packages in its network. During2005, T-Kábel Hungary launched a new VoIP service (Kábeltel) in a limitedservice area and had approximately 13,000 subscribers as of December 31,2005. At the end of 2005, T-Kábel Hungary also launched digital CATV packagesin Budapest. Where the networks allow, our CATV firms—in cooperation with ISPs—offerbroadband Internet services. In most cases, CATV firms provide a networkservice for ISPs. The number of Internet subscribers through our cabletelevision network was approximately 29,000 on December 31, 2005. T-KábelHungary’s cable television activities benefit from our long-term relationshipwith the customers, our thorough market knowledge as well as our strong brandname. Our main goals in this area are to increase market share through furtheracquisitions, connect new customers in the existing service areas, improve thequality of network and increase Average Revenue per User (“ARPU”).

In 2002, we introduced theAudiofix (Drop Charge) product, which is an Intelligent Network (“IN”) premiumrate service enabling content providers to offer content services for fixedcall rates. The product is mainly used in the media’s call-in programs. Theproduct has been very successful due to the introduction of reality shows andother interactive programs on Hungarian television channels.

We construct fixed line telecommunications networksand offer network maintenance services to other telecommunications operators inHungary. These construction and maintenance services are ancillary to theconstruction and maintenance of our networks.

25

----

Magyar RTL Televízió ZRt. (“M-RTL”) is a Hungariantelevision broadcast company, in which Magyar Telekom has a 25 percentinterest. M-RTL is entitled to provide commercial television programs but notto engage in broadcast diffusion or distribution activities. M-RTL has aconcession for a period of ten years with an option for a five-year extension.The Program Provision Agreement was signed on July 9, 1997, being thestarting date of the license. On July 20, 2005, M-RTL has extended thelicense for an additional five years which will be effective from July 10,2007. M-RTL operates a channel under a brand name, RTL KLUB.

Since its launch in 1997, RTL KLUB has rapidlyestablished a strong position in Hungary’s television market, being the marketleader for the last five years. Market share among the targeted age 18-49audience remained stable, 31 percent in 2005 compared to 32 percent in 2004 forthe whole day and 37 percent in both years for the prime-time (between 7and 11 p.m.). M-RTL has successfully converted its leading audience resultinto television advertising market share.

RTL KLUB seeks to maintainand increase audience share through investing in local productions, as well assuccessful internationally licensed programs, and through its continuedlong-term relationships with major film distributors, including WarnerBrothers, Fox, Buena Vista and Columbia. M-RTL is strategically concentratingon sport events, such as Formula One races, Paris-Dakar rally, National Leagueand National Team football matches and boxing.

**International FixedLine Operations**

***Macedonian Fixed Line Operations***

We fully own a Macedonian holding company,Stonebridge, which owns a 51 percent interest in Maktel. Magyar Telekom hascommenced a liquidation procedure of Stonebridge in accordance with therelevant Macedonian laws. Once the process is complete, Magyar Telekom willdirectly own its shares in Maktel, thus simplifying the ownership structure.

Maktel is the primaryfixed line service provider in Macedonia. Its exclusive rights in fixed linetelecommunications services expired in December 2004. These exclusiverights included local, national and international long distance publictelephone services, VoIP services, leased line services and building andoperating public telephone network services.

*Subscribers*

Thefollowing table sets forth information regarding the total fixed access linesand penetration rates of Maktel:

| ** **                                                              | ** ** | **At December 31,** | ** ** |
|-------------------------------------------------------------------------|------------|-------------------------------|------------|
| ** **                                                              | ** ** | **2003**                      | ** ** | **2004** | ** ** | **2005** | ** ** |
| Number of fixed  lines                                                  |       |                          |       |   |   |   |   |
| Residential lines                                                       |       | 524,632                       |       | 524,722 |   | 467,559 |   |
| Business lines                                                          |       | 57,353                        |       | 56,329 |   | 48,252 |   |
| Public payphones                                                        |       | 2,729                         |       | 2,725 |   | 2,063 |   |
| Total                                                                   |       | 584,714                       |       | 583,776 |   | 517,874 |   |
| ISDN channels                                                           |       | 34,522                        |       | 42,082 |   | 41,262 |   |
| Total                                                                   |       | 619,236                       |       | 625,858 |   | 559,136 |   |
| Lines installed per 100 residents in the service  areas of Maktel       |       | 29.0                          |       | 29.0 |   | 26.0 |   |
| Digital exchange  capacity as% of Maktel’s total exchange capacity |       | 100                           |       | 100 |   | 100 |   |

 

26

----

Maktel has an 81 percent market share in theMacedonian Internet market. The number of Internet subscribers and the timethey spend on the Internet are gradually increasing. Maktel provides Internetaccess via the public switched telephone network, leased lines and ADSL. By theend of 2005, Maktel had 91,865 Internet customers, including 7,798 ADSLconnections.

Historically, Maktel, likegovernment-owned operators in other countries, maintained relatively lowdomestic charges and high rates for international calls. Since November 1999,however, Maktel has been gradually rebalancing its rates. International ratesare expected to decrease further, bringing them in line with the EU standards.Local rates and basic access charges are expected to increase.

***Montenegrin Fixed Line Operations***

Following a successful privatization tender, between March andMay 2005, Magyar Telekom obtained a 76.53 percent interest in CrnogorskiTelekom.

For details on the Crnogorski Telekom acquisition, see“Item 10—Material contracts”.

Crnogorski Telekom is the principal fixed line serviceprovider in Montenegro. Its exclusive rights in fixed line telecommunicationsservices expired in December 2003. Crnogorski Telekom provides local,national and international services, in addition to a wide range oftelecommunications services involving leased line circuits, data networks,telex and telegraph services.

For the past three years, Crnogorski Telekom’s majoroperational goals were to digitalize the fixed line network and to increase thenumber of subscribers. The digitalization rate reached nearly 100 percent bythe end of 2005.

On June 26, 2006 theShareholders Assembly of Telekom Montenegro approved the proposal of the Boardof Directors to adopt the “T” brand. On September 26, 2006, the fixed lineoperations became T-Com Crna Gora (“T-Com CG”) and the mobile businesschanged its name to T-Mobile Crna Gora (“T-Mobile CG”), while the fixedline parent company and the group was renamed to Crnogorski Telekom.

*Subscribers*

Thefollowing table summarizes key operational information of Crnogorski Telekom:

| ** **                                                                          | ** ** | **At December 31,**                            | ** ** |
|-------------------------------------------------------------------------------------|------------|----------------------------------------------------------|------------|
| ** **                                                                          | ** ** | **    2003    ** | ** ** | **    2004    ** | ** ** | **    2005    ** | ** ** |
| Number of fixed  lines                                                              |       |                                                     |       |   |   |   |   |   |   |   |   |
| Analog lines                                                                        |       |                                                     | n.a.       |   |   |   | n.a. |   |   | 175,122 |   |
| ISDN channels                                                                       |       |                                                     | n.a.       |   |   |   | n.a. |   |   | 18,750 |   |
| Total                                                                               |       |                                                     | n.a.       |   |   |   | n.a. |   |   | 193,872 |   |
| Lines installed per 100 residents in the service  areas of Crnogorski Telekom       |       |                                                     | n.a.       |   |   |   | n.a. |   |   | 31.2 |   |
| Digital exchange  capacity as% of Crnogorski Telekom’s total exchange capacity |       |                                                     | n.a.       |   |   |   | n.a. |   |   | 99.9 |   |

 

Through its wholly-owned subsidiary, Internet CrnaGora, Crnogorski Telekom has a 96 percent market share in the MontenegrinInternet market. Internet Crna Gora, in cooperation with Crnogorski Telekom, isthe sole provider of ADSL in Montenegro. The time spent on Internet shows adynamic increase, while the number of active customers shows a more gradual,but steady growth. Internet access is provided via the public switchedtelephone network, leased lines and ADSL. Crnogorski Telekom group had 26,796active Internet customers by the end of 2005.

27

----

Similarly to other fixed line service providers beforeprivatization, Crnogorski Telekom maintained relatively low domestic chargesand high charges for international calls. In December 2004, CrnogorskiTelekom made the first rebalancing step according to the rebalancing roadmapadopted by the Montenegrin Agency of Telecommunications. International chargesare expected to decrease further while local charges and basic access chargesare expected to increase.

In order to improveefficiency, in June 2005, Crnogorski Telekom offered severance packagesfor employees leaving voluntarily with the goal of reducing Crnogorski Telekomwork force by approximately 250. This program was successfully completedby the year end significantly reducing Crnogorski Telekom’s labor costs.

**MOBILETELECOMMUNICATIONS SERVICES SEGMENT**

Our mobiletelecommunications services generated revenues of HUF 313,028 million in 2005before inter-segment eliminations.

**Hungarian MobileOperations**

We provided mobile telecommunications services inHungary through our wholly-owned subsidiary, TMH (previously: Westel MobilTávközlési Rt., “Westel”) prior to the merger of Magyar Telekom and TMH, whichis described below.

As of December 31, 2005, TMH accounted forestimated 45.0 percent of the total Hungarian mobile market in terms ofsubscribers. The penetration rate of mobile telephone services in Hungaryincreased from 78.5 percent at December 31, 2003 to 92.4 percent at December 31,2005.

On October 6, 2005, in line with the MagyarTelekom’s medium-term strategy announced in 2004, Magyar Telekom’s Board ofDirectors made a proposal for the merger of Magyar Telekom and TMH. On December 20,2005, Magyar Telekom’s Extraordinary General Meeting approved the decision onthe merger of the two companies.

The merger will encourage long-term sustainable valuecreation for Magyar Telekom, especially in areas such as maintaining andimproving the customer base, optimizing efficiency and cost levels and usingthe advantages offered by new innovative technologies. The merger will enableMagyar Telekom to achieve improvements in efficiency, profitability andcash-flow in the coming years. Magyar Telekom will have wider scope to offerits customers joint services and new value added offers, to further integratesales activities and better utilize the joint “T”-brand in marketing andcommunication. Cost efficiency will be further improved through common backoffice solutions and the consolidation of parallel activities. Following thefull implementation of the integration and synergy process, the combined annualfinancial benefit is expected to reach up to several tens of billions forintswithin a few years.

The court registration of the merger took place on February 28,2006. From March 1, 2006, Magyar Telekom is the legal successor of TMH.TMH continues its operations within Magyar Telekom under an independent brandand as an independent business segment.

TMH offers basic Global System for Mobilecommunications (“GSM”) voice telephone services and a number of value addedservices for retail and corporate customers. TMH launched General Packet RadioService (“GPRS”) in 2001, Multimedia Message Service (“MMS”), Video Streaming,Mobilbank and mobile purchase in 2002, Enhanced Data Rates for GSM Evolution (“EDGE”),WhoCalled, WLAN in 2003 and several new value added services, such as KoktélMultimedia Service Packages and Melody in 2004. In 2005, TMH was the firstmobile operator in Hungary to launch 3G and provide high-speed data access andvideo-telephone services to its subscribers. TMH also launched Mobile TV,Mobile JukeBox, Domino SMS Call back request, Push to Talk, Bulk MMS, MobileTerminated SMS and Premium Voice services in 2005.

28

----

In October 2005, the Hungarian governmentselected the consortium of Magyar Telekom Plc. and TMH to build and operate thenation-wide EDR (Hungarian abbreviation for Unified Digital Radio Network)system in Hungary. For this purpose, Magyar Telekom established a newsubsidiary, Professzionális Mobilrádió Zrt. (“Pro-M Zrt.”) in December 2005.

EDR is a 380-400 MHz band nation-wideProfessional Mobile Radio (“PMR”) network used by public safety and securityagencies in Hungary. The main users of EDR are police and fire departments andambulance agencies. The high-quality EDR network replaces the analog radioscurrently used by these agencies.

The consortium was able to offer favorable termsmainly due to its existing radio and fixed line infrastructure, on which theEDR network is based. The EDR service utilizes the Terrestrial Trunked Radio (“TETRA”)technology, which is a global standard for Public Safety and Security mobileradio communication, defined and approved by the European TelecommunicationsStandards Institute (“ETSI”) as the official European Standard for digitalProfessional Mobile Radio.

The roll-out of EDR has started in 2006. Under theterms of the agreement the government will pay us annual payments of HUF 9.3billion starting 2007 for nine years.

In 2005, TMHcontinued to enhance its non-voice service portfolio, introduced several newproducts, increased the penetration and usage of the existing products andextended the access of some of its domestic products abroad:

·       Internationalroaming service was available for TMH subscribers on 358 networks in 158countries as of December 31, 2005, of which 109 networks in 54 countrieswere available for prepaid customers and 114 GPRS networks in 55 countries forpostpaid customers.

·       Inline with the increase in the number of MMS-capable handsets in the market, TMHexperienced a strong boost in MMS penetration and traffic. The number of mobile-originatedMMSs in 2005 was two times the amount in 2004. In 2005, TMH’s customer couldsend and receive MMSs to and from numerous European countries.

·       In2005, TMH restructured its data service portfolio, the scale of which now spansfrom Wireless Application Protocol (“WAP”) Start (users pay only traffic fee)through service packages with daily or monthly fee with bundled traffic toNET1000 (1,000 Mbyte WAP or Net traffic included in monthly fee). TMH hasreached 14.4 percent of its postpaid customer base with data service andexpects further increase in data penetration and traffic.

·       In2005, TMH entered the broadband Internet market. In addition to launching thefirst 3G service in Hungary, it significantly increased the number of WLANHotSpots. By the end of 2005, the international WLAN roaming service in severalEuropean countries became available for TMH’s subscribers.

·       TMHwidened its digital contents on t-zones WAP and web portal and introduced a new3G portal. TMH’s t-zones WAP portal offers news, chat and other downloadablecontent (e.g., logos, ring-tones, Java games). The popularity of thisportal grew continuously during 2005 and the daily average number of visitorsreached 45,000 to 50,000. THM’s special t-zones portal for 3G customers containsmainly multimedia contents, such as on-line streaming, music and trafficmonitors.

·       Premium-rateSMS and the newly introduced premium voice traffic were substantial in 2005.TMH is able to provide premium rate services—voice and SMS—on the same number,which is a competitive advantage in this field.

·       InDecember 2005, TMH improved the “Melody” service with several new featuresincluding special occasions, random playlists and advanced time-based Fun Dial.

29

----

·       In2005, TMH significantly widened the range of products that can be purchased byWAP or SMS. Using mobile purchase service, customers can buy various productsand services offered by TMH and third-party vendors. We expect to see stronggrowth in sales of products such as cinema tickets, parking tickets, lotteryand travel insurance. Mobile purchase has a great potential for further growth.

·       In2005, TMH introduced its own branded credit card in cooperation with BudapestBank.

·       Forcorporate customers TMH offers a full range of telecommunication solutions. Themost important new services launched in 2005 for corporate clients were Push toTalk, Blackberry Enterprise, Blackberry Instant Email and Connect and Bulk MMS.

·       Electronictop-up services are available at many Automatic Teller Machines (“ATMs”),petrol stations, Internet-banks, Telebanks and Mobilbank. In 2005, the numberof electronic top-up outlets increased significantly. The share of electronictop-up significantly increased, reaching 50 percent by the end of 2005.

*Subscribers.  **The number of TMH subscribers has beengrowing over the past three years. The table below sets forth informationconcerning the number of TMH subscribers at the dates indicated:*

| ** **                                                       | ** ** | **At December 31,** | ** ** |
|------------------------------------------------------------------|------------|-------------------------------|------------|
| ** **                                                       | ** ** | **2003**                      | ** ** | **2004** | ** ** | **2005** | ** ** |
| Number of subscribers                                            |       |                          |       |   |   |   |   |
| Postpaid subscribers                                             |       | 982,460                       |       | 1,163,483 |   | 1,323,814 |   |
| Prepaid subscribers                                              |       | 2,783,814                     |       | 2,868,562 |   | 2,870,041 |   |
| Total subscribers                                                |       | 3,766,274                     |       | 4,032,045 |   | 4,193,855 |   |
| Average monthly Minutes of Use (“MOU”) per  subscriber |       | 114                           |       | 115 |   | 127 |   |
| Churn ratio (%)                                                  |       |                          |       |   |   |   |   |
| Postpaid subscribers                                             |       | 12.0                          |       | 11.9 |   | 10.4 |   |
| Prepaid subscribers                                              |       | 22.5                          |       | 17.4 |   | 22.0 |   |
| Total subscribers                                                |       | 19.8                          |       | 15.9 |   | 18.5 |   |
| Average monthly  Revenue per User in HUF                         |       |                          |       |   |   |   |   |
| Postpaid subscribers                                             |       | 12,806                        |       | 11,828 |   | 11,007 |   |
| Prepaid subscribers                                              |       | 2,684                         |       | 2,380 |   | 2,287 |   |
| Total subscribers                                                |       | 5,261                         |       | 4,945 |   | 4,917 |   |
| Mobile penetration in Hungary (%)                                |       | 78.5                          |       | 86.4 |   | 92.4 |   |
| TMH’s market  share (%)                                     |       | 47.4                          |       | 46.2 |   | 45.0 |   |

 

The increase in the number of TMH subscribers since December 31,2003 is attributable to a number of factors, including reduction in trafficrates. In 2005, the growth rates are lower than previous years, as the marketis slowly reaching a saturation level.

According to NCA, as of December 31, 2005, TMHhad a 45.0 percent market share of the mobile services market in Hungary interms of subscriber base.

*Traffic.**  *TMH’s average traffic per subscriber is comparable toother European countries and was at a blended level of 127 minutes in 2005.Average traffic per subscriber has increased over 2004 partly as a result ofthe overall reduction in rates and the introduction of the new price plans forboth postpaid and prepaid subscribers. In 2005, TMH’s customers sent 640million SMSs compared to 637 million in 2004.

30

----

*Rates.**  *Since January 1998, mobile subscriber rates havebeen deregulated, and carriers have had the freedom to set the level of feecomponents (i.e., connection fee, subscription charge and traffic charges).

TMH charges subscribers a one-time connection fee,monthly subscription charges, event charges and time-based traffic charges.Customers using prepaid cards do not pay monthly subscription charges (exceptfor Domino Aktív customers). TMH does not charge subscribers for incomingcalls, other than calls received while roaming. TMH receives payments fromother telecommunications service providers for terminating calls on itsnetwork. During 2005, mobile service providers developed a number of priceplans. TMH maintained the widest range of price plans and successfully introducedadditional plans in 2005 to acquire new subscribers and develop loyalty.

TMH faced growingprice-based competition in 2005, as a result of the increasing saturation ofthe mobile market. Competitors waged various campaigns, including introductionof new price plans and products, to win over TMH’s subscribers. TMH respondedto the competitors with its own new initiatives across all of the subscribersegments.

**InternationalMobile Operations**

***Macedonian Mobile Operations***

Our Macedonian mobile services provider, T-MobileMacedonia, experienced significant growth in 2005.

T-Mobile Macedonia is the leading mobile operator inMacedonia, dedicated to providing up-to-date technologies and advanced serviceofferings, commensurate to the highest technological and service standard ofthe T-Mobile group.

By the end of 2005, T-Mobile Macedonia expanded itscustomer base from 752,462 at the end of 2004 to 877,142, despite thecompetitive market environment. The principal activities of T-Mobile Macedonia’soperations are digital mobile telephone services based on the GSM technologyand non-voice services such as SMS, MMS and GPRS. T-Mobile Macedonia alsoprovides GSM phase2+ data and facsimile transmission services, mobile Internetand a number of other content services. The Macedonian market is very pricesensitive. We offer various promotions and incentives to encourage use of ourservices.

The number of T-Mobile Macedonia customers has grown significantly over the pastthree years. The table below sets forth information concerning the number of T-MobileMacedonia subscribers at the datesindicated:

| ** **                                    | ** ** | **At December 31,** | ** ** |
|-----------------------------------------------|------------|-------------------------------|------------|
| ** **                                    | ** ** | **2003**                      | ** ** | **2004** | ** ** | **2005** | ** ** |
| Number of  subscribers                        |       |                          |       |   |   |   |   |
| Postpaid subscribers                          |       | 98,923                        |       | 118,862 |   | 139,367 |   |
| Prepaid subscribers                           |       | 424,741                       |       | 633,600 |   | 737,775 |   |
| Total subscribers                             |       | 523,664                       |       | 752,462 |   | 877,142 |   |
| Average monthly Minutes of Use per subscriber |       | 84                            |       | 66 |   | 63 |   |
| Average monthly Revenue per User in HUF       |       | 5,264                         |       | 3,804 |   | 3,065 |   |
| Mobile penetration in Macedonia (%)           |       | 29.4                          |       | 48.1 |   | 61.3 |   |
| T-Mobile  Macedonia’s market share (%)   |       | 86.1                          |       | 76.3 |   | 69.2 |   |

 

The increase in the number of T-MobileMacedonia subscribers in the lastthree years is attributable to a number of factors, including reductions inhandset prices and call charges in real terms, successful marketing campaignsand the introduction of installment purchase plans.

31

----

As of December 31, 2005, T-MobileMacedonia had a 69.2 percent marketshare in the Macedonian mobile telecommunications market in terms ofsubscribers. The mobile penetration rate grew significantly, from 48 percent atthe end of 2004 to 61 percent at the end of 2005.

T-Mobile Macedonia’s business is affected by seasonal factors, witha general increase in roaming revenues during the third calendar quarter ofeach year due to the summer holidays and increased sales of products andservices during the fourth quarter due to Christmas purchases.

On February 28,2006 the Shareholders Assembly of Mobimak approved the rebranding of Mobimak toT-Mobile Macedonia AD Skopje. The rebranding was completed in September 2006.

***Montenegrin Mobile Operations***

Our Montenegrin mobile services provider, T-MobileCrna Gora, experienced significant growth in 2005.

T-Mobile Crna Gora is the second largest mobileoperator in Montenegro in terms of number of subscribers. Since its inceptionin 2000, it has dedicated itself to offering innovative and advanced servicesto the Montenegrin market and has been experiencing dynamic growth.

The main activities of T-Mobile Crna Gora’s operationsare digital mobile telephone services based on the GSM technology and non-voiceservices such SMS, MMS and GPRS. T-Mobile Crna Gora actively employs variouspromotions and incentives to encourage use of its services. In 2005, T-MobileCrna Gora made significant investments in its network and core systems to ensuresufficient capacity as well as to extend its service portfolio. In addition toa variety of service packages, T-Mobile Crna Gora offers WAP, MMS, content SMS andpremium-rate SMS services. After the commercial introduction of GPRS in 2004, T-MobileCrna Gora continued the expansion of its services by launching EDGE in 2005.

Thetable below summarizes the key operational statistical figures of T-Mobile CrnaGora:

| ** **                                    | ** ** | **At December 31,** | ** ** |
|-----------------------------------------------|------------|-------------------------------|------------|
| ** **                                    | ** ** | **2003**                      | ** ** | **2004** | ** ** | **2005** | ** ** |
| Number of  subscribers                        |       |                          |       |   |   |   |   |   |   |   |   |
| Postpaid subscribers                          |       |                          | n.a.       |   |   |   | n.a. |   |   | 31,212 |   |
| Prepaid subscribers                           |       |                          | n.a.       |   |   |   | n.a. |   |   | 176,882 |   |
| Total subscribers                             |       |                          | n.a.       |   |   |   | n.a. |   |   | 208,094 |   |
| Average monthly Minutes of Use per subscriber |       |                          | n.a.       |   |   |   | n.a. |   |   | 127 |   |
| Average monthly Revenue per User in HUF       |       |                          | n.a.       |   |   |   | n.a. |   |   | 3,745 |   |
| Mobile penetration in Montenegro (%)          |       |                          | n.a.       |   |   |   | n.a. |   |   | 78.6 |   |
| T-Mobile Crna  Gora’s market share (%)   |       |                          | n.a.       |   |   |   | n.a. |   |   | 42.7 |   |

 

T-Mobile Crna Gora’s operations, customer base and revenues aresignificantly affected by seasonal factors. In summer there is a significantsubscriber and revenue growth attributable to tourists who visit theMontenegrin seaside. In 2005, the penetration level in the summer seasonreached almost 100 percent, as many tourists purchased prepaid cards. However,these seasonal subscribers churn out in the fourth quarter.

On September 26,2006, Monet changed its name to T-Mobile Crna Gora (“T-Mobile CG”).

32

----

**MARKETING ANDDISTRIBUTION**

**Hungarian FixedLine Operations**

In 2005, the rebranding of Matáv to Magyar Telekom wasthe most important marketing event. Our residential fixed line business nowoperates under the name “T-Com”. During the rebranding process, many serviceswere renamed, and new products and new price plans were introduced.

Our fixed linemarketing strategy is based on four key objectives:

·       Strengtheningthe role of the fixed line service;

·       Reducingchurn;

·       Boosting broadbandpenetration; and

·       Developing a new image offixed line service by offering customized solutions for each segment andidentifying business development alternatives.

*Strengthening therole of the fixed line service*

In 2005, competition from our fixed line competitorsbecame more intense due to regulatory changes, the increased usage ofcall-by-call and pre-selection services, the launch of triple-play services aswell as the decrease in interconnection fees. Customers have access to servicesof other service providers either by signing a separate service contract withthem for a predefined call-direction (pre-selection) or by dialing an access numberbefore each call (call-by-call). With the launch of several optional priceplans, we are paying increasing attention to market-based product enhancementthat requires less capital investment and leads to more customer satisfactionthan technology-focused product innovation. Based on our analytical marketingtools, we have redesigned our price plans to match the calling patterns ofvarious customer segments to reinforce the concept that the mobile telephone isnot a substitute, but a complement to the fixed line. In 2005, we introducedflat rate price plans to increase usage. Our flat rate price plans, Favorit andFavorit Plus, became our most popular plans with over 320,000 subscribers as ofDecember 31, 2005. In addition to increasing usage, our new Favoritcustomers also helped us to reduce churn.

For our large businesscustomers, we take a case by case approach, matching specific needs of majorclients with tailor-made price plans. In 2005, we introduced a flat rate planoffering unlimited calls within the fixed line network of Magyar Telekom andlimited usage towards other networks. With the help of targeted offers, we aimto retain or even increase business customers’ traffic in our fixed linenetwork.

*Reducing churn*

PSTN churn is generated by a) customers’ requests, b)lines terminated due to non-payment and c) ISDN service orders. As broadbandaccess services (e.g., ADSL) have become increasingly prevalent in recent yearsand customers become more aware of its availability, migration to ISDN sloweddown from the level observed in 2000. The number of service terminations in2005 increased due to the more intense competition.

We introduced various marketing tools to keep ourexisting customers. We launched the Sleeping Line status for customers consideringchurn. When customers notify us about their intention to give back their PSTNlines, we try to persuade them to keep those lines in an inactive status.During a three-month period, customers can receive incoming calls and caninitiate emergency calls. After this period, many of our customers requestre-activation of their lines. Another tool to keep our existing customers isthe free top-up on mobile prepaid cards. Customers who sign on a 12-monthloyalty contract for their fixed line with Magyar Telekom can receive a top-upof HUF 2,000 each quarter for any TMH prepaid card they designate.

33

----

In October 2005, our fixedline and Internet businesses launched a joint loyalty program, PoP. T-Com andT-Online customers who register for this program can collect points which canbe redeemed for discounts and various products, including music and filmdownloads.

We also conduct surveys oncustomer satisfaction. In addition, our CRM system that was put into operationin 2004 helps us improve our customer service.

*Boosting broadbandpenetration*

We consider the promotion of Internet usage in Hungaryone of our priorities now and in the near future. Our main objectives are toestablish and spread a more developed Internet culture, to fostercommunication, to propagate rich offerings of the Internet and to reach andsupport customer segments with a lower level of disposable income.

Magyar Telekom Open Internet is our free dial-upInternet service, which gives additional value to the fixed line and hassuccessfully stimulated fixed line usage.

Magyar Telekom Plc. and T-Online Hungary areorganizing a free Internet Training Program as part of the “MindentudásEgyeteme” (Omniscience University), which is sponsored by us and is the mostpopular scientific forum in Hungary.

The broadband access market is growing dynamically inHungary. We are the largest service provider in this market. Within our servicearea, the dominant technology is currently ADSL. We sell ADSL products mainlyon a wholesale basis. In the broadband markets other types of broadband accessare not very significant at the moment, although cable modem service offered bycable television service providers is becoming increasingly competitive.

We had approximately330,000 ADSL lines at the end of 2005 as compared to approximately 206,000lines at the end of 2004.

*Developing a new image of fixed line telephone byoffering customized solutions for each segment and identifying businessdevelopment alternatives*

*Segmentation of ourresidential fixed line business (“T-Com”).*   Inaddition to the residential segment, T-Com also serves small business customersegments. For these segments, targeted, cost effective product developments andcommunication methods have been implemented. In 2005, several segment specificprograms were launched or continued from 2004:

·       Wepre-installed telephone lines in selected new residential developments;

·       Weintroduced services for customers having access to other telephone operators.Pre-selection services “Teleperc Partner” and “V8 Partner” were introduced forresidential and business customers, respectively. In addition, “Teleperc”call-by-call service was introduced for residential customers.

·       Favoritand Favorit Plusz price plans were main drivers of usage in 2005; and

·       Forbusiness customers, “T-DSL Profi V8” and “Ritmus” price plans were introduced.

*Segmentationof our corporate fixed line business (“T-Systems”).*   Thecorporate customer base served by T-Systems comprises large and medium sizecorporate customers.

In 2005, the corporate telephone market served byT-Systems experienced significant challenges due to the stronger competitionfrom mobile telecommunications service providers and the accelerateddevelopment of the IP technology. Corporate customers are seeking ways tominimize their 

34

----

telecommunicationsspending. Intensified demand for integrated offers has developed and we plan toleverage our position as the sole integrated provider to benefit from thistrend.

T-Systems also intends to exploit LAN businessopportunities that can preserve both voice and data traffic revenues. Webelieve that providing a high quality solution with knowledgeable sales people,who can communicate the value of our products and services to our customers, iscritical to attracting and retaining customers. Therefore, in addition tosimplifying its sales channels, T-Systems has re-segmented them based on annualrevenue and public sector criteria.

T-Systems sells its products and resells certainthird-party products directly to customers through dedicated account managers.We also invested in various programs to enhance the marketing skills of accountmanagers.

By strengthening the customer service department,T-Systems has also significantly and effectively expanded its points of sales.

With simplified and extendedsales channels, T-Systems can more effectively exploit new businessopportunities and retain its customer base.

***Our presence in the service areas of other LTOs***

Since the liberalization of the Hungariantelecommunications market, customers can freely choose their telecommunicationsservices provider. There are two types of carrier selection: pre-selection andcall-by-call. In Hungary, carrier pre-selection is widely used by thecorporate segment.

To provide competitive service offerings, we increasedour presence in areas originally serviced by other LTOs such as Invitel,Hungarotel, HTCC and Monortel. We offer voice, data and value added serviceswith fixed line or wireless access in former LTO areas.

In addition to buildingour own network, we lease other carriers’ network capacities in the form ofunbundled local loops.

***Distribution***

T-Com has seven retail sales channels to ensure totalmarket coverage for our over two million residential and business customers.

The nationwide sales network with approximately 350agents and over 80 value added resellers serves as a basis for proactive salesof the product and service portfolio of Magyar Telekom Plc. and our ISPsubsidiary, T-Online Hungary, in the residential and Small and MediumEnterprises (“SME”) markets. Our dealer network also provides tailor-madeservices and can offer complete telecommunications solutions (e.g., voice,data, PBX, router) to business customers. In 2005, the indirect sales channelsachieved remarkable results in data communications products and services (DSL,Flex-com, IP) sales.

The T-Pont retail network reaches all Magyar Telekomareas in Hungary. During the rebranding project, the entire T-Pont retailnetwork was successfully rebranded according to the DT’s T-Punkt model.

We also operate customer contact points in the LTOareas. In this key retail network, all of our services are available, includingvarious types of T-Online Hungary Internet access, TMH mobile prepaid productsand cable TV services of T-Kábel Hungary.

Magyar Telekom Plc. served about one million customersin 2005 through its retail stores. We also have 80 T-Pont Franchise Networkstores that facilitate retail distribution. TeleSales activity increased in2005 and has played a key role in the sales of several price plans. ThroughTeleSales activity we could reach more than 1.6 million clients. The Internetstore of Magyar Telekom, ePont, showed remarkable results as the number ofvisitors doubled in 2005.

35

----

In 2005, T-Systems placedits focus on large corporate customers that can be handled effectively only bypersonal account management. To focus our effort on these customers, in March 2005,T-Systems transferred about 2,000 of its customers to T-Com’s accounts. Theremaining 3,200 customers are segmented into three major groups: StrategicPartners, Key Account Partners (sub-segmented by industries), Government andPublic Partners. Account managers are located throughout the service area ofMagyar Telekom, including sales force in LTO areas.

**International FixedLine Operations**

***Macedonian Fixed Line Operations***

Although the Macedonian telecommunications market wasnot fully liberalized until January 1, 2005, our fixed linetelecommunications business already faced strong competition in 2004, drivenmainly by mobile substitution, Internet competition, illegal VoIP operators andwireless data transmission providers.

Competition intensified mostly in Internet business in2005 and in international voice termination and data services in the secondhalf of the year.

Fixed line voice services face competition mainly frommobile prepaid services that allow strict cost control for subscribers inMacedonia, where the majority of the customers have limited disposable income.

The competition among mobile operators is driving downprices of the mobile services and is also reducing the difference between thevalues of fixed and mobile services for the average consumer. Intensivemarketing activities of mobile competitors decrease the consumer perception ofthis difference, and thereby enhance the perceived value of mobilecommunications. This trend led to a moderate decrease in the active customerbase of Maktel in 2005, mainly due to the increased number of defaultingcustomers. In 2005, Maktel offered prepaid fixed lines to its defaultingcustomers to allow them to have an active line while they pay off their debts.

During 2005, Maktel conducted a marketing campaign todevelop a sustainable ADSL customer base and enhance the value of fixed lineservices. Inaddition, Maktel introduced new traffic metered options for its ADSL servicesin October 2005. Both of these efforts have led to a significant growth insales of ADSL services.

In 2005, Maktel started todevelop business solutions for the corporate market including services foraudio and video broadcasting, video surveillance solutions, software for PBXcall analysis and bundled offers.

***Montenegrin Fixed Line Operations***

To stabilize fixed linevoice revenue and stimulate fixed voice traffic, Crnogorski Telekom hasintroduced optional price plans based on prepaid discounted minutes for longdistance and international calls. In 2005, Crnogorski Telekom launched the “MoClub”loyalty program for fixed line, mobile and Internet customers to retaincustomers and reward high-usage customers.

**Hungarian MobileOperations**

In 2005, the Hungarian mobilemarket reached a 92.4 percent penetration rate, which is comparable to theaverage level in Western European countries, and the growth in mobile marketslightly slowed down as compared to previous years. The Hungarian mobile marketis highly competitive and dominated by three mobile network operators: TMH,Pannon and Vodafone. Due to the very high penetration level, our focus hasmoved from acquisition to retention.

36

----

2005 was a very successful year for TMH in all of our strategic areas:

·       Maximize the value of our customer base;

·       Increase penetration and usage of data services;

·       Manage effective pricing and market share; and

·       Strengthenand differentiate the T-Mobile brand.

*Maximize the value of our customer base*

The active customer portfolio management facilitated the increase in valueof our customer base. Our main targets were the following:

·       Develop propositions based on value and needs of customers;

·       Differentiate service level based on the value of customers; and

·       Enhanceeffectiveness of communication via CRM and campaign management tools.

*Increase penetration and usage of data services*

The data products were verysuccessful in 2005. Several tailor-made segment-specific products and serviceswere launched both in the consumer and business segments. In 2005, weconcentrated heavily on data services in our advertisements, and even the bonussystem was re-designed to push the sales of these services.

TMHwas the first mobile operator in Hungary to launch 3G and provide high-speeddata access and video-telephone opportunity to its subscribers. Mobile TV,Mobile JukeBox, Domino SMS Call back request, Push to talk, Bulk MMS, MobileTerminated SMS and Premium Voice services were also launched.

*Manage effective pricing and market share*

Atthe end of 2005, TMH had a 45.0 percent market share in terms of the number ofsubscribers and had the leading position both in the consumer and the businesssegment. To maintain our leading position, several price plans, based on “valuefor money” and simplicity, were launched in both of these segments.

*Strengthen and differentiate the T-Mobile brand*

Wework continuously to strengthen our brand and build our brand values -reliability, simplicity, inspiration and “value for money”. Our efforts havemaintained the aided brand awareness at nearly 100 percent.

***Distribution***

TMH has a strong direct distribution networkconsisting of 36 stores. Over three-quarters of these stores provide full-scalesales, customer service and repair service to customers while the rest focusesprimarily on sales. 11 stores are located in Budapest and the other 25 are inregional centers. In 2005, we decided to integrate the T-Mobile and T-Comdistribution networks.

TMH also has a department dedicated to major accounts.This department consists of 86 sales representatives and serves major accountson the segment basis. Our customers can also purchase TMH products on ouron-line shop.

37

----

TMH also distributes itsproducts and services through indirect sales partners. In 2005, TMH had 217full-scale indirect outlets nationwide that provide the full product portfolioto customers. 85 of these outlets also provided customer care, aided with accessto the central customer database and CRM systems. TMH also sells its prepaidproducts (e.g., prepaid Subscriber Identity Module (“SIM”), plastic top-upcard, on-line top-up) through major Hungarian retail channels. Prepaid SIMcards are sold at 108 outlets and top-up may be made at 10,533 outletsnationwide (including 4,665 outlets where on-line top-up is available).

**InternationalMobile Operations**

***Macedonian Mobile Operations***

To meet the needs of its nearly880,000 customers, T-Mobile Macedonia has developed a wide range of services and price plans for the prepaid,postpaid and business customers segments. In 2005, T-Mobile Macedonia introduced new price plans for all segments andcarried out innovative promotions.

Marketingbased on customer data is widely used to build strong customer relationships.Loyalty schemes and handset upgrade programs are also increasingly used toimprove customer satisfaction and customer churn rate.

***Montenegrin Mobile Operations***

In Montenegro, T-Mobile Crna Gora is generally perceivedas a customer oriented company, with a strong sense of customers’communications needs. To retain postpaid customers and to increase theirsatisfaction, T-Mobile Crna Gora, jointly with Crnogorski Telekom and InternetCrna Gora, introduced a new loyalty program. Reduction in prices of standardprepaid price plans has also attracted new prepaid customers.

T-Mobile Crna Gora manages a distribution network of two directlyowned shops and over 1,500 indirect Points of Sales (“PoS”) managed by 28authorized dealers throughout the country. T-Mobile Crna Gora also uses part of its distribution network tosell handsets.

**COMPETITION**

**Hungarian FixedLine Operations**

***Domestic and International Fixed LineTelecommunications Services***

In 2005, the mobile carriers remained our keycompetitors. In addition, a variety of market entrants now provide public fixedline telephone service, either by interconnecting with our network or throughtheir own infrastructure. Competitors include mobile telecommunications serviceproviders, other LTOs, alternative service providers (e.g., Tele2, PanTel) andcable television service providers. Immediately following the liberalization,LTOs and alternative service providers concentrated their efforts on businesscustomers in the areas of long distance and international calls. For the lastfew years, they have been targeting residential customers as well.

Despite increased competition, we successfully keptour leading position in domestic telephone services and had an approximately 82percent market share in terms of access lines in Hungary as of December 31,2005.

Mobile penetration reached 92.4 percent by the end of2005, which not only led to intense competition in the mobiletelecommunications market, but also affected the fixed line telephone market.This near-saturation level has led mobile carriers to offer residential andbusiness customers more and more competitive packages and lower prices in aneffort to win fixed line customers.

38

----

Tele2, an aggressive competitor, entered the Hungarianmarket in 2004. In 2005, Tele2 expanded its service area as well as its productportfolio (such as the introduction of flat rate price plans and dial-upInternet access). Tele2 mainly focuses on the residential market. It competeson the basis of a simple and low pricing structure, aggressive marketing andinnovative sales channels. However, we responded to the challenge posed byTele2 with attractive price plans, and we believe that we have successfullylimited Tele2’s expansion.

In 2004, cable television providers also entered thevoice market with “triple-play” offers, consisting of voice telephone services,Internet access and cable television. The main advantages of the “triple-play”offers are free calls within the network, low monthly fee and one-stopshopping. Our largest cable television competitor is UPC.

In our service areas, anumber of carriers (Tele2, GTS Datanet, eTel, Invitel, PanTel, British Telecomand Monortel) offer pre-selection and call-by-call services and were able toattract some of our customers. We also offer similar price plans and aresuccessful in attracting new customers from LTO areas.

***Leased Lines and Data Transmission Services***

In the continuously expanding Hungarian leased lineand data transmission market, we retained our leading position in 2005 in termsof market share. The key competitors in this market included Invitel, Pantel,GTS-Datanet and Antenna Hungária, all of which offer products and servicesprimarily based on fixed line and microwave leased line technologies. Intensecompetition led to a significant decrease in market prices, as pricing is theonly competitive strategy of the alternative service providers. We compensatedfalling prices with increasing bandwidth due to proactive sales campaigns andour leased line revenues increased. We also started to migrate our leased linecustomers and a part of our voice traffic into IP-VPNs. We were a market leaderin 2005 in IP-VPN services.

In the broadband access market, our key competitor isUPC, which offers broadband access through cables used for cable television. Inaddition, several alternative service providers (GTS, Datanet, PanTel, TVNet)offer unbundled ADSL services. In our service area, we successfully kept ourleading position in the retail ADSL market with an estimated 68 percent marketshare in terms of the number of subscribers as of December 31, 2005. Theremaining 32 percent is shared by 18 ISPs of which the largest providers had afive percent market share as of December 31, 2005.

In 2005, two alternative service providers (PanTel andTVNet) introduced services based on a new technology, ADSL2, which enableslarger bandwidth than ADSL. The introduction of higher bandwidth DSL technologyindicated the increasing competition on the broadband market and allowedcompetitors to introduce new services, like IPTV.

The Internet market inHungary is dominated by a few large ISPs, although there are several dozenother Internet providers. T-Online Hungary, our fully owned subsidiary, is themarket leader with an estimated 42 percent market share based on the number ofdial-up subscribers. In 2005, the main trend in the Internet market was therapid growth of broadband services. About 75 percent of Internet accessprovided by T-Online Hungary is through broadband (ADSL, cable television,W-LAN and leased line). Its key competitors are Invitel and UPC. In contentservices, T-Online’s portal, [origo] held its leading position. The dailyaverage number of visitors reached 666,000 in December 2005, whichrepresented a 42 percent increase from December 2004. T-Online’s keycompetitors in content services are Sanoma and Index.

39

----

**International FixedLine Operations**

***Macedonian Fixed Line Operations***

On January 1, 2005, Maktel’s exclusive rights toprovide fixed line telephone services expired, but as a result of the delay inimplementation of the new regulatory framework, Maktel’s fixed line businesshas not faced significant competition from any fixed line service providers.Maktel, however, faced indirect competition from mobile service providers and,to a limited extent, from VoIP providers.

Starting from the second quarter of 2006, Maktelopened its network for alternative VoIP service providers of internationaloutgoing calls. By the end of 2006, Maktel has concluded 26 ISDN basedcommercial Network Access Agreements with alternative VoIP service providers.

On November 15, 2006, Maktel signed its firstRIO-based Interconnection Agreement with OnNet, an alternative fixed linenetwork operator. The second Interconnection Agreement was concluded with Aktonin December 2006. As a result, Maktel will face direct competition in itsfixed line business from the first quarter of 2007.

OnNet has already requested Local Loop Unbundlingservices from Maktel based on the approved unbundling reference offer (“MATERUO”).OnNet has requested only fully unbundled access to the local loop.

Maktel is the leading provider of leased line servicesand data transmission services. CATV and other wireless operators have builttheir own networks and are also capable to offer data transmission services,transmission capacity and various broadband services.

In the internet market,there are three major ISPs in addition to Maktel: OnNet, MOL and UNet. Maktelis the market leader based on the number of Internet dial-up minutes. OnNet andUNet have concluded wholesale agreements for dial up service with Maktel. Onthe broadband market, Maktel has approximately 50 percent market share and itfaces competition mainly from OnNet’s wireless broadband and CATV operators’cable broadband internet, offered to the cable TV customers through their ownnetworks.

***Montenegrin Fixed Line Operations***

Crnogorski Telekom is thesole provider of fixed line telecommunications in Montenegro. However, it facesfixed-mobile service substitution, which is expected to become increasinglysignificant. The high mobile penetration and the introduction of a third mobileoperator in 2007 will intensify this trend. Crnogorski Telekom, however, owns a100 percent interest in T-Mobile Crna Gora, the second largest mobile serviceprovider in Montenegro.

**Hungarian MobileOperations**

In 2005, the Hungarian mobile telecommunicationsmarket was characterized by intense competition, driven by new services, lowerprices and aggressive marketing. The mobile penetration rate further increasedto 92.4 percent by the end of 2005, slowly reaching saturation. At TMH, thefocus on acquisition was clearly replaced by the focus on retention. Despitethe intense competition, TMH retained its market leading position with a 45.0percent market share based on the number of subscribers.

The direct competitors of TMH are Pannon and Vodafone.Vodafone, the smallest mobile service provider in terms of the number ofsubscribers in Hungary, continued its intensive and aggressive marketingcampaigns and captured a 21.8 percent market share by the end of 2005. Vodafonewas able to leverage its global brand and added approximately the same numberof new customers in 2005 as TMH and Pannon together did. Pannon on the other handexperienced significantly lower net additions in the 

40

----

second half of 2005 andeven net reduction in the number of customers in the last two months of theyear. As a result, it had the smallest net customer additions and ended theyear with a 33.2 percent market share.

Non-voice and content services are playing anincreasingly important role in the mobile market. All providers strengthenedtheir non-voice services in 2005. TMH was the first mobile operator in Hungaryto launch 3G services and provide high-speed data access and video-telephoneservices to its subscribers.

To draw attention andboost the number of active users, free video calls were offered until the endof 2005 and 3G handsets and data cards were given as a promotion.

**InternationalMobile Operations**

***Macedonian Mobile Operations***

There are two mobile operators operating in theMacedonian mobile market. The competition is generally intense and conducted onthe basis of price, subscription options, subsidized handsets, range ofservices offered, innovation and quality of service. The second largest mobiletelecommunications services provider in the country, Cosmofon, began commercialoperation in June 2003. Its marketing and advertising efforts areaggressive with low and competitive handset pricing, attractive price plans,broad array of advertising and indirect channels of sales. In June 2005,Cosmofon launched 2.5G services (MMS, GPRS). During the first quarter of 2007,the Government of the Republic of Macedonia will issue a license for a thirdmobile operator.

According to T-Mobile Macedonia’s estimates, Cosmofonhad an approximately 31 percent market share at the end of 2005. Cosmofon’ssubscriber base is mainly prepaid. Cosmofon has been increasingly targetingT-Mobile Macedonia’s residential and business postpaid (contract) customers.

In this intensivecompetitive environment, T-Mobile Macedonia plans to maintain its market sharethrough improved productivity, efficiency measures and maintenance of existingcustomer relations to avoid the escalation of price-based competition.

***Montenegrin Mobile Operations***

T-Mobile Crna Gora started its commercial operation as a secondmobile telecommunications services provider in Montenegro in 2000, four yearsafter the first mobile provider, Promonte, started its operations. According toT-Mobile Crna Gora’s estimate, T-MobileCrna Gora had a 42.7 percent market share interms of number of subscribers at the end of 2005.

As in other countries, competition in mobile servicesis intense and driven by pricing, subscription options, subsidized handsets,coverage, as well as quality and portfolio of services offered.****Ourcompetitor’s marketing and advertising activities are aggressive.

T-Mobile Crna Gora’s goalis to increase its market share by introducing segment oriented price plans,continuously offering new attractive handsets, exploiting synergies of the DTgroup, and maintaining existing customer relations and community involvement asa sponsor of important social, cultural, sports and educational events.

**DEPENDENCE ONPATENTS, LICENSES, CUSTOMERS, INDUSTRIAL, COMMERCIAL AND FINANCIAL CONTRACTS**

We do not believe that we are dependent on any patentor other intellectual property right, on any individual third party customer oron any industrial, commercial or financial contract. Similar to other fixedline and mobile operators, we require telecommunications licenses from thegovernments of Hungary, Macedonia, Montenegro, Romania and Bulgaria, thecountries in which we provide telecommunications services.

41

----

**REGULATION**

**Development of theTelecommunications Regulatory Regime in Hungary**

Prior to 2001, Act LXXII of 1992 onTelecommunications, as amended (the “Telecommunications Act”), provided thegeneral regulatory framework for the telecommunications industry in Hungary.The telecommunications industry has been also governed by other generallegislation, including, among others, Act XVI of 1991 on Concessions, asamended (the “Concessions Act”), the Pricing Act and Act LVII of 1996 on theProhibition of Unfair and Restrictive Market Practice (the “Competition Act”).

The regulatory framework of the telecommunicationsindustry was fundamentally altered in December 2001, when theCommunications Act came into effect. The Communications Act provided the mainregulatory framework for the liberalized market until the end of 2003.

The limited level ofcompetition that resulted from the Communications Act and harmonization of theHungarian law to EU standards required by the accession of Hungary to EU led tothe further modification of the regulatory regime. Act C of 2003 on ElectronicCommunications came into effect on January 1, 2004 and the CommunicationsAct was superseded at that time.

**The ElectronicCommunications Act and the Contract on Universal Service Provision**

The Electronic Communications Act was approved by theParliament on November 24, 2003 and came into effect on January 1,2004. Under the Act, the National Communications Authority (“NCA”), the supremesupervisory body, and Permanent Court of Arbitration for Communications (“CAC”)were established.

Set forth below is a brief summary of certainprovisions of the Electronic Communications Act.

*UniversalService.**  *The Electronic Communications Actprovides that universal services are basic communications services that shouldbe available to all at an affordable price. Universal services include accessto fixed line voice telephone services of certain quality enabling access toInternet services, a regulated density of public payphones, a public directoryof telephone users, national domestic inquiry service as well as freecall-blocks and emergency calls. Access to voice services at an affordableprice is effected by designation of universal service providers (the Ministershall appoint the most efficient service provider) and state subsidies todisabled or low-income users.

We were designated a universal service provider andentered into a universal service contract with the Minister. The currentcontract is valid until December 31, 2008 and can be extended for an additionalfour years.

*SubscriberContracts.**  *Service providers must establishgeneral terms and conditions of subscriber contracts. The ElectronicCommunications Act provides general rules of agreements betweensubscribers and telecommunications services providers for telecommunicationsservices. The ministerial Decree 16/2003 (XII.27.) on “TelecommunicationsSubscriber Contract” contains other important rules relating to subscribercontracts. In subscriber contracts, parties can modify the provisions of theElectronic Communications Act only if they are more favorable to thesubscribers.

The general terms and conditions of subscribercontracts must contain, among other things, the procedure for terminating andamending subscriber contracts, the quality of the telecommunications service,conditions for restriction of the service, the fault-repair service and themethod for handling subscriber complaints. The individual subscriber contractmust contain personal data of the subscriber.

*SignificantMarket Power Regulation.**  *OnFebruary 11, 2003, the European Commission identified in itsrecommendation (2003/311/EC) the following 18 relevant product and service markets within the 

42

----

electroniccommunications sector susceptible to ex ante regulation in accordance withDirective 2002/21/EC on a common regulatory framework for electroniccommunication networks and services:

Retail level:

1.                Accessto the public telephone network at a fixed location for residential customers.

2.                Accessto the public telephone network at a fixed location for non-residentialcustomers.

3.                Publicly available local and/or nationaltelephone services provided at a fixed location for residential customers.

4.                Publicly available international telephoneservices provided at a fixed location for residential customers.

5.                Publicly available local and/or nationaltelephone services provided at a fixed location for non-residential customers.

6.                Publicly available international telephoneservices provided at a fixed location for non-residential customers.

7.                The minimum set of leased lines.

Wholesale level:

8.                Call origination on the public telephone networkprovided at a fixed location.

9.                Call termination on individual public telephonenetworks provided at a fixed location.

10.         Transit services in the fixed public telephone network.

11.         Wholesale unbundled access (including shared access) to metallic loopsand sub-loops for the purpose of providing broadband and voice services.

12.         Wholesale broadband access.

13.         Wholesale terminating segments of leased lines.

14.         Wholesale trunk segments of leased lines.

15.         Access and call origination on public mobile telephone networks.

16.         Voice call termination on individual mobile networks.

17.         The wholesale national market for international roaming on public mobilenetworks.

18.         Broadcasting transmission services, to deliver broadcast content to endusers.

In 2004, analysis of 17 out of 18 markets wasinitiated by the NCA. Analysis on 16 of these markets has been completed sofar. The results of the analysis on fixed line retail markets have identifiedMagyar Telekom as having SMP and imposed a price cap on retail access marketservices (market 1 and 2) for residential and non-residential customers. Inaddition, it required Magyar Telekom to allow fixed line residential andnon-residential customers to select other service providers for local and/ornational and international calls (markets 3-6) and obliged Magyar Telekomto provide the minimum set of leased lines (market 7). On the wholesalemarkets, the NCA imposed the obligations of transparency (markets 8-9, 11-13),accounting separation (markets 8-9, 11-13), access andinterconnection obligations (markets 8-9, 11-13), variousobligations regarding cost-based prices and price control (markets 8-9, 11-13)and non-discrimination (markets 12-13). The market analysis procedurealso identified TMH as having SMP in the mobile termination market and imposedthe obligations of transparency, accounting separation, access/interconnectionand cost-based prices and price control.

43

----

The aforementioned list of relevant markets taken intoaccount in the market analysis of the NCA is currently under review in the EU.The amended Recommendation of the EU that contains the relevant markets isexpected to enter into force in 2007. As a result, retail call markets and theminimum set of leased lines are expected to be deregulated. Consultation papersof the review raised the possibility that SMS termination could become part ofmarket 16, which would mean the extension of regulation to SMS termination inaddition to mobile voice call termination.

The new round of analysis of the 18 relevant productand service markets started in the second half of 2006. The new resolution onmarket 16 was published on October 2,2006. The rest of the resolutions areexpected to be published in 2007.

*LocalLoop and Bit-stream Unbundling.**  *Accordingto the Electronic Communications Act and Government Decree 277/2003, (XII.24.)on “The detailed rules of procedures related to the reference offers andnetworking contracts”, operators with SMP providing unbundled access orbroadband access are obliged to unbundle local loops and prepare referenceoffers for unbundled local loops (whether fully or partially unbundled) andbit-stream access and to provide these services when there is a request forthem by other telecommunications service providers.

Providers with SMPmay refuse the request for unbundling only if:

·       thereare technical barriers; and

·       providingaccess to the local loop or bit-stream access would endanger the unity of theprovider’s network.

*Interconnection.**  *According to the Electronic Communications Act andGovernment Decree 277/2003 (XII. 24.), providers with SMP are obliged toprepare reference offers for interconnection and to provide these services uponthe reference offer when there is a request for them by othertelecommunications service providers.

According to the Government Decree 277/2003 (XII.24.), providers with SMP are obliged to enter into agreements for access totheir networks when requested by another service provider. If the provider isobliged to prepare a reference interconnection offer, this offer must be inline with the legal regulations about the reference offer. The NCA hasauthority to arbitrate in disputed cases and may establish provisionalarrangements. The reference offer of the providers with SMP must be approved bythe NCA.

*CarrierSelection.**  *Accordingto the Electronic Communications Act, voice telephone customers have the rightto select different service providers for each call directions. Theimplementing regulation was released in Government Decree 73/2004 (IV.15.) in April 2004.

*NumberPortability.**  *Fixedline telecommunications service providers are required to provide numberportability on their networks, and to allow subscribers to change serviceproviders without changing their telephone numbers in the same geographiclocation. In May 2004, non-geographic and mobile number portability werealso implemented.

*Licensingand Allocation of Frequencies.*   With theexception of a program receiver device, radio equipment, radio stations andradio communication networks may be operated with a radio license. A radiolicense may be issued exclusively on the basis of a valid frequency assignmentlicense, with certain exceptions. Radio equipment, radio stations, radionetworks and radio communications systems may be installed with a frequencyassignment license, with certain exceptions. Payment of fees is required forreservation and authorized use of frequencies assigned for civil purposes,reservation of identifiers and use of the assigned identifiers.

Magyar Telekom Plc. pays a frequency license fee onthe basis of Decree 6/1997 (IV.22.) KHVM on “Frequency Reservation and UsageFee” and Government Decree 120/1998 (VI.17.) on “Rules of 

44

----

Payment of FrequencyReservation and Usage Fee”. Additional rules related to frequency usageinclude Government Decree 346/2004 (XII. 22.) on “Specification of the NationalFrequency Allocation Table” and Government Decree 78/2006 (IV. 4.) on “Rules ofthe Auction and Tender to Obtain the Frequency Usage Right”.

Magyar Telekom Plc. pays a number usage fee for callnumbers used by the Company, according to Decree 11/2005 (IX. 28.) IHM on “Feesof Engaging the Identification Numbers Necessary for the Provision of PublicTelephone Services”.

Frequency assignments must conform to the NationalFrequency Range Distribution Chart, which lays out the entire spectrum and thepurpose and availability of frequency bands. Our frequencies are generallyvalid for periods of one to five years.

*Rights of Way.*   Accordingto the Electronic Communications Act, communications service providers areentitled with prior notice to enter private property where communicationsfacilities (equipment, cables, antennas) are located for maintenance andrepair. The public telecommunications service provider must enter into acontract with the property owner setting forth conditions for the common use ofthe property. The property owners are also obliged to remove obstructions topublic telecommunications networks.

**Mobile ConcessionContracts**

Hungary was the first country in Central and EasternEurope to introduce public mobile telecommunications services. Westel 0660began providing analog mobile radiotelephone service in October 1990 withan exclusive license. In 1993, the Minister awarded two concessions to providenationwide mobile telephone services using the digital GSM 900 standard: one toTMH and the other to Pannon.

Under the Concession Contract, dated November 4,1993, as amended (the “900 Concession Contract”), between the Minister and TMH,TMH was granted the right to provide public GSM mobile telephone services for15 years. The parties may agree to extend the TMH concession for an additionalperiod of seven and half years for an additional fee.

On February 25, 1999, the Ministry issued aninvitation to tender for concessions for the DCS 1800 services in Hungary, amobile telecommunications service in the 1800 MHz frequency band. The tenderwas closed on May 7, 1999. On October 7, 1999, an amended 900Concession Contract was signed, allowing TMH and its competitor, Pannon, tostart commercial service in the 1800 MHz band for 15 years beginning November 26,2000. At that time, the Minister also signed a concession contract withV.R.A.M. Rt., which operates the Vodafone brand name.

TMH, simultaneously with Pannon, started commercialoperation of the 1800 MHz band on November 16, 2000. Upon the request ofVodafone, the national roaming agreement between TMH and Vodafone wasterminated effective November 30, 2000, whereby TMH was released from theobligation to provide Vodafone with domestic roaming services on a nationwidebasis. Effective December 6, 2002 Pannon terminated its national roamingagreement with Vodafone. As Vodafone had no remedy available for such aunilateral decision, it was forced to speed up its network roll-out to closethe coverage gap vis-à-vis its competitors.

By virtue of the amendment to the Concession Contractin 1999, by the end of 2003, the three digital mobile telecommunicationsservice providers had the same spectrum resources allocated to them both on the900 and the 1800 MHz bands.

TMH was required to pay a HUF 11 billion concessionfee, adjusted for changes in the HUF/USD exchange rate. The first installmentof the concession fee, HUF 2,750 million was paid eight days after themodification of the 900 Concession Contract in November 1999. The secondinstallment of 

45

----

HUF 2,750 million,adjusted for changes in the HUF/USD exchange rate, was paid eight days afterthe commencement of 1800 MHz service in November 2000. The thirdinstallment of HUF 1,830 million, adjusted for changes in the HUF/USD exchangerate, was paid in November 2002. The last installment of HUF 3,670million, adjusted for changes in the HUF/USD exchange rate, was paid on December 2003.TMH also pays an annual concession fee of USD 1 million.

*FrequencyFees.**  *TMH hadfrequency fee payment obligations for channels allocated in the 1800 MHzband. In 2005, TMH paid HUF 3,301 million for frequency usage in the 900 MHzband, HUF 150 million for the right to use the 15 MHz frequency band, andHUF 114 million for the actual use of channels within 1800 MHz band. In 2006,TMH paid HUF 3,530 million for frequency usage in the 900 MHz band, andpaid HUF 150 million for the right to use the 15 MHz frequency band, and HUF 271 millionfor the actual use of channels within 1800 MHz band.

TMH also paid frequency fees for the IMT-2000/UMTSband. In 2005, TMH paid HUF 88 million for the right to use the 2x15 MHzfrequency band and HUF 107 million for the actual use of channels within theband. In 2006, TMH paid HUF 151 million for the right to use the 2x15 MHzfrequency band and HUF 487 million for the actual use of channels within theband. In addition, TMH paid HUF 543 million in 2004, HUF 733 million in 2005and HUF 871 million in 2006 for the right to use microwave frequencies.

*Feesand Charges.**  *TMH’ssubscriber charges are not subject to regulation under the Pricing Act or anyministerial decree.

*RoamingAgreements.**  *TMH maysign roaming agreements with other public mobile telecommunications serviceoperators outside of Hungary in accordance with the rules of the GSMAssociation, an association of GSM operators and associated members.

*Marketassessment, SMP designation process, and interconnection.*   See“Item 4—Pricing”.

*Termination.*   TMHmet all of its concession obligations in 2005 and in 2006. If an event ofdefault occurs under the 900 Concession Contract, the NCA may issue a curenotice to TMH. TMH would then have 90 days to agree with the NCA on a plan ofaction for curing the default. If TMH does not reach an agreement with the NCAor if TMH does not cure any such default within an agreed period of betweenthree to six months, the NCA may issue a notice terminating the 900 ConcessionContract. Upon termination of the 900 Concession Contract, TMH would bedissolved under the Concessions Act.

*UMTS.**  *On December 7, 2004, the NCAawarded TMH the exclusive right to use the frequency blocks of 1920-1935/ 2110-2125 MHz Frequency Division Duplex (“FDD”) and 1915-1920 MHzTime Division Duplex (“TDD”) for deployment and operation of InternationalMobile Telecommunications (“IMT”) 2000/UMTS mobile telecommunications system(3G system). The duration of the frequency usage right is 15 years (until 2019)with an option to extend for another seven and a half years.

The right was awarded after a tender process thatstarted on September 1, 2004 and concluded on December 7, 2004. TMHapplied for all three frequency blocks (“A”, “B” and “C”) separately and wonthe usage right of frequency block “A”. The right to use the frequencies vestedupon payment of the first installment of the license fee on December 27,2004.

TMH is obliged by the term of the license decree tostart commercial IMT-2000/UMTS service in the inner city of Budapestwithin 12 months of the grant of the license. This obligation was met. It isalso obliged to expand the coverage to 30 percent of the Hungarian populationwithin 36 months of the license.

The license fee for IMT-2000/UMTS was HUF 17,000million plus reclaimable Value-Added Tax (“VAT”), payable by the end of 2005.In addition to the license fee, TMH capitalized expenses incurred in connectionwith the acquisition process of the license. The total amount capitalized isHUF 17,073 million. The IMT-2000/UMTS license right will be amortized ona straight-line basis over 15 years from the time of the commencement of thecommercial service on August 26, 2005 to the end of the initial licenseperiod.

46

----

Mobileradiotelephone license’s terms are extendable; however, they expire in thefollowing years:

·       GSM900:                 2008

·       DCS1800:                2014

·       IMT-2000/UMTS:   2019

**Competition LawRestrictions**

The Electronic Communications Act and the Contract onUniversal Service Provision in line with the Competition Act prohibit us fromthe abuse of our dominant position in the public voice telephone servicesmarket.

Under the Competition Act, a market participant isconsidered to be in a dominant position if, among other things, it is able topursue economic activities substantially independent of other marketparticipants, i.e., without the need to consider the market behavior of itscompetitors, suppliers, customers and other business partners.

Under the Electronic Communications Act and theCompetition Act, service providers with SMP are required to provide services toother telecommunications service providers on the same commercial terms, andthese terms may not be less favorable than those offered to other serviceproviders controlled by it or controlling it.

According to the Contracton Universal Service Provision, we are obliged to treat similar subscribers ina reasonably similar manner and to refrain from effecting discrimination and/orunjustified advantage with respect to conditions and fees of universal serviceprovision.

**Hungary and theEuropean Union**

Hungary joined the European Union on May 1, 2004and became a member state without transitional provisions.

In connection withthe accession, Hungarian regulations relating to electronic communications wereharmonized with the EU New Regulatory Framework (“NRF”), which required allmember states of the European Union to adopt it through national legislation.The NRF consists of various directives relating to the following:

·       accessto and interconnection of electronic communications networks;

·       mandatoryminimum service standards for all users (“universal service”) and users’rights;

·       authorizationand licensing regimes;

·       dataprotection and privacy; and

·       decisionon a regulatory framework for radio spectrum policy in the EU.

The NRF, inparticular:

·       setsout the rights, responsibilities, decision-making powers and proceduresof the National Regulatory Authorities (“NRAs”) and the European Commission.This includes the NRAs’ obligation to submit to the Commission and the NRAs ofother EU member states the draft regulatory measures that they intend toimplement with respect to market definition and SMP and the European Commission’spower to require NRAs to withdraw such drafts, if the European Commissionconsiders that such measures may create a barrier to the single European marketor are incompatible with EU law;

47

----

·       identifiesspecific policy objectives that NRAs must achieve in carrying out theirresponsibilities (namely, to promote an open and competitive European marketfor communications services, to promote the interests of European citizens andto consolidate the EU’s internal market in a converging technologicalenvironment); and

·       providesthat operators with SMP in relevant communications markets will be subject toobligations set out in the directives on universal service and access.

The European Commission started to carry out a reviewof the NRF in November 2005 and the review is currently ongoing(consultations, publication of Commission communications, etc.). Proposals forthe European Parliament and the Council directives modifying the NRF can beexpected in the first half of 2007, which will be followed by the communitylegislation procedure. The amended regulation is expected to be implemented in2010.

The European Commission issued a Recommendation onrelevant product and services markets in February 2003. The Recommendationidentifies markets with certain characteristics that may justify imposition ofex ante regulatory obligations. See “Regulation - Significant Market PowerRegulation”.

The European Commission will regularly carry out areview of the Recommendation on relevant markets. The first review of thisRecommendation started in line with the NRF review in November 2005 andthe amended new recommendation is expected to enter into force in 2007.

The European Commission started to work on an EUregulation on international roaming charges in 2006. The proposal for aRegulation of the European Parliament and of the Council is dealing with theroaming on public mobile networks within the EU. The objective of this proposalis to amend the existing regulatory framework for electronic communications toprovide the necessary legal basis for effective and timely action to bringabout substantial reductions in the level of mobile roaming charges across theEU in a harmonized manner. This is to be achieved by applying the approach thatprices paid by users of public mobile networks for roaming services whentraveling within the EU should not be unjustifiably higher than the chargespayable when calling within their home country (the “European Home MarketApproach”). Expected adoption date of this regulation is mid-2007.

Implementation of NRF in the member states is overseenby the European Commission and the European Regulators Group (“ERG”), whichissues reports and common statements. The ERG is a body composed ofrepresentatives of NRAs and the European Commission, which plays an importantrole in assisting the Commission in harmonizing the application of the EUregulatory framework.

Hungary fully implementedthe NRF with the enactment of the Electronic Communications Act and fullyimplemented decrees in 2004.

**Broadcasting andTransmission**

Broadcasting and transmission in Hungary are governedby Act I of 1996 on Radio and Television Broadcasting (“Media Act”), Act LXIIof 1993 on Frequency Management (“Frequency Act”), the ElectronicCommunications Act and the Concessions Act. Under the Media Act, the NationalRadio and Television Board (“NRTB”) has the primary authority for issuingtenders for broadcasting contracts and registering broadcasters andtransmitters.

National and regional television and radiobroadcasting or broadcast “distribution” to local operators generally requireconcessions under the Electronic Communications Act and may be carried out onthe basis of a program distribution contract in accordance with the Media Actbetween the NRTB and the distributor. Frequencies are assigned under the termsof the Frequency Act. Entities registered as program distributors are permittedto transmit broadcasts of third parties to subscribers through a cabletransmission network.

48

----

The restriction under theMedia Act on our further expansion in the program distribution sector waslifted on January 1, 2004. Accordingly, we are now free to increase ourownership interest in any program distributor, including cable televisioncompanies, despite our existing controlling interest in one cable televisioncompany.

**Development of the Telecommunications RegulatoryRegime in Macedonia**

A new Macedonian lawconcerning electronic communications (“Law on Electronic Communication, “ECL”),which was enacted on March 5, 2005, brings the country’stelecommunications regulations closer to the EU regulatory framework, with sometransitional provisions. It also provides a number of strict obligations forthe existing operators.

Since the parliamentaryelections in July 2006, the Government of the Republic of Macedonia hasenacted a number of bylaws and rulebooks regulating different communicationareas.

As a result of theintensified implementation, there is a possibility that certain ECL provisionsand bylaws will be soon amended.

*Regulation of Fixed Line Business*

On December 31, 2004,Maktel’s monopoly rights in the Macedonian telecommunications market expired,thus making it possible for other network and service providers to enter theMacedonian telecommunications markets, upon the submission of notification tothe Macedonian telecommunications regulator (and the registration thereof). By December 2006,the Macedonian telecommunications regulator had registered 45 network operatorsand 55 providers of public fixed telephony services. Maktel published NetworkAccess Agreement for the VoIP service providers for international calls. In February 2007,the Government of the Republic of Macedonia determined that the concessioncontracts of three telecommunications operators (Maktel, T-Mobile Macedonia andCosmofon) are no longer valid according to the ECL, and that these companiesshould therefore continue their operations according to the provisions of theECL.

In July 2005, theMacedonian telecommunications regulator issued regulations governing theconditions of interconnection. Rules for access to, and the use of,specific network facilities were issued in August 2005, and regulationsgoverning the opening of the local loop to competitors, and carrier selection,were adopted in December 2005.

On August 8, 2005,Maktel submitted its first reference interconnection offer to the Macedoniantelecommunications regulator. The interconnection prices contained in this offerwere approved on January 23, 2006. In November 2006, the firstinterconnection contract was signed according to the conditions determined inthe reference interconnection offer. Maktel’s first reference unbundling offerwas submitted to the Macedonian telecommunications regulator on September 5,2005 and approved on July 19, 2006.

To prepare for competitionin its fixed line business, Maktel carried out several changes to its retailpricing structure. For example, Maktel continued to align the prices it chargedfor network access products and calling services with the underlying costs, andchanged its pulse-based charging system to a more customer-oriented time-basedcharging system with shorter time units. In addition, on the basis of the Lawon Electronic Communication, the Macedonian telecommunications regulatorimposed obligation for cost based prices for wholesale services of Maktel.Because Maktel’s monthly fees for network access and the prices it charges forlocal calls amount to approximately half of the respective EU averages and arebelow Maktel’s approved cost based wholesale prices, further cost-basedrealignment of retail prices might become necessary. To the extent that any ofits subscriber line prices do not yet fully reflect the cost of service, anegative impact on Maktel’s competitiveness in the wholesale and retail marketscan be expected.

49

----

According to the obligations imposed by the ECL, a newnumber portability bylaw has been published by the Agency for ElectronicCommunications on December 27, 2006. Maktel and T-Mobile Macedonia, asoperators of publicly available telephony services, must enable theirsubscribers to retain their geographic and non-geographic numbers when changingtelecommunications operators. The number portability is scheduled to be fullyimplemented by July 1, 2007. Due to the short notice, the implementationof number portability will be technically hardly feasible within the giventimeframe, therefore Maktel will use the appropriate legal steps to respond tothis.

Since the end of 2004, when Maktel’s obligation forproviding universal services according to its concession contract expired,there has been no operator dedicated as universal service provider. InMay 2006, the Government of Republic of Macedonia enacted a decision forimplementation of temporary strategy for universal services, which set thebasic strategic decisions. The relevant bylaws regulating the technicalparameters, quality requirements and pricing of providing universal services inMacedonia were enacted in the second half of 2006.

The Agency for ElectronicCommunications announced its willingness to implement a public tender procedurefor granting authorizations for radio frequency utilization in the 3.4-3.6GHz band for realization of a fixed wireless access, WiMAX. The tender will beimplemented due to efficient and effective utilization of the scarce radiofrequency resources.

*Regulation ofMobile Business*

The services provided by the mobile network operatorsin Macedonia are currently not subject to price regulation. However, theMacedonian telecommunications regulator is collecting market data on thefixed-to-mobile market. It is expected that this market analysis will becompleted by the end of the first quarter of 2007 and a probable outcome isthat T-Mobile Macedonia will be designated with SMP status. Depending on theoutcome and findings of this market analysis, regulatory obligations, includingthose relating to wholesale pricing, carrier selection and pre-selection andnational roaming cannot be excluded.

A public tender for athird mobile operator license was published on October 30, 2006. Thetender envisages granting of an authorization for radio frequencies utilizationto a third mobile operator on the entire territory of the Republic of Macedoniain the GSM 900 and DCS 1800 radio frequency bands. The authorization will begranted for an initial period of 10 years, with a possibility of subsequentextension of another 10 years. The public opening of the bid was held on January 31,2007. The Commission granted the license to the only bidder, Austrian Mobilkom.

**Macedonia and theEuropean Union**

The Republic of Macedonia signed the Stabilization andAssociation Agreement with the European Union and its Member States on April 9,2001. The Macedonian Parliament ratified the Agreement on April 12, 2001,reaffirming the strategic interest and the political commitment for integrationwith the European Union. The Stabilization and Association Agreement has beenratified and in force since April 1, 2004.

On December 17, 2005,the EU decided to grant Macedonia EU candidate status. Following candidate status,the EU must set a date to begin the negotiations about full access encompassingall aspects of EU membership, including trade, environment, competition andhealth. Macedonia, as candidate country, should harmonize its legislation withthe EU.

**Development of theTelecommunications Regulatory Regime in Montenegro**

Following the privatization of Crnogorski Telekom, thegradual liberalization of the telecommunications markets in Montenegro can beexpected in the coming years. The 2000 Montenegrin 

50

----

telecommunications law(the “2000 Law”) conferred broad authority upon the Montenegrintelecommunications regulator. The 2000 Law established a licensing regimewhereby all telecommunications activity must be licensed by the Montenegrintelecommunications regulator. In addition, a new competition law came intoforce on January 1, 2006. However, no Montenegrin competition agency hasyet been set up, and to date there is no consumer protection law or agency inMontenegro.

We expect that the 2000 Law will be significantlyamended in the second quarter of 2007, with implementation starting in thesecond half of 2007. The major goal of these amendments will be to bring thelegislation closer to EU directives, to stimulate competition, to stimulateInternet usage and to encourage investment in the telecommunications sector. Wealso expect that the current licensing-based regulatory regime will be replacedwith an authorization-based regime. Furthermore, the introduction of cost-basedpricing and accounting separation obligations, and of the provision of bindingreference interconnection offers by operators with significant market power,can also be expected.

All of these obligations would significantly lower themarket entry barriers for new providers in the telecommunications markets, thusleading to market share losses for Crnogorski Telekom in the medium and longterm.

Furthermore, the Montenegrin telecommunicationsregulator has issued a tender for two 3G licenses as well as a tender for amixed 2G-3G license for a third mobile operator. The tender procedure wasclosed on February 15, 2007 and T-Mobile Crna Gora submitted a bid.According to the local press, for each license tendered there was one offer:T-Mobile Crna Gora and Pro-Monte bid for the two 3G licenses and Telekom Serbiafor the combined 2G-3G license. Should the tender be concluded successfully anda new license or new licenses awarded to competitors, the mobile operation ofCrnogorski Telekom could face a potentially significant decrease in its marketshare over the medium term.

Local governments inMontenegro have the authority to levy municipal taxes on telecommunicationsequipment placed on municipal land and under roads, resulting in a high degreeof uncertainty for Crnogorski Telekom with respect to the overall taxliabilities. The parliament adopted legislation that established a cap on taxesthat can be charged by local governments for objects above the ground andabolishes this tax from January 1, 2008. The local governments still havethe freedom to levy any tax on cables placed under the ground.

**Montenegro and theEuropean Union**

Montenegro became anindependent state in 2006 and is in the process of conducting negotiationsabout a Stabilization and Association Agreement with the European Union.

**PRICING**

**Hungarian FixedLine Operations**

*Connection Fees*

Decree 3/2002 (I.21.)MeHVM on “Charges for Voice Telephone Services Provided by Companies withSignificant Market Power and Price Plans Related to Universal Services” (“the2002 Fixed Line Tariff Decree”) gives service providers the right to collect anadditional fee of up to 50 percent of the costs incurred for providingconnections in rural areas, if the connection fee does not cover the directcosts of the service provider. Connection fees and subscription charges, butnot usage charges, are different for our business and residential customers. Wemay apply discounts to the published charges but are not allowed to exceed anypublished charge.

51

----

*Subscription Feesand Usage Charges*

Under the Pricing Act, as modified by the ElectronicCommunications Act, the Minister is responsible for establishing the maximumrates for universal services. Tariff regulation in Hungary is currently basedon a price cap method for universal services. Since February 1, 2002,fixed line rates and connection fees have been regulated by the 2002 Fixed LineTariff Decree. This decree has been modified to limit its scope of priceregulation to universal services. The 2002 Fixed Line Tariff Decree establishedthe price cap formula, under which our annual price increase cap was set as theforward-looking Consumer Price Index (“CPI”) less a three percent productivityfactor.

According to the SMP resolutions concerningresidential and business access markets, a price cap should apply to subscriptionfees of various price plans. These SMP resolutions were only effective for2005, although a resolution with similar price cap regulation is expected for2007 as well. The SMP resolutions concerning residential and business accessmarkets extend the applicability of price caps to all subscription fees. Theresolutions provide that the maximum aggregate price increase of thesubscription fees—business and residential separately—cannot be higher than theactual CPI for the current year.

This implies that a price check can only be carriedout after the year the price cap relates to has ended.

On January 1, 2005, we set new prices for ourservices. We increased most of our residential subscription fees, resulting inan average subscription fee increase of approximately 3.5 percent forresidential PSTN lines. Subscription fees for business PSTN lines changed to avery small extent. In 2005, our traffic charges did not change significantly.

In 2006, we increased the subscription fee of ourresidential PSTN lines by 2.7 percent, while the prices of the business PSTNlines were raised by slightly more than 1 percent. Traffic fees were onlychanged in case of the popular “Felező” package: these werereduced by an average of 7.7 percent. There were no SMP resolutions for 2006.

On January 1, 2007 we carried out a subscriptionfee increase on the residential market. As a result, the PSTN residentialsubscription fees have risen by 2.8 percent on average. Business subscriptionfees are expected to be raised from March 1, 2007. On average this willamount to a 2.2 percent increase of business PSTN subscription fees on anannual basis. Traffic fees are not expected to be changed in 2007.

In 2006, the NCA initiateda controlling process on price cap compliance in all three areas (universalservices, residential and business access). We submitted the data required bythe enquiry. We were not certain about the calculation method used by the NCA.As a result, there was a briefing onour request on December 15, 2006, at which the NCA informed us about themethod to be used. Based on the information received from the NCA during thebriefing, we will breach the price cap on the residential market by about 2percentage points. However, we dispute the correctness of the method set forthby the NCA. The sanctions can include a fine (approximately HUF 250 million)and/or the obligation to reduce our residential subscription fees (a 2 percentreduction would mean a revenue loss of about HUF 1 billion).

*Rates for PSTNAccess to the Internet*

Since January 1,2004, retail rates for PSTN access to the Internet are no longer regulated.Since 2002, however, a part of the charge billed to the customer—30 percent inpeak time and 10 percent in off-peak time—must be transferred to ISPs. In thecase of flat rate Internet access, 13 percent of the fee must be shared withISPs. This type of revenue sharing remains in operation under the ElectronicCommunications Act. Since January 1, 2004, Internet call origination andFlat Rate Internet Access Call Origination (“FRIACO”) services are part of theReference Interconnection Offer (“RIO”) and the prices of these services arealso regulated within the scope of the RIO (rates approved by the NCA).

52

----

*Leased Line Fees*

After our concession ended in the area of leased linesrequired for interconnection, the leased lines market became unregulated in2002. In 2005, we were identified as an operator with SMP on the retail marketof a minimum set of leased lines and on the wholesale market of terminatingsegments of leased lines. In both cases we have been identified as the onlyoperator with SMP in Hungary.

For the leased linetermination market, the SMP resolution has adopted the “retail minus” pricingrule, requiring us to provide all wholesale leased line access services atprices approximately 33 percent lower than the listed retail prices. We arealso required to provide all services identified in the resolution nationwide.On October 11, 2006, the court abolished this resolution of the NCA, andobliged it to carry out a new process for determining SMP obligations for us onthe wholesale leased line market. The court’s decision is not binding.

*Regulated WholesalePrices*

Since December 23, 2001, the interconnectionrates are no longer regulated on an itemized basis but as part of the RIO.Since January 1, 2004, local bit-stream access must be offered as part ofthe Reference Offer for the Unbundling of the Local Loop (“RUO”), which alsoregulates pricing for the local bit-stream access. The cost methodologies usedin the reference offers are provided in the Ministerial Decree 18/2003(XII.27.) IHM on cost calculation of electronic telecommunications services.The cost-based unbundling and interconnection rates must be approved by theNCA. The reference offers must contain approved rates.

The NCA has published its SMP resolution on thewholesale broadband market, and identified Magyar Telekom Plc., as well as allother LTOs, as operators with SMP. The SMP resolution adopted a “retail-minus”pricing rule for the wholesale broadband market. According to theresolution, the NCA intends to transform the local bit-stream access servicecurrently provided by us into a nationwide bit-stream access service. Pricingfor the local bit-stream access service is currently regulated on a cost-based rule underthe RUO.

We have been identified asan operator with SMP in the voice termination and origination market and thewholesale market on unbundling of copper loops, along with all LTOs. These SMPresolutions included obligations to submit RIO and RUO. They also adoptedcost-based pricing rules, based on Long Run Incremental Costs (“LRIC”) for theRIO and Fully Distributed Costs (“FDC”) for the RUO. We submitted our firstdraft RIO in June 2005 and first draft RUO in October 2005. Afterseveral rejections and repeated submissions the NCA accepted our RIO on May 3,2006 and our RUO on September 11, 2006. The RIO took effect from September 15,2005 retrospectively and the RUO from January 20, 2006 alsoretrospectively. On December 12, 2006 the court abolished the NCA’sdecision that the RIO fees would take effect retrospectively from September 15,2005. The court’s decision is not binding.

*Other wholesaleprices*

The ElectronicCommunications Act provides that network access fees be set based on a numberof objective criteria, with transparency and without discrimination. The costof wholesale access services are now required to be calculated based on LRICand the pricing for these services must be approved by the NCA, even if theservice provider is not obliged to make a reference offer for these services.

*Network access andinterconnection agreements between Magyar Telekom and ISPs*

We enter into networkaccess agreements with ISPs to secure access to services provided by ISPs forour subscribers. In addition to the network access agreements, we may enterinto interconnection 

53

----

agreementswith ISPs. The terms and conditions for the network access agreements must bein line with the terms and conditions of the existing subscriber contracts.

*Reverse chargingagreements between Magyar Telekom and ISPs*

We have entered intoreverse charging agreements with a number of ISPs. Under these agreements,customers remit payment for Internet services to the ISPs rather than directlyto us. This scheme allows ISPs to offer various price plans based on theircustomers’ needs.

*“Price squeeze”(predatory pricing) issues*

Under the Electronic Communications Act, serviceproviders with SMP are prohibited from pricing retail network services belowtheir wholesale prices. When service providers reduce their end user prices andit causes a “price squeeze”, they are obliged to proportionally reduce theirprices in their reference offers. This provision only applies if the pricereduction affects more than 10 percent of subscribers for the service, or theimpact of the price reduction exceeds five percent of net sales of the service.

If the regulatoryauthority identifies a price squeeze, the NCA examines whether the price of thenetwork service is in line with the incurred costs. If the network prices arecost-based, the NCA refers the case to the Competition Authority. If thenetwork prices are not cost-based, the NCA determines the minimum mandatorymargin between the price of the network service and the end user service and/ororders the service provider to modify the reference offer.

**Hungarian MobileOperations**

*Market assessment,SMP designation process and interconnection*

Upon request for interconnection (to provide eithernetwork access or network interconnection) from another telecommunicationsoperator, TMH is required under the Electronic Communications Act and a relateddecree to provide such services, if such request is reasonable on bothtechnical and economic grounds and provision of such services is not impossibledue to the limitation of resources.

See “Item 8—Legalproceedings” for developments on TMH’s SMP designation process andinterconnection rates.

**Macedonian FixedLine and Mobile Operations**

Pricing for most of the retail services provided byMaktel is regulated by Maktel’s Concession Contract. Pricing and maximum changein prices for these services are based on the price cap method.

In addition, according to the ECL, based on marketanalysis the Agency for Electronic Communications may impose retail price regulationsand price controls on operators with SMP in a relevant market. The SMP operatoris obliged to keep separate accounting records for its wholesale and retailactivities.

Pricing for dial-up and ADSL access to the Internet,however, is currently unregulated.

*Regulatedwholesale prices.**  *During 2006, the Agency forElectronic Communications approved Maktel’s interconnection and unbundling fees(“MATERIO and MATERUO”) based on the fully distributed cost accounting method. However, thecurrent interconnection fees between Maktel and two mobile operators, andbetween the two mobile operators themselves, are still established based onformer interconnection agreements and not yet harmonized with MATERIO.According to the relevant bylaw, Maktel is obliged to implement long runincremental costing methodology for interconnection and unbundling prices by July 2007.

54

----

On December 21, 2006, the Agency for ElectronicCommunications decided to change the interconnection fees. The level of the newfees was determined according to benchmarks and was mainly based on Maktel’sretail fees without taking into account the costing model prepared by Maktel asprescribed by the relevant law.

The level of wholesale regulated prices directlydepends on the finalization of the price adjustment of Maktel’s retail regulatedprices.

Pricing for mobiletelecommunications services is currently unregulated. Under the Law on Electronic Communications,however, the NationalRegulatoryAgency isempowered to regulate the pricing of the retail mobile services, in caseconcern over competition arises.

**ORGANIZATIONALSTRUCTURE**

MagyarCom, which is fully owned by Deutsche Telekom,owns 59.21 percent of outstanding ordinary shares of Magyar Telekom.

For a list of principaloperating subsidiaries and associates of the Company as of December 31,2005, see Note 2 (b) (2) to the consolidated financial statements.

**PROPERTY, PLANTSAND EQUIPMENT**

We have one of the largest real estate holdings inHungary. We use substantially all of these properties for telecommunicationsinstallations, computer installations, research centers, service outlets andoffices. Our equipment and machinery primarily consist of switches,communication towers and other telecommunications equipment.

Due to the consolidation of various operations, theconversion to digital switches and ongoing staff reductions, we anticipate thata substantial portion of our owned and leased properties will not be necessaryfor our core business in the future. We intend to sell or rent our surplusproperties.

We intend to rely fully on outside providers offacility and real estate management services in the medium-term. We areaccordingly developing a new service-based contract structure and intend toterminate all our remaining in-house real estate management functions. Our aimis to secure reliable facility and real estate services at the needed qualitylevel and at prices that allow flexible management of our changing real estateportfolio and reduction of real estate management expenses.

Since February 2005, Magyar Telekom Plc.’s realestate development, investment, operations and management activities have beenoutsourced to DeTe Immobilien-HungaryZrt. The Company’s real estate department, however, continues to handlestrategic management and control of its real estate holdings.

Maktel outsourced its real estate managementoperations to a third party starting from April 1, 2006.

The number of sites used by Magyar Telekom isapproximately 6,500, out of which approximately 2,500 sites are owned by theCompany and approximately 4,000 sites are leased. The total area of propertiesused by Magyar Telekom as of December 31, 2005, was approximately1,200,000 m2.

The majority of sites used in our operations aresmaller than 100 m2.Approximately 60 percent of the total area is used to house telecommunicationsequipment and other technical devices. The largest site is our headquartersbuilding located at Krisztina krt. 55 in Budapest, with floor space of 34,000 m2.

55

----

**INFRASTRUCTURE ANDTECHNOLOGY**

**Hungarian FixedLine Operations**

Thefollowing table provides information on the length of the copper and fiberoptic cables contained in Magyar Telekom Plc.’s access, backbone and rural areanetworks in Hungary at December 31, 2005, and each of the two prior years:

| ** **        | ** ** | **At December 31,** | ** ** |
|-------------------|------------|-------------------------------|------------|
| ** **        | ** ** | **2003**                      | ** ** | **2004** | ** ** | **2005** | ** ** |
| Copper cable      |       | 161,663                       |       | 159,504 |   | 158,112 |   |
| Fiber optic cable |       | 12,988                        |       | 13,580 |   | 14,376 |   |

 

*Expansionof Access Networks.**  *At theend of 2000, we began to offer broadband Internet access services, based on theADSL and Asynchronous Transfer Mode (“ATM”) technologies. We selectedEthernet-based Digital Subscriber Line Access Multiplexers (“DSLAMs”) toprovide a more cost effective ADSL solution together with the ATM technologyalready in use. The ADSL transmission system provides high-speed digital accessto any data network over existing copper wires without interruption of PlainOld Telephone Service (“POTS”) and ISDN2 services with the data speed of 512Kbit/s and 1, 2, 3 and 4 Mbit/s. In 2005, we continued the roll-out of the ADSLtechnology nationwide. At the end of 2005, approximately 330,000 customers wereusing ADSL lines for connection to the Internet. By the end of 2005, ourinfrastructure allowed up to 2.1 million of our analog and ISDN2 subscribers tohave access to the ADSL service. This represents coverage of over 840 towns andcities and 86 percent of the population in our service area. In 2006, weintroduced the ADSL2+ technology to provide high-speed data access with dataspeed of 6 and 12 Mb/s.

We used fiber optic cables for our fixed line localloop networks for approximately 130,000 customers at the end of 2005. Weinstalled a substantial amount of local network fiber optic cable in Budapest,where segments of the old cable network were in poor condition and where webelieve the demand for high capacity and high quality transmission will be thegreatest (e.g., shopping malls, industrial parks). We extended our local fiberoptic network both inside and outside Budapest to cover new business demands.

*Wirelesssolutions.*   In 2003, we introduced the WLANtechnology in the access network for hot spot applications. By the end of 2005,207 hot spot sites were in operation. With this technology, we can provideInternet access service in public areas to customers requiring temporaryInternet access (e.g., conference centers, exhibitions, airports, hotels).Since the end of 2004, WLAN users of TMH and Magyar Telekom Plc. can use hotspot sites operated by either entity.

We have been selectively applying radio technology inour local loops since 1996. At the end of 2005, approximately 79,800 subscriberlines were based on the radio technology.

In 2005, we have introduced new SHDSL access in thenetwork. The speed of the leased line connections has been increasing in therecent years.

*BackboneNetwork.**  *We havea digital fiber optic national long-distance network that connects localprimary area networks. We have implemented the DWDM technology and SynchronousDigital Hierarchy (“SDH”) systems in both the national long distance and Budapestnetworks. The countrywide DWDM backbone network, installed in 2001, provideshigh capacity (maximum 24 times 10 Gbit/s) in the most important nodes ofHungary, as well as in international directions. In 2005, we carried on anextension of the DWDM network. By the end of the year the network reached allcounty towns. In addition to cost advantages, SDH systems provide a flexibletransmission infrastructure with automatic transmission paths. We introduced anew generation of the SDH system that, besides increasing network availabilityand transmission capacity, enables new services, such as data transmission(e.g., Ethernet). In 2005, the increase in the capacity of the backbone networkserved the growing demand of IP core network and 

56

----

HSLL. The HSLL is mainlyprovided for mobile operators. Since we currently have a robust opticalbackbone network, we have no immediate plan for expansion. As of December 31,2005, we had approximately 4,500 kilometer of backbone optical cable network.

*IP/MultiProtocolLabel Switching (“MPLS”).*   Since 2000, we haveprovided Internet access and IP-VPN services on the same IP/MPLSplatform. The network is built of STM-16, Gigabit Ethernet and 10GEconnections. The network has several access options (dial-up, leased line,broadband DSL, CATV) with PoPs in each primary area in Hungary. Availableservices include IP-VPN (scalable interconnection for corporate sites withIntegrated Voice and Data option), IPSec and xDSL to Virtual Private Networks,Virtual Private Dial-up Network and wholesale Internet services for ISPs. Theconnectivity network that concentrates xDSL traffic towards the IP backbone isbased on ATM and Ethernet technology. In 2006, we implemented significantcapacity, quality and functional upgrades, including a countrywide 10 Gbit/sbackbone, QoS and high-availability features in order to prepare our IP networkto become the transport platform for Next Generation Network (“NGN”) andtriple-play services.

We are making preparations for interconnection andconvergence of voice and data networks, which are currently separate. The NGNconcept has been espoused as a long-term project. We do not plan to develop ourtraditional (such as PSTN/ISDN) network further except for maintenance andlegal compliance purposes. The key focus instead will be on development oftechnologies and networks compatible with or forming a part of NGN, such asVoIP. In 2005, Voice-over CATV, Integrated Voice and Data service (IP ComplexPlus) and Voice-over Internet (KLIP) have been introduced. In 2006, wecontinued to deploy a carrier-grade multi-service NGN. In addition, an IPMultimedia Subsystem has been introduced as a core component of the newplatform jointly with TMH.

*InformationTechnology.**  *We havededicated a significant amount of resources to improve our informationtechnology systems. We believe that the continuing development of these systemsis essential to improving customer service and the efficiency and productivityof our employees.

Our nationwideoperational support system integrates the following elements:

·       CRM;

·       billing;

·       automatedcall collection;

·       networktraffic management;

·       workforceand workflow management;

·       element,network and service management (configuration, alarm management, SLAmanagement); and

·       processcontrolled technical inventories.

This operational supportsystem environment permits us to focus our customers’ needs, to offer morepersonalized services, to bundle products and services in price plans and to generatea single bill for customers with multiple locations. In 2005, we alsoimplemented an e-billing solution to replace printed bills for our customers.

**Hungarian MobileOperations**

*GSMnetwork.**  *TMHoperates a nationwide GSM public digital mobile network in the 900 MHzband with 8 MHz duplex spectrum since 1994, in the 1800 MHz band with6 MHz duplex spectrum since 1999 and in the 1800 MHz band with a total of15 MHz duplex spectrum since January 2004. To guarantee the 

57

----

best possible servicequality for our customers, we are dedicated to the continuing network roll-outto meet traffic and coverage demands.

*Coverage.**  *The coverage of village with populations between1,000 and 10,000 was 97 percent as of December 31, 2005. The deep indoorcoverage in cities over 100,000 inhabitants, including Budapest, was 97 percentas of December 31, 2005.

*Packetswitched data services. GPRS and EDGE.**  *General Packet Radio Service was introduced by TMH inMarch 2001, for the first time in Hungary. GPRS provides a continuousseamless connection and higher data rates. At the end of 2003, commercial EDGEservice was launched in approximately 23 percent of the Budapest area. By theend of 2004, EDGE coverage reached 91 percent of Budapest. In 2005, the EDGEdevelopment project was continued, resulting in 59 percent residential coverageof Hungary by the end of the year. The peak data rate was increased to around200 Kbit/s in 2005.

*UniversalMobile Telecommunications System.**  *InOctober 2003, TMH became the first operator in Hungary to support videocalls on its own UMTS test network. The 3G network enables—besides rapid datatransmission and video-telephone—more comprehensive and interesting contentthan before, including, in addition to image and text, fast transmission ofhigh quality multimedia materials. In December 2004, TMH was awarded a 3Gservice license and was granted the use of 15 MHz duplex and 5 MHzunpaired 3G spectrums until 2019. In August 2005, TMH launched commercialUMTS service, the first in Hungary. By the end of 2005, UMTS coverage increasedto 43.6 percent of Budapest. At the end of 2005, TMH started to test High SpeedData Package Access (“HSDPA”) in its own UMTS test network. The currentavailable data speed per cell with HSDPA can be up to 1.45 Mbit/s.

*InformationTechnology.**  *TMH’soperations are supported extensively by IT solutions. A great number of closelyintegrated application systems are used in sales, customer service, collection,service provisioning, call data processing (mediation) and charging, fraudmanagement, billing, handset logistics, interconnect billing, general ledgerreporting and electronic document archiving.

TMH operates proprietaryData Warehouse (“DWH”), which provides management and endorsers with businessreports and marketing and finance analysts with detailed subscriber, trafficand business information for on-line interactive analysis. DWH is playing amajor role in customer segmentation and customer life-cycle value calculation.

**Macedonian FixedLine Operations**

Maktel endeavors to maintain its network at a hightechnological level to offer and provide a wide range of products and servicesthat will satisfy customers’ demands.

The PSTN/ISDN network in the Republic of Macedonia hasbeen fully digitalized since the end of 2003. The liberalization of thetelecommunications market required Maktel to perform a substantial upgrade ofthe PSTN/ISDN platform. With the upgrade, switching systems are now able tosupport carrier selection and pre-selection functions and certain preconditionsfor the implementation of number portability have been also established.

During 2005, VocalTec-based international VoIPplatform was installed in the network for the purposes of terminating andoriginating international VoIP calls.

The existing copper-wire network is a good basis forintroduction of broadband services based on the DSL technologies. At the end of2003, Maktel introduced broadband Internet access services based on the ADSLtechnology. Optical cables in the access network are used for connection of keybusiness customers.

Maktel’s primary areanetworks are connected to the fiber optic national long distance network. TheSDH technology has been implemented in the backbone network, in the transmissionnetworks in Skopje and other cities in the country.

58

----

**Macedonian MobileOperations**

T-Mobile Macedonia hasbuilt a high quality and high capacity network that meets the requirements andneeds of its growing subscriber base. Our rating and billing platforms provideenhanced services for the entire prepaid and postpaid customer base as well asfor the interconnection partners. Our comprehensive solutions for promotions,discounts and incentives provide extensive flexibility for tailored offeringsand customer satisfaction.

**ENVIRONMENTPROTECTION**

The management committee of Magyar Telekom adopted theSustainability Strategy of the Company in January 2005 to strengthen ourcommitment to sustainable development.

As a part of ourcommitment to sustainability, we developed a sustainability section for MagyarTelekom’s website. This section includes our reports and news relating tosustainability and discusses our philosophy and approach to sustainability.

**ITEM 4A—UNRESOLVEDSTAFF COMMENTS**

Not applicable.

**ITEM 5—OPERATINGAND FINANCIAL REVIEW AND PROSPECTS**

The following discussionshould be read together with the consolidated financial statements, includingthe accompanying notes, included in this annual report. The consolidatedfinancial statements, the accompanying notes as well as the discussion ofresults presented below have been prepared in accordance with IFRS. IFRSdiffers in certain respects from U.S. GAAP. For a discussion of the principaldifferences between IFRS and U.S. GAAP as they relate to us, see Note 34 to theconsolidated financial statements. Revenues and operating expenses discussedunder “—Results of Operations—By Segment” do not reflect intrasegment andintersegment eliminations.

**OPERATING RESULTS**

***Results ofOperations—Total***

***Basis of presentation***

We determine segments primarily based on products andservices that are subject to risks and returns different from those of otherbusinesses. In 2004, we changed our segment disclosure as a result of thechange in our management and reporting structure. The segment disclosures for2003 have been amended to facilitate comparability with the disclosure for 2004and 2005. The primary segments are based on the business lines (fixed line andmobile operations), which include both Hungarian and international activities.Reported segments are consistent with information used by management forinternal reporting and monitoring purposes. In addition, our secondary formatfor reporting segment information is geographical segments.

In 2005, Magyar Telekomacquired a 76.53 percent interest in Crnogorski Telekom. Crnogorski Telekom’sbalance sheet was consolidated in our accounts as of March 31, 2005, andthe results of Crnogorski Telekom are included in our consolidated incomestatement from the second quarter of 2005.

***Total Revenues***

Our total revenues grew by3.2 percent from HUF 601,438 million in 2004 to HUF 620,697 million in 2005.Increase in revenues was mainly due to higher revenues from mobiletelecommunications services, which grew by 8.4 percent from 2004 to 2005,driven by an increase in the mobile subscriber base as well as 

59

----

higherenhanced services revenues. The higher leased lines and data transmissionrevenues also contributed to the growth, which was partly offset by lowerrevenues from outgoing domestic and international traffic in the fixed linetelecommunications services. The consolidation of Crnogorski Telekom alsocontributed to the revenue growth.

***Total Operating Expenses***

Our total operating expenses decreased by 5.6 percentfrom 2004 to 2005. Operating expenses amounted to HUF 516,174 million in 2004and HUF 487,309 million in 2005. Our total operating expenses as a percentageof total revenues decreased from 85.8 percent in 2004 to 78.5 percent in 2005.

Depreciation and amortization and employee-relatedexpenses are our most significant operating expenses.

Depreciation and amortization decreased by 16.7percent from HUF 137,666 million in 2004 to HUF 114,686 million in 2005mainly as a result of the discontinuation of goodwill amortization from January 1,2005. In accordance with the IFRS 3 standard, goodwill relating to acquisitionsafter March 31, 2004 was not amortized and the amortization of theexisting goodwill was discontinued from January 1, 2005 which causedsignificant decrease in 2005. The impairment of the Westel brand name in 2004also contributed to the decrease. As a result of the continuous revision of theuseful life of our assets, the lives of certain assets were changed as of January 1,2005. These assets mainly included ISDN and ADSL equipment, other equipment andvehicles and the change in useful life resulted in HUF 1,771 million higherdepreciation expense in 2005, which partly offset the other decreases.

Employee-related expenses decreased by 15.3 percent in2005 compared to 2004 resulting from the lower amount of severance provisionand expenses as well as decreased average headcount. The total payment made inrelation to employee termination in 2005 amounted to HUF 14,535 million, ofwhich HUF 10,721 million was charged against the provision for liabilities andcharges as at December 31, 2004, while the rest was recognized asemployee-related expense in 2005.

Other operating expenses—net include materials,maintenance, marketing, service fees, outsourcing expenses, energy andconsultancy. Other net operating expenses increased by 9.3 percent in 2005compared to 2004 primarily due to the inclusion of Crnogorski Telekom’sexpenses. Subcontractor’s fees also increased as a result of increasedcommissions related to price plans sold both in LTOs’ and Magyar Telekom Plc.’sservice areas. Although individual elements of other operating expensesincreased also due to the rebranding of the fixed line operations, theseexpenses are compensated by DT, therefore on net terms they do not result inincreased other net operating expenses.

In the course of conducting their audit of our 2005financial statements, PwC identified certain contracts the nature and businesspurposes of which were not readily apparent. PwC notified the Audit Committeeand advised them to retain independent counsel to conduct an investigation intothese contracts. Our Audit Committee retained White & Case, as itsindependent legal counsel, to conduct the investigation. See “Item 3—RiskFactors” and “Item 15—Controls and Procedures.”

In 2005, other expenses include HUF 2,059 million paidunder four consulting contracts entered into by Magyar Telekom Plc. and two ofits subsidiaries as to which it has not been able to obtain sufficient evidencethat it or its subsidiaries received adequate value. This amount also includesthe tax implications of the payments as well.

In 2006, Magyar Telekomincurred HUF 4.1 billion expenses relating to the investigation, which areincluded in other operating expenses—net in the Hungarian fixed lineoperations. This amount includes HUF 3.3 billion legal fees, HUF 0.3 billionaudit fees and HUF 0.5 billion fees paid for legal counsel representing ourcurrent and former employees.

60

----

***Total Operating Profit***

Our total operating profitincreased by 56.4 percent from HUF 85,264 million in 2004 to HUF 133,388million in 2005 due to the increase in total revenues and the decrease inoperating expenses.

***Outlook***

The telecommunications industry is undergoing a majorchange globally. We have observed several long-term trends which are changingthe structure of the Hungarian telecommunications market. Key drivers of thelong-term trends include changes in technology (i.e., IP-based broadbandproducts and solutions, emerging wireless broadband technologies), customerrequirements (i.e., mobility and ease of use, triple-play solutions),competition and regulation (i.e., low entry barriers, new business models).

To adapt to these changes in the market, we are nowmoving from the traditional traffic-based revenue structure to an access-basedrevenue structure, which will allow us to substitute declining traffic revenueswith content, entertainment and bundled access revenues. In addition, we areseeking new revenue sources by entering into new non-traditional convergedtelecommunications markets.

We should emphasize that each segment is affected byits unique business environment, and we are subject to circumstances and eventsthat are yet unforeseen or beyond our control. We have identified several riskfactors which may affect our business in the future including changes in theregulatory environment, changes in competition, the unforeseeable effects ofthe announced stabilization package of the Hungarian government and changes inthe foreign exchange rates just to mention the most important ones. See thedetailed description of these and other risk factors in “Item 3—Risk Factors”.

Magyar Telekom’s current plans and outlook are basedon our current best knowledge and expected circumstances. Nevertheless the behaviorof our competitors can hardly be completely predicted. Therefore a strongerthan assumed impact of alternative operators, new market entrants and newsolutions in any country where Magyar Telekom is present could influence ourbusiness performance negatively.

We expect that our corebusiness units will be able to continue to generate strong free cash flow.However, there are some significant elements that can have negative effects onthe free cash flow, for example, the roll-out of EDR infrastructure andpotential acquisitions. Despite these effects we expect to generate solidpositive free cash flow in 2007 as well.

**Revenues**

During 2006, the revenue recognition for value-addedservices has been revisited. It has been determined that for IFRS and US GAAPpurposes the company acts more as an agent than a principal in the majority ofsuch arrangements, which necessitates a net presentation of such revenues. Forthis reason the related outpayments have been reclassified from expenses torevenue offsetting items, which affects the reported revenue figures in themobile and the fixed line segment as well.

The following reflects ourcurrent expectations with respect to our segmental plans and initiatives:

***Fixed line segment***

In the fixed line segment, we expect continued gradualdecline in fixed line voice revenues due to continued line erosion and fixedline unit price erosion driven by mobile substitution and the increasedcompetition in the fixed line market, including competition from PSTN resellersand VoIP or VoCATV providers. As indicated in our strategy, to mitigate thedecrease in fixed line voice revenues we are now moving from the traditionaltraffic-based revenue structure to an access-based revenue structure, whichwill allow us to substitute declining traffic revenues with content,entertainment and bundled access revenues.

61

----

As the leading broadbandprovider in Hungary, we are committed to accelerating growth in country-widebroadband penetration by applying a multi-access cost-efficient approach. InNovember 2006, we launched IPTV services; in early 2007 we plan to doublebandwidths on our network by utilizing ADSL2 technology and to further boostmarket development by introducing naked DSL services.

We aim to move towardscontent and media businesses to support traditional access services and buildnew revenue streams/ exploit new revenue sources. Accordingly, inApril 2006, we gained control of iWiW Kft., the leading Hungarianonline social network currently registering more than a million users. InMay 2006, we acquired Adnetwork, the leading domestic online advertisementnetworks to leverage the online advertisement potential of T-Online and partnerweb pages.

To maintain sustainablecompetitiveness in the corporate sector, we have committed to furtherdeveloping our IT competencies by focusing on complex service offering viamanaged services, system integration and outsourcing through consultancy-basedselling to corporate customers. This strategic initiation is promoted by theacquisition of KFKI Group in June 2006 and Dataplex in April 2006.Expanding our business operation to these new areas with lower EBITDA marginsresults in a dilutive effect in the EBITDA margin both on fixed segment andMagyar Telekom Group level.

In addition, we areseeking new revenue sources by entering new non-traditional telecommunicationmarkets such as transactional services and commerce to generate new revenuestreams in case a potential business opportunity arises to capture potentialgrowth opportunities on new converged market areas. 

We also had highercontributions from Crnogorski Telekom in 2006 since the consolidation commencedin April 2005. International PoP and alternative operations are expected tocontribute increased revenues as well. Especially in the case of our Bulgariansubsidiary (Orbitel) are we expecting a changing trend because since its EUmembership commenced in January 2007, Bulgaria has to apply the EU regulationin the telecommunication sector as well.

In Montenegro, the defacto exclusivity of Crnogorski Telekom in international voice traffic has cometo an end as Promonte, the Montenegrin market leader in mobile telephony hasacquired a license for international voice traffic valid from January 1, 2007.There are several public tenders ongoing in Montenegro having a significantlong term effect on the telecommunication market. The MontenegrinTelecommunication Agency has announced a public tender for cable televisionservices, in which 10 companies got licenses. As a result, new cabletelevision service providers may enter traditional telecommunications marketsin 2007. The Montenegrin Telecommunication Agency has also announced publictenders for providing telecommunication services using WiMAX technology. These tenderswill influence the level of competition in Montenegro.

***Mobile segment***

In the mobile segment weexpect continuing growth in net revenues at TMH, T-Mobile Macedonia andT-Mobile Crna Gora as well. Market penetration in Hungary is now almostsaturated, and we expect lower growth rates due to a smaller number ofpotential new subscribers. This trend is partly offset by the migration ofprepaid customers to postpaid packages and the future growth potential ofhigher-value services, which is supported by the launch of UMTS and HSDPAservices. Accordingly, leveraging first mover advantage on our newly built HSDPAcapacities is one of T-Mobile Hungary’s primary strategic priorities on thefast growing wireless broadband market.

We won the EDR tender of the Hungarian government andwill provide TETRA services for 10 years. Significant revenue contribution wasrealized from this project already in 2006. The EDR system implementationresulted in significant increase in revenues and also in the cost of equipmentsale in 2006. Looking forward to 2007, this significant one-off revenue andcost of equipment sale will be eliminated resulting in lower revenues andaccordingly also lower cost of equipment sale on this field of operation.

62

----

In the Macedonian and Montenegrin market, subscribergrowth continued in 2006 and drove the net revenue growth. For 2007, we expecta slowdown of subscriber growth in both countries.

The government of Macedonia has approved AustrianMobilkom’s bid to become the country’s third mobile operator at the beginningof 2007. The Austrian firm was the sole company to submit a bid on the tenderfor the third license. Under the license rules, the new operator must launchservices within six months of being granted the license. Therefore thesuccessful bidder is expected to launch its operation by July 2007.

The MontenegrinTelecommunication Agency has announced public tenders for providing 3rd Generationmobile services and a combined new license to provide 2G/3G mobile telephonyservices in Montenegro. The outcome of this tender will definitely influencethe market development in Montenegro.

**Expenses**

In line with our strategy, we plan to improve ourinternal operational efficiency in all segments. Our initial 2006 goal toimprove the efficiency of our workforce by increasing the fixed lines(B-channel equivalent) per employee ratio to over 500 (a ratio that correspondsto the best practice in Western Europe) was already reached by the end of February 2006.We are targeting further headcount reductions in our foreign fixed line serviceproviders. We are determined to bring their performance in line with industrybest practice and our management is committed to further simplification andimprovement of processes and connected systems. In addition to organizationalmeasures and process improvement, we seek cost savings by leveraging ourgroup-wide synergies in procurement.

The merger of MagyarTelekom Plc. and TMH enables us to further improve efficiency. We are expectingsignificant value generation through the gradual implementation of theintegration by seizing additional revenues and optimizing operating and capitalexpenses. In 2006, the first impacts from the fixed-mobile integration in termsof sales and customer retention began to be seen. These were, however, offsetby related costs. The next three years we expect to see a significant positiveimpact, with net present value of these benefits currently estimated to bearound HUF 60 billion in the period of 2007-2009. The integration of ourfixed and mobile businesses will particularly enhance our competitiveness inthe areas of customer care and customer service, products and valuepropositions, back-office and supporting systems and joint networkinfrastructure management.

**Gross additions totangible and intangible assets**

We aimed to reduce the gross additions to tangible andintangible assets to sales ratio to below 15 percent in 2006 and succeededin meeting this target. We are targeting this ratio to fall below 14 percent in2007 excluding potential acquisitions. We expect an increasing proportion ofgross additions to relate to high-growth areas in the fixed line segment, suchas Internet, broadband and data transmissions, while our mobile segment willcontinue the roll-out of the UMTS and HSDPA infrastructure.

According to our strategicdirections we are committed to further strengthening and leveraging ourpresence in the South-East European region. Therefore, we are continuouslyseeking for further value-creating acquisition and investment targets with evenlarger scale.

**Revenue and EBITDAtargets**

Based on our formeroutlook and market and regulatory conditions, we expected to achieve compoundedaverage revenue growth rate of at least three percent for the period of 2006-2007.In terms of EBITDA, we targeted to maintain the 2005 reported EBITDA level in2006. At the end of 2006, we were fully on track to meet both of these targets.Looking forward to 2007, we are targeting stable revenue and EBITDA in forintterms over 2006 reported figures.

63

----

**Results of Operations—By Segment**

Thefollowing table sets forth revenues, operating expenses and operating profit bysegment:

| ** **                                      | ** ** | **Year ended December 31,** | ** ** |
|-------------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                      | ** ** | **2003**                                   | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                                      | ** ** | **(in HUF millions)**            | ** ** |
| Revenues                                        |       |                                       |       |   |   |   |   |
| Hungarian Fixed line                            |       | 324,552                                    |       | 301,743 |   | 288,050 |   |
| International Fixed line                        |       | 49,690                                     |       | 45,184 |   | 55,850 |   |
| Total                                           |       | 374,242                                    |       | 346,927 |   | 343,900 |   |
| Less: intra-segment  revenues                   |       | (1,553                                     | )          | (907 | ) | (1,006 | ) |
| Total revenue of Fixed  line segment            |       | 372,689                                    |       | 346,020 |   | 342,894 |   |
| Less: inter-segment  revenues(1)                |       | (14,034                                    | )          | (11,846 | ) | (11,832 | ) |
| Fixed line revenue from  external customers     |       | 358,655                                    |       | 334,174 |   | 331,062 |   |
| Hungarian Mobile                                |       | 254,141                                    |       | 263,023 |   | 270,362 |   |
| International Mobile                            |       | 31,575                                     |       | 33,734 |   | 42,693 |   |
| Total                                           |       | 285,716                                    |       | 296,757 |   | 313,055 |   |
| Less: Intra-segment  revenues                   |       | (20                                        | )          | (58 | ) | (27 | ) |
| Total revenue of Mobile  segment                |       | 285,696                                    |       | 296,699 |   | 313,028 |   |
| Less: inter-segment  revenues(1)                |       | (37,099                                    | )          | (29,435 | ) | (23,393 | ) |
| Mobile revenue from  external customers         |       | 248,597                                    |       | 267,264 |   | 289,635 |   |
| Total revenue of the  Group                     |       | 607,252                                    |       | 601,438 |   | 620,697 |   |
| Operating expenses                              |       |                                       |       |   |   |   |   |
| Hungarian Fixed line                            |       | 280,462                                    |       | 288,682 |   | 247,751 |   |
| International Fixed Line                        |       | 37,924                                     |       | 38,156 |   | 46,783 |   |
| Total                                           |       | 318,386                                    |       | 326,838 |   | 294,534 |   |
| Less: intra-segment  expenses                   |       | (1,552                                     | )          | (907 | ) | (1,006 | ) |
| Total operating expenses  of Fixed line segment |       | 316,834                                    |       | 325,931 |   | 293,528 |   |
| Hungarian Mobile                                |       | 199,111                                    |       | 206,895 |   | 198,645 |   |
| International Mobile                            |       | 20,396                                     |       | 24,687 |   | 30,388 |   |
| Total                                           |       | 219,507                                    |       | 231,582 |   | 229,033 |   |
| Less: intra-segment  expenses                   |       | (20                                        | )          | (58 | ) | (27 | ) |
| Total operating expenses  of Mobile segment     |       | 219,487                                    |       | 231,524 |   | 229,006 |   |
| Less: inter-segment  expenses(1)                |       | (51,133                                    | )          | (41,281 | ) | (35,225 | ) |
| Total operating expenses of the Group           |       | 485,188                                    |       | 516,174 |   | 487,309 |   |

 

| ** **                          | ** ** | **Year ended December 31,** | ** ** |
|-------------------------------------|------------|--------------------------------------------|------------|
| ** **                          | ** ** | **2003**                                   | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                          | ** ** | **(in HUF millions)**            | ** ** |
| Operating profit                    |       |                                       |       |   |   |   |   |
| Hungarian Fixed line                |       | 44,090                                     |       | 13,061 |   | 40,299 |   |
| International Fixed line            |       | 11,765                                     |       | 7,028 |   | 9,067 |   |
| Fixed line segment                  |       | 55,855                                     |       | 20,089 |   | 49,366 |   |
| Hungarian Mobile                    |       | 55,030                                     |       | 56,128 |   | 71,717 |   |
| International Mobile                |       | 11,179                                     |       | 9,047 |   | 12,305 |   |
| Mobile segment                      |       | 66,209                                     |       | 65,175 |   | 84,022 |   |
| Total operating profit of the Group |       | 122,064                                    |       | 85,264 |   | 133,388 |   |

----

(1)          Inter-segmenteliminations include primarily interconnection fees between the fixed line andmobile networks.

64

----

***Fixed LineTelecommunications Segment***

The fixed line segmentincludes Magyar Telekom Plc. and its consolidated subsidiaries, other than T-MobileMacedonia, T-Mobile Crna Gora, TMH and Westel 0660.

***Revenues***

Our fixed linetelecommunications segment includes local, domestic and international longdistance telephone services as well as value added digifon services such ascall waiting, itemized billing and telephone and private branch exchangeequipment rental. This segment also consists of revenues from related services,such as leased lines, data transmission, Internet, equipment sales and cabletelevision.

**Hungarian Fixed Line Operations**

Hungarian fixed lineoperations include Magyar Telekom Plc. and its consolidated subsidiaries, otherthan TMH, Westel 0660 and our foreign subsidiaries.

Thefollowing table sets forth information regarding Hungarian fixed line revenues:

| ** **                                    | ** ** | **Year ended December 31,** | ** ** | **Year ended December 31,** | ** ** |
|-----------------------------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                    | ** ** | **2003**                                   | ** ** | **2004**                                   | ** ** | **2005** | ** ** | ** 2004/2003 ** | ** ** | ** 2005/2004 ** | ** ** |
| ** **                                    | ** ** | **(in HUF millions)**            | ** ** | **(% change)**                        | ** ** |
| Subscriptions,  connections and other charges |       | 98,250                                     |       | 96,452                                     |       | 95,044 |   |   | (1.8 | ) |   |   | (1.5 | ) |   |
| Outgoing domestic traffic revenues            |       | 112,227                                    |       | 95,160                                     |       | 69,996 |   |   | (15.2 | ) |   |   | (26.4 | ) |   |
| Outgoing international traffic revenues       |       | 9,473                                      |       | 8,491                                      |       | 6,824 |   |   | (10.4 | ) |   |   | (19.6 | ) |   |
| Total outgoing  traffic revenues              |       | 121,700                                    |       | 103,651                                    |       | 76,820 |   |   | (14.8 | ) |   |   | (25.9 | ) |   |
| Incoming domestic traffic revenues            |       | 15,365                                     |       | 8,192                                      |       | 9,712 |   |   | (46.7 | ) |   |   | 18.6 |   |   |
| Incoming international traffic revenues       |       | 13,040                                     |       | 9,679                                      |       | 8,637 |   |   | (25.8 | ) |   |   | (10.8 | ) |   |
| Total incoming  traffic revenues              |       | 28,405                                     |       | 17,871                                     |       | 18,349 |   |   | (37.1 | ) |   |   | 2.7 |   |   |
| Leased lines and data transmission            |       | 43,836                                     |       | 52,995                                     |       | 63,866 |   |   | 20.9 |   |   |   | 20.5 |   |   |
| Equipment sales                               |       | 2,949                                      |       | 3,328                                      |       | 3,700 |   |   | 12.9 |   |   |   | 11.2 |   |   |
| Other revenues                                |       | 29,412                                     |       | 27,446                                     |       | 30,271 |   |   | (6.7 | ) |   |   | 10.3 |   |   |
| Total                                         |       | 324,552                                    |       | 301,743                                    |       | 288,050 |   |   | (7.0 | ) |   |   | (4.5 | ) |   |

 

*Subscriptions, connectionsand other charges.**  *Revenuesfrom subscriptions, connections and other charges consist of revenues frommonthly subscription fees, connection fees, fees for digifon services andrental charges for telephones and private branch exchanges. Revenues fromsubscriptions, connections and other charges are principally a function of thenumber and mix of residential, business and ISDN access lines and correspondingcharges.

Revenues fromsubscriptions, connections and other charges decreased in 2004 as compared to2003 principally as a result of lower revenue from Internet price plans asMagyar Telekom Plc. terminated the sale of 15-, 40-, 100-hourand other wholesale Internet plans on June 30, 2004. In accordance withthe Electronic Communications Act, which went into effect on January 1,2004, Magyar Telekom Plc. could no longer charge for itemized billing in 2004,which resulted in lower revenue from digifon services. Revenues from connectionfees also declined mainly due to promotions given to new customers and the 50percent decrease in business analog connection fee from June 1, 2004. The35 percent decrease in ISDN2 connection fee effective from January 1, 2004and lower ISDN gross additions also contributed to the decrease. As a result ofsuccessful campaigns, gross additions of analog lines increased significantlyin 2004 as compared to 2003. Lower value-added services and PBX revenues at BCNRendszerház Kft. also had negative influence on revenues from other charges.

65

----

These decreases were partly offset by business analogsubscription fee increases from January 1, 2004.

Revenues from subscriptions, connections and othercharges slightly decreased in 2005 as compared to 2004 due to decreased ISDNsubscription fee revenues at Magyar Telekom Plc. as a result of the lowernumber of average ISDN connections. Amortization of deferred revenues alsodecreased as amortization of connection fees collected ten years ago started torun out. Lower value-added services relating to Sulinet together with decreasedPBX revenues at BCN Rendszerház Kft. also reduced revenues from other charges.

These decreases were partly offset by increased othercharges at Magyar Telekom Plc. attributable to higher revenues collected fromsubscription fees for supplementary price plans like XL and XXL.

Thetable below sets forth information regarding average access lines in ourservice areas:

| ** **                                                                   | ** ** | **Year ended December 31,** | ** ** | **Year ended December 31,** | ** ** |
|------------------------------------------------------------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                                                   | ** ** | **2003**                                   | ** ** | **2004**                                   | ** ** | **2005** | ** ** | ** 2004/2003 ** | ** ** | ** 2005/2004 ** | ** ** |
| ** **                                                                   | ** ** | ** **                                 | ** ** | ** **                                 | ** ** | ** ** | ** ** | **(% change)** | ** ** |
| Average access lines in  the service areas of Magyar Telekom Plc. and Emitel |       |                                       |       |                                       |       |   |   |   |   |   |   |   |   |   |   |
| Residential                                                                  |       | 2,094,971                                  |       | 2,078,089                                  |       | 2,033,397 |   |   | (0.8 | ) |   |   | (2.2 | ) |   |
| Business                                                                     |       | 274,777                                    |       | 264,858                                    |       | 255,207 |   |   | (3.6 | ) |   |   | (3.6 | ) |   |
| Public payphones                                                             |       | 32,593                                     |       | 28,966                                     |       | 23,822 |   |   | (11.1 | ) |   |   | (17.8 | ) |   |
| Total                                                                        |       | 2,402,341                                  |       | 2,371,913                                  |       | 2,312,426 |   |   | (1.3 | ) |   |   | (2.5 | ) |   |
| ISDN channels                                                                |       | 524,401                                    |       | 530,622                                    |       | 515,900 |   |   | 1.2 |   |   |   | (2.8 | ) |   |
| Total                                                                        |       | 2,926,742                                  |       | 2,902,535                                  |       | 2,828,326 |   |   | (0.8 | ) |   |   | (2.6 | ) |   |

 

The number of analog lines decreased in 2004 and 2005,partly as a result of migration of customers to mobile services and due toincreased competition in the fixed line market. The decrease in the number ofISDN channels in 2005 was due to the popularity of other types oftelecommunications connections, mainly ADSL.

*Outgoingdomestic traffic revenues.**  *Outgoingdomestic traffic revenues consist of traffic charges for local and domesticlong distance calls placed by our subscribers. Outgoing domestic trafficrevenues are a function of rates, the total number of telephone calls, thedistribution of call duration, the time of day and the mix between more costlydomestic long distance calls and less expensive local calls.

Thefollowing table sets forth the total minutes of domestic telephone traffic thatour Hungarian fixed line subscribers generated, including calls from the fixedline network to mobile subscribers:

| ** **                                                | ** ** | **Year ended December 31,**   | ** ** | **December 31,** | ** ** |
|-----------------------------------------------------------|------------|----------------------------------------------|------------|-----------------------|------------|
| ** **                                                | ** ** | **2003**                                     | ** ** | **2004**              | ** ** | **2005** | ** ** | **2004/2003** | ** ** | **2005/2004** | ** ** |
| ** **                                                | ** ** | **(in thousands of minutes)** | ** ** | **(% change)**   | ** ** |
| Domestic voice  traffic at Magyar Telekom Plc. and Emitel |       | 6,078,326                                    |       | 5,859,967             |       | 5,126,455 |   |   | (3.6 | ) |   |   | (12.5 | ) |   |
|                                                           |            |                                              |            |                       |            |  |  |  |  |  |  |  |  |  |  |

 

Outgoing domestic traffic revenues decreased in 2004as compared to 2003 mainly as a result of lower average per minute fees. WhileMagyar Telekom Plc. increased its rates on January 1, 2004, it offeredseveral discounts to customers choosing certain price plans. At the end of December 2004,over 58 percent of Magyar Telekom Plc.’s customers chose customized priceplans, the most popular of which was the Felező plans. The introduction of theXL and XXL supplementary price plans in December 2003 and in September 2004,respectively, also contributed to the decrease in outgoing domestic trafficrevenues. Within domestic traffic revenues, fixed-to-mobile revenues decreasedthe most, mainly as we reduced our rates in this direction in September andOctober 2003.

66

----

Outgoing domestic traffic revenues decreased in 2005as compared to 2004 mainly as a result of decreased fixed line usage due tomobile substitution as well as intensive competition from other fixed lineoperators. The proportion of calls changed unfavorably as well, as the higherpriced long distance and fixed-to-mobile traffic decreased to a greater extentthan local traffic. The decrease in revenue is higher than the decrease intraffic, due to lower average per minute fees. In line with the decision of theNational Regulatory Authority to reduce fixed-to-mobile termination rates, werecorded a reduction in the fixed-to-mobile revenues. The price discounts includedin different price plans also contributed to lower outgoing domestic trafficrevenues. At the end of December 2005, approximately 66 percent of MagyarTelekom Plc.’s customers had chosen customized price plans, the most popular ofwhich were the Felező plan with over 530,000subscribers and the Favorit plan with approximately 325,000 customers.

*Outgoinginternational traffic revenues.**  *Outgoinginternational traffic revenues are a function of rates and the number, durationand mix of calls to destinations outside Hungary placed by our fixed linesubscribers.

Thefollowing table sets forth information concerning outgoing internationaltraffic:

| ** **                                                                | ** ** | **Year ended December 31,**   | ** ** | **Year ended December 31,** | ** ** |
|---------------------------------------------------------------------------|------------|----------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                                                | ** ** | **2003**                                     | ** ** | **2004**                                   | ** ** | **2005** | ** ** | ** 2004/2003 ** | ** ** | ** 2005/2004 ** | ** ** |
| ** **                                                                | ** ** | **(in thousands of minutes)** | ** ** | **(% change)**                        | ** ** |
| Outgoing  international traffic at Magyar Telekom Plc. and Emitel(1) |       | 140,738                                      |       | 133,773                                    |       | 113,315 |   |   | (4.9 | ) |   |   | (15.3 | ) |   |
|                                                                           |            |                                              |            |                                            |            |  |  |  |  |  |  |  |  |  |  |

----

(1)          Excludes minutes fromcalls placed by subscribers of other local telephone operators and mobile serviceproviders. Our revenues relating to these calls are included in revenues fromincoming domestic traffic.

In 2004 and 2005, outgoing international trafficrevenues decreased primarily as a result of rate decreases due to variousdiscounts provided to subscribers of optional price plans. The decrease alsoresulted from lower usage due to the relatively high number of internationalcalls placed by mobile subscribers and the rapid growth of private leasedlines.

*Incomingdomestic traffic revenues.**  *Incomingdomestic traffic revenues include amounts related to domestic and internationallong distance services that we provide to other LTO or mobile customers.Incoming domestic traffic revenues decreased significantly in 2004 due todecreases in rates we receive from other local telephone operators and mobileservice providers. The interconnection traffic through our networksignificantly decreased because of interconnection contracts between otherlocal telephone operators and mobile service providers. The decrease is alsoattributable to the change in mix of calls in LTO direction, where the loss oftraffic was the greatest in the LTO-to-mobile call direction, which has thehighest per minute interconnection rate.

Incoming domestic traffic revenues increased in 2005as compared to 2004 primarily as a result of higher LTO call origination andcall termination traffic in line with the increased customer base of otherfixed line service providers, partly offset by lower LRIC-based interconnectionrates introduced on June 15, 2004. These increases were partly offset bydecreased incoming domestic traffic revenues from mobile operators at MagyarTelekom Plc. resulting from lower traffic as well as lower interconnectionrates mainly in mobile to international calls.

*Incominginternational traffic revenues.**  *Incominginternational traffic revenues consist of amounts paid by foreign carriers forthe use of our network to carry calls placed by their customers. 

67

----

Thefollowing table sets forth information concerning incoming internationaltraffic:

| ** **                         | ** ** | **Year ended December 31,**   | ** ** | **Year ended December 31,** | ** ** |
|------------------------------------|------------|----------------------------------------------|------------|--------------------------------------------|------------|
| ** **                         | ** ** | **2003**                                     | ** ** | **2004**                                   | ** ** | **2005** | ** ** | ** 2004/2003 ** | ** ** | ** 2005/2004 ** | ** ** |
| ** **                         | ** ** | **(in thousands of minutes)** | ** ** | **(% change)**                        | ** ** |
| Incoming  international traffic(1) |       | 334,657                                      |       | 288,564                                    |       | 295,405 |   |   | (13.8 | ) |   |   | 2.4 |   |   |
|                                    |            |                                              |            |                                            |            |  |  |  |  |  |  |  |  |  |  |

----

(1)          Includes minutes fromcalls transited by Magyar Telekom Plc. and terminating with subscribers ofMagyar Telekom Plc, other local telephone operators and mobile serviceproviders. Does not include transit traffic and other international servicesvia Hungary.

Incoming international traffic revenues decreased inboth 2004 and 2005. In 2004, the decrease is principally the result of thelower amount of international incoming traffic minutes. The decrease inincoming international traffic was more significant for mobile terminatedtraffic, while calls terminated in the service areas of Magyar Telekom Plc.declined to a lesser extent. Mobile service providers established their owninternational telecommunications connections and reduced their traffic transitedthrough Magyar Telekom Plc. The decrease in the international incoming trafficwas also due to the establishment of independent international links in thesecond half of 2003 by TMH that allowed TMH to independently handleinternational call origination and termination traffic. TMH’s internationaltraffic data is not included in the table above, but in the revenues andtraffic figures of the mobile segment. In 2005, the volume of incominginternational traffic increased as the higher traffic terminated in MagyarTelekom Plc. and LTO areas was only partly offset by lower mobile terminatedinternational traffic transited by Magyar Telekom Plc. Both in 2004 and 2005,incoming international traffic revenues were negatively affected by theappreciation of the Hungarian forint against the SDR in which internationalsettlement payments between telecommunications providers are generallydenominated. HUF/SDR average exchange rates decreased by 4.9 percent in 2004and by 1.1 percent in 2005.

*Leased line and data transmission.*   Revenuesfrom leased lines and data transmission services increased in both 2004 and2005 as a result of significant growth in the number of Internet subscribersand ADSL customers. The proportion of higher revenue generating leased line andbroadband Internet customers significantly grew within the customer base, whichalso contributed to the revenue growth.

| ** **                     | ** ** | **Year ended December 31,** | ** ** | **Year ended December 31,** | ** ** |
|--------------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|
| ** **                     | ** ** | **2003**                                   | ** ** | **2004**                                   | ** ** | **2005** | ** ** | ** 2004/2003 ** | ** ** | ** 2005/2004 ** | ** ** |
| ** **                     | ** ** | ** **                                 | ** ** | ** **                                 | ** ** | ** ** | ** ** | **(% change)** | ** ** |
| ADSL lines                     |       | 104,240                                    |       | 205,886                                    |       | 329,314 |   |   | 97.5 |   |   |   | 59.9 |   |   |
| Number of Internet subscribers |       |                                       |       |                                       |       |   |   |   |   |   |   |   |   |   |   |
| Dial-up                        |       | 131,970                                    |       | 111,638                                    |       | 80,938 |   |   | (15.4 | ) |   |   | (27.5 | ) |   |
| Leased line                    |       | 950                                        |       | 907                                        |       | 751 |   |   | (4.5 | ) |   |   | (17.2 | ) |   |
| DSL                            |       | 67,886                                     |       | 137,910                                    |       | 218,954 |   |   | 103.1 |   |   |   | 58.8 |   |   |
| W-LAN                          |       | 621                                        |       | 1,153                                      |       | 1,467 |   |   | 85.7 |   |   |   | 27.2 |   |   |
| CATV                           |       | 9,253                                      |       | 14,412                                     |       | 26,425 |   |   | 55.8 |   |   |   | 83.4 |   |   |
| Total                          |       | 210,680                                    |       | 266,020                                    |       | 328,535 |   |   | 26.3 |   |   |   | 23.5 |   |   |

 

*Equipmentsales.**  *Revenuesfrom telecommunications equipment sales increased in both 2004 and 2005 due tothe higher amount of equipment sold at Magyar Telekom Plc. during marketingcampaigns. In 2005, higher equipment sales revenues resulted also fromincreased sales of BCN Rendszerház Kft.

68

----

*Other revenues.*   Otherrevenues include construction, maintenance, cable television and miscellaneousrevenues. 

| ** **                  | ** ** | **Year ended December 31,** | ** ** | **Year ended December 31,** | ** ** |
|-----------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|
| ** **                  | ** ** | **2003**                                   | ** ** | **2004**                                   | ** ** | **2005** | ** ** | ** 2004/2003 ** | ** ** | ** 2005/2004 ** | ** ** |
| ** **                  | ** ** | ** **                                 | ** ** | ** **                                 | ** ** | ** ** | ** ** | **(% change)** | ** ** |
| Cable television  customers |       | 362,366                                    |       | 383,904                                    |       | 403,631 |   |   | 5.9 |   |   |   | 5.1 |   |   |
|                             |            |                                            |            |                                            |            |  |  |  |  |  |  |  |  |  |  |

 

Included in other revenuesin 2003 is HUF 6.0 billion in subsidies from the Universal TelecommunicationsSupport Fund to compensate for the maintenance of low usage discount priceplans provided by Magyar Telekom Plc. and Emitel, the Hungarian fixed linetelecommunications service providers of the Magyar Telekom group. No suchcompensation was recognized in 2004 or 2005. This decrease was partly offset bythe growth in cable television revenues due to an increase in the number ofcable television customers as well as higher prices. 

Other revenues increasedin 2005 as compared to 2004 mainly as a result of growth in the number of cabletelevision customers. 

**International Fixed Line Operations**

The results of theinternational fixed line operations include Maktel, Stonebridge, Telemacedoniaand the goodwill allocated to them. In 2005, these figures also include thesecond, third and fourth quarter results of the fixed line and the Internetoperations of T-Com Crna Gora.

Thefollowing table sets forth information regarding international fixed line revenues:

| ** **                                    | ** ** | **Year ended December 31,** | ** ** | **Year ended December 31,** | ** ** |
|-----------------------------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                    | ** ** | **2003**                                   | ** ** | **2004**                                   | ** ** | **2005** | ** ** | ** 2004/2003 ** | ** ** | ** 2005/2004 ** | ** ** |
| ** **                                    | ** ** | **(in HUF millions)**            | ** ** | **(% change)**                        | ** ** |
| Subscriptions,  connections and other charges |       | 11,535                                     |       | 10,578                                     |       | 11,513 |   |   | (8.3 | ) |   |   | 8.8 |   |   |
| Outgoing domestic  traffic revenues           |       | 19,508                                     |       | 17,266                                     |       | 20,951 |   |   | (11.5 | ) |   |   | 21.3 |   |   |
| Outgoing international  traffic revenues      |       | 3,631                                      |       | 3,769                                      |       | 4,317 |   |   | 3.8 |   |   |   | 14.5 |   |   |
| Total outgoing traffic  revenues              |       | 23,139                                     |       | 21,035                                     |       | 25,268 |   |   | (9.1 | ) |   |   | 20.1 |   |   |
| Incoming domestic  traffic revenues           |       | 1,617                                      |       | 1,696                                      |       | 4,108 |   |   | 4.9 |   |   |   | 142.2 |   |   |
| Incoming international  traffic revenues      |       | 7,370                                      |       | 6,437                                      |       | 7,696 |   |   | (12.7 | ) |   |   | 19.6 |   |   |
| Total incoming traffic  revenues              |       | 8,987                                      |       | 8,133                                      |       | 11,804 |   |   | (9.5 | ) |   |   | 45.1 |   |   |
| Leased lines and data  transmission           |       | 3,644                                      |       | 3,691                                      |       | 5,453 |   |   | 1.3 |   |   |   | 47.7 |   |   |
| Equipment sales                               |       | 331                                        |       | 372                                        |       | 353 |   |   | 12.4 |   |   |   | (5.1 | ) |   |
| Other revenues                                |       | 2,054                                      |       | 1,375                                      |       | 1,459 |   |   | (33.1 | ) |   |   | 6.1 |   |   |
| Total                                         |       | 49,690                                     |       | 45,184                                     |       | 55,850 |   |   | (9.1 | ) |   |   | 23.6 |   |   |

 

HUF/MKD exchange ratesdecreased by 1.0 percent in 2004 in our Macedonian operations contributing tothe revenue decrease. In 2005, total revenues from international fixed lineoperations decreased by 7.1 percent without the consolidation of T-Com CrnaGora, including 1.0 percent decrease due to foreign exchange movements.

*Subscriptions, connectionsand other charges.**  *Revenuesfrom subscriptions, connections and other charges decreased in 2004 primarilydue to the lower average number of revenue generating analog line subscribers,partly offset by the higher average number of ISDN subscribers at Maktel.Connection fee revenues also decreased due to lower connection fees and loweranalog and ISDN gross additions. Higher subscriptions, connection and othercharges revenues in 2005 resulted from the additional revenues due to theconsolidation of T-Com Crna Gora from the second quarter of 2005. This increasewas partly offset by lower PSTN subscription fees at Maktel, reflecting thelower average number of customers and higher number of disconnected lines. 

69

----

*Outgoing domestic trafficrevenues.*   Outgoing domestic traffic revenuedecreased in 2004 primarily as a result of usage decrease, partly offset bygeneral price increases as rates rebalancing occurred in May 2003 and in July 2004at Maktel. In 2005, outgoing domestic traffic revenues increased due to theconsolidation of T-Com Crna Gora’s revenues. The increase was partly offset bylower revenues at Maktel as a result of decreased usage, partly compensated byprice increases in August 2005.

*Outgoing internationaltraffic revenues.**  *Outgoinginternational traffic revenue increased at Maktel in 2004 due to higher ratesresulting from the rebalancing. Higher outgoing international traffic revenuein 2005 was attributable to the inclusion of T-Com Crna Gora’s revenues, partlyoffset by lower revenues at Maktel, reflecting decreased volume of traffic.

*Incoming domestic trafficrevenues.**  *Incomingdomestic traffic revenue increased significantly in 2005 mainly due to theconsolidation of T-Com Crna Gora’s revenues. This increase was partlycompensated by decreased incoming domestic traffic revenue at Maktel as aresult of lower traffic from T-Mobile Macedonia and lower interconnection fees.

*Incoming internationaltraffic revenues.**  *Incominginternational traffic revenue decreased at Maktel in 2004 mainly due to thelower average settlement rates with international telecommunications service providers.In 2005, higher revenues reflected the consolidation of T-Com Crna Gora’srevenues. This increase was mitigated by decreased incoming internationalrevenues at Maktel as a result of lower average settlement rates and strongerMKD against the SDR.

*Leased line and datatransmission.*   Leased line and data transmissionrevenues grew both in 2004 and in 2005. The increase in data transmissionrevenues at Maktel was due to the higher number of Internet customers, whichreached 91,865 by the end of 2005 from 67,391 at the end of 2004. IP-VPN andADSL services also contributed to the data transmission revenue growth. Leasedlines revenues increased in 2004 due to leased line agreements andinterconnection revenues from the second Macedonian mobile telecommunicationsoperator, Cosmofon, from June 2003. These increases in 2004 were partlyoffset by decreased international leased line revenues due to the lower USDexchange rates compared to 2003 as well as the lower number of internationalleased line contracts in 2004. In 2005, the increase primarily resulted fromthe consolidation of T-Com Crna Gora’s revenues. 

*Equipment sales.**  *Revenues from telecommunications equipment salesincreased in 2004 due to the higher amount of equipment sold at Maktel duringmarketing campaigns. In 2005, lower equipment sales revenues resulted fromfewer phonesets sold and the lower average price of phonesets.

***Operating Expenses***

**Hungarian Fixed LineOperations**

The following table setsforth information regarding operating expenses of Hungarian fixed lineoperations:

| ** **                          | ** ** | **Year ended December 31,** | ** ** | **Year ended December 31,** | ** ** |
|-------------------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|
| ** **                          | ** ** | **2003**                                   | ** ** | **2004**                                   | ** ** | **2005** | ** ** | ** 2004/2003 ** | ** ** | ** 2005/2004 ** | ** ** |
| ** **                          | ** ** | **(in HUF millions)**            | ** ** | **(% change)**                        | ** ** |
| Operating  expenses:                |       |                                       |       |                                       |       |   |   |   |   |   |   |   |   |   |   |
| Employee-related expenses           |       | 60,905                                     |       | 78,727                                     |       | 58,105 |   |   | 29.3 |   |   |   | (26.2 | ) |   |
| Depreciation and amortization       |       | 71,861                                     |       | 72,566                                     |       | 61,389 |   |   | 1.0 |   |   |   | (15.4 | ) |   |
| Payments to other network operators |       | 64,484                                     |       | 50,348                                     |       | 38,884 |   |   | (21.9 | ) |   |   | (22.8 | ) |   |
| Cost of telecomm. equipment sales   |       | 3,685                                      |       | 3,723                                      |       | 3,990 |   |   | 1.0 |   |   |   | 7.2 |   |   |
| Other operating expenses—net   |       | 79,527                                     |       | 83,318                                     |       | 85,383 |   |   | 4.8 |   |   |   | 2.5 |   |   |
| Total.                              |       | 280,462                                    |       | 288,682                                    |       | 247,751 |   |   | 2.9 |   |   |   | (14.2 | ) |   |

 

70

----

*Employee-relatedexpenses.**  *Employee-relatedexpenses consist of wages and salaries, social security and other expenses.Employee-related expenses increased in 2004 mainly due to HUF 16.7 billionrestructuring charges in connection with headcount reductions andorganizational changes in 2005 and 2006. In addition, employee-related expensesincreased in 2004 due to a 6.0 percent average wage increase at Magyar TelekomPlc. in April 2004, partly offset by a reduction in headcount.

In 2005, employee-related expenses decreased as aresult of significantly lower severance provisions and expenses at MagyarTelekom Plc. as well as a decrease in average headcount. This decrease waspartly offset by a 5.6 percent average wage increase for employees of MagyarTelekom Plc. in April 2005.

The average number of employees in the Hungarian fixedline operations decreased by 386 or 3.9 percent in 2004 and by 1,683 or17.9 percent in 2005**as a result ofa streamlining of the organizational structure, natural attrition and improvedefficiency.

As a result of decreased headcount, the number oflines per fixed line employee at Magyar Telekom Plc. increased to 489 at theend of December 2005 compared to 365 a year earlier. By the end of February 2006,we reached our target of 500 lines per fixed line employee.

*Depreciationand amortization.**  *Depreciationand amortization remained stable in 2004 as compared to 2003. In 2004, weincurred a HUF 5,355 million impairment loss on our tangible fixed assets,which was offset by the lower depreciation expenses resulting from thedecreased fixed asset base. As a consequence of the impairment losses recordedin 2004 and scrapping of certain fixed assets in the Hungarian fixed lineoperations, depreciation and amortization expenses showed a decrease in 2005 ascompared to 2004.

*Paymentsto other network operators.*   Payments to othernetwork operators include amounts paid to mobile operators, other local fixedline telephone operators and to foreign telephone operators for callsterminated on their network. In 2004 and 2005, payments to both domestic andinternational network operators decreased. Domestic mobile outpaymentsdecreased because of lower traffic transited through Magyar Telekom Plc. andlower fixed-to-mobile termination rates. In 2005, interconnection traffic betweenMagyar Telekom Plc. and the LTOs increased significantly, but the trafficincrease was offset by lower LRIC-based rates. Payments to foreign networkoperators decreased in 2004 mainly due to lower international settlement ratesas well as lower HUF/SDR exchange rates, and, to a lesser extent, to decreasedinternational traffic. Payments to foreign network operators decreased in 2005mainly due to lower international traffic.

*Costof telecommunications equipment sales.**  *Cost of telecommunications equipment sales increasedboth in 2004 and 2005. In 2004, the growth mainly resulted from increased salesof BCN Rendszerház Kft., while in 2005, increased cost of equipment sales atMagyar Telekom Plc. resulted from more phonesets sold as part of the Favorit campaigns.

*Otheroperating expenses—net.**  *In2004, the growth in other net operating expenses was due to higher agentcommissions paid at Magyar Telekom Plc. and cable television companies, highermarketing expenses as well as higher consulting fees. Subcontractor’s fees alsoincreased as a result of increased outpayments related to Drop Charge (dial-ininformation services) at Magyar Telekom Plc. These increases were partly offsetby the discontinuation of contribution obligations to the UniversalTelecommunications Support Fund. In 2005, other net operating expensesincreased due to higher subcontractor’s fees at Magyar Telekom Plc. as a resultof increased commissions related to price plans sold both in LTOs’ and MagyarTelekom Plc.’s service areas.

In 2005, other expenses include HUF 1,344 million paidunder two consulting contracts entered into by Magyar Telekom Plc., as to whichit has not been able to obtain sufficient evidence that it or its subsidiariesreceived adequate value. This amount also includes the tax implications of thepayments as well. See “Item 15—Controls and Procedures”.

71

----

**International FixedLine Operations**

Thefollowing table sets forth information regarding operating expenses ofinternational fixed line operations:

| ** **                          | ** ** | **Year ended December 31,** | ** ** | **Year ended December 31,** | ** ** |
|-------------------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|
| ** **                          | ** ** | **2003**                                   | ** ** | **2004**                                   | ** ** | **2005** | ** ** | ** 2004/2003 ** | ** ** | ** 2005/2004 ** | ** ** |
| ** **                          | ** ** | **(in HUF millions)**            | ** ** | **(% change)**                        | ** ** |
| Operating expenses:                 |       |                                       |       |                                       |       |   |   |   |   |   |   |   |   |   |   |
| Employee-related expenses           |       | 7,468                                      |       | 10,495                                     |       | 11,609 |   |   | 40.5 |   |   |   | 10.6 |   |   |
| Depreciation and amortization       |       | 9,744                                      |       | 9,095                                      |       | 10,505 |   |   | (6.7 | ) |   |   | 15.5 |   |   |
| Payments to other network operators |       | 10,661                                     |       | 10,353                                     |       | 12,051 |   |   | (2.9 | ) |   |   | 16.4 |   |   |
| Cost of telecomm. equipment sales   |       | 302                                        |       | 344                                        |       | 377 |   |   | 13.9 |   |   |   | 9.6 |   |   |
| Other operating expenses—net   |       | 9,749                                      |       | 7,869                                      |       | 12,241 |   |   | (19.3 | ) |   |   | 55.6 |   |   |
| Total                               |       | 37,924                                     |       | 38,156                                     |       | 46,783 |   |   | 0.6 |   |   |   | 22.6 |   |   |

 

In 2004, HUF/MKD exchange rates decreased by 1.0percent in our Macedonian operations, partly offsetting the increase inoperating expenses. In 2005, total operating expenses from international fixedline operations decreased by 12.3 percent without the consolidation of T-ComCrna Gora, including 1.0 percent decrease due to foreign exchangemovements.

*Employee-relatedexpenses.**  *Employee-relatedexpenses increased both in 2004 and in 2005. In 2004, higher employee-relatedexpenses resulted mainly from increased termination payments at Maktel. As partof the headcount rationalization, HUF 3.3 billion severance expense wasrecorded in 2004. In 2005, higher employee-related expenses show theconsolidation of T-Com Crna Gora’s expenses, which were partly offset bydecreased severance provisions and expenses at Maktel. 

The number of employees in the international fixedline operations decreased by 618 or 16.9 percent in 2004. In 2005, theheadcount in the international fixed line operations increased by 124 or 4.1percent due to the inclusion of T-Com Crna Gora.

*Depreciationand amortization.**  *Depreciationand amortization expense decreased in 2004 due to the lower fixed asset base ofMaktel. In 2005, higher depreciation and amortization expenses reflect theconsolidation of T-Com Crna Gora’s expenses. This increase was partlycompensated by lower expenses at Maktel because of the cessation of goodwillamortization from January 1, 2005.

*Paymentsto other network operators.**  *Paymentsto other network operators at Maktel decreased in 2004 as a result of lower internationaloutpayments due to decreased outgoing minutes, lower international averagesettlement rates as well as the lower MKD/SDR exchange rate. Payments to othernetwork operators increased in 2005 due to the inclusion of T-Com Crna Gora’sexpenses. This increase was partly offset by decreased payments at Maktel toT-Mobile Macedonia due to lower volume of traffic, which was partly compensatedby increased outpayments to the second mobile telecommunications serviceprovider, Cosmofon, as a result of its increased mobile subscriber base. Lowerinternational outpayments at Maktel were due to decreased traffic and thestronger MKD against the SDR.

*Other operating expenses—net.**  *Other operating expenses showed a decrease in 2004reflecting the successful cost cutting efforts at Maktel. In 2005, thesignificant increase is mainly due to the consolidation of T-Com Crna Gora’sexpenses. In 2005, other expenses include HUF 144 million paid under aconsulting contract entered into by T-Com Crna Gora, as to which the Companyhas not been able to obtain sufficient evidence that it or its subsidiariesreceived adequate value. This amount also includes the tax implications of thepayments as well. See “Item 15—Controls and Procedures”.

72

----

***Operating Profit***

**Hungarian Fixed LineOperations**

Thefollowing table sets forth information concerning operating profit andoperating margin for the Hungarian fixed line operations:

| ** **                          | ** ** | **Year ended December 31,** | ** ** | **Year ended December 31,** | ** ** |
|-------------------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|
| ** **                          | ** ** | **2003**                                   | ** ** | **2004**                                   | ** ** | **2005** | ** ** | ** 2004/2003 ** | ** ** | ** 2005/2004 ** | ** ** |
| ** **                          | ** ** | ** **                                 | ** ** | ** **                                 | ** ** | ** ** | ** ** | **(% change)** | ** ** |
| Operating profit  (in HUF millions) |       | 44,090                                     |       | 13,061                                     |       | 40,299 |   |   | (70.4 | ) |   |   | 208.5 |   |   |
| Operating margin (%)(1)             |       | 13.6                                       |       | 4.3                                        |       | 14.0 |   |   | n.a. |   |   |   | n.a. |   |   |

----

(1)          Operating margin is theratio of operating profit to revenue, expressed as a percentage.

In 2004, operating profitdecreased significantly, by 70.4 percent, mainly as a result of the HUF 16.7 billionrestructuring charges recorded in 2004 for the severance payments expected tobe made in 2005 and 2006, impairment losses incurred in 2004 and lower revenuesfrom fixed line telecommunications services. In 2005, operating profitsignificantly increased by 208.5 percent mainly as a result of decreasedseverance provisions and expenses, lower payments to other network operatorsand lower amount of depreciation and amortization. These favorable movementswere partly offset by lower traffic revenues and increased other operatingexpenses. 

**International FixedLine Operations**

Thefollowing table sets forth information concerning operating profit andoperating margin for the International fixed line operations:

| ** **                          | ** ** | **Year ended December 31,** | ** ** | **Year ended December 31,** | ** ** |
|-------------------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|
| ** **                          | ** ** | **2003**                                   | ** ** | **2004**                                   | ** ** | **2005** | ** ** | ** 2004/2003 ** | ** ** | ** 2005/2004 ** | ** ** |
| ** **                          | ** ** | ** **                                 | ** ** | ** **                                 | ** ** | ** ** | ** ** | **(% change)** | ** ** |
| Operating profit  (in HUF millions) |       | 11,765                                     |       | 7,028                                      |       | 9,067 |   |   | (40.3 | ) |   |   | 29.0 |   |   |
| Operating margin (%)(1)             |       | 23.7                                       |       | 15.6                                       |       | 16.2 |   |   | n.a. |   |   |   | n.a. |   |   |

----

(1)          Operating margin is theratio of operating profit to revenue, expressed as a percentage.

Operatingprofit decreased by 40.3 percent in 2004 mainly due to the significant increasein employee-related expenses and decrease in revenues. Operating profitincreased by 29 percent in 2005 as the increase in total revenues was higherthan the increase in total operating expenses due to the consolidation of T-ComCrna Gora.

***Mobile Telecommunications Segment***

Mobile telecommunicationssegment includes TMH, Westel 0660, T-Mobile Macedonia and T-Mobile Crna Gora.

***Revenues***

Revenues from the mobiletelecommunications segment consist of one-time connection fees, monthlysubscription fees (only payable by postpaid customers), traffic charges,including fees for enhanced services, and equipment sales. 

**Hungarian MobileOperations**

The results of the Hungarian mobile operations includeWestel 0660 (until June 30, 2003), TMH and the goodwill allocated to theseoperations.

73

----

Thefollowing table sets forth information regarding revenues from Hungarian mobileoperations:

| ** **                | ** ** | **Year ended December 31,** | ** ** | **Year ended December 31,** | ** ** |
|---------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|
| ** **                | ** ** | **2003**                                   | ** ** | **2004**                                   | ** ** | **2005** | ** ** | ** 2004/2003 ** | ** ** | ** 2005/2004 ** | ** ** |
| ** **                | ** ** | **(in HUF millions)**            | ** ** | **(% change)**                        | ** ** |
| Network usage and  access |       | 203,251                                    |       | 208,918                                    |       | 211,993 |   |   | 2.8 |   |   |   | 1.5 |   |   |
| Enhanced services         |       | 25,262                                     |       | 28,684                                     |       | 34,656 |   |   | 13.5 |   |   |   | 20.8 |   |   |
| Equipment sales           |       | 21,742                                     |       | 22,965                                     |       | 21,021 |   |   | 5.6 |   |   |   | (8.5 | ) |   |
| Activation fees           |       | 832                                        |       | 676                                        |       | 697 |   |   | (18.8 | ) |   |   | 3.1 |   |   |
| Other revenues            |       | 3,054                                      |       | 1,780                                      |       | 1,995 |   |   | (41.7 | ) |   |   | 12.1 |   |   |
| Total                     |       | 254,141                                    |       | 263,023                                    |       | 270,362 |   |   | 3.5 |   |   |   | 2.8 |   |   |

 

Thefollowing table provides information concerning subscribers of mobiletelecommunications services and monthly usage of the network at TMH:

| ** **                                                                 | ** ** | **Year ended December 31,** | ** ** | **Year ended December 31,** | ** ** |
|----------------------------------------------------------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                                                 | ** ** | **2003**                                   | ** ** | **2004**                                   | ** ** | **2005** | ** ** | ** 2004/2003 ** | ** ** | ** 2005/2004 ** | ** ** |
| ** **                                                                 | ** ** | ** **                                 | ** ** | ** **                                 | ** ** | ** ** | ** ** | **(% change)** | ** ** |
| Average number of  subscribers                                             |       |                                       |       |                                       |       |   |   |   |   |   |   |   |   |   |   |
| TMH                                                                        |       | 3,517,592                                  |       | 3,906,319                                  |       | 4,077,521 |   |   | 11.1 |   |   |   | 4.4 |   |   |
| Westel 0660                                                                |       | 8,948                                      |       | n.a.                                       |       | n.a. |   |   | n.a. |   |   |   | n.a. |   |   |
| Average monthly usage per                                                  |       |                                       |       |                                       |       |   |   |   |   |   |   |   |   |   |   |
| TMH subscriber (minutes)                                                   |       | 114                                        |       | 115                                        |       | 127 |   |   | 0.9 |   |   |   | 10.4 |   |   |
| ARPU in HUF                                                                |       |                                       |       |                                       |       |   |   |   |   |   |   |   |   |   |   |
| TMH subscriber                                                             |       | 5,261                                      |       | 4,945                                      |       | 4,917 |   |   | (6.0 | ) |   |   | (0.6 | ) |   |
| Postpaid TMH subscriber                                                    |       | 12,806                                     |       | 11,828                                     |       | 11,007 |   |   | (7.6 | ) |   |   | (6.9 | ) |   |
| Prepaid TMH subscriber                                                     |       | 2,684                                      |       | 2,380                                      |       | 2,287 |   |   | (11.3 | ) |   |   | (3.9 | ) |   |
| Enhanced services within ARPU in HUF                                  |       | 585                                        |       | 612                                        |       | 706 |   |   | 4.6 |   |   |   | 15.4 |   |   |
| Average  subscriber acquisition cost (“SAC”) per customer in HUF |       | 12,353                                     |       | 10,275                                     |       | 7,062 |   |   | (16.8 | ) |   |   | (31.3 | ) |   |

 

*Networkusage and access.*   Revenues from network usageand access increased in 2004 principally as a result of the growth in thenumber of subscribers. Revenues from network usage and access increased in 2005as well principally as a result of the growth in the average monthly usage persubscriber, and, to a lesser extent, due to the higher number of subscribers.The average number of TMH subscribers grew by 11.1 percent in 2004 and 4.4percent in 2005. TMH continuously monitors its churn rates and proactivelyoffers tailor-made discounts to retain valuable customers. While thepenetration growth of mobile customers has slowed down in Hungary, TMHmaintained its leading position with a 45 percent market share at December 31,2005.

Prepaid customers represented 68.4 percent of total TMHcustomers at December 31, 2005 as compared to 71.1 percent at the end of2004. The proportion of prepaid customers decreased as many of them migrated tomore favorable, for example flat rate, postpaid price plans.

TMH’s average usage per customer per month measured inMOU increased by 10.4 percent from 115 minutes in 2004 to 127 minutes in2005. The ARPU slightly decreased from HUF 4,945 in 2004 to HUF 4,917 in 2005as the proportion of calls within the TMH network with lower per minute feesincreased.

74

----

The increase in revenue was partly offset by thedecrease in fixed-to-mobile termination fees. Pursuant to the relevantprovisions of Decree 9/2003 and Decree 10/2003, issued by the Ministry ofInformatics and Communications at the end of June 2003 and also inaccordance with the decision of the Telecommunications Arbitration Councilpublished on July 8, 2003 with regards to the regulation of interconnectcharges applicable by TMH for fixed-to-mobile calls terminating on its network,the relevant interconnect charges were required to be reduced by 10 percentfrom September 1, 2003. In May 2004, the NCA ordered TMH to furtherreduce its interconnection fees by an average of 8.8 percent from June 15,2004. In August 2005, a further NCA decree was released, which resulted inadditional decrease in fixed-to-mobile termination rates with a retroactiveeffect from May 25, 2005.

*Enhancedservices.**  *Withinthe mobile telecommunications services, enhanced services show the highestincrease, with 13.5 percent growth in 2004 and 20.8 percent growth in 2005 atTMH. Enhanced services represented approximately 13 percent of TMH’s totalrevenues in 2005. This revenue is primarily from fees charged for short messageservices and multimedia messaging services. The strong revenue growth in 2005is due to the increasing proportion of content messages with higher rates, andalso due to higher access (data, Internet, GPRS, etc.) revenues.

*Equipmentsales.**  *Equipmentsales increased in 2004 in the Hungarian mobile operation due to higher upgraderevenues and higher average sales price of phonesets, partly offset by thelower number of gross additions. Upgrade revenues and average sales prices ofphonesets increased in 2004, as customers were purchasing mobile phonesequipped with more functions. In 2005, the decrease in equipment sales revenuereflects the lower average price of phonesets, which was partly compensated byhigher gross additions to customers as well as a higher number of phonesetupgrades.

Average acquisition costper customer fell by 31.3 percent to HUF 7,062 in 2005 from HUF 10,275 a yearearlier at TMH. When calculating subscriber acquisition cost, TMH includes theconnection margin (activation fee less the SIM card cost), the sales relatedequipment subsidy and agent fee.

**InternationalMobile Operations**

The results of the international mobile operationsinclude T-Mobile Macedonia and the goodwill and the related amortizationallocated to it. In 2005, these figures also include the second, third andfourth quarter results of T-Mobile Crna Gora, the mobile subsidiary ofCrnogorski Telekom. 

Thefollowing table sets forth information regarding international mobile revenues:

| ** **                | ** ** | **Year ended December 31,** | ** ** | **Year ended December 31,** | ** ** |
|---------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|
| ** **                | ** ** | **2003**                                   | ** ** | **2004**                                   | ** ** | **2005** | ** ** | ** 2004/2003 ** | ** ** | ** 2005/2004 ** | ** ** |
| ** **                | ** ** | **(in HUF millions)**            | ** ** | **(% change)**                        | ** ** |
| Network usage and  access |       | 26,231                                     |       | 27,417                                     |       | 36,088 |   |   | 4.5 |   |   |   | 31.6 |   |   |
| Enhanced services         |       | 2,803                                      |       | 3,309                                      |       | 4,196 |   |   | 18.1 |   |   |   | 26.8 |   |   |
| Equipment sales           |       | 1,408                                      |       | 2,062                                      |       | 1,843 |   |   | 46.4 |   |   |   | (10.6 | ) |   |
| Activation fees           |       | 774                                        |       | 201                                        |       | 149 |   |   | (74.0 | ) |   |   | (25.9 | ) |   |
| Other revenues            |       | 359                                        |       | 745                                        |       | 417 |   |   | 107.5 |   |   |   | (44.0 | ) |   |
| Total                     |       | 31,575                                     |       | 33,734                                     |       | 42,693 |   |   | 6.8 |   |   |   | 26.6 |   |   |

 

75

----

Thefollowing table provides information concerning subscribers of mobiletelecommunications services and monthly usage of the network at T-MobileMacedonia:

| ** **                                                         | ** ** | **Year ended December 31,** | ** ** | **Year ended December 31,** | ** ** |
|--------------------------------------------------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                                         | ** ** | **2003**                                   | ** ** | **2004**                                   | ** ** | **2005** | ** ** | ** 2004/2003 ** | ** ** | ** 2005/2004 ** | ** ** |
| ** **                                                         | ** ** | ** **                                 | ** ** | ** **                                 | ** ** | ** ** | ** ** | **(% change)** | ** ** |
| Average number of  subscribers                                     |       | 423,618                                    |       | 629,844                                    |       | 809,691 |   |   | 48.7 |   |   |   | 28.6 |   |   |
| Average monthly usage per T-Mobile Macedonia  subscriber (minutes) |       | 84                                         |       | 66                                         |       | 63 |   |   | (21.4 | ) |   |   | (4.5 | ) |   |
| ARPU in HUF                                                        |       | 5,264                                      |       | 3,804                                      |       | 3,065 |   |   | (27.7 | ) |   |   | (19.4 | ) |   |

 

In 2004, MKD/HUF exchange rates decreased by 1.0percent in our Macedonian operations, partly offsetting the revenue increase.In 2005, total revenues from international mobile operations increased by 1.6percent without the consolidation of T-Mobile Crna Gora, partly offset by a 1.0percent decrease due to foreign exchange movements.

*Networkusage and access.*   Revenues of the Macedonianmobile operations increased both in 2004 and 2005 mainly as a result of thehigher number of subscribers. Within the mobile subscriber base, prepaidsubscribers represented approximately 84 percent of total mobile customers at theend of 2005.

The revenue effect of the increase in the number ofmobile subscribers was partly offset by lower MOU and lower rates. T-MobileMacedonia’s MOU decreased by 4.5 percent from 66 minutes in 2004 to 63 minutesin 2005. The ARPU decreased from HUF 3,804 in 2004 to HUF 3,065 in 2005 as aresult of lower traffic fees. In 2005, the revenue increase was also negativelyaffected by the strengthening of HUF against the MKD.

*Enhancedservices.**  *Enhancedservices increased over the period due to the increased usage of value addedservices.

*Equipmentsales.*   Equipment sales revenue of the Macedonianmobile operations increased in 2004 primarily as a result of higher grossadditions and higher average price of mobile handsets. Equipment sales revenuedecreased in 2005 due to the lower average price of mobile handsets, partlyoffset by higher gross additions.

In 2005, the acquisitionof T-Mobile Crna Gora had positive impact on the results of the internationalmobile operations with total stand-alone nine months revenues of HUF 8.8billion and an operating profit of HUF 1.4 billion. T-Mobile Crna Gora had208,094 subscribers and a 42.7 percent market share in the Montenegrin mobilemarket at the end of December 2005.

76

----

***Operating Expenses***

**Hungarian MobileOperations**

Thefollowing table sets forth information regarding operating expenses for theHungarian mobile operations:

| ** **                          | ** ** | **Year ended December 31,** | ** ** | **Year ended December 31,** | ** ** |
|-------------------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|
| ** **                          | ** ** | **2003**                                   | ** ** | **2004**                                   | ** ** | **2005** | ** ** | **2004/2003** | ** ** | **2005/2004** | ** ** |
| ** **                          | ** ** | **(in HUF millions)**            | ** ** | **(% change)**                        | ** ** |
| Operating expenses:                 |       |                                       |       |                                       |       |   |   |   |   |   |   |   |   |   |   |
| Employee-related expenses           |       | 18,552                                     |       | 18,708                                     |       | 20,540 |   |   | 0.8 |   |   |   | 9.8 |   |   |
| Depreciation and amortization       |       | 39,895                                     |       | 47,571                                     |       | 33,897 |   |   | 19.2 |   |   |   | (28.7 | ) |   |
| Payments to other network operators |       | 50,555                                     |       | 57,361                                     |       | 60,667 |   |   | 13.5 |   |   |   | 5.8 |   |   |
| Cost of telecomm. equipment sales   |       | 34,613                                     |       | 34,172                                     |       | 29,548 |   |   | (1.3 | ) |   |   | (13.5 | ) |   |
| Other operating expenses—net   |       | 55,496                                     |       | 49,083                                     |       | 53,993 |   |   | (11.6 | ) |   |   | 10.0 |   |   |
| Total                               |       | 199,111                                    |       | 206,895                                    |       | 198,645 |   |   | 3.9 |   |   |   | (4.0 | ) |   |

 

*Employee-relatedexpenses.**  *Employee-relatedexpenses slightly increased in 2004 principally as a result of nominal increasein wages. In 2005, higher employee-related expenses were primarily attributableto increased wages and welfare expenses.

*Depreciationand amortization.**  *Depreciationand amortization expenses increased in 2004 mainly due to the impairment of theWestel brand name. Following the decision to rebrand Westel to TMH, the totalnet book value of Westel brand name was impaired during 2004 resulting in a HUF4,426 million additional amortization charge. The increase was also due tohigher software gross book value and the resulting higher software amortizationexpense at TMH.

In accordance with the IFRS 3 standard, goodwillrelating to acquisitions after March 31, 2004 was not amortized and theamortization of the existing goodwill was discontinued from January 1,2005 which caused a HUF 9,540 million decrease in 2005. In 2005, the decreasewas also due to the impairment on the Westel brand name booked in 2004.

*Paymentsto other network operators.**  *Paymentsto other network operators include amounts paid by TMH to other mobiletelephone operators and to the fixed line telephone operators as well as to theforeign mobile telephone operators for terminating their calls. Payments toother network operators increased in both 2004 and 2005 as a result of thehigher mobile penetration and increased traffic. The increase in 2005 waspartly offset by lower international roaming outpayments as a result offavorable agreements concluded with other mobile operators, mainly with otherT-Mobile companies.

*Costof telecommunications equipment sales.**  *Cost of telecommunications equipment sales decreasedboth in 2004 and 2005. In 2004, cost of telecommunications equipment salesdecreased due to lower gross additions at TMH, partly offset by the higheramount of upgrade cost and the higher average cost of phonesets. Lower cost in2005 mainly resulted from lower average cost of phonesets at TMH, as a resultof the development of a central procurement process within the DT Group.

*Otheroperating expenses—net.**  *Othernet operating expenses decreased in 2004 due to lower agency fees and due tothe impact of the provision made for a potential tax penalty in connection withthe allocation of local taxes in 2003. Further decrease resulted from thediscontinuation of contribution obligations to the Universal TelecommunicationsSupport Fund.

In 2005, other netoperating expenses showed an increase mainly resulting from higher agency feesdue to higher commissions paid for new subscribers in line with higher grossadditions to subscribers.

77

----

**InternationalMobile Operations**

Thefollowing table sets forth information regarding operating expenses for theinternational mobile operations:

| ** **                          | ** ** | **Year ended December 31,** | ** ** | **Year ended December 31,** | ** ** |
|-------------------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|
| ** **                          | ** ** | **2003**                                   | ** ** | **2004**                                   | ** ** | **2005** | ** ** | **2004/2003** | ** ** | **2005/2004** | ** ** |
| ** **                          | ** ** | **(in HUF millions)**            | ** ** | **(% change)**                        | ** ** |
| Operating  expenses:                |       |                                       |       |                                       |       |   |   |   |   |   |   |   |   |   |   |
| Employee-related expenses.          |       | 1,461                                      |       | 1,657                                      |       | 2,582 |   |   | 13.4 |   |   |   | 55.8 |   |   |
| Depreciation and amortization       |       | 6,834                                      |       | 8,434                                      |       | 8,894 |   |   | 23.4 |   |   |   | 5.5 |   |   |
| Payments to other network operators |       | 2,910                                      |       | 3,403                                      |       | 5,029 |   |   | 16.9 |   |   |   | 47.8 |   |   |
| Cost of telecomm. equipment sales   |       | 2,484                                      |       | 3,227                                      |       | 3,522 |   |   | 29.9 |   |   |   | 9.1 |   |   |
| Other operating expenses—net   |       | 6,707                                      |       | 7,966                                      |       | 10,361 |   |   | 18.8 |   |   |   | 30.1 |   |   |
| Total                               |       | 20,396                                     |       | 24,687                                     |       | 30,388 |   |   | 21.0 |   |   |   | 23.1 |   |   |

 

In 2004, HUF/MKD exchange rates decreased by 1.0percent in our Macedonian operations, partly offsetting the increase inoperating expenses. In 2005, total operating expenses from international mobileoperations decreased by 7.5 percent without the consolidation of T-Mobile CrnaGora, including 1.0 percent decrease due to foreign exchange movements.

*Employee-relatedexpenses.*   Employee-related expenses increased in2004 principally as a result of the higher number of employees and nominalincrease in wages at T-Mobile Macedonia. The strong increase in 2005 shows theimpact of the inclusion of T-Mobile Crna Gora’s expenses.

*Depreciationand amortization.*   Depreciation and amortizationexpenses increased significantly in 2004 mainly as a result of the accelerationof depreciation of certain fixed assets following the revision of useful livesin May 2003 at T-Mobile Macedonia. In 2005, the consolidation effect ofT-Mobile Crna Gora’s expenses was largely compensated by lower depreciation andamortization expenses at T-Mobile Macedonia reflecting the cessation ofgoodwill amortization from January 1, 2005.

*Paymentsto other network operators.*   Payments to othernetwork operators increased both in 2004 and 2005. In 2004, the increase inT-Mobile Macedonia’s domestic outpayments was due to the entry of the secondMacedonian mobile operator, Cosmofon in June 2003, partly offset by lowerinternational outpayments resulting from decreased outgoing minutes, lowerinternational average settlement rates as well as the lower MKD/SDR exchangerate. Higher outpayments in 2005 primarily resulted from the consolidation ofT-Mobile Crna Gora’s expenses. The increase was also due to T-Mobile Macedonia’shigher outpayments to Cosmofon in line with its increased subscriber base.

*Costof telecommunications equipment sales.**  *Cost of telecommunications equipment sales increasedin 2004 owing to higher gross additions at T-Mobile Macedonia, partly offset bythe lower average cost of phonesets. In 2005, cost of telecommunicationsequipment sales increased as a result of the inclusion of T-Mobile CrnaGora’s expenses, partly offset by lower average cost of phonesets at T-MobileMacedonia.

*Other operating expense—net.*   Othernet operating expenses increased in 2004 principally due to increased agencyfees in line with higher gross additions at T-Mobile Macedonia as well ashigher concession fees relating to annual radio frequency fees. Higher otherexpenses in 2005 mainly resulted from the consolidation of T-Mobile Crna Gora’sexpenses. In 2005, other expenses include HUF 571 million paid undera consulting contract entered into by T-Mobile Crna Gora, as to which theCompany has not been able to obtain sufficient evidence that it or itssubsidiaries received adequate value. This amount also includes the taximplications of the payments as well. See “Item 15—Controls and Procedures”.

78

----

***Operating Profit***

**Hungarian MobileOperations**

Thefollowing table sets forth information concerning operating profit andoperating margin for the Hungarian mobile operations:

| ** **                          | ** ** | **Year ended December 31,** | ** ** | **Year ended December 31,** | ** ** |
|-------------------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|
| ** **                          | ** ** | **2003**                                   | ** ** | **2004**                                   | ** ** | **2005** | ** ** | **2004/2003** | ** ** | **2005/2004** | ** ** |
| ** **                          | ** ** | ** **                                 | ** ** | ** **                                 | ** ** | ** ** | ** ** | **(% change)** | ** ** |
| Operating profit  (in HUF millions) |       | 55,030                                     |       | 56,128                                     |       | 71,717 |   |   | 2.0 |   |   |   | 27.8 |   |   |
| Operating margin (%)(1)             |       | 21.7                                       |       | 21.3                                       |       | 26.5 |   |   | n.a. |   |   |   | n.a. |   |   |

----

(1)          Operating margin is theratio of operating profit to revenue, expressed as a percentage.

Operating profit increasedby 2.0 percent in 2004 as the increase in total revenues exceeded the increasein total operating expenses. Operating profit increased by 27.8 percent in 2005mainly due to the significant decrease in depreciation charges resulting fromthe discontinuation of the goodwill amortization (HUF 9,540 million) and theimpairment on the Westel brand name (HUF 4,426 million) in 2004. Cost ofequipment sales also decreased in 2005 due to the central procurement processwithin Deutsche Telekom Group. In addition, revenues from Hungarian mobileoperations increased by HUF 7,339 million in 2005.

**InternationalMobile Operations**

Thefollowing table sets forth information concerning operating profit andoperating margin for the international mobile operations:

| ** **                          | ** ** | **Year ended December 31,** | ** ** | **Year ended December 31,** | ** ** |
|-------------------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|
| ** **                          | ** ** | **2003**                                   | ** ** | **2004**                                   | ** ** | **2005** | ** ** | **2004/2003** | ** ** | **2005/2004** | ** ** |
| ** **                          | ** ** | ** **                                 | ** ** | ** **                                 | ** ** | ** ** | ** ** | **(% change)** | ** ** |
| Operating profit  (in HUF millions) |       | 11,179                                     |       | 9,047                                      |       | 12,305 |   |   | (19.1 | ) |   |   | 36.0 |   |   |
| Operating margin (%)(1)             |       | 35.4                                       |       | 26.8                                       |       | 28.8 |   |   | n.a. |   |   |   | n.a. |   |   |

----

(1)          Operating margin is theratio of operating profit to revenue, expressed as a percentage.

Operating profit decreasedby 19.1 percent in 2004 primarily due to higher depreciation and amortizationexpenses and the increase in other net operating expenses. Operating profitincreased by 36 percent in 2005 because total revenues increased at ahigher rate than total operating expenses. The consolidation of CrnogorskiTelekom also contributed to the increase in operating profit in 2005.

79

----

***Net Financial Expenses—Total***

Thefollowing table sets forth information concerning net financial expenses:

| ** **                           | ** ** | **Year ended December 31,** | ** ** | **Year ended December 31,** | ** ** |
|--------------------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|
| ** **                           | ** ** | **2003**                                   | ** ** | **2004**                                   | ** ** | **2005** | ** ** | **2004/2003** | ** ** | **2005/2004** | ** ** |
| ** **                           | ** ** | **(in HUF millions)**            | ** ** | **(% change)**                        | ** ** |
| Interest expense:                    |       |                                       |       |                                       |       |   |   |   |   |   |   |   |   |   |   |
| Hungarian forint                     |       | 21,315                                     |       | 34,611                                     |       | 31,218 |   |   | 62.4 |   |   |   | (9.8 | ) |   |
| Foreign currency                     |       | 4,469                                      |       | 120                                        |       | 122 |   |   | (97.3 | ) |   |   | 1.7 |   |   |
| (Gains)/losses on  derivatives       |       | 972                                        |       | (647                                       | )          | — |   |   | n.m. |   |   |   | n.a. |   |   |
| Net foreign  exchange losses/(gains) |       | 8,799                                      |       | 523                                        |       | (1,014 | ) |   | (94.1 | ) |   |   | n.m. |   |   |
| Other financial  expenses            |       | 5,364                                      |       | 3,183                                      |       | 3,157 |   |   | (40.7 | ) |   |   | (0.8 | ) |   |
| Total financial  expenses            |       | 40,919                                     |       | 37,790                                     |       | 33,483 |   |   | (7.6 | ) |   |   | (11.4 | ) |   |
| Interest  capitalized                |       | (41                                        | )          | —                                     |       | — |   |   | n.a. |   |   |   | n.a. |   |   |
| Interest and  other financial income |       | (876                                       | )          | (1,644                                     | )          | (2,195 | ) |   | 87.7 |   |   |   | 33.5 |   |   |
|                                 |       | 40,002                                     |       | 36,146                                     |       | 31,288 |   |   | (9.6 | ) |   |   | (13.4 | ) |   |

 

Net financial expenses decreased in 2004 mainly as aresult of a decrease in net foreign exchange loss. This change in net foreignexchange loss resulted primarily from a significant decrease of the averageforeign exchange loan balance and the appreciation of the Hungarian forintthroughout the year. Other financial expenses also showed a decrease reflectinga one-time prepayment penalty relating to the European Investment Bank (“EIB”)loan in 2003. We prepaid our foreign currency denominated EIB loans in thefourth quarter of 2003 and refinanced them with Hungarian forint denominatedloans. The prepayment was subject to prepayment penalty of EUR 3.65 million andUSD 3.13 million. These decreases were partly offset by higher interestexpenses resulting from the higher proportion of Hungarian forint denominatedloans in our debt portfolio, which led to a higher average interest rate.

Net financial expenses decreased in 2005 primarily asa result of a significant decrease in HUF interest expenses due to loweraverage HUF interest rates. In addition, the lower expenses were driven by thehigher foreign exchange gain at Maktel as a result of the weakening of MKDagainst the USD, in which the majority of its foreign currency cash andreceivables are denominated. Interest income increased at Maktel as it heldhigher amounts of cash and deposits in banks at longer maturities.

See Notes 3, 16 and 17 tothe consolidated financial statements for certain quantitative and qualitativeinformation about financial instruments.

***Income Tax—Total***

Thefollowing table sets forth information concerning our income tax expense:

| ** **             | ** ** | **Year ended December 31,** | ** ** | **Year ended December 31,** | ** ** |
|------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|
| ** **             | ** ** | **2003**                                   | ** ** | **2004**                                   | ** ** | **2005** | ** ** | **2004/2003** | ** ** | **2005/2004** | ** ** |
| ** **             | ** ** | **(in HUF millions)**            | ** ** | **(% change)**                        | ** ** |
| Income tax  expense(1) |       | 13,517                                     |       | 7,687                                      |       | 13,511 |   |   | (43.1 | ) |   |   | 75.8 |   |   |
|                        |            |                                            |            |                                            |            |  |  |  |  |  |  |  |  |  |  |

----

(1)          Due to a change in IFRSrules, we report income tax without the taxation charge on the share ofassociate’s results (the 2003 and 2004 comparative figures were revisedaccordingly).

80

----

Magyar Telekom Plc. qualified for a reduction incorporate income tax for a period of ten years ending in 2003. In 2003, theCompany’s corporate tax payable was reduced by 60 percent to 7.2 percent,subject to the Company meeting certain conditions.

In December 2003, the Hungarian Parliament passeda new tax law in which the general corporate tax rate was reduced from 18percent to 16 percent from January 2004. Deferred tax balances of theHungarian members of the Group were amended accordingly at the end of 2003.

Deferred taxes have been recognized for temporarydifferences arising on the valuation of investments (mainly currencydifferences) in subsidiaries and associates in the parent companies’ books asrequired by IAS 12.

Deferred tax assets are recognized for tax loss carryforwards only to the extent that realization of the related tax benefit isprobable. Recognized tax losses of HUF 2,718 million will expire in 2006, HUF2,435 million in 2007 and HUF 1,517 million in 2008. The remaining balanceof the recognized tax losses of HUF 31,755 million is not subject to statutorylimitations.

In order to increase broadband Internet penetration inHungary, the Hungarian Government decided that companies investing over HUF 100million in broadband assets (e.g. DSL lines) from 2003 can apply for acorporate tax reduction. The potential reduction of the corporate tax charge isdefined as a percentage of the companies’ capital investment in broadbandassets.

As the recoverability of these investment tax creditswas uncertain in 2003, no deferred tax asset was recognized in 2003. Due to thechange of the assessment of the recoverability, we recognized a deferred taxasset of HUF 6,849 million in 2004 (HUF 3,879 million related to 2004 and HUF2,970 million related to 2003). As these investment tax credits are essentiallygovernmental grants, we recognized the deferred tax asset against the cost ofthe related investment. If the tax credits are not utilized in the year whenearned, the amount of tax credits carried forward can be utilized at a higheramount as the Government allows the outstanding amounts to be accreted. Thisaccretion is recognized as an increase in the deferred tax asset against areduction in the income tax expense.

For more details on the tax credits, see Note 26 tothe consolidated financial statements.

Income tax expense decreased in 2004 as compared to2003, mainly because of the lower pre-tax profit. In addition, the change inthe income tax rate from 18 percent to 16 percent in 2004 also contributed tothe decrease in the income tax expense.

Income tax expenseincreased in 2005 as a result of the significantly higher profit before tax atalmost all members of the Group. The lower effective tax rate in 2005 (13.2percent compared to 15.1 percent in 2004) was mostly due to the compounding ofthe tax credit carried forward related to the Hungarian broadband investments,which resulted in tax credits with no impact on profit before tax. In addition,the higher amount of other income related to the rebranding, which is nottaxable, also contributed to the lower effective tax rate.

**CRITICAL ACCOUNTINGPOLICIES**

The discussion and analysis of our financial conditionand results of operations are based on our consolidated financial statements,which have been prepared in accordance with IFRS. Reported financial conditionsand results of our operations are sensitive to accounting methods, assumptionsand estimates that underlie the preparation of the financial statements. Webase our estimates on historical experience and on various other assumptions,the results of which form the basis for making judgments about the carryingvalues of assets and liabilities that are not readily apparent from othersources.

81

----

The selection of critical accounting policies, the judgmentsand other uncertainties affecting application of those policies and thesensitivity of reported results to changes in conditions and assumptions arefactors to be considered when reviewing our financial statements.

For a list of our criticalaccounting policies and assumptions, see Note 2 (x) to the consolidatedfinancial statements. For a discussion about the differences between our IFRSand U.S. GAAP accounting policies, see Note 34 to the consolidated financialstatements.

**LIQUIDITY ANDCAPITAL RESOURCES**

**Cash flow analysis**

Thefollowing table sets forth information concerning our cashflows:

| ** **                                                            | ** ** | **Year ended December 31,** | ** ** |
|-----------------------------------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                                            | ** ** | **2003**                                   | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                                                            | ** ** | **(in HUF millions)**            | ** ** |
| Net cashflows:                                                        |       |                                       |       |   |   |   |   |
| From operating activities                                             |       | 198,116                                    |       | 189,751 |   | 201,336 |   |
| From investing activities                                             |       | (94,701                                    | )          | (100,787 | ) | (131,566 | ) |
| From financing activities                                             |       | (92,035                                    | )          | (72,095 | ) | (61,848 | ) |
| Effect of foreign  exchange rate changes on cash and cash equivalents |       | 1,901                                      |       | (2,122 | ) | 1,259 |   |
| Change in cash  and cash equivalents                                  |       | 13,281                                     |       | 14,747 |   | 9,181 |   |
| Cash and cash  equivalents, beginning of year                         |       | 8,851                                      |       | 22,132 |   | 36,879 |   |
| Cash and cash  equivalents, end of year                               |       | 22,132                                     |       | 36,879 |   | 46,060 |   |

* *

*NetCashflows from Operating Activities.**  *Our primary source of liquidity is cashflows fromoperating activities.

Net cashflows from operating activities decreased byHUF 8,365 million in 2004 as compared to 2003. The HUF 5,816 million decreasein cash generated from operations and the HUF 3,967 million increase ininterest paid was partly offset by a HUF 1,418 million decrease in income taxpaid.

Net cashflows from operating activities increased byHUF 11,585 million in 2005 as compared to 2004. Income tax paid decreased byHUF 6,377 million, cash generated from operations increased by HUF 2,256 millionand the amount of interest paid decreased by HUF 2,952 million.

*NetCashflows from Investing Activities.*   Netcashflows from investing activities are primarily driven by capitalexpenditures and acquisitions of businesses. In 2004, the HUF 13,726 millionincrease in capital expenditures represents mainly TMH’s payment of the firstinstallment of the UMTS license fee. HUF 17,273 million spent on purchaseof subsidiaries and business units represents our acquisition of an additional3.05 percent stake in Stonebridge in July 2004 and a further 7.44 percentstake in October 2004 as well as the acquisition of a 49 percent stake inT-Systems Hungary. In 2005, cash spent on purchase of subsidiaries increasedsignificantly as compared to 2004 due to the acquisition a total share of 76.53 percentin Crnogorski Telekom. Purchase of tangible and intangible assets were HUF90,788 million in 2003 and HUF 91,748 million in 2004 and HUF 103,587 millionin 2005.

*NetCashflows from Financing Activities.*   Netcashflows from financing activities primarily relate to our borrowingactivities and dividend payment.

We had a net repayment of loans of HUF 68,526 millionin 2003 and received net proceeds from loans of HUF 6,199 million in 2004 tofinance the payment of higher dividends. In 2004, we paid dividends toshareholders in an amount of HUF 78,294 million compared to HUF 23,507 millionin 2003. This significant growth is primarily due to the increase in dividendper share from HUF 18 for the year 2002 to 

82

----

HUF 70 for the year 2003.In 2005, we received net proceeds from loans in an amount of HUF 20,734 million.The increase in borrowings is mainly due to financing the acquisition ofCrnogorski Telekom. In 2005, we paid dividends to shareholders in an amount ofHUF 84,551 million. The increase in dividends paid as compared to 2004 isprimarily due to the higher amount of dividends paid to minority shareholdersof Maktel in 2005.

We carry indebtedness at a level we considerappropriate based on a number of factors, including cash flow expectations(i.e., cash requirements for ongoing operation, investment plans), expectationsof investors, analysts, rating agencies and the overall cost of capital. Weannounced a definite dividend policy in 2003, according to which the net debtratio is to be kept between 30 to 40 percent. Under the new dividend policy, wepaid an amount of HUF 70 dividend per share in 2005 and 2004 (based on theresults of financial years 2004 and 2003 respectively) to maintain the net debtratio in the target range. Our net debt ratio was 33.2 percent at December 31,2005. Future dividend payment will be determined by the new dividend policy andwill depend on our cashflow generation and potential acquisition opportunities.

For a discussion of our financial instruments, loansand other borrowings, see Notes 3, 16 and 17 to our consolidated financialstatements.

In our Hungarian fixed line and mobile operations, ouroperating revenues and expenses are denominated almost entirely in Hungarianforints. Amounts payable to and receivable from other international carriers,which are denominated in a basket of currencies known as SDRs, are nettedagainst one another and settled primarily in U.S. dollars and euros. Capitalexpenditures are denominated partly in foreign currencies, principally U.S.dollars and euros.

We hedge against foreign exchange and interest raterisk associated with our loan portfolio. At December 31, 2005, the loanswere almost 100 percent denominated in HUF, thus the foreign exchange risk ofthe loan portfolio is naturally hedged by the HUF-denominated revenues. In2005, the HUF interest rates started to decline gradually from a very highbasis. The volatility and the risk of the Hungarian currency are stillrelatively high, and we expect them to become higher in the near future due tounfavourable macroeconomic conditions.

At December 31, 2005, 75.4 percent of the loanportfolio bore fixed interest rates - these are mainly the medium and long-termelements of the portfolio - while 24.6 percent of the loan portfolio wassubject to variable interest rates. Short-term loans are partially taken tomanage liquidity peaks and their variable rates are based on Budapest InterbankOffered Rate (“BUBOR”). Taking into consideration HUF interest rate volatility,we follow the approach of balancing the fixed and variable interest rateelements in our loan portfolio (at the end of January 2006, a variableinterest rate EIB project financing loan through DeTe Finance was drawn down,which pushed down the fixed rate element of the portfolio close to 50 percent).

We do not have any legal or economic restrictions onthe ability of our subsidiaries to transfer funds to the Company in forms ofcash dividends, loans or advances.

Our liquidity needs are primarily covered by our freecash flows. Liquidity peaks are financed from current account overdrafts andbilateral shelf facilities. The total available current account overdrafts atthe end of 2005 amounted HUF 7,918 million. The total committed shelffacilities from the Hungarian market amount to HUF 100,525 million, out ofwhich HUF 45,559 million was available at the end of 2005. We also have a EUR50 million shelf facility with Deutsche Telekom, which functions as a safetynet for potential liquidity peaks and has not been drawn since its signing on April 16,2004.

83

----

Wehave uncommitted lines at Hungarian banks in the amount of around HUF 15billion, which can be drawn for a maximum period of 90 days. Since these arenon-committed lines, we do not rely on them when managing liquidity, howeverthey are used when the liquidity need is only short-term. At the end of 2005,no amount was drawn from these facilities.

| ** **                          | ** ** | **Amount of  the facility** | ** ** | **Drawn at  the end of  2005** | ** ** | **Available at  the end of  2005** | ** ** |
|-------------------------------------|------------|---------------------------------------|------------|-----------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                          | ** ** | **(in HUF millions)**       | ** ** |
| Current account  overdrafts         |       |                                  | 7,990      |                                          |       |                                              | 72         |   |   |   | 7,918 |   |   |
| Bilateral loans                     |       |                                  | 100,525    |                                          |       |                                              | 54,966     |   |   |   | 45,559 |   |   |
| DT shelf facility                   |       |                                  | 12,636     |                                          |       |                                              | —     |   |   |   | 12,636 |   |   |
| Total credit  lines                 |       |                                  | 121,151    |                                          |       |                                              | 55,038     |   |   |   | 66,113 |   |   |
| Total uncommitted  lines            |       |                                  | 15,150     |                                          |       |                                              | —     |   |   |   | 15,150 |   |   |
| Total lines for  liquidity purposes |       |                                  | 136,301    |                                          |       |                                              | 55,038     |   |   |   | 81,263 |   |   |

 

Thecurrent amount and structure of the shelf facilities described above issufficient, and for the purposes of liquidity management, we believe that thereis no need to establish new facilities.

| ** **                  | ** ** | **Maturity structure**     | ** ** |
|-----------------------------|------------|---------------------------------|------------|
| ** **                  | ** ** | **2006**                        | ** ** | **2007** | ** ** | **2008** | ** ** | **2009** | ** ** | **2010** | ** ** |
| ** **                  | ** ** | **(in HUF millions)** | ** ** |
| Current account  overdrafts |       | 7,990                           |       | — |   | — |   | — |   | — |   |
| Bilateral loans             |       | 66,725                          |       | 21,800 |   | 5,000 |   | 3,000 |   | 4,000 |   |
| DT shelf facility           |       | —                          |       | 12,636 |   | — |   | — |   | — |   |
| Total credit lines          |       | 74,715                          |       | 34,436 |   | 5,000 |   | 3,000 |   | 4,000 |   |

 

Deutsche Telekom is ready to finance our majorfinancing needs (such as refinancing or financing acquisitions) through theinternational capital markets and it passes the conditions of the loans on anarms length basis to Magyar Telekom. Should this financing source cease tobecome available in the future, we plan to raise funds from the Hungariansyndicated loan market and from the Hungarian capital markets. Our financialposition is quite strong in the Hungarian markets therefore we expect to beable to obtain financing at favourable terms from these markets. In addition,we have access to the international bank and capital markets.

Our ordinary shares are listed on the Budapest StockExchange (“BSE”) and the American Depositary Shares, each representing five ofour ordinary shares, are listed on the New York Stock Exchange (“NYSE”). We had2,456,659 treasury shares at December 31, 2005. These shares aremaintained to hedge and finance exercises of share options under the managementshare option plan launched in 2002. No issuance is likely in the foreseeablefuture.

For additional informationabout market risk sensitive instruments, see Notes 3, 16 and 17 to theconsolidated financial statements.

**Credit rating**

In 2000, we requested both Moody’s Investors Services(“Moody’s”) and Standard & Poor’s Ratings Services (“S&P”) toinitiate rating coverage.

Our initial credit rating assigned by Moody’s for thelong-term senior unsecured foreign and domestic currency obligations, announcedon November 14, 2000, was Baa1, with a stable outlook.

On December 7, 2000, S&P announced a localcurrency credit rating of A- with a negative outlook, and a foreign currencycorporate credit rating of BBB+ with a positive outlook. The local currencyrating 

84

----

took into account the DTinfluence, whereas for the foreign currency rating, the positive outlook of theHungarian sovereign. On January 3, 2001, S&P raised our long-termforeign currency corporate rating to A- in line with the Hungarian sovereign,and revised from the positive outlook to negative. The rating actions reflectedthe upgrade of the long-term foreign currency issuer credit rating of Hungary.

On February 25, 2002, both Moody’s and S&Pput DT on a negative watch and stated a possible one-notch downgrade of DT dueto its need to reduce debt and doubts over its asset sales. Following thisstep, S&P placed us on a negative watch as well, quoting the correlationwith DT as the sole rationale for a possible downgrade, while emphasizing oursatisfactory performance.

Our credit rating was lowered to BBB+ by S&P in April 2002,because of the downgrade of DT. S&P sees us as a strategic investment ofDT; therefore, it is very likely that our S&P rating will move in parallelwith that of DT’s in the future as well. Moody’s, however, maintained ourcredit rating, while lowering DT’s rating in January 2003.

Both agencies downgraded DT’s credit ratings becauseit had substantially increased its outstanding debt to finance acquisitions andinvestments. DT was committed to an ongoing debt reduction, and during 2003 itmade substantial efforts to reduce its net debt level and, as a result, itsfinancial position has been significantly improved. Its rating was affirmed byS&P in July 2003 with a stable outlook, while Moody’s upgraded DT’scredit rating from Baa2 to Baa1 in 2004.

In 2003 and 2004, no action relating to our ratingtook place, and both S&P and Moody’s affirmed our previous credit rating.In 2003, our rating by Moody’s was Baa1, which was one notch better than thatof DT. In 2004, Moody’s upgraded DT’s credit rating, therefore at the end of2004, our ratings became same as that of DT: Baa1 (Moody’s) and BBB+ (S&P).

In March 2005, S&P upgraded our rating fromBBB+ to A- with a stable outlook following a similar upgrade of DT and in June 2005,Moody’s upgraded DT’s credit rating by one notch to A3, while confirming our Baa1credit rating.

On September 11, 2006S&P revised our outlook from stable to negative, while affirming the A-rating. The move followed the outlook revision of DT.

**Off-balance sheetarrangements**

We do not have anyoff-balance sheet arrangements (including contingent liabilities, guarantees,etc.) that have or are reasonably likely to have a material current or futureeffect on our financial condition, changes in financial condition, revenues orexpenses, results of operations, liquidity, capital expenditures or capitalresources. We do not participate in, nor secure, financings for anyunconsolidated, limited purpose entities.

**Tabular disclosureof contractual obligations**

Our contractual obligations, including commitments forfuture payments under non-cancelable lease arrangements and short- andlong-term debt arrangements, are summarized below and are disclosed in moredetails in Notes 17 and 29 to our consolidated financial statements. Amountsdisclosed as purchase obligations represent long-term commitments underoutsourcing contracts, commitments towards international telecommunicationscarriers and other purchase commitments. Commitments under outsourcedactivities include a long-term contract with EDS, where payment obligationsdepend on a number of factors, such as the number of PCs, exchange rates andannual inflation rates, therefore the related amounts included in the tablebelow are estimates.

Thistable excludes other obligations we may have, such as payroll and related humanresource services (including bonuses and payments under our mid-term incentiveplan). Payments under these 

85

----

contracts are based on the level of service requiredand are excluded from this table due to the uncertainty of the amounts to bepaid, if any, as well as the timing of such amounts.

| ** **                                                     | ** ** | **Payments Due by Period** | ** ** |
|----------------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                     | ** ** | **Total**                                 | ** ** | **Less than  1 year** | ** ** | **1-3 years** | ** ** | **3-5 years** | ** ** | **More than  5 years** | ** ** |
| ** **                                                     | ** ** | **(in HUF millions)**           | ** ** |
| Loans and  borrowings including finance lease commitments |       | 344,465                                   |       |   | 118,250 |   |   | 100,417 |   | 85,200 |   |   | 40,598 |   |   |
| Interest on loans  and borrowings                              |       | 67,000                                    |       |   | 21,612 |   |   | 27,639 |   | 12,764 |   |   | 4,985 |   |   |
| Operating leases.                                              |       | 29,807                                    |       |   | 5,410 |   |   | 8,284 |   | 5,619 |   |   | 10,494 |   |   |
| Contractual  commitments for capital expenditures              |       | 3,154                                     |       |   | 3,154 |   |   |   |   |   |   |   |   |   |   |
| Purchase  obligations                                          |       | 55,232                                    |       |   | 25,943 |   |   | 17,523 |   | 9,078 |   |   | 2,688 |   |   |
| Trade and other  payables                                      |       | 119,464                                   |       |   | 119,464 |   |   |   |   |   |   |   |   |   |   |
| Total contractual cash  obligations                            |       | 619,122                                   |       |   | 293,833 |   |   | 153,863 |   | 112,661 |   |   | 58,765 |   |   |

 

In addition to the above, in October 2005, we wonthe government tender and signed a contract with the Prime Minister’s Office tobuild and operate the nationwide EDR system in Hungary. The rollout of EDR hasbegun in 2006 and the contract lasts until the end of 2015. Magyar Telekominvested HUF 18.0 billion in 2006 in the assets required to build out the EDRservice and expect to invest HUF 2.9 billion in 2007.

On November 29, 2005, we entered into anagreement to acquire a 100 percent stake in Orbitel for a considerationconsisting of EUR 7.35 million at the closing of the transaction, an additionalEUR 500 thousand to be paid in 2008 depending on whether the two top managersstay at the company until the end of 2007, an additional EUR 500 thousand to bepaid in 2008 if certain financial targets are met between 2005 and 2007 and anadditional EUR 500 thousand to be paid in 2008 if other set of financialtargets are achieved between 2005 and 2007. The closing of the transaction tookplace in February 2006.

On December 12, 2005, we entered into anagreement to acquire a 100 percent interest in Dataplex Kft., for HUF 5.1billion and assumption of asset lease liability with a present value of HUF 230million. The completion of the transaction took place in April 2006.

In 2006, we purchased a number of companies (iWiWKft., Adnetwork Kft., KFKI-LNX, MobilPress, MFactory). For details of thesetransactions and the purchase price paid for these acquisitions see “Item 4—Descriptionof business and its segments”.

On January 1, 2007, we acquired an additional 2percent of T-Systems Hungary for HUF 60 million.

In addition to the above, Magyar Telekom assumes thelegal expenses of its current and former employees involved in the internalinvestigation (see “Item 3—Risk Factors” and “Item 15—Controls and Procedures.”);in connection with this we incurred HUF 458 million expenses in 2006. We arenot able to estimate the expenses we will incur in 2007 and future years forlegal counsel advising these individuals.

86

----

**CAPITALEXPENDITURES**

Our capital expenditures on tangible and intangibleassets totaled HUF 90,788 million in 2003, HUF 91,748 million in 2004 andHUF 103,587 million in 2005, including in each year changes in the balance ofcapital expenditure trade creditors. Capital expenditures include expendituresfor (1) the fixed line network, including network operations systems, (2) mobiletelecommunications and (3) new products, corporate infrastructure andother assets.

Capital expenditures for the fixed line segmentaccounted for 53 percent in 2003, 49 percent in 2004 and 47 percent in 2005.Capital expenditures for the mobile segment totaled 47 percent of total capitalexpenditures in 2003, 51 percent in 2004 and 53 percent in 2005.

We expect to be able tofinance capital expenditures over the next several years from net cashflowsfrom operations and from borrowings. Our actual future capital expenditureswill depend on a variety of factors, such as development of our business and ofthe Hungarian economy and whether we enter into any new line of business. As aresult, our actual future capital expenditures may be significantly different.

**RECONCILIATION TOU.S. GAAP**

Thefollowing table shows net income and shareholders’ equity under IFRS and U.S.GAAP for the periods indicated:

| ** **                                                                   | ** ** | **Year ended December 31,** | ** ** |
|------------------------------------------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                                                   | ** ** | **2003**                                   | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                                                                   | ** ** | **(in HUF millions)**            | ** ** |
| Profit attributable to  the equity holders of the Company (Net income): |       |                                       |       |   |   |   |   |
| IFRS                                                                         |       | 57,475                                     |       | 34,641 |   | 78,564 |   |
| U.S. GAAP                                                                    |       | 66,404                                     |       | 39,684 |   | 69,260 |   |
| Shareholders’  equity:                                                  |       |                                       |       |   |   |   |   |
| IFRS as reported                                                             |       | 560,110                                    |       | 516,567 |   | 527,567 |   |
| U.S. GAAP                                                                    |       | 567,452                                    |       | 534,907 |   | 542,098 |   |

 

Reconciliation adjustments relate principally to thedifferent treatment under U.S. GAAP of deferred revenue, including the adoptionof SAB 101, management incentive plan bonds and recognition and amortization ofintangible assets and goodwill. See Note 34 to the consolidated financialstatements.

In earlier years thedifference between the IFRS and the US GAAP net income of Magyar Telekomfluctuated significantly. In 2003 and 2004, net income according to US GAAP washigher than the IFRS net income. The main reason is that goodwill was nolonger amortized under US GAAP in 2003 and 2004, while we continued toamortizing goodwill under IFRS. In 2004, this difference was partlycounterbalanced by the compensation for the rebranding of the Hungarian mobileoperator, which was recognized as income under IFRS, but recognized directly inequity under US GAAP. In 2005, goodwill was no longer amortized under IFRSeither, but the rebranding continued with our fixed line operations, which wasagain recognized as income under IFRS, unlike under US GAAP. The combination ofthe above events and changes resulted in our US GAAP net income being lowerthan that under IFRS.

**Recent AccountingPronouncements**

We have reviewed the newstandards, amendments and interpretations to existing standards that have beenpublished that are mandatory for our accounting periods after January 1,2006. For a list of recent IFRSs accounting pronouncements, see Note 33 to theconsolidated financial statements. For a list of recent U.S. GAAP accountingpronouncements, see Note 34 to the consolidated financial statements.

87

----

**RESEARCH ANDDEVELOPMENT**

**Hungarian FixedLine Operations**

Magyar Telekom Plc. has a department dedicated toperformance of research and development (“R&D”) projects to meet thedemands of the rapidly changing market, such as development of ourtelecommunications networks and service platforms. The R&D department worksin close cooperation with educational institutions (including the BudapestUniversity of Technical and Economic Sciences and the Technical College ofBudapest), strategic investors, suppliers and domestic and internationaldevelopment organizations. According to Act XC of 2003 on Research andTechnological Innovation Fund, simultaneously with Hungary’s accession to theEuropean Union, several funds aimed at encouraging research and developmentactivities became available to us as well; this encouraged us to deepen ourinvolvement in national and international consortiums engaged in R&D.

The harmonization projects among DT Group members(Maktel, Slovak Telekom, Croatian Telekom and T-Systems International) play animportant role. The joint development themes enable us to utilize group-levelsynergies, pursue efficient financial and human resource management and use thesame third party contractors for our R&D projects.

In 2005, to maintain or expand the competitivepositions of Magyar Telekom we developed the technical platform through theR&D activities for the introduction of new VoIP and multimedia-basedservices, based on the next generation IP/Ethernet-based core and broadbandfixed (ADSL, xDSL) and wireless (WLAN, WiFi) accesses.

Significant resources are devoted to the upgrading ofour digital backbone network. The DWDM technology was introduced tosatisfy the additional demands on the backbone network that arose in connectionwith broadband services, such as fast Internet access and broadband IP-VPN.

We are continuously developing our data communicationsand IP network and services to meet demands for broadband services. Wedeveloped the concept of a national, high-speed IP network built on DWDM andGigabit Ethernet. Under this program, the components of our IPv6 protocol pilotnetwork were identified.

In the last few years, we rolled out a wide range ofbroadband access technologies (e.g., ADSL, cable television, optical accessnetwork and managed leased line technologies) to satisfy demands for higherbandwidth. To widen the choice of broadband services, we considered thepossibilities of implementing triple-play solutions. In 2005, multimediaservices, including Digital Rights Management (“DRM”) system, were tested inthe Ethernet and DSLAM environment.

In 2005, we studied the usability of WorldInteroperability for WiMAX technology. WiMAX can provide wireless broadbandaccess with effective radius of up to several kilometers with up to 75 Mbit/sradio throughput. WiMAX is in a standardization phase.

The Global Resource Information Database (“GRID”)mass-computing platform prototype has been further developed providing quotamanagement to enhance its security and to ensure resilience against dataflooding attacks.

In 2005, we laid down thebasis for product developments toward the convergence of fixed and mobilenetworks (“FMC”). A Bluetooth-based intelligent solution has been tested in ourlaboratory. Our next step in this field will be a study on the FMCpossibilities in IP Multimedia Subsystem (“IMS”) environment, and WiFi/UMTShandsets. A study has been launched on the potential interconnection of theNext Generation fixed and mobile networks, based on the ETSI Telecoms andInternet converged Services and Protocols for Advanced Networks (“TISPAN”) IMSarchitecture.

88

----

**Macedonian FixedLine Operations**

In the last three years, significant efforts have beenmade to upgrade the network to extend the range of services offered and improvetheir quality. This, together with the rationalization of network switchingarchitecture, resulted in improvement in the operational efficiency and networkconsolidation. New telephone services were introduced through the IN andVoice-mail Platforms and provision of broadband services became available withthe implementation of ADSL technology.

In the next phase, the main focus will be on extensionof ADSL capacities nationwide and development of new services. To expandbroadband offerings, Maktel will evaluate video services in terms of itstechnical feasibility, impact on the IP and transport network and possibilityof introduction.

Maktel will continue to dedicate necessary resourcesfor implementation of new technologies to develop the capacity to offerbroadband services that will satisfy customers’ demands. For the businesscustomers, implementation of Metro Ethernet service is being considered.

Maktel is makingpreparations for interconnection and convergence of separate voice and datanetworks. The NGN concept has been seen as a long-term project. Maktel does notplan significant development of traditional PSTN/ISDN network except forpurposes of maintenance and compliance with the regulatory requirements. Thekey focus will be on development of technologies and networks compatible withor forming part of NGN.

**Hungarian MobileOperations**

TMH works in close cooperation on R&D projectswith educational institutions (such as the Budapest University of Technical andEconomic Sciences), strategic investors and suppliers to meet the demand of therapidly changing market.

TMH has worked successfully on various R&Dprojects with universities since 1997 in five different areas: MobileTelecommunications Laboratory deployment, Inter-University Centre forTelecommunications and Informatics, Mobile Innovation Centre, research anddevelopment activities as well as joint mobile services development for TMH.Through these areas TMH continuously monitors the forthcoming new generationtechnologies, hardware-software solutions and mobile services. One of thelargest challenges of the new mobile and wireless systems is the integrationand interoperability of different technologies. TMH is committed to analyzingand adopting new solutions on a continual basis. University departmentsactively participate in R&D projects initiated by TMH.

TMH and its R&D partners are working to createnovel, natural speech-based human-to-machine communication technology forinformation systems (call centers, voice portals, etc.). The novelty of thistechnology lies in its adaptation to the human communication behavior, enablingmore natural and easier interaction as compared to existing systems. Theresearch encompasses speech-based query and browser systems, dialog-basedquestion refinement systems and speech response systems. The knowledge andtechnologies needed to solve such tasks are considered cutting-edge even at theinternational level. The development of similar systems has been largelylimited to English and such technologies are not readily adoptable to Hungarianand other agglutinating languages. We therefore believe that further researchin these fields is necessary.

Today’s information society requires the integrationof telecommunications and information systems, because different modes ofcontent (voice, pictures, video, etc.) can be often accessed only throughdifferent networks, which implies higher costs. The main objective of theproject is development of the media (audio and video) streaming servicearchitecture for the next generation wireless communication systems that willenable us to implement quality streaming media applications and services to oursubscribers, in a scalable way, and with flexible adaptation to the user demandand network environment.

89

----

The downloaded mobile applications run with differentefficiencies in different run-time environments. The aim of the research is, onthe one hand, analysis of the Java Virtual Machine Specification profiles, theMicrosoft Common Language Run-time and the optimum platform selection, and onthe other hand, the choice of the appropriate run-time environment for moreefficient development of services.

The embedded systems for 3G mobile networks are chosenbased on the required functionality. Because of the limitation of the hardwareand embedded software, the integrated VoIP function should be highly optimized.All solutions must be compatible with various platforms. Another objective ofthe research is to develop algorithms and applications capable of adapting todiffering bandwidth.

The mobile phone manufacturers tend to incorporatetheir applications into mobile devices after a short and limited testing cycle.The service provider is forced to do its own extra testing to avoid anunmanageable increase in service calls and associated costs. We are developinga new testing software that could significantly speed up the analysis,functional checking and full operational testing for multiple platforms.

TMH’s web application development is centered onloosely connected component-based solutions (Service Oriented Architecture (“OSA”)based on the state-of-the-art technology, Extensible Markup Language-based webservices) to ensure flexible application scalability. Selection of the rightservice provider might necessitate a long searching process in a registrydatabase due to the large number of web services. The research aims to improvethe efficiency of service selection by introducing semantic metadata as well asthe development of different design patterns.

The OSA/Parlay opens newpossibilities in the telecommunications sector. Prior to the OSA, we used onlyone enabler (mainly voice) to serve the customer, but with the help of OSA, weare able to develop easily integrated services using multiple enablers. Inaddition, it increases the service abstraction level to involve a large numberof developers from the IT market. OSA-based services require regular ITdevelopers (with standard programming knowledge) while classictelecommunications services required complex telecommunication and protocolknowledge. As a result of this new abstraction level, the time to market isspeeded up and development costs are decreased.

**Macedonian Mobile Operations**

Research and development projects at T-MobileMacedonia are performed in close cooperation with suppliers and stateeducational institutions. The aim of these projects is to prepare T-Mobile Macedoniato meet the needs of the rapidly developing market and to optimize themaintenance of current activities.

The software developed for Optimization, Measurement,Analyses and Presentation with visualization (“OMAP”) represents a modular andflexible solution based on existing informatics infrastructure at T-MobileMacedonia, in accordance with international software engineering standards. Thesoftware provides traffic analyses based on information from switches in realtime and monitoring of congestion of each traffic route.

The Base Station Alarm Monitoring Performance (“BAMP”)is a modular software application, which provides alarm monitoring of T-MobileMacedonia’s radio network and inventory management of base stations.

The application identifies and reports causes formalfunction of base stations and facilitates prompt corrective actions.

T-Mobile Macedonia is alsodeveloping an application for text-to-speech translation in Macedonian, whichwill be used, for example, in SMS2Fix services and Interactive Voice Response (“IVR”)services (Red Hot voice portal). The novelty and advantage of this technologylies in its adaptation to human 

90

----

communicationbehavior, enabling more natural and easier interaction compared to existingsystems. The research encompasses speech-enabled query and browser systems,dialog-based question refinement systems and speech response systems.

The Cell Broadcastapplication offers commercial utilization of the Cell Broadcast service, whichcan enable customers to create and broadcast content themselves and providededicated channels for advertisements.

T-Mobile Macedonia isworking together with Ericsson to commercialize Unstructured SupplementaryService Data (“USSD”) Call Back roaming for postpaid customers. This willminimize call costs for T-Mobile Macedonia and reduce rates for customers.

In cooperation withTIS.KIS Croatia, T-Mobile Macedonia is developing a platform capable ofmanaging different types of content (e.g., monophonic ringtones, logos,polyphonic melodies, pictures, wallpapers, java games) from a single site andfacilitate several means of ordering and access (e.g., SMS, WEB, WAP, IVR).

**RISKMANAGEMENT POLICIES**

It is our policy that alldisclosures made by us to our security holders and the investment community beaccurate and complete, and fairly present our financial condition and resultsof operations in all material respects. Such disclosures should be made on atimely basis as required by applicable laws, rules and regulations,including by-laws of the Budapest Stock Exchange and rules adopted by theU.S. Securities and Exchange Commission (“SEC”). To achieve theseobjectives, we formed the Disclosure Committee and developed and havecontinuously enhanced our risk management policies.

*Risk Management Policies*

Our risk managementincludes identification, assessment and evaluation of risks, development ofnecessary action plans, and monitoring of performance and results. For riskmanagement to be effective, we must ensure that management take businessdecisions with full understanding of all relevant risks.

In 1999, we established aformal risk management system. In 2000, we established a department to co-ordinateall risk management tasks. This system was integrated into the risk managementsystem of DT in 2002.

All risks related tomaterial internal and external operations, financial and legal compliance andcertain other risks are evaluated and managed by a well-defined internalmechanism. A risk management handbook and a Chief Executive Officer (“CEO”)directive on risk management were published in 2003. A risk management coursewas developed for employees responsible for risk management in allorganizational areas. Risk items affecting our operations are reviewedquarterly throughout the Group. All of our departments and subsidiaries areobliged to identify and report their operational risks on a quarterly basis.After evaluation of these risks, results are reported to our management and toDT.

Following the enactment ofthe Sarbanes-Oxley Act, we decided to enhance our risk management procedures.As this new law requires prompt disclosure of all risk items influencinginvestors’ decisions, we complemented our quarterly risk reporting system witha continuous reporting procedure which requires all of our departments andsubsidiaries to report on a real-time basis any new material fact, informationor risk that comes to their knowledge. Information thus submitted is monitoreddaily by the risk management department, and the Chief Financial Officer (“CFO”)is notified when a new material risk or information is identified.

A CEO directive has beenissued to define responsibilities of each employee in risk monitoring andmanagement. In addition, an e-learning course was created to train ouremployees on requirements of the Sarbanes-Oxley Act, our enhanced reporting andcorporate governance obligations and the enhanced risk reporting procedures.Completion of this course has been made compulsory for all of our employees.

91

----

For further discussion ofthe steps that we are taking to remedy our control deficiencies, see “Item 15—Controlsand Procedures.”

*DisclosureCommittee*

We established the Disclosure Committee onJuly 31, 2003. The Disclosure Committee acts both in plenary meetings andthrough its members acting individually. It supports CEO and CFO in fulfillingtheir responsibility to oversee processes designed to ensure accuracy andtimeliness of our disclosures.

The DisclosureCommittee consists of individuals knowledgeable in significant and diverseaspects of our business, finances and risks. The members of the DisclosureCommittee are:

·       Directorof Group Accounting (Chairman);

·       Directorof Group Legal Branch;

·       Directorof Group Human Resources Management Branch;

·       Headof Secretariat of the Chairman-CEO;

·       Headof External Reporting Department;

·       Headof the Business Development and Acquisitions Branch;

·       Headof Group Investor Relations Department; and

·       Headof Group Risk Management Department.

Head of Internal Audit is a permanent invitee.

Principalresponsibilities of the Disclosure Committee are as follows:

·       preparationof all SEC and Budapest Stock Exchange filings of the Company (e.g.,Form 20-F and Registration Statements) and local annual/interimreports that are subsequently submitted on Form 6-K;

·       monitoringand recommendation of all disclosure controls and procedures;

·       determinationof the content of general rules and instructions issued to preparers ofall SEC filings of the Company; and

·       recommendations as tomateriality of information and procedures relating to the CEO and CFO certificationsrequired by the Sarbanes-Oxley Act.

**ITEM 6—DIRECTORS,SENIOR MANAGEMENT AND EMPLOYEES**

**Board of Directors**

Under Hungarian laws, the Board of Directors isresponsible for the Company’s management and decides on matters other thanthose that must be determined by shareholders. The Board of Directors isrequired to report annually to the shareholders at the general meeting of theshareholders and quarterly to the Supervisory Board on our businessadministration, state of assets and business policy.

Pursuant to our amended Articles of Association, theBoard of Directors consists of a minimum of six and a maximum of eleven memberselected at the annual general meeting of the shareholders for a term of threeyears. One of the current directors was nominated by the holder of the Series “B”Share pursuant to the Articles of Association, seven of the current directorswere nominated by MagyarCom and two of the current directors are independent;MagyarCom therefore controls Magyar Telekom.

92

----

Meetings of the Board of Directors are held at leastfour times a year. Meetings of the Board of Directors require the presence ofsix members for a quorum. Each member has one vote. The Board of Directorspasses resolutions by a simple majority vote.

On December 31,2005, members of the Board of Directors, their principal occupations and theyears of their original election were as follows:

| **Name**                              | ** ** | ** ** | ** ** | **Age**                                                                                                     | ** ** | **Principal Occupation** | ** ** | **Member  since** |
|---------------------------------------|------------|------------|------------|-------------------------------------------------------------------------------------------------------------|------------|--------------------------|------------|-------------------|
| Elek Straub(1)                        |       | 62         |       | Chairman and Chief  Executive Officer of Magyar Telekom                                                     |       | 1995                     |
| Dr. István  Földesi(2) |       | 57         |       | International business  advisor                                                                             |       | 2003                     |
| Michael Günther                  |       | 62         |       | Member of the Management  Board of T-Mobile International responsible for Joint Venture Management          |       | 2002                     |
| Dr. Klaus  Hartmann(3)           |       | 45         |       | Chief Financial Officer  of Magyar Telekom                                                                  |       | 2000                     |
| Horst Hermann                         |       | 51         |       | Senior Executive Vice  President of DT, responsible for Affiliate Management in Central and Eastern  Europe |       | 2003                     |
| Gerhard Mischke                       |       | 48         |       | Senior Executive Vice  President, Treasury and International Investment, DT                                 |       | 2005                     |
| Dr. Mihály Patai(4)         |       | 53         |       | Chairman and Chief  Executive Officer of Allianz Hungária Biztosító                          |       | 1998                     |
| Dr. Ralph  Rentschler            |       | 46         |       | Member of the Management  Board of T-Com                                                                    |       | 2003                     |
| Dr. György Surányi(5)  |       | 53         |       | Head of Central and East European Region of the  Banca Intesa Group                                         |       | 2004                     |

----

(1)          Resigned from hisposition on December 5, 2006. Christopher Mattheisen was elected Boardmember and Chairman on December 21, 2006.

(2)          Representative of theholder of the Series “B” Share

(3)          Since September 15,2006, CEO of Polska Telefonia Cyfrowa

(4)          Since April 2006,CEO of HVB Bank Hungary Zrt. On May 23, 2006, Mr. Patai resigned fromhis position.

(5)          Resigned from hisposition effective October 9, 2006.

On November 6, 2006,Magyar Telekom’s Extraordinary General Meeting (“EGM”) increased the number ofdirectors to ten and elected three new Board members: Thilo Kusch, Dr. MihályGálik and Frank Odzuck (two former Board members—Dr. Mihály Patai and Dr. GyörgySurányi—had resigned their posts earlier). The new directors’ mandate—similarly to that of the other Board members—lastsuntil the day of the Annual General Meeting that closes fiscal year 2006, butno later than May 31, 2007.

**Other PrincipalDirectorships of Members of the Board of Directors**

| Name                              | ** ** | ** **                           | ** ** | **Position held**           | ** ** | **Company** |
|-----------------------------------|------------|--------------------------------------|------------|-----------------------------|------------|-------------|
| Elek Straub                       |       | Chairman of the Board of Directors   |       | T-Mobile Hungary Rt.(1)     |
| Dr. István Földesi |       | Chairman and Chief Executive Officer |       | Inter-Access Kft.           |
|                              |       | Member of the Board of Directors     |       | Sláger Rádió |
|                              |       | Managing Director                    |       | Hungarian Technology Center |

93

----

 

| Michael Günther              |   | Chairman of the Board of Directors      |   | T-Mobile Slovensko a.s., Slovakia                           |
|-----------------------------------|--------|-----------------------------------------|--------|-------------------------------------------------------------|
|                                   |   | Member of the Board of Management       |   | T-Mobile Worldwide Holding GmbH                             |
|                                   |   | Chairman of the Supervisory Board       |   | T-Mobile Macedonia                                          |
|                                   |   | Vice-Chairman of the Board of Directors |   | T-Mobile Hungary Rt.(1)                                     |
|                                   |   | Chairman of the Supervisory Board       |   | Polska Telefonia Cyfrowa Sp. Z. o.o., Poland                |
|                                   |   | Member of the Supervisory Board         |   | T-Hrvatski Telekom, Croatia                                 |
|                                   |   | Vice-Chairman of the Supervisory Board  |   | T-Mobile Hrvatski d.o.o., Croatia                           |
| Dr. Klaus Hartmann           |   | Member of the Board of Directors        |   | T-Mobile Hungary Rt.(1)                                     |
|                              |   | Chairman of the Management Board        |   | Polska Telefonia Cyfrowa                                    |
| Horst Hermann                     |   | Member of the Supervisory Board         |   | T-Hrvatski Telekom, Croatia                                 |
|                                   |   | Member of the Board of Directors        |   | Slovak Telecom                                              |
| Gerhard Mischke                   |   | Member of the Supervisory Board         |   | Deutsche Telekom, Inc., New York                       |
|                              |   | Member of the Supervisory Board         |   | DeTe Asia Holding GmbH                                      |
|                              |   | Chairman of the Supervisory Board       |   | T-Hrvatski Telekom, Croatia                                 |
|                              |   | Member of the Supervisory Board         |   | T-Systems International GmbH                                |
| Dr. Mihály Patai        |   | Member of the Supervisory Board         |   | Siemens Hungary Rt.                                         |
| Dr. Ralph Rentschler         |   | Member of the Board of Directors        |   | Slovak Telecom                                              |
|                              |   | Member of the Supervisory Board         |   | T-Hrvatski Telekom, Croatia                                 |
|                              |   | Member of the Supervisory Board         |   | CAP Customer Advantage Program GmbH                         |
|                              |   | Member of the Supervisory Board         |   | DeTe Fleet Services GmbH                                    |
| Dr. György Surányi |   | Member of the Board of Directors        |   | KITE, Nádudvar                                         |
|                                   |   | Chairman of the Supervisory Board       |   | Privredna Banka Zagreb                                      |
|                                   |   | Chairman of the Supervisory Board       |   | VUB, Bratislava                                             |
|                                   |   | Member of the Board of Directors        |   | KMB Bank (ZAO), Moscow                                      |
|                                   |   | Member of the Board of Directors        |   | Brussels European and Global Economic Laboratory  (BRUEGEL) |

----

(1)          UntilFebruary 28, 2006, when TMH merged with Magyar Telekom Plc.

***Biographies of Members of the Board of Directors***

*ElekStraub.**  *Mr. Straubgraduated from Budapest Technical University with a degree in electricalengineering and business administration. Prior to joining Magyar Telekom, heworked as Head of IT Department of the Ministry of Labor from 1970 to 1980.From 1980 to 1990, he was first Head and later 

94

----

Vice President of the ITDivision of the Central Statistical Office of Hungary. From 1990 to 1995, heworked as General Manager of IBM Hungary. In 1995, he joined Magyar Telekom. Hehas served as Chairman of the Board of Directors since January 1996. Mr. Straubbecame a member of the Operating Committee in 1995, Chairman of the ExecutiveCommittee in 1996 and Chairman of the Management Committee in 2000. Mr. Straubresigned from his position on December 5, 2006.

*Dr. IstvánFöldesi.**  *Dr. Földesi received a degree in economicsin 1972 and graduated with a Ph.D. in 1974. He spent twenty years as a diplomatin London, Madrid and Washington D.C. At the end of the 1980’s, he served as anadvisor to the Prime Minister and participated in round table negotiations resultingin political and economic changes. In 1991, he became an advisor to the OECD.He has been working as an international business advisor since 1992. From 1994to 1999, Mr. Földesi was a member of the Board of Directors of MagyarTelekom and until 1996 he acted as Chairman of the Board. In 2003, he wasreappointed as a member of the Board of Directors of Magyar Telekom.

*MichaelGünther.*   Mr. Günther studied businessadministration at universities in Berlin and Hamburg. In 1971, he started hiscareer at Philips-Konzern where he was a financial executive. From 1987 to1993, Mr. Günther was a member of the Board of Directors of PhilipsKommunikations Industrie AG in Nuremberg and was responsible for controlling,finance and accounting, as well as information technology. In 1994, he joinedDeTeSystems, a DT subsidiary, as Financial Director. In 1996, Mr. Güntherjoined DT as Head of Financial and Controlling Division. From September 1997to August 2000, Mr. Günther served as Financial and ControllingDirector at T-Mobile International AG*.*In February 2000,Mr. Günther became Chief Financial Officer, then since June 2001, hehas served as Chief Executive Officer of the Joint Venture Management forT-Mobile International AG.

*Dr. KlausHartmann.**  *Dr. Hartmannreceived a Ph.D. in economics from the Institute for Company Management inGermany in 1987. He also holds an MBA from the University of Birmingham. Priorto his employment with DT, he worked for Arthur Andersen in Germany and as atreasurer and operational controller for a subsidiary of the BICC Group. Hejoined DT in 1995 as Manager of International Capital Markets and becameCorporate Treasurer of Global One, a joint venture of DT, France Telekom andSprint in 1997. He returned to DT’s Bonn headquarters as Senior Advisor to CFOin April 2000*.*He was appointed as CFO ofMagyar Telekom and Vice-Chairman of our Management Committee in November 2000.On September 15, 2006, he became CEO of Polska Telefonia Cyfrowa.

*HorstHermann.*   After graduating with an engineeringdegree, Mr. Hermann joined DT as an operations manager in theTelecommunications Office in Bonn in 1978. In 1990, he began to work forCorporate Strategy and Regulatory Policy at the DT headquarters. From 1994until 1996, he was Assistant Managing Director in Business Development andFinance at DT’s regional headquarters in Singapore covering branch offices inHongkong and New Delhi. From 1996 until 1998, Mr. Hermann returned to DTheadquarters for a strategic planning position. In April 1998, he joined MagyarTelekom to head Strategy, Business Development and M&A. On January 1,2002, he became Chief Strategy and International Officer and was also put incharge of our Business Portfolio, Maktel and our group policy for Media. In June 2003,Mr. Hermann became responsible for Affiliate Management for DT’s Centraland Eastern European telecommunications operations, such as Magyar Telekom,T-Hrvatski Telekom, Croatia and Slovak Telecom.

*GerhardMischke.**  *Mr. Mischkereceived a degree in business management at Justus-Liebig University in Gießenin 1984. Between 1985 and 1990, he worked at the Finance Department of FranzHaniel & Cie GmbH in Duisburg. From 1990 until 1991, he worked at theFinance Department of Scrivner Inc., Oklahoma City and concurrently studied asa correspondence student at Cornell University. From 1991 until 1998 he actedas Head of Finance and M&A at GEHE AG, Stuttgart, then he worked as GroupFinance Director of GEHE UK, Coventry until 2000. In September 2000, hewas appointed Senior 

95

----

Executive Vice PresidentFinance and Treasurer of Deutsche Telekom AG. Since October 2004, he hasserved as Senior Executive Vice President, Treasury and InternationalInvestment.

*Dr. MihályPatai.**  *Dr. Pataistarted working at the National Bank of Hungary in 1976 and joined theFinancial Research Institute in 1978. Between 1982 and 1988, he served at theMinistry of Finance, Department of International Finances. He became Chairmanof the Board at General Banking and Trust Company Ltd. In 1988, he joined theWorld Bank, as Bank and IFC alternate Executive Director. He became ManagingDirector of Kereskedelmi Bank Rt. in charge of International and ForeignExchange Operations in 1993. Between 1996 and April 2006, he was Chairmanof the Board and CEO of Allianz Hungária Biztosító. In April 2006, he wasnamed CEO of HVB Bank Hungary Zrt.

*Dr. RalphRentschler.*   Dr. Rentschler has been CFO ofT-Com since 2001. After receiving a doctorate degree in economics, he workedfor four years for Robert Bosch GmbH as an expert advisor on businessprinciples and methods. His areas of responsibility included investment analysisand cost accounting. Later he became Commercial Manager of Brand OpticsDivision at Carl Zeiss, where he managed Accounting, Controlling, DataProcessing and Purchasing. Mr. Rentschler was Head of Group Controllingand Planning and Reporting Departments at Carl Zeiss from 1992 to 1997. Hisareas of responsibility included production and investment controlling,controlling of affiliated companies, M&A and strategic planning.

*Dr. György Surányi.**  *Dr. Surányi graduated from Budapest Universityof Economics in 1977, and obtained a Ph.D. in 1986. From 1977 to 1986, he was astaff employee, then a department head at the Financial Research Institute, andserved as a consultant to the World Bank (Washington D.C.). From 1988 to 1989,he worked as an advisor to the First Deputy of the Prime Minister and analternate governor representing Hungary in the World Bank Board of Governors.From 1989 to 1990, he was Vice-President of the National Planning Office. Until1991, Dr. Surányi served as President of the National Bank of Hungary anda governor representing Hungary in the Board of Governors of the InternationalMonetary Fund. Between 1992 and 1995, he acted as Chief Executive Officer ofCIB Bank. In 1995, he returned to the National Bank of Hungary as its Presidentuntil 2001. From May 2001, Dr. Surányi was appointed Head of Centraland East European Region of the Banca Intesa Group. He also acts as Professorat Corvinus University of Budapest (former Budapest University of Economics)and Central European University.

**ManagementCommittee**

Pursuant to our amended Articles of Association andthe amended Rules of Procedure of the Board of Directors, the Board ofDirectors established a Management Committee in 2000, which is empowered tocarry out the day-to-day operations in accordance with the annual businessplan. During 2005, the Management Committee consisted of six chief officers ofMagyar Telekom. The members were as follows:

| **Name**                              | ** ** | ** ** | ** ** | **Age**                                                                         | ** ** | **Position** | ** ** | **Member  since** |
|---------------------------------------|------------|------------|------------|---------------------------------------------------------------------------------|------------|--------------|------------|-------------------|
| Elek Straub(1)                        |       | 62         |       | Chairman and Chief  Executive Officer                                           |       | 2000         |
| Dr. Klaus  Hartmann(2)           |       | 45         |       | Vice-Chairman and Chief  Financial Officer                                      |       | 2000         |
| Christopher  Mattheisen(3)            |       | 45         |       | Chief Operating Officer,  Wireline Services Lines of Business (“LoB”) |       | 2002         |
| Dr. Tamás  Pásztory(4) |       | 55         |       | Chief Human Resources  and Legal Officer                                        |       | 2000         |
| András Sugár(5)             |       | 61         |       | Chief Executive Officer  of T-Mobile Hungary Rt.                                |       | 2005         |
| Zoltán Tankó.               |       | 49         |       | Chief Operating Officer, Business Services LoB                                  |       | 2000         |

----

(1)          Resignedfrom his position as of December 5, 2006. Christopher Mattheisen wasappointed his successor by the Board of Directors from December 6, 2006.

96

----

(2)          Resigned from hisposition as of September 15, 2006. Thilo Kusch took over his position fromSeptember 20, 2006

(3)          Resigned from hisposition as of June 15, 2006. György Simó, Deputy Chief Officer of theWireline Services LoB, CEO of T-Online Hungary Zrt. took over this positionfrom September 20, 2006.

(4)          Resignedfrom his position as of March 30, 2007.

(5)          Resignedfrom his position as of September 5, 2005. János Winkler took over thisposition from January 20, 2006.

**OtherPrincipal Directorships of Members of Management Committee**

| Name                              | ** ** | ** **                        | ** ** | **Position held**       | ** ** | **Company** |
|-----------------------------------|------------|-----------------------------------|------------|-------------------------|------------|-------------|
| Elek Straub                       |       | See above                         |       |                    |
| Dr. Klaus Hartmann           |       | See above                         |       |                    |
| Christopher Mattheisen            |       | Member of the Board of  Directors |       | T-Mobile Hungary Rt.(1) |
| Dr. Tamás Pásztory |       | Member of the  Supervisory Board  |       | Investel Zrt.           |
|                              |       | Member of the Board of  Directors |       | T-Online Hungary Zrt.   |
|                              |       | Member of the Board of  Directors |       | T-Mobile Hungary Rt.(1) |
| Zoltán Tankó            |       | Chairman of the Supervisory Board |       | Linum Foundation        |

----

(1)          UntilFebruary 28, 2006, when TMH merged with Magyar Telekom Plc.

***Biographies of Chief Officers***

*ElekStraub.**  *See “Biographiesof Members of the Board of Directors” above.

*Dr. KlausHartmann.**  *See “Biographiesof Members of the Board of Directors” above.

*ChristopherMattheisen.**  *Mr. Mattheisenstudied economics and finance at Indiana University of Bloomington and atColumbia University. He first came to Hungary in 1990 to start a strategicplanning and business consulting company. In 1993, in his capacity as amarketing manager of U.S. West International, Mr. Mattheisen helped launchvarious Hungarian, Polish and Czech mobile service operators. He worked as amarketing and sales director of TMH between 1993 and 1996. Between 1997 and1999, he ran sales and marketing activities of MediaOne in London and laterworked in Britain as a business, sales and marketing director of BT’s Cellnet.In September 2002, Mr. Mattheisen became Chief Officer of ResidentialServices and in January 2005 Chief Officer of the Wireline Lines ofBusiness (“T-Com”, including Residential Services, Internet and Networkdivisions). From December 6, 2006, Mr. Mattheisen is the ChiefExecutive Officer of Magyar Telekom, from December 21, 2006 he is theChairman of the Company’s Board of Directors.

*Dr. TamásPásztory.**  *Dr. Pásztorygraduated with degrees in law and organization engineering. He was appointedDeputy Chief Officer of Magyar Telekom in July 1995 and Chief HumanResources and Legal Officer in February 1996. He joined our predecessor in1969 and has been in various positions in the human resources area since 1980. His professional expertise includes top-levelcorporate governance, change management, transformation of companies andcorporate groups, as well as business operations. He resigned from his positionas of March 30, 2007.

*Zoltán Tankó.**  *Mr. Tankó graduated from Budapest TechnicalUniversity with a degree in electrical engineering. He started as an ITdevelopment engineer for Budapest Radio Technology Enterprise in 1980 and forKőbánya Pharmaceuticals in 1982. He had several positions at Műszertechnika(Instrument technology) starting in 1984, including Chief TelecommunicationsOfficer starting in 1990. He became 

97

----

Director of ourBusiness Communications Branch in February 1996, Chief Sales Officer in January 2000and Chief Operating Officer of Business Services Lines of Business (T-Systems)in January 2002.

**Supervisory Board**

The Supervisory Board isresponsible for supervising our administration and control and for assuring ourcompliance with Hungarian legal requirements and provisions set out in ourgoverning instruments. The Supervisory Board reviews every significant reportdelivered to the general meeting of the shareholders, proposals by the Board ofDirectors, financial statements and proposals regarding profit distribution.The Supervisory Board also prepares a report on these subjects for the annualgeneral meeting of shareholders.

Pursuant to the Articlesof Association, the Supervisory Board consists of a minimum of three and amaximum of fifteen members elected by the shareholders for a term of threeyears. The Works Council nominates one third of the Supervisory Board members.The holder of the Series “B” Share has the right to nominate one member ofthe Supervisory Board. Meetings of the Supervisory Board require a quorum ofeight members.

OnDecember 31, 2005, the members of the Supervisory Board, their principaloccupation and the years of their original election were as follows:

| **Name**                       | ** ** | ** ** | ** ** | **Age**                                                                                                  | ** ** | ** ** | **Principal Occupation** | ** ** | ** ** | **Member  since** |
|--------------------------------|------------|------------|------------|----------------------------------------------------------------------------------------------------------|------------|------------|--------------------------|------------|------------|-------------------|
| Géza Böhm            |       | 54         |       | Chairman of Hungarian Telecommunications Trade Union                                                     |       | 2002       |
| Attila Csizmadia(1)            |       | 56         |       | Ministry of Finance, Chief Counsellor                                                                    |       | 2003       |
| Dr. Ádám Farkas |       | 38         |       | CEO of Allianz Bank Zrt.(2)                                                                              |       | 2005       |
| Arne Freund(3)                 |       | 38         |       | Senior Executive Vice President—Controlling, T-Com                                                  |       | 2003       |
| Wolfgang Hauptmann(3)          |       | 44         |       | Senior Executive Vice President, T-Com                                                                   |       | 2003       |
| Gellért Kadlót       |       | 57         |       | Member of the Workers’ Council of the sales field                                                   |       | 2002       |
| Wolfgang Kniese(3)             |       | 39         |       | Executive Vice President, Accounting and Corporate  Finance at T-Mobile International                    |       | 2005       |
| Dr. Thomas Knoll          |       | 40         |       | Senior Executive Vice President, Corporate Audit                                                         |       | 2005       |
| Dr. Klaus  Nitschke(3)    |       | 46         |       | Managing Director, T-Com’s Innovation Company                                                       |       | 2002       |
| Dr. László Pap  |       | 63         |       | Budapest University of Technology, Professor and  Head of Telecommunications Department                  |       | 1998       |
| György Varju              |       | 60         |       | Chairman of the Workers’ Council at Technical  Services Member of the Central Workers’ Council |       | 2005       |
| Péter Vermes              |       | 59         |       | Chairman of  Magyar Telekom’s Central Workers’ Council                                         |       | 1995       |

----

(1)          Representativeof the holder of the Series “B” Share

(2)          SinceMarch 9, 2006

(3)          Resignedfrom their positions on November 6, 2006

According to the newCompany Act the majority of Supervisory Board members have to be independentpersons. Therefore, on November 6, 2006, Arne Freund, Wolfgang Hauptmann,Wolfgang Kniese and Dr. Klaus Nitschke resigned their Supervisory Boardmembership. The EGM held on the same day elected Dr. György Szapáry,Dr. János Illéssy, Dr. Sándor Kerekes and Konrad Kreuzer as newmembers of the Supervisory Board of Magyar Telekom. The mandate of the newmembers—similarly to that of the other Supervisory Board members—lasts untilthe day of the Annual General Meeting that closes fiscal year 2006, but nolater than May 31, 2007. The mandate of Dr. György Szapáry—due to hiscurrent positions and occupations—begins as of March 1, 2007.

98

----

**Other Principal Directorships of Members of theSupervisory Board**

| Name                           | ** ** | ** **                                          | ** ** | **Position held**                                                                                     | ** ** | **Company** |
|--------------------------------|------------|-----------------------------------------------------|------------|-------------------------------------------------------------------------------------------------------|------------|-------------|
| Géza Böhm            |       | Member of the  Supervisory Board                    |       | DIMENZIÓ Biztosító és  Önsegélyező  Egyesület                 |
| Attila Csizmadia               |       | Member of the  Supervisory Board                    |       | Postaautó Tisza Zrt.                                                                             |
|                           |       | Member of the  Supervisory Board                    |       | Puskás Tivadar  Közalapítvány                                                     |
|                           |       | Member of the  Supervisory Board                    |       | Neumann János Digitális  Könyvtár és Multimédiás Központ Kht. |
| Dr. Ádám Farkas |       | Member of the Board of  Directors                   |       | Allianz Bank Zrt.                                                                                     |
|                                |       | Vice-Chairman and Member  of the Board of Directors |       | Budapest Airport Ltd.                                                                                 |
|                                |       | Member of the  Supervisory Board                    |       | Central European Broker  Training Foundation                                                          |
| Arne Freund                    |       | None                                                |       |                                                                                                  |
| Wolfgang Hauptmann             |       | Member of the Board of  Directors                   |       | Maktel                                                                                                |
|                                |       | Member of the  Supervisory Board                    |       | T-Systems RIC Kft.                                                                                    |
|                                |       | Member of the Managing  Board                       |       | MagyarCom Holding GmbH,  Bonn                                                                         |
|                                |       | Member of the Board of  Directors                   |       | T-Mobile Hungary Rt.(1)                                                                               |
| Gellért Kadlót       |       | None                                                |       |                                                                                                  |
| Wolfgang Knise                 |       | Managing Director                                   |       | T-Mobile Global Holding  GmbH                                                                         |
|                                |       | Managing Director                                   |       | T-Mobile Worldwide  Holding GmbH                                                                      |
|                                |       | Managing Director                                   |       | T-Mobile Poland Holding  B.V.                                                                         |
| Dr. Thomas Knoll          |       | None                                                |       |                                                                                                  |
| Dr. Klaus Nitschke        |       | None                                                |       |                                                                                                  |
| Dr. László Pap  |       | None                                                |       |                                                                                                  |
| György Varju              |       | None                                                |       |                                                                                                  |
| Péter Vermes              |       | None                                                |       |                                                                                                  |

----

(1)          UntilFebruary 28, 2006, when TMH merged with Magyar Telekom Plc.

**Biographies ofMembers of the Supervisory Board**

*GézaBöhm.*   Mr. Böhm has been working with MagyarTelekom and its predecessor since 1970. He has worked as a foreman, anadministrator in charge of transmission investment and an SDH project leader.He has been an officer of the Workers’ Council since 1993. Since March 2002,he has been Chairman of the Hungarian Telecommunications Trade Union.

*AttilaCsizmadia.*   Mr. Csizmadia holds anengineering degree in telecommunications. From 1968 to 1983, he worked at theBudapest Telephone Directorate as an engineer, then held various managementpositions. In 1983, he became a senior staff member at the General Directorateof Hungarian Post. From 1986 to 1990, he was a senior staff member and Head ofTelecommunications Department at the National Planning Office. From 1990, heworked as Head of Department and chief counsellor in the Ministry of Finance.He also took part in work of various inter-departmental committees andconsulting bodies dealing with IT and communications issues.

*Dr. ÁdámFarkas.*   Dr. Farkas graduated from theBudapest University of Economics in 1990 and he obtained a Ph.D. from the sameinstitution in 1995. He studied and worked on various research projects atseveral universities outside Hungary. He started his career as a full-timelecturer at the university and as a finance advisor to EBRD (London). Atpresent, he is a lecturer at the Budapest University of Economics as well as atInternational Training Centre for Bankers. Between 1997 and 2001 he wasManaging Director of the National Bank of Hungary and member of its Board ofDirectors. From 1999 until 2001, he acted as 

99

----

Deputy Chairman of KelerRt.’s Board of Directors and was a member of the Stock Exchange Council. From2001, he was Managing Director of CIB Central European International Bank, andthen he was Chief Executive Officer between 2002 and 2005. He is a member ofexecutive committees of several Hungarian professional associations as well asof the Supervisory Board of the Central European Training Foundation for Brokers.In March 2006, he became CEO of Allianz Bank Zrt.

*ArneFreund.*   After graduating with a degree inindustrial economics from the Technical University of Berlin, Mr. Freundjoined DT in 1995 and worked for five years with Group Controlling in variouscapacities. From July 2000 to July 2002, he was in charge of BoardSupport for Chief Financial Officer of DT. Since July 2002, Mr. Freundhas been in charge of T-Com Controlling as Senior Executive Vice President.

*WolfgangHauptmann.*   Mr. Hauptmann has a degree inelectrical engineering. He joined DT in 1992 and became Head of Department,Branch Office Mannheim in the same year. From 1994 to 2000, he worked asProject Manager of International Division, DT, then he became Head of Region,Western Europe. Since July 2002, Mr. Hauptmann has been serving asHead of Alliance Management, T-Com, International Business.

*GellértKadlót.*   Mr. Kadlót has been working withMagyar Telekom since 1970, initially in operations, and later in development.Currently, he coordinates cooperation between local telecommunicationsoperators and Magyar Telekom within the Domestic Carriers Division. From 1996to 2005, he was Chairman of the Workers’ Council of the Domestic CarriersDivision. Since 2005, he has been serving as Member of the Workers’ Council ofthe sales field.

*WolfgangKniese.**  *Mr. Kniesestudied business and engineering at the University of Karlsruhe where heobtained his degree in 1995. Between 1996 and 2000 he worked as Deputy Head ofInvestor Relations at the Investor Relations Directorate of Deutsche TelekomAG, and then as Director of Investor Relations at T-Online International AG, Darmstadt.From November 2000 until September 2002, he worked as Senior VicePresident, Investor Relations at Fraport AG, Frankfurt. Since October 2002,he has served as Executive Vice President Accounting and Corporate Finance atT-Mobile International AG, as well as Managing Director of T-Mobile WorldwideHolding GmbH, T-Mobile Global Holding GmbH and T-Mobile Poland HoldingB.V.

*Dr. ThomasKnoll.**  *Dr. Knollreceived a degree in economics in 1992 and a Ph.D. in 1999. During his studies,he acquired job experience at Hypo-Bank and Lufthansa Informationstechnik undSoftware GmbH where he started his career in 1992. Since December 1992, hehas been working at Deutsche Telekom AG in various executive positions. From1998 until 2000 he acted as Head of the Finance and Controlling Department ofDeutsche Telekom AG, Branch of the Network Division, Cologne. In 2000 he becameHead of the Board of Management Office and Chief of Staff at the Headquartersin Bonn. At present, he is Senior Executive Vice President, Corporate Audit.

*Dr. KlausNitschke.**  *Dr. Nitschkereceived a degree in genetic engineering. After receiving a Ph.D. fromMax-Planck-Institute in Cologne in 1992, he started his career with Dicke &Associates Management Consultants. He gained professional experience at variousconsulting companies in the fields of value-based company management, strategicdevelopment as well as mergers and acquisitions. Between September 2000and March 2002, he was Chief Operating Officer at Bertelsmann eCommerceGroup. Between April 2002 and January 2003, he was Senior ExecutiveVice President of International Operational Performance Management at DT.Between February 2003 and August 2005, he was Senior Executive VicePresident of Strategy Development at T-Com. Currently he is Managing Directorof T-Com Innovation Company in Berlin.

*Dr. László Pap.**  *Dr. Pap graduated from the Budapest TechnicalUniversity with a degree in telecommunications. He received a Ph.D. in 1980 andDoctor of Sciences (the highest degree awarded by 

100

----

the HungarianAcademy of Sciences) in 1992. He has been a professor in the ElectricalEngineering Department and Head of the Department of Telecommunications atBudapest Technical University since 1967. He has obtained numerous patents forhis inventions. He is Vice President of the Scientific Society ofTelecommunications, a member of the editorial board of the periodical World ofNature, a member of the Hungarian Society of Inventors, and an expert of theHungarian Space Research Governmental Committee.

*György Varju.**  *Mr. Varju has been working with Magyar Telekomand its legal predecessor since 1977. Until 1998, he acted as an on-siteconstruction manager. In 1993, he was elected to the Workers’ Council, and heis now Chairman of the Workers’ Council at Technical Services and a member ofthe Central Workers’ Council. Between 1999 and 2002, he was a member of MagyarTelekom’s Supervisory Board as a representative of the employees.

*Péter Vermes.*   Mr. Vermesbecame a qualified engineer in 1972, graduated with a degree in telecommunicationsin 1975 and became a teacher of technical sciences in 1978. Between 1972 and1986, he worked for the Budapest Regional Directorate and between 1986 and 1997for the Long-Distance Telecommunications Directorate. He currently works for theOperations and Maintenance Directorate. He has been Chairman of our CentralWorkers’ Council since 1993. He was elected as the employees’ representative onthe Supervisory Board in 1995 for the first time.

**Indemnification of the Board of Directors and the SupervisoryBoard**

Pursuant to our amendedArticles of Association, to the extent permitted by law, we are required toindemnify each current and former member of the Board of Directors and theSupervisory Board under certain circumstances. Generally, if such individual isliable for certain costs or damages in connection with his or her boardposition and has acted in good faith, we must indemnify him or her. We maymaintain insurance on behalf of any member of the Board of Directors or theSupervisory Board against any liability asserted against him or her andincurred by him or her in any such capacity, whether or not we have theobligation to indemnify him or her against such liability.

**Statement of the Board of Directors**

“Therole of the Board of Directors is to act on behalf of the shareholders toensure that Magyar Telekom operates in a manner that serves the interests ofshareholders all over the world. As members of Magyar Telekom’s governing bodywe will always act in accordance with our fiduciary responsibilities and thefollowing values:

·       accountabilityto our shareholders;

·       opennessto scrutiny;

·       transparencyof all decisions taken; and

·       deliberationthat will be fair and open but also efficient, timely and orderly.

By accepting to serve onMagyar Telekom’s Board, we have committed ourselves not to spare neither timenor effort to earn the trust of those who have invested in the future of thisCompany.”

**Compensation of Directors and Officers**

For the year ended December 31,2005, the aggregate compensation of the members of the Board of Directors wasHUF 9.8 million.

For the year ended December 31,2005, the aggregate compensation of the members of the Supervisory Board wasHUF 14.3 million.

For the year ended December 31,2005, the aggregate compensation of the members of the Management Committee (“MC”)was HUF 507.6 million.

101

----

Two-thirds of the MCmembers have an employment contract for a fixed duration. Pursuant to Hungarianlegislation, if an employment contract is terminated before the end of itsterm, the average compensation received by the employee prior to suchtermination is payable for the remaining period up to 12 months. In the case ofan employment contract for a fixed duration the notice period is normally sixmonths, and severance is between 16 and 21 months.

In addition to the above,the affected persons are bound by the non-compete clause, under which theemployee is barred from entering into employment with any Hungarian orinternational competitor of Magyar Telekom Group and is required to refrainfrom provision of direct or indirect services or activities of any kind to suchcompanies for a definite period (not longer than one year) upon termination ofhis/her employment. Furthermore, such employee is barred from any action aimed torecruit employees of Magyar Telekom Group for any other company. Thislimitation entails certain compensation which is proportional with the aboveobligation. If the employee is in breach of the agreement, he/she willreimburse the net amount of compensation to the employer. In addition, theemployee will be liable for a payment of compensation to the employer.

The MC members fromforeign countries may be entitled to housing subsidies.

In line with the Company’sallowance scheme, the company contributes to the personal pension scheme andthe personal insurance scheme on behalf of the MC members. In addition, the MCmembers are entitled to the use of company cars.

**Board Practices**

Members of the Board ofDirectors and the Supervisory Board are elected for a term of three years.Members of the Management Committee are elected for an indefinite period.

Employment contracts withour management employees contain special provisions providing for entitlementsafter termination of employment; therefore, the amount of severance is higherthan the amount required by the applicable provisions of the Labor Code.

Until November 6,2006, Audit Committee members were appointed from the independent members andnon-executive employee members of the Supervisory Board. Remuneration Committeemembers are appointed from the Board of Directors.

The Audit Committee, as apermanent committee of the Supervisory Board, assists in appointment ofindependent auditors to be elected by the annual general meeting and reviewsthe scope of external audit services. It advises the Supervisory Board withrespect to approval of all audit and non-audit services to be performed by theexternal auditor. The Audit Committee also reviews our annual financialstatements, taking into account results of audits and reviews performed by theindependent auditors. The Audit Committee also reviews financial reportssubmitted to the stock exchanges, banks and regulatory bodies as well asreports prepared by our internal auditors. Until November 6, 2006 membersof the Audit Committee were Dr. Ádám Farkas (Chairman), Dr. LászlóPap and Péter Vermes (non-executive employee member). The Audit Committee meetsat least four times a year.

In compliance with therelevant provisions of the new Company Act and the amendments to the Company’sArticles of Association approved on October 9, 2006, the EGM held on November 6,2006 elected an Audit Committee from the independent members of the SupervisoryBoard. Since November 6, 2006, the members of the Audit Committee ofMagyar Telekom are Dr. Ádám Farkas, Dr. László Pap, Dr. JánosIlléssy, Dr. György Szapáry and Dr. Sándor Kerekes. The mandate ofthe new members—similarly to that of the other Supervisory Board members—lastsuntil the day of the Annual General Meeting that closes fiscal year 2006, butno later than May 31, 2007. The mandate of Dr. György Szapáry—due tohis current positions and occupations—begins as of March 1, 2007.

102

----

The Remuneration Committeemakes proposals to the Board of Directors with respect to appointment anddismissal, as well as remuneration of chief officers, including establishmentand assessment of bonus targets. Members of the Remuneration Committee were HorstHermann, Dr. Ralph Rentschler and Dr. Mihály Patai (until hisresignation from the Board). On November 8, 2006 the Board elected FrankOdzuck as third member of the Remuneration Committee. On February 13,2007, Horst Hermann resigned as member of the Remuneration Committee and wasreplaced by Michael Günther. The Remuneration Committee meets at least threetimes a year.

**Employees**

We had11,919 employees as of December 31, 2005. The following table providesinformation concerning the number of full-time employees, including full-timeequivalents, of Magyar Telekom Plc. and its consolidated subsidiaries:

| ** **                                              | ** ** | **2003** | ** ** | **2004** | ** ** | **2005** | ** ** |
|---------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
| Magyar Telekom  Plc                                     |       | 8,071    |       | 7,740    |       | 5,478    |       |
| Magyar Telekom  Plc. and its consolidated subsidiaries: |       | 14,710   |       | 13,724   |       | 11,919   |       |

 

The followingtable provides information on the breakdown of Magyar Telekom Plc.’s employeesby activity:

| ** **                 | ** ** | **Number of employees** | ** ** |
|----------------------------|------------|-----------------------------------|------------|
| **Branches**               | ** ** | ** **                        | ** ** | **2003** | ** ** | **2004** | ** ** | **2005** | ** ** |
| Operation and  maintenance |       | 4,008                             |       | 3,920 |   | 3,097 |   |
| Business services          |       | 507                               |       | 379 |   | 333 |   |
| Residential services       |       | 1,479                             |       | 1,435 |   | 796 |   |
| Logistics                  |       | 672                               |       | 650 |   | 238 |   |
| Finance                    |       | 597                               |       | 572 |   | 266 |   |
| Research and  development  |       | 156                               |       | 162 |   | 167 |   |
| Human resource  and legal  |       | 488                               |       | 464 |   | 357 |   |
| Other support              |       | 164                               |       | 158 |   | 224 |   |
| Total                      |       | 8,071                             |       | 7,740 |   | 5,478 |   |
|                            |            |                                   |            |  |  |  |  |  |  |

 

Thefollowing table provides information on the breakdown of Magyar Telekom’semployees by operations:

| ** **                           | ** ** | **Number of employees** | ** ** |
|--------------------------------------|------------|-----------------------------------|------------|
| ** **                           | ** ** | **2003**                          | ** ** | **2004** | ** ** | **2005** | ** ** |
| Hungarian fixed  line operations     |       | 9,406                             |       | 9,145 |   | 6,861 |   |
| International  fixed line operations |       | 3,119                             |       | 2,382 |   | 2,751 |   |
| Hungarian mobile operations          |       | 1,786                             |       | 1,780 |   | 1,708 |   |
| International  mobile operations     |       | 399                               |       | 417 |   | 599 |   |
| Total                                |       | 14,710                            |       | 13,724 |   | 11,919 |   |

 

*WorkforceReduction and Redeployment.**  *Centralization,technological improvements and attrition have allowed us to reduce the size ofour workforce. While overall personnel levels are falling, the number of highlyskilled employees is increasing. We plan to further reduce the number of our employees.

In 2005, we carried out a restructuring program, whichincluded a significant headcount reduction. The objective of the restructuringprogram was to redefine the focus of our operation and consumption 

103

----

patterns. We reallocatedsubstantial human and financial resources to the mobile, data and Internetoperations.

As a result of the headcount reduction, in ourHungarian fixed line operations (Magyar Telekom Plc. and Emitel), access linesper fixed line employee increased from 362 at December 31, 2004 to 484 at December 31,2005. The number of lines per fixed line employee at Magyar Telekom Plc.increased to 501 by the end of February 2006 and thereby reached theyear-end target of 500.

*EmployeeRepresentation and Labor Relations.**  *Magyar Telekom Plc. has entered into a collectivebargaining agreement with the Hungarian telecommunications trade unions(Távközlési Szakszervezet, “TÁVSZAK” and Magyar Távközlési ÁgazatiSzakszevezet, “MATÁSZ”). The agreement, which can be terminated by either partywith three months’ notice, applies to all Magyar Telekom Plc. employees exceptthe Chief Executive Officer, regardless of their union membership status. Wageterms in the agreement must be renegotiated annually. Under the agreement,employees are generally entitled to prior notice before termination.Furthermore, employees are entitled to a specific amount of severance pay,which depends on the tenure of the employee. Employees are also entitled towelfare benefits as discussed below.

In addition to the collective bargaining agreement,employees of our Hungarian operations are generally covered by the HungarianLabor Code, Law XXII of 1992, as amended, which imposes various restrictions onthe involuntary termination of employment. The Hungarian Labor Code protects employeeinterests through two different labor organizations: the Trade Union and theWorkers Council.

The Trade Union, as the official representative ofemployee interests in negotiations relating the terms of employment, has theright to be informed of all corporate measures that may significantly affectthe interests of employees and to commence legal action against us foremployment-related conduct that infringes an employment rule. In addition, theWorkers Council directly represents employee interests in dealings withmanagement and decides jointly with management on matters involving employeewelfare funds and institutions. The Workers Council must be informedsemi-annually on issues affecting our economic performance and changes inwages, employment conditions and working hours. The Workers Council must alsobe consulted on corporate measures affecting employees.

Under the Hungarian Companies Act, employeerepresentatives on the Supervisory Board are nominated by the Workers Councilin cooperation with the Trade Union. The composition of the Supervisory Boardis approved by the annual general meeting. At least one third of the members ofthe Supervisory Board must be employee representatives. Currently, four membersof the Supervisory Board are employee representatives. These members are GézaBöhm, Gellért Kadlót, György Varju and Péter Vermes.

We believe that our relations with our employees aregood. We have not experienced any labor strikes or disruptions since ourformation.

*Pensions and Benefit Programs.**  *We provide employees with discounted telephoneservices, subsidized meals, interest-free loans to purchase real estate,discount holiday facilities and other fringe benefits. In addition to ourstatutory contributions to governmental health, retirement and unemploymentschemes, we contribute to the employees’ voluntary pension fund andsupplementary benefits fund, which provide private pension and health insurancebenefits supplementing government pension and health benefits. We do not,however, guarantee payment by the benefits fund to its members. In 2005,approximately 96 percent of all employees participated in the pension plan, 94percent in the self-help plans and 90 percent in the health fund.

104

----

**Share Ownership ofManagement**

Thefollowing table sets out information relating to holdings of ordinary shares byour directors and executive officers at December 31, 2005:

| **Name**                           | ** ** | ** **                                      | ** ** | **Position** | ** ** | **No. of Options   Owned** | ** ** | **No. of Shares   Owned** | ** ** |
|------------------------------------|------------|-------------------------------------------------|------------|--------------|------------|-------------------------------------------|------------|------------------------------------------|------------|
| Elek Straub                        |       | Chairman-CEO,  Board Member                     |       |         | 1,466,708  |                                      |       |                                     | 76,338     |   |   |
| Dr. Klaus  Hartmann           |       | CFO,  Board Member                              |       |         | 103,600    |                                      |       |                                     | 8,000      |   |   |
| Horst Hermann                      |       | Board  Member, Remuneration Committee Member    |       |         | —     |                                      |       |                                     | 400        |   |   |
| Attila Csizmadia                   |       | Supervisory  Board Member                       |       |         | —     |                                      |       |                                     | 6,272      |   |   |
| György Varju                  |       | Supervisory  Board Member                       |       |         | —     |                                      |       |                                     | 37         |   |   |
| Péter Vermes                  |       | Supervisory  Board Member                       |       |         | 3,600      |                                      |       |                                     | 8,800      |   |   |
| Dr. Tamás  Pásztory |       | Chief  Human Resources and Legal Officer        |       |         | 70,000     |                                      |       |                                     | —     |   |   |
| Zoltán Tankó             |       | Chief  Operating Officer, Business Services LoB |       |         | 88,200     |                                      |       |                                     | 1,100      |   |   |
| Christopher  Mattheisen            |       | Chief  Operating Officer, Wireline Services LoB |       |         | 102,200    |                                      |       |                                     | —     |   |   |
| Total                              |       |                                            |       |         | 1,834,308  |                                      |       |                                     | 100,947    |   |   |

 

The following table sets out information relating toholdings of ordinary shares by our directors and executive officers at December 31,2006:

| **Name**                           | ** ** | ** **                                      | ** ** | **Position** | ** ** | **No. of Options   Owned** | ** ** | **No. of Shares   Owned** | ** ** |
|------------------------------------|------------|-------------------------------------------------|------------|--------------|------------|-------------------------------------------|------------|------------------------------------------|------------|
| Christopher  Mattheisen            |       | Chairman-CEO,  Board Member                     |       |         |       |                                      |       |                                     | —     |   |   |
| Dr. Klaus  Hartmann           |       | Board  Member                                   |       |         | 103,600    |                                      |       |                                     | 8,000      |   |   |
| Dr. Mihály  Gálik   |       | Board  Member                                   |       |         |       |                                      |       |                                     | 1,000      |   |   |
| Horst Hermann                      |       | Board  Member, Remuneration Committee Member    |       |         | —     |                                      |       |                                     | 400        |   |   |
| Attila Csizmadia                   |       | Supervisory  Board Member                       |       |         | —     |                                      |       |                                     | 6,272      |   |   |
| György Varju                  |       | Supervisory  Board Member                       |       |         | —     |                                      |       |                                     | 417        |   |   |
| Péter Vermes                  |       | Supervisory  Board Member                       |       |         | 3,600      |                                      |       |                                     | 8,800      |   |   |
| Dr. Tamás  Pásztory |       | Chief  Human Resources and Legal Officer        |       |         | 70,000     |                                      |       |                                     | —     |   |   |
| Zoltán Tankó             |       | Chief  Operating Officer, Business Services LoB |       |         |       |                                      |       |                                     | 1,100      |   |   |
| Total                              |       |                                            |       |         | 177,200    |                                      |       |                                     | 25,989     |   |   |

 

For information aboutshare options, see Note 28 to the consolidated financial statements.

**ITEM 7—MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS**

**Major Shareholders**

As of April 3, 2006, the share capital of MagyarTelekom Plc. is HUF 104,276,831,500, consisting of 1,042,768,215 Series “A”ordinary shares and one Series “B” voting preference share. All Series “A”ordinary shares have a nominal value of HUF 100 each and the Series “B”Share has a nominal value of HUF 10,000. The holder of the Series “B”Share enjoys certain preferential voting and other rights. See “Item 10—AdditionalInformation—Voting Rights and Voting—Series “B” Share” and “Transfer ofShares”.

Ordinary shares outstanding as of December 31,1999 amounted to 1,037,281,600 shares. In June 2000, 630,000 ordinaryshares of the Company were registered, which increased Magyar Telekom Plc.’snumber of registered ordinary shares to 1,037,911,600. Of the newly issuedshares, 77,270 ordinary 

105

----

shares were traded outsideMagyar Telekom. Consequently, the number of shares outstanding increased to1,037,358,870 shares.

In 2002, the remaining 552,730 shares from the June 2000transaction issue were traded outside Magyar Telekom. In addition, as a resultof the new management stock ownership program launched in 2002, we issued4,900,000 shares of common stock, which were repurchased immediately. As aresult, the number of registered shares increased to 1,042,811,600.

At the end of February 2006, TMH was merged intoMagyar Telekom Plc. According to the Hungarian Act on Business Associations itis not mandatory for the shareholders to remain shareholders of the mergedcompany and the company’s share capital should be reduced by the nominal valueof the shares held by departing shareholders. When departing shareholdersstated to leave the merged Company, MagyarCom, as controlling stakeholder, alsohad to divest some of the interest in Magyar Telekom to avoid a public offeringprocedure. As 43,385 shares were divested by departing shareholders, the numberof ordinary shares outstanding decreased to 1,042,768,215 as of February 28,2006, when the Court of Registry registered the merger.

Informationconcerning our ownership structure as of December 31, 2005 is set out inthe following table:

| ** **                                     | ** ** | ** ** | ** **    | **Percentage of**         | ** ** |
|------------------------------------------------|------------|------------|---------------|--------------------------------|------------|
| **Shareholder**                                | ** ** | ** ** | ** **    | **Number of shares** | ** ** | **share capital** | ** ** |
| MagyarCom                                      |       |       | 617,452,081   |                           |       |   | 59.21 |   |   |
| Publicly traded(1)                             |       |       | 422,902,860   |                           |       |   | 40.55 |   |   |
| Treasury shares                                |       |       | 2,456,659     |                           |       |   | 0.24 |   |   |
|                                           |       |       | 1,042,811,600 |                           |       |   | 100.00 |   |   |
| Holder of  Series “B” Shares(2) |       |       | 1             |                           |       |   |   |   |   |
|                                                |            |            |               |                                |            |  |  |  |  |  |  |

----

(1)          Of our publicly tradedshares, JP Morgan Chase Bank had 17,925,549 ADRs, evidencing 89,627,745 shareson its accounts as of December 31, 2005, for registered holders, suchamount representing 8.6 percent of the total shares outstanding. We do not knowwhether this percentage may be indicative of the percentage of our ordinaryshares held by U.S. persons. Also, the members of the Board of Directors, SupervisoryBoard and the management own a total of 100,947 shares.

(2)          Par value of Series “B”Share is HUF 10,000.

Informationconcerning our ownership structure as of April 3, 2006 (after the mergerhas been registered by the Court of Registry) is set out in the followingtable:

| ** **                                     | ** ** | ** ** | ** **    | **Percentage of**         | ** ** |
|------------------------------------------------|------------|------------|---------------|--------------------------------|------------|
| **Shareholder**                                | ** ** | ** ** | ** **    | **Number of shares** | ** ** | **share capital** | ** ** |
| MagyarCom                                      |       |       | 617,452,081   |                           |       |   | 59.21 |   |   |
| Publicly traded(1)                             |       |       | 422,859,475   |                           |       |   | 40.55 |   |   |
| Treasury shares                                |       |       | 2,456,659     |                           |       |   | 0.24 |   |   |
|                                           |       |       | 1,042,768,215 |                           |       |   | 100.00 |   |   |
| Holder of  Series “B” Shares(2) |       |       | 1             |                           |       |   |   |   |   |
|                                                |            |            |               |                                |            |  |  |  |  |  |  |

----

(1)          Of our publicly tradedshares, JP Morgan Chase Bank had 16,697,034 ADRs, evidencing 83,485,170 shareson its accounts as of April 3, 2006, for registered holders, such amountrepresenting 8.0 percent of the total shares outstanding. We do not knowwhether this percentage may be indicative of the percentage of our ordinaryshares held by U.S. persons. Also, the members of the Board of Directors,Supervisory Board and the management own a total of 100,947 shares.

(2)          Par value of Series “B”Share is HUF 10,000.

106

----

Informationconcerning our ownership structure as of December 31, 2006 is set out inthe following table:

| ** **                                     | ** ** | ** ** | ** **    | **Percentage of**         | ** ** |
|------------------------------------------------|------------|------------|---------------|--------------------------------|------------|
| **Shareholder**                                | ** ** | ** ** | ** **    | **Number of shares** | ** ** | **share capital** | ** ** |
| MagyarCom                                      |       |       | 617,452,081   |                           |       |   | 59.21 |   |   |
| Publicly traded(1)                             |       |       | 422,859,475   |                           |       |   | 40.55 |   |   |
| Treasury shares                                |       |       | 2,456,659     |                           |       |   | 0.24 |   |   |
|                                           |       |       | 1,042,768,215 |                           |       |   | 100.00 |   |   |
| Holder of  Series “B” Shares(2) |       |       | 1             |                           |       |   |   |   |   |
|                                                |            |            |               |                                |            |  |  |  |  |  |  |

----

(1)          Of our publicly tradedshares, JP Morgan Chase Bank had 12,229,840 ADRs, evidencing 61,149,200 shareson its accounts as of December 31, 2006, for registered holders, suchamount representing 5.9 percent of the total shares outstanding. We do notknow whether this percentage may be indicative of the percentage of ourordinary shares held by U.S. persons. Also, the members of the Board ofDirectors, Supervisory Board and the management own a total of 25,989 shares.

(2)          Par value of Series “B”Share is HUF 10,000.

The number of treasury shares held by Magyar Telekomdeclined from 2,456,659 to 1,917,824, due to options exercised as part of thecompany’s management incentive program on December 29, 2006. The decreasedshare number was reflected in the company’s share register from January 2,2007, as the settlement date of the transactions was on the first working dayfollowing the trade date.

One of the current directors was nominated by theholder of the Series “B” Share pursuant to the Articles of Association,seven of the current directors were nominated by MagyarCom and two of thecurrent directors are independent; MagyarCom therefore controls Magyar Telekom.

SBC and DT jointly managed and operated MagyarComuntil SBC’s 50 percent ownership in MagyarCom was transferred to DT in June 2000.DT now controls Magyar Telekom indirectly.

*The Government of Hungary.**  *The Hungarian government has significant influenceover our activities as the holder of the Series “B” Share and as theregulator of the Hungarian telecommunications sector. Ownership of the Series “B”Share gives the Hungarian government, through the Minister, certain specialrights in the election of one member of each of the Board of Directors and theSupervisory Board and the right to require the Ministry’s consent for certainother decisions taken at the general shareholders’ meeting. A new bill has beensubmitted to Parliament which, if approved, will transform the “B” share intoan ordinary share and thus abolish these special rights. The Hungariangovernment, acting through the Ministry and various regulatory bodies under itssupervision, also exercises regulatory control over our telecommunicationsactivities.

**Related partytransactions**

For a discussion of related party transactions, seeNotes 17 (a) and 31 to the consolidated financial statements.

107

----

**ITEM 8—FINANCIALINFORMATION**

**CONSOLIDATEDFINANCIAL STATEMENTS**

See “Item 17—FinancialStatements”.

**OTHER FINANCIALINFORMATION**

**Legal proceedings**

***Legal proceedings pending before the competent courts,affecting Magyar Telekom in excess of HUF 500 million***

*UniversalTelecommunications Support Fund*

In January, 2002, the Prime Minister’s Office enteredinto an agreement with Magyar Telekom Plc. to revise and terminate theNationwide Concession Contract and Local Concession Contracts signed in 1994and to establish terms of universal telecommunications services to be providedby Magyar Telekom. According to the agreement, the Universal TelecommunicationsFund, established by the Communications Act, was obliged to pay certain fees touniversal service providers, as specified in the relevant laws. The UniversalTelecommunications Fund failed to make this payment when due. Magyar TelekomPlc. unsuccessfully tried to compel payment in an out-of-court procedure. In June 2004,Magyar Telekom Plc. requested a municipal court to compel the legal successorof the Universal Telecommunications Fund (the Universal ElectronicTelecommunications Fund) to pay HUF 194 million in interest for the latepayment plus legal costs. In July 2004, Magyar Telekom Plc. increased itsclaim by HUF 3,294 million, the unpaid sum for 2003. Accordingly, our totalclaim is now HUF 3,488 million. Currently there is also a public administrationprocedure under way in relation to the case the subject matter of which is themaking of a resolution defining the necessary contributions for 2004. Followingthe suspension of both procedures Magyar Telekom Plc. requested theircontinuation.

In the public administration procedure the BudapestMetropolitan Court in its ruling in November 2006 upheld Magyar TelekomPlc’s claim and regarded the second instance decision of the Chairman of theCouncil of National Communications Authority (“NCA”)—in which he confirmed thefirst instance decision of the NCA on the amounts due to Magyar Telekom inrespect of 2004—as unlawful, annulled the decision and ordered the NCA toinitiate new proceedings.

Furthermore, in January 2007 the BudapestMetropolitan Court upheld Magyar Telekom Plc’s claim and obliged the Fund topay to Magyar Telekom Plc. the late payment interest it is entitled to afterthe amount due to Magyar Telekom Plc. for 2002 in the amount of HUF 194million. The ruling is not final.

At the same time, the Budapest Metropolitan Court—applyingthe 2004 regulation with retroactive effect—ruled that the amount due to MagyarTelekom regarding 2003 can only be determined in a decision of the NCA. In thecourt appeal phase of this NCA procedure the Court also found Magyar TelekomPlc’s claim founded and obliged the NCA to initiate new proceedings. The sumdefined in the decision concluding this procedure will be Magyar Telekom’sentitlement for 2003.

In its decision of December 1, 2004 the NCAordered TMH to pay HUF 1,131 million to the Universal ElectronicTelecommunications Fund. This decision was based on a regulation that was nolonger applicable after October 1, 2004 and thus after this date thedecision lacked legal grounds. TMH appealed the decision to the president ofthe Universal Electronic Telecommunications Fund who rejected the appeal. TMHthen initiated a proceeding at the relevant court and requested the court toissue a stay, which was granted. The relevant court in its decision of September 15,2005 annulled both decisions of the Universal Electronic TelecommunicationsFund in favor of TMH and awarded TMH HUF 1 million in legal expenses. TheUniversal Electronic Telecommunications Fund submitted a plea for judicialreview by the Supreme Court. On April 25, 2006 the Supreme Court ruledthat the original resolution of the NCA 

108

----

should stay in place andhence Magyar Telekom (as the legal successor of TMH) will have to pay the abovesum 15 days after the judgment is received in writing.

Since Magyar Telekom Plc. was entitled to receive—basedon its statutory right as universal service provider—HUF 1,468 million from theUniversal Electronic Telecommunications Fund (out of which HUF 619 million wastransferred to Magyar Telekom Plc. earlier) and due to the fact that TMH mergedinto Magyar Telekom Plc., according to Magyar Telekom Plc’s interpretation ofthe relevant regulation, there was a legal possibility to net the claim ofMagyar Telekom Plc. against that of the Fund and consequently TMH executedpayment to the Universal Electronic Telecommunications Fund in the amount ofHUF 282 million.

The Fund requested the Hungarian Tax Authority toexecute prompt collection in the amountof HUF 849 million (HUF 1,131 million minus HUF 282 million) againstMagyar Telekom. Magyar Telekom Plc. initiated proceedings against the Fund,asking the court to declare that the company has no outstanding debt towardsthe Fund.

Despite Magyar TelekomPlc.’s request delivered to the Tax Authority to stop or suspend its procedure,and not to start the execution—the Fund’s claim being unfounded in MagyarTelekom Plc.’s view—the Tax Authority executed the collection of the amountwith interest.

*Interconnectionfees*

In November 2002, the CAC designated TMH as aprovider with SMP in the national interconnection market. TMH, under statutoryobligations, filed its cost calculation methodology and relevant cost/ratesdata based on the mandatory LRIC model.

TMH withdrew the LRIC model, which it originally filedin December 2002, because the legal situation was unclear and no validregulation providing a guideline for the LRIC model existed. The lack of such aguideline meant that equal treatment of market participants could not beensured. The Chairman of CAC informed TMH that the CAC accepted the withdrawal,but it had to continue the procedure and ordered TMH to decrease itsfixed-to-mobile termination fees by about 10 percent, effective September 1,2003. This resulted in inconsistency with respect to call termination chargesas Pannon was not under the same legal obligation, due to the staying orderissued by the court of first instance on the execution of the SMP decision.However, Pannon later chose to follow TMH on its own initiative and lowered itsmobile termination charges by five percent, effective October 1, 2003. TMHchallenged the CAC’s decision in court on procedural grounds as the CAC had nolegal right to continue to consider the procedure binding.

The court of first instance in its decision on March 3,2005 found that the CAC’s decision was unlawful and ordered it to carry out anew procedure. The NCA did not appeal this decision, while TMH appealed thechoice of regulations ordered to be used in the new proceeding. The judgment onthe merits of the case is now final and binding. The second instance courtaccepted TMH’s arguments and ordered the NCA to apply the ElectronicCommunications Act in the new procedure. The NCA carried out a repeated procedure and in its decision set thesame fees (40.50 HUF/minute peak, 22.50 HUF/minute off-peak) and notedthat these fees should be applied to the period from August 11, 2003 to June 15,2004. TMH filed suit against the decision at court.

In May 2004, the NCA ordered TMH to apply 37HUF/peak minute and 20.50 HUF/off-peak minute fixed-to-mobile termination rates(approximately an 8.7 percent decrease), effective June 15, 2004. TMHchallenged the decision in court and requested the court to suspend theexecution of the resolution until the case is resolved. The court of firstinstance decided in favor of TMH but did not suspend the resolution of the NCA.The NCA filed its appeal against the decision and TMH also appealed againstcertain parts of the reasoning, requesting again that the court suspend theexecution of the resolution. The second instance court decided that the NCA’sdecision was of a temporary nature and thus TMH did not have the right of 

109

----

appeal and repealed thefirst instance court’s decision. The Supreme Court upheld that the NCA’sdecision was of a temporary nature and thus TMH did not have a right of appeal.TMH is currently challenging this NCA decision in the court procedure relating tothe NCA’s first market analysis decision of 2005 which could be considered the “finaldecision” in this respect.

Pursuant to the Electronic Communications Act, the NCAlaunched in March 2004 a new market assessment and analysis procedure toidentify providers with SMP in certain relevant markets. The NCA completed theanalysis on January 17, 2005 and found all three GSM mobile operators inHungary as providers with SMP in their respective national voice calltermination markets subject to regulatory obligations. The NCA’s decisionperpetuated the asymmetry in the mobile operators’ termination fees, as itallows a 20 percent difference between the lowest and the highest terminationfee. Because of this asymmetry, TMH filed a suit to challenge this decision incourt. The first instance court repealed the 20 percent rule andcertain other provisions of the NCA’s decision. The first instance court’sdecision is not final or binding.

The NCA rejected the LRIC models and the proposed calltermination fees of all three mobile operators and applied benchmarking todetermine the termination fees. The NCA in its temporary decision of July 20,2005 set TMH’s average termination fee at HUF 27.17, Pannon’s at HUF 29.44 andVodafone’s at HUF 32.61. According to these decisions, these averagetermination fees were to be applied as of May 25, 2005. The decisions,among other things, do not define how to calculate the average, or whichservice’s termination the decisions apply to, or the unit to which the set HUFvalues apply, or how to apply the set fees with retroactive effect. Thedecisions are interpreted and applied in three different ways by the threemobile operators.

All three mobile operators filed suits against theirrespective decisions and requested the suspension of their application. Thecourt has rejected all requests for suspension, including TMH’s suit, as thedecision was temporary in nature. The NCA in its decision on September 13,2005 made all three temporary decisions final, without making any changes to them.All three mobile operators filed suits against their respective decisions andrequested the suspension of their application. The court rejected all parties’requests to suspend the decisions. The case is still ongoing.

On September 14, 2005 the NCA published anInformation Memorandum, which provided that the average termination fee set outin the 2005 termination fee decision is to be calculated based on weightedaverage, without specifying formulae to be used for the calculation. In itsdecision on November 22, 2005, the NCA found that TMH had chargedtermination fees at the level higher than specified by the termination feedecision, and ordered TMH to apply termination fees in compliance with theaverage termination fee prospectively and retrospectively. In addition, NCAimposed a fine of HUF 150 million. TMH challenged the decision in court andrequested that the decision be repealed. The court of first instance in itsdecision of June 2006 annulled the decision of the NCA and obliged it torepeat its procedure. The NCA appealed against the decision.

In its decision of October 2, 2006 on the 2006market analysis of the mobile termination market, the NCA identified all threemobile service providers as SMPs and prescribed obligations regarding access andinterconnection, transparency, equal treatment, accounting separation andpricing, and also prescribed similar obligations in the modified 2005 decision.

On December 20, 2006the NCA delivered its decisions on the mobile termination fees applicable from February 2,2007. The rates are identical to those forecasted in the 2006 market analysisdecision: 23.17 HUF/min for TMH, 26.16 HUF/min for Vodafone and 24.44 HUF/minfor Pannon from February 2, 2007; 19.75 HUF/min for TMH, 20.99 HUF/min forVodafone and 20.29 HUF/min for Pannon from January 1, 2008 and HUF/min16.84 for all three operators from January 1, 2009. TMH filed suit againstall three decisions and the other mobile operators filed suits against theirrespective decisions.

110

----

*Base stationdisturbance*

TMH is currently adefendant in numerous lawsuits in which various parties are seeking damages foralleged disturbance caused by base stations operated by TMH. The aggregateamount of such claims is HUF 546 million. TMH believes that these claims are illfounded, as base stations do not disturb owners of the neighbouring houses andfields in the use of their properties. Under this reasoning, some of the Courtsof Appeals have remanded a number of unfavourable decisions rendered by thecourts of first instance. The majority of the lawsuits are pending before thecourts of first instance. We consider risks of the suits high, since the courtstend to rule in favour of the plaintiff in similar cases. TMH made aprovision in its financial statements for the full amount of these claims.

*Alleged trade markviolation of T-Online*

OrigoApro.hu Kft. (“Origoapro.hu”) filed a lawsuit in May 2006against T-Online Hungary for damages, its claims potentially amounting to HUF19 billion. Origoapro.hu was established in 2004 and its claim is based on itstrademarks “origoingatlan”, “origoapro” and “origoauto” which it requested tobe registered in 2004 and eventually got registered in 2006.

Origoapro.hurequested the court:

·       toissue a preliminary injunction against the use of the trademark “origo” byT-Online Hungary’s portal;

·       declarea trademark violation;

·       orderT-Online Hungary to stop the violation and to restrain from similar conduct inthe future;

·       provethe exact amount of damages, i.e. revenues achieved by T-Online Hungary byusing the trademark—the plaintiff claimed this was an amount up to HUF 19billion.

Within the legaldeadline, T-Online Hungary submitted a complaint, in which it asked the courtto deny the request for an injunction and the plaintiff’s claim, stating that:

·       itstrademarks had been registered before the current lawsuit (in 2000, 2001 and2002) and provide sufficient protection in all product categories;

·       T-OnlineHungary has been using these trademarks well before the establishment of the plaintiff(according to the relevant regulation on intellectual property, trademarks notregistered but well-known in a country deserve protection);

·       theplaintiff’s conduct is not bona fide;

·       T-OnlineHungary asked the court to declare that the plea for a preliminary injunctionis unfounded and as potential negative financial effect the figure of HUF 15billion was submitted.

Earlier in 2006, T-Online Hungary already initiatedthe deletion from the trademark registry Origoapro.hu’s trademarks in question.

T-Online Hungary requested the court suspend theproceeding while the deletion procedure is under way.

No exact amount fordamages was defined by the plaintiff yet. Its claim is based on its owncalculations of estimated revenues of Origo deriving from advertisingactivities.

*Arbitrationprocedure initiated by fellow owner for non-approval of sale of shareholding*

The shares of M-RTL are owned by CLT-UFA S.A. (49percent), IKO-Telekom (31 percent) and Pearson (20 percent). Pearson intendedto sell its shares to KOS Beteiligungs Verwaltungsgesellschaft 

111

----

mbH („KOS”) which deal wasnot approved by the Extraordinary General Meeting of M-RTL. Pearson claims thatthis disapproval was unlawful and initiated proceedings at ICC, Paris and isseeking the annulment of the resolution, registration of KOS as a shareholderof M-RTL and possible damages.

The arbitration procedureshall be carried out under German procedural law and Hungarian substantive law.The value of the claim for damages is not known yet.

*Unauthorized tappingand recording telephone conversations*

A group of privateindividuals in Macedonia has claimed that their personal rights were violatedas a result of unauthorized tapping and recording of their telephoneconversations in the service area of Maktel and is seeking EUR 3.3 million fordamages. In January 2001, the leader of the opposition party (the currentPresident of the Republic of Macedonia) published a report on widespreadunauthorized tapping of telephone lines in Macedonia. This is the first case ofits kind in Macedonia. As a result, Maktel is not able to assess the likelyoutcome of the case.

*Terminatedagreement for collection services for overdue accounts*

Newsphone DOO Skopje inMacedonia initiated proceedings against T-Mobile Macedonia, alleging thatT-Mobile Macedonia unilaterally terminated an agreement for collection servicesfor overdue accounts of T-Mobile Macedonia’s subscribers, to seek damages forthe future profit and the compensation for services already rendered. Newsphoneis seeking MKD 978.7 million (approximately EUR 16.0 million) plus interestfrom April 18, 2002, for the lost profit, and MKD 4.4 million(approximately EUR 0.1 million) plus interest from May 15, 2002, forservices already rendered. T-Mobile Macedonia believes that Newsphone breachedseveral of its contractual obligations in the “trial period,” during whichT-Mobile Macedonia may evaluate the services of Newsphone, and if notsatisfactory, terminate the agreement. The case is in its initial phase.T-Mobile Macedonia expects the resolution of this lawsuit to take a long time,due to complexities of the case and the large amount of damages sought.T-Mobile Macedonia is unable to assess the likely outcome of the case.

*Abuse of dominantposition by Maktel on wholesale ADSL market*

Macedonia On-Line (“MOL”) filed a lawsuit againstMaktel based on the Competition Authority’s (“CA”) 2003 decision, according towhich Maktel abused its dominant position because it did not offer wholesaleADSL to the other ISP in Macedonia while launching its own ADSL service andbecause it refused to offer third party billing to the other ISP with the sameconditions as it offered to its own Internet business.

MOL requests damages on the same grounds in the amountof EUR 3.5 million. MOL also requested the court to order Maktel—as an interimmeasure - to stop ADSL and dial-up sales until the final court decision. Thiswas refused by the court but appealed by MOL.

At the preliminary hearingheld on September 4, 2006, MOL withdrew its request for an interim measureenjoining future sales of Maktel retail ASDL. The court accepted thewithdrawal.

*Administrative fee—abuseof dominant position by Maktel*

On February 27, 2006, the Macedonian Commissionfor Protection of Competition (“CPC”) started a procedure against Maktel with acomplaint that in its invoices for telecommunication services from March 2005onwards Maktel charges subscribers an administrative fee of two percent on thetraffic, which - according to the CPC - raises serious suspicion that Maktelabuses its dominant market position. Maktel in its answer stated that itsadministrative fee does not amount to the abuse of its dominant marketposition.

112

----

The CPC enacted a firstinstance decision that Maktel should stop charging the two percent. Maktelsubmitted an appeal. The Commission affirmed the first instance decision fromthe CPC. The CPC decision was final from June 19, 2006, executable from July 5,2006. Maktel challenged this second instance decision to the Supreme Court.This will not delay the execution of the decision. Maktel is still waiting fora decision from Supreme Court.

Starting from June 2006,Maktel stopped charging the two percent administrative fee and decided toimpose a fixed charge for covering the costs for preparation of the bill, basedon the rationale that the CPC’s decision prohibited only charging the twopercent fee and not an administrative fee as such.

Currentlyit seems that the Commission does not consider the fixed charge legal, either. TheCPC filed a misdemeanor suit against Maktel for not respecting the CPC decisionand still charging a fee.

The potential risk iscalculated based on revenue loss from the fixed charge of administrative fee incase CPC decides that fixed charge is not in accordance with their decision.The maximum amount of fine that might be imposed on Maktel is up to 10 percentof the aggregate annual turnover of the company, realized in the business yearpreceding the year when the misdemeanor has been committed. In addition, a fineamounting from 100,000 to 600,000 MKD might be imposed on the personresponsible in the legal entity for committing the misdemeanor. Enforcement ofthe resolution of the CPC is postponed by Maktel’s appeal, however experienceshows that the resolutions of the regulatory bodies are confirmed in the secondinstance decisions with almost 100 percent certainty.

Subscribers may also askreimbursement on administrative fee charged by Maktel in a separate civilprocedure and the possibility to win the cases is 70 percent in favor of thesubscribers (for both two percent case and fixed amount case). Regarding themisdemeanor procedure against Maktel for abusing its dominant position withcharging the two percent fee, we estimate the possibility that Maktel will towin the case to be 50 percent. The amount of the possible fine, imposed toMaktel, cannot be predicted.

***Proceedings beforethe tax authority affecting Magyar Telekom in excess of HUF 500 million***

Magyar Telekom Plc. filedwith the Municipal Court a claim against the Municipal Administration Office ofBudapest to challenge local tax charges levied since May 1, 2004, in theaggregate amount of HUF 5.5 billion, as we believe that these local taxes wereassessed in breach of relevant EU laws. The following subsidiaries also filedsimilar claims: TMH (HUF 2.9 billion), T-Kábel Hungary (HUF 239.1 million),T-Online Hungary (HUF 464.1 million) and BCN (HUF 159.6 million). We are unableto assess the likely outcome due to the novel nature of these cases.

Revenues (after certain deductibleexpenses) are subject to local tax imposed by numerous localities with themaximum rate of two percent. Such revenues are taxed by localities from whichthey are derived in Hungary. The Budapest Municipality initiated an audit oflocal taxes for the years 1996-2001 in 2002. The Budapest Municipality inits report challenged the allocation method of TMH for local taxes. TMH hasinitiated discussions with the Budapest Municipality and the Ministry ofFinance to resolve this issue. Since the beginning of 1998, TMH has paid localtaxes in respect of base stations to local governments. According to the Cityof Budapest, TMH should have paid the local tax not to the local governmentsbut to the City of Budapest. In its first and second instance decisions, theBudapest tax authority found that TMH had unpaid tax liabilities of HUF 2.1billion and collected this amount. TMH challenged the decisions of the Budapesttax authority in court. The court in its final decision ruled against TMH. TMHappealed this decision to the Supreme Court. On April 13, 2006, theSupreme Court requested the court of first instance to start new proceedingsregarding the allocation of revenues between the different territories by TMH.However, this decision shall not impact the obligations of TMH. TMH made apayment of HUF 519 million, the expected tax liabilities, to theBudapest Municipality in respect of tax years 2002-2003.

113

----

M-RTL initiated a lawsuitto challenge its local tax liabilities in the amount of HUF 653.6 million. TheMunicipal Court suspended the case until final decision is reached by theEuropean Court of Justice in a similar case submitted by the Komárom-EsztergomCounty Court.

***Investigation intocertain consultancy contracts***

In the course ofconducting their audit of our 2005 financial statements, PwC identified certaincontracts the nature and business purposes of which were not readily apparent. PwCnotified the Audit Committee and advised them to retain independent counsel toconduct an investigation into these contracts. Our Audit Committee retainedWhite & Case, as its independent legal counsel, to conduct theinvestigation. Based on the documentation and other evidence obtained by it,the White & Case investigation has preliminarily concluded that it wasunable to determine a proper business purpose for four consulting contractsentered into in 2005, and further found that certain employees had destroyedevidence that was relevant to the investigation. We have taken and are takingremedial measures to address weaknesses in our control environment that wererevealed by the investigation. The investigation and consequent delay incompleting the audit of our 2005 financial statements has led to a delay infiling this annual report. See “Item 3—Risk Factors” and “Item 15—Controls andProcedures.”

**Dividend Policy**

Shareholders have approvedpayment of cash dividends of HUF 76,122 million, equal to HUF 73 per share. Therecord date for payment of the dividends is January 5, 2007.

Under Hungarian law, theCompany is permitted to pay annual dividends out of profits and profitreserves, determined on the basis of the annual unconsolidated accountsprepared in accordance with Hungarian Accounting Rules, following a declarationby the annual general meeting of shareholders. Prior to the approval of theannual unconsolidated accounts, the Company’s shareholders at a general meetingmay also declare a dividend advance on the basis of an interim set of financialstatements. The general meeting of shareholders may decide to declare a higheror lower dividend than that recommended by the Board of Directors, providedthat the Company’s shareholders’ equity under Hungarian Accounting Rules wouldstill meet the statutory requirements following the dividend payment.

The general meeting ofshareholders may also decide not to declare dividends, even if the Board ofDirectors recommends such a declaration. The Company distributes dividends toholders of shares duly registered in the shareholders’ register as the legalowners of shares on the date determined by the general meeting to be thedividend record date.

The determination ofwhether to pay dividends and of the amount of dividends paid depends upon,among other things, the Company’s earnings, financial condition and cashrequirements, applicable restrictions on the payment of dividends underHungarian law and any other factors the Board of Directors may considerrelevant. As of December 31, 2005*,*the profit reserves available for distribution wereapproximately HUF 282,000million.

The Company will declareany cash dividends in Hungarian forints. In the case of shares represented byADSs, cash dividends are paid to the depository and converted into and paid inU.S. dollars at the prevailing rate of exchange, net of conversion expenses ofthe depository and applicable Hungarian withholding tax.

Fluctuations in exchangerates will affect the amount of dividends that ADS holders receive. Dividendspaid to non-Hungarian holders, including U.S. holders, of shares or ADSs may beconverted into foreign currency and repatriated, subject to Hungarianwithholding tax.

In the medium-term, ourstrategic priority is to continue our search for and execution ofvalue-accretive acquisitions. According to our current estimate, thesepotential future transactions require balance sheet flexibility with a net debtratio (net debt to net debt plus total equity) in the range of 30-40 percent.

114

----

**Significant changes**

For a discussion ofsubsequent events, see Note 32 to the consolidated financial statements.

**ITEM 9—THE OFFERAND LISTING**

In November 1997, shareholders of Magyar TelekomPlc. completed a Hungarian and international initial public offering of shares.Magyar Telekom Plc. shares were listed in the “A” category of the BudapestStock Exchange, and Magyar Telekom Plc. ADSs, each representing five ordinaryshares, were listed on the New York Stock Exchange. The total number of sharessold in the initial public offering was 272,861,367, or 26.31 percent of thetotal outstanding shares, for an aggregate offering price of over U.S.$ 1billion. The offer price was HUF 730 per share and U.S.$ 18.65 per ADS.

In June 1999, ÁPVsold its remaining 5.75 percent stake in Magyar Telekom Plc. through asecondary offering. The total number of shares sold was 60,096,515, out ofwhich MagyarCom sold 581,319 shares under a greenshoe option. The offer pricewas HUF 1,273 per share and U.S.$ 26.50 per ADS. The ADSs are eligible forquotation and trading on Stock Exchange Automated Quotation System (“SEAQ”) International.

**Trading on the NewYork Stock Exchange**

Thetable below sets forth the high and low closing sales prices for the ADSs onthe New York Stock Exchange for the periods indicated:

| ** **     | ** ** | **Price per ADS** | ** ** |
|----------------|------------|-----------------------------|------------|
| ** **     | ** ** | **High**                    | ** ** | **Low** | ** ** |
| ** **     | ** ** | **(U.S.$)**                 | ** ** |
| **2001**       |       | 23.75                       |       | 11.32 |   |
| **2002**       |       | 19.83                       |       | 13.89 |   |
| **2003**       |       | 21.67                       |       | 15.89 |   |
| **2004**       |       | 24.79                       |       | 18.70 |   |
| **2005**       |       | 26.64                       |       | 19.27 |   |
| First Quarter  |       | 26.64                       |       | 22.44 |   |
| Second Quarter |       | 23.68                       |       | 19.27 |   |
| Third Quarter  |       | 26.15                       |       | 21.12 |   |
| Fourth Quarter |       | 26.20                       |       | 21.48 |   |
| **2006**       |       | 28.03                       |       | 17.26 |   |
| First Quarter  |       | 24.80                       |       | 21.48 |   |
| Second Quarter |       | 24.69                       |       | 17.26 |   |
| Third Quarter  |       | 21.29                       |       | 18.77 |   |
| Fourth Quarter |       | 28.03                       |       | 19.89 |   |
| **2006**       |       |                        |       |   |   |
| August         |       | 21.29                       |       | 19.05 |   |
| September      |       | 21.10                       |       | 19.78 |   |
| October        |       | 23.27                       |       | 19.89 |   |
| November       |       | 25.00                       |       | 22.81 |   |
| December       |       | 28.03                       |       | 24.00 |   |
| **2007**       |       |                        |       |   |   |
| January        |       | 26.62                       |       | 24.32 |   |

----

Source: Bloomberg

115

----

**Trading on theBudapest Stock Exchange**

Thetable below sets forth the high and low closing sales prices for the shares onthe Budapest Stock Exchange for the periods indicated:

| ** **     | ** ** | **Price per Share** | ** ** |
|----------------|------------|-------------------------------|------------|
| ** **     | ** ** | **High**                      | ** ** | **Low** | ** ** |
| ** **     | ** ** | **(HUF)**                     | ** ** |
| **2001**       |       | 1,318                         |       |   | 571 |   |   |
| **2002**       |       | 1,056                         |       |   | 685 |   |   |
| **2003**       |       | 915                           |       |   | 711 |   |   |
| **2004**       |       | 960                           |       |   | 769 |   |   |
| **2005**       |       | 1,092                         |       |   | 800 |   |   |
| First Quarter  |       | 980                           |       |   | 854 |   |   |
| Second Quarter |       | 900                           |       |   | 800 |   |   |
| Third Quarter  |       | 1,092                         |       |   | 855 |   |   |
| Fourth Quarter |       | 1,085                         |       |   | 916 |   |   |
| **2006**       |       | 1,072                         |       |   | 759 |   |   |
| First Quarter  |       | 1,030                         |       |   | 940 |   |   |
| Second Quarter |       | 985                           |       |   | 759 |   |   |
| Third Quarter  |       | 915                           |       |   | 821 |   |   |
| Fourth Quarter |       | 1,072                         |       |   | 863 |   |   |
| **2006**       |       |                          |       |   |   |   |   |
| August         |       | 910                           |       |   | 821 |   |   |
| September      |       | 915                           |       |   | 865 |   |   |
| October        |       | 963                           |       |   | 863 |   |   |
| November       |       | 1,014                         |       |   | 935 |   |   |
| December       |       | 1,072                         |       |   | 923 |   |   |
| **2007**       |       |                          |       |   |   |   |   |
| January        |       | 1,060                         |       |   | 968 |   |   |

----

Source: Bloomberg

**ITEM 10—ADDITIONALINFORMATION**

**Share Capital**

As of December 31, 2005, the share capital of theCompany was HUF 104,281,170,000, consisting of 1,042,811,600 Series “A”ordinary shares and one Series “B” voting preference share.

At the end of February 2006, TMH was merged intoMagyar Telekom Plc. According to the Hungarian Act on Business Associations itis not mandatory for the shareholders to remain shareholders of the mergedcompany and the company’s share capital should be reduced by the nominal valueof the shares held by departing shareholders. When departing shareholdersstated to leave the merged Company, MagyarCom, as controlling stakeholder, alsohad to divest some of the interest in Magyar Telekom Plc. to avoid a publicoffering procedure. As 43,385 shares were divested by departing shareholders,the number of shares outstanding decreased to 1,042,768,215 as of February 28,2006, when the Court of Registry registered the merger.

As of April 3, 2006, the share capital of MagyarTelekom Plc. was HUF 104,276,831,500, consisting of 1,042,768,215 Series “A”ordinary shares and one Series “B” voting preference share.

116

----

All Series “A” ordinary shares have a nominalvalue of HUF 100 and the Series “B” Share has a nominal value of HUF10,000. The holder of the Series “B” Share enjoys certain preferentialvoting and other rights described below.

Shareholders are entitledto receive dividends in proportion to the aggregate nominal value of sharesheld by such shareholders out of the distributable reserves assigned fordistribution by the general meeting. The dividend entitlement lapses after fiveyears from the first payment date.

**Option to PurchaseSecurities from Registrant or Subsidiaries**

For a discussion ofshare-based compensation, see Note 28 to the consolidated financial statements.

**Memorandum andArticles of Association**

Magyar Telekom Plc. is alimited liability stock corporation, organized under the Act IV of 2006 onBusiness Associations and registered with the Court of Registration in Budapestunder the entry number 01-10-041928. The purpose of theCompany is identified in paragraph 1.6 of the Articles of Association asfollows: The Company is authorized toprovide public telephone services within the entire territory of the Republicof Hungary, along with certain closely related auxiliary services.

**CorporateGovernance**

Hungarian stockcorporations are governed by four separate bodies: the general meeting ofshareholders, the Supervisory Board, the Audit Committee and the Board ofDirectors. Their roles are defined by law and by the Company’s memorandum andArticles of Association and may be described generally as follows:

*General Meeting ofthe Shareholders*

The supreme decision making body of the Company is thegeneral meeting of shareholders. If required, extraordinary general meetingsmay be held at any time. A general meeting is convened as frequently as setforth in the Articles of Association, but no less than once a year.

The Board of Directors must call an annual generalmeeting to approve the audited statutory financial statements for the prioryear. Shareholders holding at least five percent of the outstanding shares mayrequire the Board of Directors to hold an extraordinary general meeting. TheBoard of Directors and the Supervisory Board also have the right to call anextraordinary general meeting. The Court of Registration may call a general meetingif, following the request of shareholders holding at least one-tenth of theoutstanding shares, the Board of Directors fails to take any action within 30days, or if the Board of Directors fails to call a general meeting within theperiods prescribed by law or the Articles of Association.

The Board ofDirectors must call a general meeting within eight days to take necessarymeasures when:

·       dueto losses, the equity of the company has decreased to less than two-thirds ofthe share capital;

·       theequity of the Company has decreased to less than HUF 20 million;

·       theCompany has stopped servicing its debts and its assets are not sufficient torepay its debts;

·       thenumber of members of the Board of Directors falls below six;

·       thenumber of members of the Supervisory Board falls below six;

·       thenumber of members of the Audit Committee falls below three;

117

----

·       theauditor and the Board of Directors fail to conclude the assignment contractregarding the auditing activities within 90 days upon the date of the generalmeeting that elects the auditor; or

·       uponthe request of holder of the Series “B” Share.

Typically, the Board ofDirectors calls general meetings. To call a general meeting, the Board ofDirectors must publish a notice of the meeting and an agenda at least 30 daysbefore the scheduled date of the meeting in the official journal of theBudapest Stock Exchange. The Company must notify each director, the SupervisoryBoard and the auditor that a general meeting has been called within eight daysfollowing publication of such notice.

A general meeting meets aquorum if shareholders representing more than half of the voting shares arepresent in person or by proxy. If an agenda item requires an affirmative voteof a holder of the Series “B” Share, for a quorum, the holder of the Series “B”Share must also be present at the meeting in person or by proxy.

If the general meetingdoes not have a quorum, it will be reconvened on the same day. A reconvenedgeneral meeting will have a quorum for those matters on the original agenda,regardless of the number of shareholders present, except for matters requiringthe holder of the Series “B” Share to be present.

The general meeting of theshareholders has the sole right to:

1.                approveand amend the Articles of Association unless otherwise provided by law;

2.                increase(except for the cases falling into the scope of authority of the Board ofDirectors) or decrease the Company’s registered capital unless otherwiseprovided by law;

3.                amendthe rights attached to a series of shares or change their class;

4.                merge,consolidate, separate, terminate, dissolve, liquidate or transform the Companyinto another form of association;

5.                decideon the approval of a public offer on own shares;

6.                decideon issuing convertible or subscription right bonds unless otherwise provided bylaw;

7.                toelect, remove and determine the remuneration of the members of the SupervisoryBoard, the Audit Committee and the Board of Directors;

8.                elect,remove and determine the remuneration of the Auditor of the Company and todefine the contents of the essential elements of the contract to be concludedwith the auditor;

9.                approvethe financial statements, the management report and to decide on theutilization of after tax earnings;

10.         approvechanges in the Company’s registered scope of activities;

11.         designatepersons entitled to subscribe for new shares in a closed subscription;

12.         alterthe number or nominal value of the Series “B” Share and the rightsattached to the Series “B” Share;

13.         approvelisting of the Company’s shares on a stock exchange;

14.         approvedelisting of the Company’s shares from a stock exchange subject to any group ofshareholders agreeing to make a public tender to purchase the shares of thoseshareholders who do not vote in favor of delisting;

15.         decision on theacquisition of the Company’s own shares;

16.         approve an issue that iswithin its competence pursuant to law or the Company’s Articles of Association;

118

----

17.         transferor encumber a valuable right held by the Company that enables it to continue aspecific activity of the Company;

18.         transferall or substantial part of the Company’s assets;

19.         generallyapprove acquisition of shares which would result in a person or persons actingin concert holding ten percent or more of the outstanding voting shares of theCompany;

20.         approvepayment of a dividend advance determined on the basis of interim accountingunless otherwise provided by law;

21.         decisionon the exclusion of subscription preference right; and

22.         evaluatethe work of the members of the Board of Directors in the previous business yearand decide on granting relief to the members.

*The Supervisory Board*

The Supervisory Boardoversees management of the Company. It may request information from executiveofficers or managerial employees of the Company and may inspect books anddocuments of the Company. Supervisory Board members shall bear unlimited, jointand several liability for damages caused to the Company due to violation oftheir supervisory obligations.

The Supervisory Boardcomprises a minimum of three and a maximum of 15 members. Its members shall beelected by the general meeting of shareholders for a period of three years. Itmay assign certain supervisory tasks to any of its members or may delegatesupervisory tasks among its members on a permanent basis. The members must actin person, not through a representative. No members of the Supervisory Boardmay receive any instruction from his or her employer or our shareholders as tofulfillment of their duty and obligations as Supervisory Board members. TheSupervisory Board carries out its activities in accordance with rules ofprocedure established by the Supervisory Board, which are approved by thegeneral meeting of shareholders.

*The Audit Committee*

The general meeting electsa 3-5 member Audit Committee from the independent members of theSupervisory Board for the same duration as the membership of the relevantmembers in the Supervisory Board according to Section 8.2.1. The AuditCommittee shall act within its scope of authorities provided for theSupervisory Board in the Act on Business Associations and these Articles aswell as the rules of the Budapest Stock Exchange and the New York StockExchange and the regulations of the SEC. The Audit Committee oversees the workof the Company’s independent auditor, evaluates the operation of the financialreporting system and the efficiency of the internal audit function.

*The Board of Directors*

The Board of Directors isthe executive body of the Company and represents the Company in dealings withthird parties, courts of law and other authorities. The Board of Directorsexercises its rights and performs its duties as an independent body.

The Board of Directorscomprises a minimum of six and a maximum of eleven members. The members of theBoard of Directors are elected for a term of three years from the date of theannual general meeting until May 31 of the third year subsequent to thedate of the said general meeting, with the exception that if the generalmeeting in the third year is held prior to May 31 than their assignmentlasts until the date of such general meeting. Members of the Board of Directorsmay be removed or re-elected by the general meeting at any time. The Board ofDirectors carries out its activity in accordance with rules of procedureestablished by the Board of Directors and subject to the provisions ofapplicable law and the Articles of Association.

119

----

The member of the Board ofDirectors must act with the due care that can be generally expected frompersons in such a position and shall be held liable, in accordance withprovisions of general rules of civil law, for damages to the Companycaused by their failure to carry out their tasks in the best interest of theCompany. If the damage was caused by the resolution of the management as abody, those members are exempted from such liabilities who did not participatein the voting or voted against the resolution in question. The members of theBoard of Directors shall bear unlimited, joint and several liability for alland any damage resulting from untruthfulness of any data, right or fact enteredinto the share register or any damage resulting from a late or non-existingentry.

**Capital Increasesand Preemptive Rights**

Any increase in the registered capital of the Companyis implemented in accordance with a resolution of the general meeting ofshareholders or a resolution of the Board of Directors by means of issuance ofnew shares, either in a public offering or a private placement of shares, byconverting the Company’s reserves in excess of the registered share capitalinto authorized share capital or by converting convertible bonds into shares.If the general meeting authorizes issuance of new shares, the shareholders ofthe Company by a three-quarter majority vote and with the approval of the ‘B’series shareholder may pass a resolution at a general meeting granting existingshareholders preemptive rights in proportion to their shareholdings.

Unless the general meetingor the Board of Directors otherwise determines by a three-quarter majorityvote, if the Company converts all or a portion of its reserves in excess of itsregistered capital into registered capital, it must offer the newly issuedshares free of charge to existing shareholders in proportion to their shareholding.If the general meeting decides otherwise by a three-quarter majority vote, thedecision will be valid only if it also includes the price or price-settingprinciples for the issuance of shares.

**Voting Rights andVoting**

Each ordinary share entitles the holder to one vote.Only shareholders or their proxies registered in the shareholders’ register sixbusiness days prior to a general meeting may cast a vote. The Series “B” Sharehas special voting rights as described below. The matters listed in clauses 1.to 6. and 11. to 14. above, any decision overriding a resolution ofthe Board of Directors and preemptive shareholder rights in the event of acapital increase, all require a three-quarter majority of votes cast by theshareholders present or represented at the general meeting. All other matterssubmitted to a general meeting require only a simple majority vote.

There is no limitation onthe rights of non-resident or foreign shareholders to hold or exercise votingrights on the ordinary shares.

*Series “B”Share*

The Hungariangovernment owns the Series “B” Share. Only the Minister or his legalsuccessor may exercise rights attached to the Series “B” Share. Except asdescribed below, the Series “B” Share has the same rights as the ordinaryshares. The holder of the Series “B” Share is entitled:

1.                to nominate onemember of the Board of Directors and one member of the Supervisory Board andeffectively to elect, remove or replace these members;

2.                if the Company’sregistered capital is increased, a new class of shares is issued or the rightsattached to a particular class of shares change, to require the Articles ofAssociation to be amended so that the voting rights of the Series “B”Share will be sufficient to nominate, elect or remove the Series “B” directoror Supervisory Board member;

120

----

3.                to inspect theshareholders’ register and the books maintained by a depository of theCompany’s shares approved by the Company and to request copies of the registeror books;

4.                if the Companydissolves without a successor company, to purchase all or part of the Company’sassets, including shares of subsidiaries or affiliates, for a price equal tothe appraised fair market value of such assets;

5.                to request fromthe Board of Directors detailed information about a material fact significantlyaffecting the Company’s financial position; and

6.                to request thatthe Company audit or investigate any issue or prepare reports or provideinformation on issues within the scope of activities of the Company’s auditoror the Supervisory Board pursuant to law or the Articles of Association.

The holder of the Series “B”Share must be present, in person or by proxy, for a quorum, and its approval isrequired to pass shareholders’ resolutions related to any:

1.                increase anddecrease of the Company’s registered capital;

2.                change of rightsattached to any class of shares, including any amendment to the rights of the Series “B”Share or the creation of a new class of shares with rights superior or equal tothe rights or adversely affecting the rights of the Series “B” Share, orany amendment to the rights attached to any existing class of shares that wouldgrant them rights superior or equal to the rights attached to the Series “B”Share;

3.                merger into orconsolidation with another business entity, de-merger, transformation intoanother form of business association and termination of the Company without alegal successor;

4.                transfer, creationor encumbrance of a valuable right that enables the Company to operateaccording to the Universal Telecommunications Service Contract;

5.                election orremoval of the Series “B” director or Supervisory Board member;

6.                conversion of atype of shares;

7.                transfer of all ora substantial part of the assets of the Company that would render the Companyincapable of performing its obligations under the Universal TelecommunicationsService Contract;

8.                amendment to theArticles of Association which would impair the rights of the holder of the Series “B”Share, including authorizing the Board of Directors to increase the Company’sregistered capital;

9.                issuance ofconvertible bonds or bonds conferring preemptive rights; and

10.         decisionson significant transfers of shares.

*Transfer of Shares*

The holder of the Series “B” Share and othershareholders holding at least a simple majority of the shares must generallyapprove a transfer of shares that would result in a person or group of personsgaining ten percent or more of the outstanding voting stock of the Company. Theconsent of the holder of the Series “B” Share is also required to transfershares if the transferee would acquire more than 49.9 percent of theoutstanding voting stock of the Company.

When registering atransfer of shares, the registrar may request evidence that the shares weretransferred in accordance with the Articles of Association. If the Companyestablishes that the transfer occurred in violation of the Articles ofAssociation or if the transferee refuses to produce the necessary 

121

----

evidence,the Company may refuse to register the transfer. The Board of Directors mayinvalidate registrations based on untrue, false or misleading statements. Onlyshareholders registered in the Company’s register may exercise shareholderrights vis-a-vis the Company or transfer shares. A registered shareholder mustnotify the Company within eight days of any transfers of its shares or it willbe liable for liquidated damages.

**SignificantDifferences in Corporate Governance Practices for Purposes of Section 303A.11of the New York Stock Exchange Listed Company Manual (“NYSE Manual”)**

Corporate governance principles for Hungarian stockcorporations are set forth in the Hungarian Act CXLIV of 1997 on BusinessAssociations (the “Companies Act”). The Companies Act, along with other relatedlaws and regulations, describes and summarizes the basic mandatory statutorycorporate governance principles applicable for stock corporations in Hungary.

In 2004, the Budapest Stock Exchange issued itsCorporate Governance Recommendations (the “Recommendations”) containingsuggestions related to corporate governance for companies listed in theHungarian stock exchange, taking account of the most commonly usedinternational principles, of experiences gathered in Hungary, and of thecharacteristics of the Hungarian market.

We believe the followingto be the significant differences between Hungarian corporate governancepractices, as implemented by us and those applicable to U.S. companies underthe NYSE listing standards.

**The Recommendationsdo not set forth mandatory provisions of law**

The Recommendations, as expressed by the title, makesuggestions regarding recommended, applicable corporate governance practicesfor listed companies on the Budapest Stock Exchange. Alignment and compliancewith the Recommendations are not mandatory.

The publication of a so-called “Declaration”, wherebythe issuers provide information on their corporate governance practices incomparison with the contents of the Recommendations on a “comply or explain”basis, is mandatory for us.

The Recommendations addresses four core areas ofcorporate governance. These are (i) the responsibilities of the Board ofDirectors and the Supervisory Board; (ii) transparency and disclosure; (iii) shareholdersrights and treatment of shareholders; and (iv) role of stakeholders incorporate governance.

In general, the Recommendationsreiterate the responsibilities of the Board of Directors, Supervisory Board andexecutive management and encourage listed companies to go beyond the Hungarianlegal requirements in the areas of corporate governance and disclosure. Whilethe Recommendations touch upon many of the requirements under the NYSECorporate Governance Rules, there are some differences. For example, while theRecommendations encourage listed companies to establish audit, nomination andremuneration committees, the Recommendations suggest that those committees becomprised of a majority of independent directors, rather than exclusively withindependent directors. No provision addresses the corporate governancecommittee, shareholder votes on equity compensation or periodic meetings ofnon-management directors. The Recommendations however suggest the Board ofDirectors be responsible for and establish guidelines on a wide range ofcorporate governance issues, such as executive compensation, definition ofindependence, internal control, succession of departing directors and corporateofficers, risk management, insider trading and corporate disclosure.

**Magyar Telekom hasa two-tier board system**

A Hungarian public stock corporation’s shareholdershave the power to decide under the new Companies Act whether they want to haveboth a Supervisory Board and a management board named 

122

----

Board of Directors or theunitary board structure. Under the Companies Act, the two boards are separateand no individual may be a member of both boards. Close relatives of a memberof the Board of Directors may not be elected as a member of the SupervisoryBoard or vice versa at the same stock corporation. The members of both boardsare appointed and removed by the general meeting and owe a duty of loyalty andcare to the stock corporation.

The Board of Directors is responsible for managing thecompany and representing the company in its dealings with third parties. TheBoard of Directors is also required to ensure appropriate risk managementwithin the corporation and to establish an internal monitoring system.

Our Board of Directors, however, is not a managementbody. In other words, it does not conduct the daily operations of the Company.It has the authority to deal with all matters not reserved for the generalmeeting. Amongst other things, it approves the Company’s strategy and businessplan, organizational restructuring actions of major impact, as well as theconclusion of major transactions, employs and dismisses the CEO and other ChiefOfficers, defines their remuneration, sets the targets for top management andevaluates their performance.

The Board of Directors has set up the ManagementCommittee composed of the CEO and all Chief Officers to conduct the day-to-dayoperations of the Company.

The Supervisory Board of a stock corporationsupervises the activities of the management for the general meeting. It acts asan independent body, elects a chairman from among its members, and passes itsresolutions by simple majority. The Audit Committee helps the work of theSupervisory Board.

Although it is not permitted to make managementdecisions, the Supervisory Board has comprehensive monitoring functions,including advising the general meeting on a regular basis in decisions offundamental importance to the company by virtue of preliminary analysis of corebusiness reports and other submissions on the agenda of the general meetingwithin the exclusive scope of authority of the general meeting. To ensure thatthese monitoring functions are carried out properly, the Board of Directorsmust, among other things, regularly report to the Supervisory Board with regardto current business operations and business planning. The Supervisory Board mayalso request special reports from the Board of Directors or any senior employeeat any time.

The Supervisory Board of alarge company like ours is subject to the principle of employee participationin the decision making process concerning the company’s fundamental businessdirection. Under the Companies Act, our Supervisory Board includesrepresentatives of the shareholders and representatives of the employees, andour employees have the right under the Companies Act to elect one-third of theSupervisory Board members.

**The committeesrequired by the NYSE Manual are not fully required under the Companies Act.**

Hungarian corporate law allows, but does not requirecommittees to be established in business associations. The only exception isthat public limited companies have to set up an Audit Committee consisting ofat least three members. The Articles of Association of the Company may, underthe Hungarian regulations, assign certain supervisory tasks to the AuditCommittee.

The Companies Act gives the exclusive right to thegeneral meeting to establish the audit committee of the Company (the “AuditCommittee”). The new law fully complies with the relevant U.S. laws and SECregulations applicable for NYSE listed companies.

The Audit Committee is a permanent committee besidethe Supervisory Board; its members are selected from independent SupervisoryBoard members.

123

----

We are required to disclose information concerning any“audit committee financial expert” (as defined in the relevant SEC rules)serving on our audit committee, the fees we pay to the auditors for variousservices and the policies we have for approving engagements of the auditors inadvance.

Aiming to further enhance accuracy and completeness ofthe information disclosed to security holders and investors, the ManagementCommittee of the Company has resolved to establish a disclosure committee (the “DisclosureCommittee”). This committee ensures that our disclosures are made in a timelymanner and in line with the requirements of the applicable laws and the NYSE,the Budapest Stock Exchange or the Securities and Exchange Commissionregulations.

The Disclosure Committee, made up of individualstogether knowledgeable in the significant and diverse aspects of the Company’sbusiness, finance and risks, assists the CEO and the CFO in fulfilling theirresponsibility for oversight of the processes that assure the accuracy andtimeliness of the disclosures made by the Company.

The Board of Directors hasestablished a remuneration committee (the “Remuneration Committee”) whichperforms the functions of both compensation and nomination committees. All itsmembers are elected by the Board of Directors from among its own members. TheRemuneration Committee makes proposals to the Board of Directors regarding thenomination of CEO and Chief Officers, their compensation, bonus targets andmonitors their performance. The Remuneration Committee is also responsible forthe development of nomination standards and initiates the self-evaluation ofthe members of the Board of Directors.

**Hungarian corporatelaw generally requires shareholder approval for a wider range of transactionsand activities than the NYSE Manual**

The NYSE Manual requires U.S. companies to seekshareholder approval for certain equity compensation plans and issuances ofcommon stock. Under the Companies Act on the other hand, shareholder approvalis required for amendments to the Articles of Association, certain corporatemeasures, such as the issuance of new shares and convertible bonds or bondswith subscription rights, the authorization to purchase the corporation’s ownshares and other key corporate events.

Shareholder approval in aHungarian stock corporation is obtained in an Annual General Meeting, whichmust be held at least once a year. At the Annual General Meeting theshareholders also elect their representatives to the Supervisory Board, theAudit Committee and the Board of Directors, resolve the appropriation ofdistributable balance sheet profit, and approve the rules of procedure ofSupervisory Board. In addition, the corporation’s external auditor is appointedby a shareholders’ resolution based on a proposal by the Board of Directors.

**Material contracts**

***Acquisition of Maktel***

In December 2000, we, on behalf of a consortium,reached agreement with the government of Macedonia to acquire a 51 percentinterest in Maktel on its privatization. The acquired interest was thentransferred on January 16, 2001 to a newly established Macedonianacquisition vehicle, Stonebridge.

Under an agreement among Magyar Telekom Plc., SEEFHoldings Ltd. (“SEEF”) and CosmoTelco Added Value Services S.A (“CosmoTelco”),the latter two acquired a 6.1 percent and a 7.4 percent interest respectivelyin Stonebridge, reducing our investment in Stonebridge to EUR 301.5 million. Weretained an 86.5 percent interest in Stonebridge, which represented a 44 percentinterest in Maktel. Since then, Magyar Telekom Plc. has increased its ownershipto 100 percent in Stonebridge, representing a 51 percent interest in Maktel.

124

----

On November 24, 2005, Magyar Telekom Plc.announced that it is simplifying the ownership structure of its interest inMaktel through the liquidation of Stonebridge. Following the liquidation,Magyar Telekom Plc. will directly own its shares in Maktel.

The Macedonian governmenthas announced that it plans to sell its 45 percent stake in Maktel. On May 30,2006, the General Meeting of Maktel authorized the management of the company tobuy a maximum of 10 percent of the shares of Maktel from the government. TheMacedonian government’s auction to sell shares in Maktel was held between June 5and June 9, 2006. During the auction, Maktel bought a total of 10 percentof the company’s shares (9.9 percent for EUR 60.3 million plus 0.1 percent forEUR 0.6 million), while 0.3 percent was sold to other investors. Following theshare purchase, Magyar Telekom’s voting rights in Maktel, through itssubsidiary Stonebridge, reached 56.7 percent. In terms of share ownership,Magyar Telekom (through Stonebridge) has 51 percent, the government 36.81percent, IFC 1.88 percent and minority shareholders 0.31 percent of Maktel’sshares, while 10 percent is held by Maktel as treasury shares.

***Acquisition of Crnogorski Telekom***

On January 14, 2005, the MontenegrinPrivatization Agency declared Magyar Telekom Plc. the winner of a tender for a51.2 percent interest in Crnogorski Telekom. On March 16, 2005, weannounced that we had signed a Share Purchase Agreement to acquire 51.12percent of all outstanding shares of Crnogorski Telekom from the government ofMontenegro for EUR 114 million. The transaction was consummated at the end of March 2005.At the same time, we acquired an additional 21.92 percent interest inCrnogorski Telekom from minority shareholders for EUR 22.87 million.

As a result of the public offer, Magyar Telekom hasacquired an additional 3.49 percent stake in Crnogorski Telekom for EUR 3.64million, increasing its stake to 76.53 percent by May 24, 2005. Hence, thepurchase price of Crnogorski Telekom totaled EUR 140.51 million.

Crnogorski Telekom’sbalance sheet was consolidated in our accounts as at March 31, 2005, whilethe results of Crnogorski Telekom were included in our consolidated incomestatement from the second quarter of 2005.

**Exchange Control**

Investment by foreigners in Hungarian securities isregulated by Act XXIV of 1988 on Foreign Investments, as amended (the “ForeignInvestment Act”), Act XCIII of 2001 on Elimination of Foreign ExchangeRestrictions, as amended (the “Liberalization Act”) and Act CXX of 2001 on theCapital Market, as amended (the “Capital Market Act”) and implementing decrees.The Foreign Investment Act and the Capital Market Act regulate foreigninvestment in Hungarian equities. In addition, the Capital Market Act and theLiberalization Act regulates foreign investment in Hungarian debt instrumentsand flows of cash. The regulations under these acts do not restrict foreignersfrom investing in registered shares issued by Hungarian companies, nor do theylimit the number of shares foreigners may own. In addition, foreigners mayestablish wholly owned subsidiaries in Hungary to acquire all the shares of aHungarian company.

Shares held by foreign investors may be generally soldwithout restrictions to other foreigners or Hungarian persons. Foreigninvestors may deposit proceeds from sales to Hungarian persons in a convertibleHungarian forint account, the balance of which may be converted into foreigncurrency and repatriated without restriction, subject to withholding tax rules,or may be paid into a foreign currency account of the foreigner in Hungary orabroad. Similarly, foreign investors may convert dividends paid by Hungariancompanies into foreign currency and repatriate the proceeds, subject towithholding tax rules. If a foreign shareholder does not wish to repatriatesale proceeds or dividend payments, it may elect to receive and deposit suchpayments in Hungarian forints into a convertible HUF denominated account 

125

----

established with anycommercial bank in Hungary. Such accounts will accrue interest in Hungarianforints. The balance remains freely convertible into foreign currency and may subsequentlybe repatriated or reinvested in Hungary.

As of June 16,2001 essentially all of the previous restrictions were eliminated regarding theconversion of Hungarian forint into foreign currencies and transactions betweenforeigners and Hungarian persons. Consequently foreign investors may:

·       freelyconvert HUF funds;

·       freelysell securities and instruments not qualifying as securities to domesticpersons in HUF and in foreign currency; and

·       freelyinvest in short-term instruments and securities in Hungary (except forreceivables deriving from compensation coupons regulated by Act XXV of 1991onthe Partial Compensation of Damages to Citizens with a View to SettlingProperty Relations, i.e., the “Compensation Act”).

Notwithstandingthe general rules above, according to the Liberalization Act, paymentobligations regarding tax, contributions and other fees to the state must befulfilled in HUF. Additionally, other laws continue to contain specificrequirements affecting foreign exchange transactions (e.g., regulations onmoney laundering).

**Taxation**

The following is a summary,under current law, of the principal Hungarian and U.S. federal income taxconsiderations relevant to an investment by a U.S. taxpayer in our ordinaryshares or ADSs (which we refer to collectively in this summary as the “shares”).This summary applies to you if you are eligible for benefits as a U.S. residentunder the current income tax convention between the United States and Hungary(the “Treaty”) in respect of your investments in shares.

In general, youwill be eligible for benefits under the Treaty in respect of such investmentif:

·       youare an individual U.S. citizen or resident, a U.S. corporation or apartnership, estate, or trust to the extent the shareholders’ income is subjectto taxation in the United States as the income of a resident, either in thehands of the shareholders or in the hands of the shareholder’s partner of beneficiaries**;**

·       youare not also a resident of Hungary for Hungarian tax purposes;

·       youare the beneficial owner of the shares (and the dividends paid with respectthereto);

·       youhold the shares as a capital asset for tax purposes; and

·       youdo not hold the shares in connection with the conduct of business through theperformance of personal services through a fixed base, in Hungary.

Under Hungarian domestic law no Hungarian withholdingtax will apply to dividends paid by the Company to non-individuals after December 31,2005. Therefore, non-individual U.S. taxpayers generally will not need to relyon the Treaty in respect of such dividends.

This summary does not purport to be a comprehensivedescription of all the tax considerations that may be relevant to anyparticular investor, and does not address the tax treatment of investors whoare subject to special rules. We have assumed that you are familiar with thetax rules applicable to investments in securities generally and with anyspecial rules to which you may be subject. You should consult your own taxadvisers regarding the tax consequences of the ownership of our shares in thelight of your own particular circumstances.

126

----

You should also note that the United States andHungary are currently in the process of renegotiating their income taxconvention. Any resulting new treaty may have provisions that differ from thosedescribed herein.

In general, the Hungarian and U.S. federal income taxconsiderations relevant to an investment in the shares will be similar to theconsiderations relevant to investments in equity securities issued by otherHungarian corporations.

With regard toHungarian taxation:

1.                Dividend

In the case ofindividuals, in the absence of any benefits under the Treaty, dividends thatyou receive on the shares will generally be subject to Hungarian withholdingtax at a rate of 25 percent (35 percent in the case of any portion paid to anindividual that exceeds an amount equal to 30 percent of the proportion of thecompany’s equity represented by such individual’s ownership interest in thecompany).

·       Inthe case of dividends paid by the Company to individuals who are entitled tobenefits under the Treaty in respect of those dividends, the Company isentitled to withhold tax from such dividends at the reduced Treaty rate of 15percent, provided that the holder entitled to such dividends submits itsresidence certificate and beneficial ownership declaration to the Companybefore the dividend payment.

·       Ifthe Company withheld the tax at a rate of 25 or 35 percent you will be entitledto claim a refund from the Hungarian tax authorities to the extent the amountwithheld exceeds the 15 percent rate provided under the Treaty. In order toobtain the refund of Hungarian withholding tax described above, you must file aclaim with the Hungarian tax authorities which must include officialcertification from the U.S. Internal Revenue Service that you are entitled toTreaty benefits, a statement from the payer showing that the tax has beenwithheld, and a declaration that you are the beneficial owner of the income andthat the amount received will be treated as income for U.S. tax purposes. Aclaim form may be obtained from APEH Közép-magyarországi RegionálisIgazgatóság, 1139 Budapest, Petneházy u. 6-8, PO Box 45, Hungary. Youshould consult your own tax advisers for additional details with respect to theprocedure for claiming such refunds.

Please note that in the case of Hungarian domesticprivate individuals and citizens of EU and EEC countries with residency permitin Hungary, a four percent health care contribution will be deducted from the2005 dividend payments if social security paid by them is less than HUF400,000.

The Company informsits non-individual shareholders domiciled in the European Union that theEuropean Court of Justice (“ECJ”) in a recent case established that thedividend withholding tax legislation of a member state cannot differentiatebetween domestic and EU shareholders of the same type. A law which providesthat tax is withheld from dividend payments made to EU shareholders whilst notax is applicable to dividends paid to domestic shareholders violates the basicfreedoms of the EU. The Company is analyzing the potential impact of this ECJdecision on the Hungarian withholding tax legislation effective from Hungary’saccession to the EU until December 31, 2005, from which date the withholdingtax on non-individual foreign persons has been abolished. During this timeperiod, no tax has to be withheld from dividends paid to Hungariannon-individual shareholders but 20 percent tax was withheld from dividends paidto EU non-individual shareholders. If it is proved that the Hungarianwithholding tax regime violated the EU basic freedoms, the Company aims toinform the market on the potential reclaim opportunity in applicable form.

127

----

2.                Capital gains

Capital gains thatyou realize on a sale or other disposition of the shares will not be subject toany Hungarian tax provided that you are not a Hungarian resident.

3.                Transfer tax

No Hungarian transfer taxes or stamp duties will applyto a purchase, sale, or other disposition of the shares that you make.

With regard to U.S.federal income taxation:

·       Ifyou hold shares in ADS form, you will be treated as holding the underlyingordinary shares for U.S. federal income tax purposes, and deposits andwithdrawals of ordinary shares in exchange for ADSs will not be taxable events.

·       Youmust include the gross amount of cash dividends paid on the shares, withoutreduction for Hungarian withholding tax, in ordinary income on the date thatyou or the ADS depositary receive them, translating dividends paid in Hungarianforints into U.S. dollars using the exchange rate in effect on date.

·       Subjectto certain exceptions for short-term and hedged positions, the U.S. dollaramount of dividends received by an individual before January 1, 2009, withrespect to the shares will be subject to taxation at a maximum rate of 15percent if the dividends are “qualified dividends.” Dividends paid on theshares will be treated as qualified dividends if (i) the issuer iseligible for the benefits of a comprehensive income tax treaty with the UnitedStates that the IRS has approved for the purposes of the qualified dividendrules, and (ii) the Company was not, in the year prior to the year inwhich the dividend was paid, and is not, in the year in which the dividend ispaid, a passive foreign investment company (“PFIC”). The income tax treatybetween Hungary and the Unites States has been approved for the purposes of thequalified dividend rules. Based on the Company’s audited financial statementsand relevant market and shareholder data, the Company believes that it was nottreated as a PFIC for U.S. federal income tax purposes with respect to its 2004or 2005 taxable year. In addition, based on the Company’s audited financialstatements and its current expectations regarding the value and nature of itsassets, the sources and nature of its income, and relevant market andshareholder data, the Company does not anticipate becoming a PFIC for its 2006taxable year.

·       Dispositionsof shares that you make will generally give rise to capital gain or loss, whichwill be long-term capital gain or loss, subject to taxation at reduced ratesfor non-corporate taxpayers, if the shares were held for more than one year.

·       Hungariantax withheld from dividends will be treated, up to the 15 percent rate providedunder the Treaty, as a foreign income tax that, subject to generally applicablelimitations under U.S. tax law, is eligible for credit against your U.S.federal income tax liability or, if you have elected to deduct such taxes, maybe deducted in computing taxable income.

·       Fluctuations in thedollar-forint exchange rate between the date that you receive a dividend andthe date that you receive a related refund of Hungarian withholding tax maygive rise to foreign currency gain or loss, which is generally treated asordinary income or loss for U.S. tax purposes.

**Documents onDisplay**

We are subject to the informational requirements ofthe U.S. Securities Exchange Act of 1934, as amended (“the Exchange Act”). Inaddition, we are required to file annual reports and other information we makepublic in Hungary or with the Budapest Stock Exchange with the U.S. Securitiesand Exchange 

128

----

Commission under theExchange Act. We file our annual reports on or before June 30 each year.We file other information at the time we make it public in Hungary or file itwith the Budapest Stock Exchange.

You may read and copy theregistration statement, including the attached exhibits, the reports,statements or other information that we file at the Commission’s publicreference room in Washington D.C., which is located at 100 F Street, N.E.,Washington, D.C., 20549. Please call the Commission at 1-800-SEC-0330for further information on the operation of the public reference rooms. Inaddition, you may also obtain the reports and other information we file at theoffices of the New York Stock Exchange, Inc., 20 Broad Street, New York,New York, 10005.

**ITEM 11—QUANTITATIVEAND QUALITATIVE DISCLOSURESABOUT MARKET RISK**

For a discussion of marketrisks, see Note 3, 16 and 17 to the consolidated financial statements.

**ITEM 12—DESCRIPTIONOF SECURITIES OTHER THAN EQUITY SECURITIES**

Not applicable.

129

----

**PART II**

**ITEM 13—DEFAULTS,DIVIDEND ARREARAGES AND DELINQUENCIES**

None.

**ITEM 14—MATERIAL MODIFICATIONS TO THE RIGHTS OFSECURITY HOLDERS AND USE OF PROCEEDS**

None.

**ITEM 15—CONTROLSAND PROCEDURES**

In the course of conducting their audit of our 2005financial statements, PwC identified certain contracts the nature and businesspurposes of which were not readily apparent. PwC notified the Audit Committeeand advised them to retain independent counsel to conduct an investigation intothese contracts. In February 2006, our Audit Committee retained White &Case, as its independent legal counsel, to conduct the investigation, with theadditional assistance of a financial advisory firm and a digital forensicsfirm. In December 2006, the investigators delivered an Initial Report ofInvestigation. We cannot predict when the investigation will be concluded orwhat the final findings will be.

PwC initially raised concerns regarding twoconsultancy contracts entered into in 2005 by our Montenegrin subsidiariesCrnogorski Telekom and T-Mobile Crna Gora. The initial scope of the independentinvestigation was a complete review of these two contracts, including a reviewof all related documents and interviews with our, and Crnogorski Telekom andT-Mobile Crna Gora, employees and third parties with knowledge of thecontracts. The financial advisory firm assisting the investigation alsoreviewed a sampling of our and our Montenegrin subsidiaries’ account andtransactional data, equaling 72 percent of the value of all transactionsand 90 percent of the value of all contracts with third party vendors. For eachof these test items, all available supporting documentation was reviewed. Earlyin the investigation, two additional consultancy contracts, which we enteredinto in 2005, were also called into question by the investigators, and ourAudit Committee expanded the scope of the investigation to cover thesecontracts. The total value of these four contracts under investigation isapproximately HUF 2 billion.

During the course of the investigation, it becameevident that certain of Magyar Telekom, Crnogorski Telekom and T-Mobile CrnaGora employees had obstructed the investigation by destroying or tampering withelectronic documents. Specifically, the digital forensics firm assisting the investigationfound that ten computers assigned to seven employees showed evidence thatdocuments had been deleted from the hard drives and “wiping” software used tomake those documents permanently unrecoverable. Investigators determined thatthe deleted electronic documents included a number of documents related to thecontracts under investigation. This deletion and wiping activity took placeafter our management had issued document retention memos requiring that alldocuments related to these contracts be retained. As a result of thisdeliberate destruction of documents, the investigators have been unable toreview drafts of the contracts, emails and other documents that would have beenrelevant to the investigation.

To date, the independent investigators have beenunable to find sufficient evidence to show that any of the four contracts underinvestigation resulted in the provision of services to us or to oursubsidiaries under those contracts of a value commensurate with the payments wemade under those contracts. It is unclear who the true counterparties are tothe contracts, and certain of the contracts are vague as to the actual servicesthat are to be provided. The independent investigators have been unable todetermine definitively the purpose of the contracts, and it is possible thatthe purpose may have been improper. On the basis of the findings to date, theconcerns of our auditors were well founded.

In our 2005 preliminary results announcement, we hadcapitalized the HUF 1.12 billion payment related to two of these contracts. Asa result of the interim findings of the investigation, we have now 

130

----

expensed the total amountof the HUF 2 billion paid under these four contracts and disclosed theseexpenses under the caption “Other operating expenses—net.” This has resulted ina commensurate effect on, among other items, taxes, minority interest and netincome when compared to the corresponding items reported in our 2005preliminary results announcement.

As a consequence of the investigation, we have suspendeda number of employees who have since resigned. The suspended employees includedsenior members of our Strategy Group and a senior executive of CrnogorskiTelekom. The Crnogorski Telekom Board of Directors has also been replaced.

The independent investigators’ Initial Report ofInvestigation further identified several contracts at another subsidiary thatcould warrant further review. In February 2007, our Board of Directorsdetermined that those contracts should be reviewed and expanded the scope of theindependent investigation to cover these additional contracts and relatedtransactions.

The investigation has revealed certain weaknesses inthe design and operation of our internal controls and procedures. Accordingly,we have approved and are currently implementing certain remedial measuresdesigned to enhance our internal controls to ensure compliance with Hungarianand U.S. legal requirements and NYSE listing requirements. First, the positionof Magyar Telekom Group Compliance Director has been created, reportingdirectly to the Company Chief Financial Officer, the Supervisory Board and theAudit Committee. In conjunction with this new position, we are reviewing, withthe assistance of U.S. counsel, our compliance and corporate governancepolicies and are establishing a comprehensive compliance-training program, witha focus on our code of ethics, insider trading policy, document retentionpolicy, regulatory matters, and compliance with U.S. securities laws and theU.S. Foreign Corrupt Practices Act. Our Board has already approved andimplemented a Magyar Telekom Group Financial Code of Ethics for Treasury andFinancial Managers (see Exhibit 11.2 to this Form 20-F) and aGroup Insider Trading Policy. Second, we are revising our internal controlsrelating to procurement, including centralized access to all SAP systems ofsubsidiaries and a requirement that all contract approvals pass through uniformrules and procedures. Third, we have revised our mergers and acquisitionsprocess, including dividing accountability for M&A between the StrategyGroup, which will remain responsible for business development, and the area ofthe Chief Financial Officer, which will be responsible for execution of M&Atransactions. All M&A activity will require Board approval and will bereported to the Audit Committee on a semi-annual basis. Finally, our Board maymake further decisions or recommendations in connection with the involvement ofany senior management in the four contracts under investigation.

As previously reported,the investigation has delayed the finalization of our 2005 financialstatements, and as a result we and some of our subsidiaries have failed and mayfail to meet certain deadlines prescribed by U.S., Hungarian and otherapplicable laws and regulations for preparing and filing audited annual resultsand holding annual general meetings. We have to date been fined HUF 13 millionas a consequence of these delays. We have notified the Hungarian FinancialSupervisory Authority, the U.S. Securities and Exchange Commission and the U.S.Department of Justice of the investigation, are in contact with theseauthorities regarding the investigation and are responding to inquiries raisedby these authorities.

**ITEM 16A—AUDITCOMMITTEE FINANCIAL EXPERT**

The Supervisory Board has determined that Dr. ÁdámFarkas is an “audit committee financial expert” as defined by Item 401 (h) ofRegulation S-K of the Securities Exchange Act of 1934, as amended, and also “independent,”as that term is defined in Rule 10A-3 under the Exchange Act.

For the biography of Mr. Farkas,see “Item 6—Directors, Senior Management and Employees”.

131

----

**ITEM 16B—CODE OFETHICS**

We have adopted a code of ethics, as defined in Item16B of Form 20-F under the Securities Exchange Act of 1934, asamended. Our code of ethics applies to our Chief Executive Officer, ChiefFinancial Officer, principal accounting officer and persons performing similarfunctions, as well as to our directors and other officers and employees. Ourcode of ethics is filed as Exhibit 11.1. to this Form 20-F. Ifwe amend the provisions of our code of ethics that apply to our Chief ExecutiveOfficer, Chief Financial Officer, principal accounting officer and personsperforming similar functions or if we grant any waiver of such provisions, wewill disclose such amendment or waiver on our website athttp://www.magyartelekom.hu.

On January 8, 2007,we have adopted a financial code of ethics for financial officers, which isfiled as Exhibit 11.2 to this Form 20-F.

**Other CorporateGovernance Practices Required by the Sarbanes-Oxley Act**

As required by theSarbanes-Oxley Act, we adopted procedures for the treatment of complaintsrelating to auditing and accounting matters. We have posted a description ofour procedures on our investor relations page on our website athttp://www.magyartelekom.hu.

**ITEM 16C—PRINCIPALACCOUNTANT FEES AND SERVICES**

**Audit and Non-AuditFees**

Thefollowing table sets forth the fees of our independent auditors, PwC, relatedto 2004 and 2005:

| ** **          | ** ** | **At December 31,**    | ** ** |
|---------------------|------------|----------------------------------|------------|
| ** **          | ** ** | **2004**                         | ** ** | **2005** | ** ** |
| ** **          | ** ** | **(in HUF thousands)** | ** ** |
| Audit Fees          |       | 330,373                          |       | 602,258 |   |
| Audit-Related  Fees |       | 23,300                           |       | 27,381 |   |
| Tax Fees            |       | 26,011                           |       | 25,696 |   |
| All Other Fees      |       | 10,054                           |       | 691 |   |
|                | ** ** | **389,738**                      | ** ** | **656,026** | ** ** |

 

Audit fees in the above table are the aggregate feesof PwC in connection with the audit of our annual financial statements, reviewsof quarterly reports and services performed in relation to legal obligationsand submissions required by regulatory provisions.

Audit-related fees in the above table are theaggregate fees of PwC for services which are normally performed by the externalauditor in connection with the auditing of the annual financial statements,e.g. advice on issues of accounting and reporting which were notclassified as audit services and support with the interpretation of newaccounting and reporting standards.

Tax fees in the above table are fees of PwC forservices relating to issues of domestic and international taxation (adherenceto tax law, tax planning and tax consulting). Furthermore, services werecommissioned for the assistance with tax audits and appeals, evaluations fortaxation purposes, as well as assistance to tax law.

Other fees in the abovetable are fees of PwC primarily related to services like participation byMagyar Telekom employees in conferences and training sessions organized by PwC.

132

----

**Audit CommitteePre-Approval Policies and Procedures**

The “Rules of procedure” of Magyar Telekom Plc.’sAudit Committee were approved on December 5, 2006 and the “Pre-approvalpolicy” of Magyar Telekom Plc.’s Audit Committee was approved on December 11,2006. The “Pre-approval policy” requires all services which are to be performedby our external auditor to be pre-approved. This may be in the form of generalpre-approval or pre-approval on a case-by-case basis. The Audit Committee hasbeen regularly informed of the external auditor’s services and the relevantfees.

See Exhibit 14.2. for“Rules of Procedure of Magyar Telekom Plc.’s Audit Committee” and Exhibit 14.3.for “Pre-approval Policy of Magyar Telekom Plc.’s Audit Committee”.

**ITEM 16D—EXEMPTIONSFROM THE LISTING STANDARDS FOR AUDIT COMMITTEES**

Not applicable.

**ITEM 16E—PURCHASESOF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS**

Not applicable.

**PART III**

**ITEM 17—FINANCIALSTATEMENTS**

See pages F-1through F-79 incorporated herein by reference.

**ITEM 18—FINANCIALSTATEMENTS**

Not applicable.

**ITEM19—EXHIBITS**

| 1.1. |   | Articles of Association of Magyar Telekom.                                                                                                                                                                                                                                                                                                                                                                          |
|------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.1. |   | Form of Deposit  Agreement, dated as of October 8, 1997, among Matáv, Morgan Guaranty  Trust Company of New York, as Depository, and holders from time to time of  American Depositary Receipts issued thereunder, including the form of  American Depositary Receipt (incorporated herein by reference to  Exhibit 4.1. of Magyar Telekom’s Form F-1 dated  November 13, 1997). |
| 4.1. |   | Agreement to furnish to  the Securities and Exchange Commission copy of the HUF 45 billion Medium Term  Note Program upon request (incorporated herein by reference to  Exhibit 2.2. of Magyar Telekom’s 2001 Form 20-F dated  May 9, 2002).                                                                                                                                                    |
| 4.2. |   | Concession Agreement,  dated December 19, 1993, between the Minister and MagyarCom  (incorporated herein by reference to Exhibit 10.1. of Magyar Telekom’s  Form F-1 dated November 13, 1997).                                                                                                                                                                                             |
| 4.3. |   | Assignment and Assumption,  dated December 22, 1993, by and among MagyarCom, Matáv and the Minister  (incorporated herein by reference to Exhibit 10.2. of Magyar Telekom’s  Form F-1 dated November 13, 1997).                                                                                                                                                                       |
| 4.4. |   | Concession Contract, as  amended, dated December 22, 1993, between the Minister and Matáv  (incorporated herein by reference to Exhibit 4.3.1. of Magyar Telekom’s  2001 Form 20-F dated May 9, 2002).                                                                                                                                                                                |

133

----

 

| 4.5.  |   | Contract for the  revision and termination of the Nationwide Concession Contract concluded on  December 22, 1993 and the Concession Contract concluded on May 25,  1994 and for the provision of universal telecommunications services, dated  January 28, 2002, by and among the Minister and Matáv (incorporated  herein by reference to Exhibit 4.3.2. of Magyar Telekom’s 2001  Form 20-F dated May 9, 2002). |
|-------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 4.6.  |   | Shareholders’ Agreement,  dated September 26, 1997, by and among Matáv, MagyarCom and the Minister  (incorporated herein by reference to Exhibit 10.5. of Magyar Telekom’s  Form F-1 dated November 13, 1997).                                                                                                                                                                                                         |
| 4.7.  |   | Amended and Restated  Framework Services Agreement, dated January 1, 2000, by and among Matáv,  Deutsche Telekom AG, Ameritech International Inc. and MagyarCom Services Kft.  (incorporated herein by reference to Exhibit 4.5. of Magyar Telekom’s  2001 Form 20-F dated May 9, 2002).                                                                                                                                    |
| 4.8.  |   | Share Purchase Agreement  between the Republic of Macedonia and Matáv relating to the sale of 50  percent of the issued share capital of Makedonski Telekomunikacii dated  December 22, 2000 (incorporated herein by reference to  Exhibit 4.6.1. of Magyar Telekom’s 2001 Form 20-F dated  May 9, 2002).                                                                                                                   |
| 4.9.  |   | Subscription and  Shareholders’ Deed between Matáv, CosmoTelco Added Value Services S.A., SEEF  Holdings Limited and Telemacedonija Ad Skopje, dated December 14, 2000  (incorporated herein by reference to Exhibit 4.6.2. of Magyar Telekom’s  2001 Form 20-F dated May 9, 2002).                                                                                                                                    |
| 4.10. |   | First Supplemental Deed  to the Subscription and Shareholders’ Deed between Matáv, CosmoTelco Added  Value Services S.A., SEEF Holdings Limited and Telemacedonija Ad Skopje,  dated December 14, 2000 (incorporated herein by reference to  Exhibit 4.6.3. of Magyar Telekom’s 2001 Form 20-F dated  May 9, 2002).                                                                                                    |
| 4.11. |   | Second Supplemental Deed  to the Subscription and Shareholders’ Deed between Matáv, CosmoTelco Added  Value Services S.A., SEEF Holdings Limited and Telemacedonija Ad Skopje,  dated December 14, 2000 (incorporated herein by reference to  Exhibit 4.6.4. of Magyar Telekom’s 2001 Form 20-F dated  May 9, 2002).                                                                                                   |
| 4.12. |   | Shareholders Agreement  between the Republic of Macedonia and Matáv in relation to Makedonski  Telekomunikacii, dated January 15, 2001 (incorporated herein by  reference to Exhibit 4.6.5. of Magyar Telekom’s 2001 Form 20-F  dated May 9, 2002).                                                                                                                                                                         |
| 4.13. |   | Modification of the  Subscription and Shareholders’ Deed between Matáv and CosmoTelco Added Value  Services S.A. with respect to the option, dated February 7, 2002  (incorporated herein by reference to Exhibit 4.6.6. of Magyar Telekom’s  2001 Form 20-F dated May 9, 2002).                                                                                                                                       |
| 4.14. |   | Agreement for Call  Option Extension between Matáv and CosmoTelco Added Value Services S.A. with  respect to the option, dated February 7, 2003 (incorporated herein by  reference to Exhibit 4.6.7. of Magyar Telekom’s 2002 Form 20-F  dated May 9, 2003).                                                                                                                                                                |
| 4.15. |   | Election of Exercise the  Put Option of SEEF Holdings Limited dated March 7, 2003. (incorporated  herein by reference to Exhibit 4.6.8. of Magyar Telekom’s 2002  Form 20-F dated May 9, 2003).                                                                                                                                                                                                                                  |
| 4.16. |   | Share Purchase Agreement  between Matáv and SEEF Holdings Limited on the Sale of 2,077,311 Ordinary  Shares in Stonebridge AD, dated June 20, 2003 (incorporated herein by  reference to Exhibit 4.16. of Magyar Telekom’s 2003 Form 20-F  dated May 11, 2004).                                                                                                                                                             |

134

----

 

| 4.17. |   | Call Option Waiver  Agreement between Matáv and CosmoTelco Added Value Services S.A. with respect  to the option, dated December 10, 2003 (incorporated herein by reference  to Exhibit 4.17. of Magyar Telekom’s 2003 Form 20-F dated  May 11, 2004).                                                              |
|-------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 4.18. |   | Share Purchase Agreement  between Matáv and SEEF Holdings Limited on the Sale of 2,077,312 Ordinary  Shares in Stonebridge AD, dated July 13, 2004 (incorporated herein by  reference to Exhibit 4.18. of Magyar Telekom’s 2004 Form 20-F  dated May 11, 2005).                                                     |
| 4.19. |   | Share Purchase Agreement  between Matáv and CosmoTelco Added Value Services S.A. on the Sale of  5,078,557 Ordinary Shares in Stonebridge AD, dated October 22, 2004  (incorporated herein by reference to Exhibit 4.19. of Magyar Telekom’s  2004 Form 20-F dated May 11, 2005).                                   |
| 4.20. |   | Call Option Agreement  between Deutsche Telekom AG and Matáv, dated October 20, 1999 (incorporated  herein by reference to Exhibit 4.7.1. of Magyar Telekom’s 2001  Form 20-F dated May 9, 2002).                                                                                                                   |
| 4.21. |   | Westel Proxy between  Deutsche Telekom AG and Matáv, dated October 20, 1999 (incorporated  herein by reference to Exhibit 4.7.2. of Magyar Telekom’s 2001  Form 20-F dated May 9, 2002).                                                                                                                            |
| 4.22. |   | Business Share Sale and  Purchase Agreement, dated December 21, 2001 between Deutsche Telekom AG  and Matáv (incorporated herein by reference to Exhibit 4.7.3. of Magyar  Telekom’s 2001 Form 20-F dated May 9, 2002).                                                                                             |
| 4.23. |   | Share Sale and Purchase  Agreement, dated December 21, 2001 between Deutsche Telekom AG and Matáv  (incorporated herein by reference to Exhibit 4.7.4. of Magyar Telekom’s  2001 Form 20-F dated May 9, 2002).                                                                                                      |
| 4.24. |   | Determination of the  foreign exchange rate for the exercise of the Westel Call Option and  e-denomination of purchase price to euro, letter dated October 31, 2001  from Deutsche Telekom AG to Matáv (incorporated herein by reference to  Exhibit 4.7.5. of Magyar Telekom’s 2001 Form 20-F dated  May 9, 2002). |
| 4.25. |   | Loan Agreement between  Deutsche Telekom International Finance B.V. and Matáv to finance the  acquisition of a 49 percent stake both in Westel and Westel 0660, dated  December 20, 2001 (incorporated herein by reference to  Exhibit 4.7.6. of Magyar Telekom’s 2001 Form 20-F dated  May 9, 2002).               |
| 4.26. |   | Loan Agreement, dated  July 4, 2003, between Deutsche Telekom International Finance B.V. and  Matáv to refinance the loan taken on December 20, 2001 (incorporated  herein by reference to Exhibit 4.24. of Magyar Telekom’s 2003  Form 20-F dated May 11, 2004).                                              |
| 4.27. |   | Amendment to the Loan  Agreement, dated August 13, 2004, between Deutsche Telekom International  Finance B.V. and Matáv with respect to the Loan Agreement, dated July 4,  2003 (incorporated herein by reference to Exhibit 4.25. of Magyar  Telekom’s 2003 Form 20-F dated May 11, 2004).                    |
| 4.28. |   | Loan Agreement for the  purpose of Financing the Acquisition of Maktel, dated January 11, 2001  between Matáv and Deutsche Telekom AG (incorporated herein by reference to  Exhibit 4.8. of Magyar Telekom’s 2001 Form 20-F dated  May 9, 2002).                                                                    |
| 4.29. |   | Quota Purchase Agreement  by and between T-Systems International GmbH and Matáv relating to the quotas  in T-Systems Hungary Kft, dated July 14, 2004 (incorporated herein by  reference to Exhibit 4.29. of Magyar Telekom’s 2004 Form 20-F  dated May 11, 2005).                                                  |
| 4.30. |   | Strategic Cooperation  Agreement between Deutsche Telekom AG and Matáv, dated December 15, 2004  (incorporated herein by reference to Exhibit 4.30. of Magyar Telekom’s  2004 Form 20-F dated May 11, 2005).                                                                                                        |

135

----

 

| 4.31. |   | Strategic Cooperation  Agreement between T-Mobile International AG and Matáv, dated  December 15, 2004 (incorporated herein by reference to  Exhibit 4.31. of Magyar Telekom’s 2004 Form 20-F dated  May 11, 2005).                                                                                                         |
|-------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 4.32. |   | Share Sale-Purchase  Agreement in respect of Certain Shares of Telekom Crne Gore AD between the  Government of the Republic of Montenegro, the Employment Bureau of Montenegro  and Matáv, dated March 15, 2005 (incorporated herein by reference to Exhibit 4.32.  of Magyar Telekom’s 2004 Form 20-F dated May 11, 2005). |
| 4.33. |   | Loan Agreement for the  purpose of Financing the Acquisition of Telekom Montenegro, dated  March 18, 2005 between Deutsche Telekom International Finance B.V. and  Matáv (incorporated herein by reference to Exhibit 4.33. of Magyar  Telekom’s 2004 Form 20-F dated May 11, 2005).                                        |
| 8.1.  |   | See “Significant  Subsidiaries” in “Item 4—Information on the Company” for significant  subsidiaries as of December 31, 2005.                                                                                                                                                                                               |
| 11.1. |   | Code of Ethics (incorporated  herein by reference to Exhibit 11.1. of Magyar Telekom’s 2003  Form 20-F dated May 11, 2004).                                                                                                                                                                                                           |
| 11.2. |   | Financial Code of  Ethics.                                                                                                                                                                                                                                                                                                                                |
| 12.1. |   | Certification of the CEO  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                 |
| 12.2. |   | Certification of the CFO  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                 |
| 13.1. |   | Certification of the CEO  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                 |
| 13.2. |   | Certification of the CFO  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                                                                 |
| 14.1. |   | Consent of Independent  Registered Public Accounting Firm.                                                                                                                                                                                                                                                                                                |
| 14.2. |   | Rules of Procedure  of Magyar Telekom Plc.’s Audit Committee.                                                                                                                                                                                                                                                                                   |
| 14.3. |   | Pre-approval Policy of  Magyar Telekom Plc.’s Audit Committee.                                                                                                                                                                                                                                                                                       |

 

136

----

**MAGYAR TELEKOM**

**INDEXTO THE CONSOLIDATED FINANCIAL STATEMENTS**
|                                                                                                              | ** ** | **Page** |
|--------------------------------------------------------------------------------------------------------------|------------|----------|
| **Consolidated Financial  Statement:**                                                                       |       |     |   |
| Report of Independent Registered Public Accounting Firm                                                      |       | F-2      |   |
| Consolidated  Balance Sheets at December 31, 2004 and 2005                                              |       | F-3      |   |
| Consolidated Income Statements for the years ended  December 31, 2003, 2004 and 2005                    |       | F-4      |   |
| Consolidated Cashflow Statements for the years ended  December 31, 2003, 2004 and 2005                  |       | F-5      |   |
| Consolidated Statements of Changes in Equity for the  years ended December 31, 2003, 2004 and 2005 |       | F-6      |   |
| Notes to the Consolidated Financial Statements                                                               |       | F-9      |   |

 

F-1

----

**REPORTOF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRMTO THE BOARD OF DIRECTORS AND SHAREHOLDERS OF MAGYAR TELEKOM PLC.**

We have audited the accompanying consolidated balancesheets of Magyar Telekom Nyrt. (“MT”) as of December 31, 2004 and 2005,and the related consolidated statements of income, cashflows and changes inshareholders’ equity for each of the three years in the period ended December 31,2005. These financial statements are the responsibility of MT’s management. Ourresponsibility is to express an opinion on these financial statements based onour audits.

We conducted our audits in accordance with thestandards of the Public Company Accounting Oversight Board (United States).Those standards require that we plan and perform the audit to obtain reasonableassurance about whether the financial statements are free of materialmisstatement. An audit includes examining, on a test basis, evidence supportingthe amounts and disclosures in the financial statements. An audit also includesassessing the accounting principles used and significant estimates made bymanagement, as well as evaluating the overall financial statement presentation.We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statementsreferred to above present fairly, in all material respects, the consolidatedfinancial position of MT as of December 31, 2004 and 2005, and theconsolidated results of its operations and its cashflows for each of the threeyears in the period ended December 31, 2005 in accordance withInternational Financial Reporting Standards as adopted for use in the EuropeanUnion.

As discussed in the accounting policies section to thefinancial statements, in notes 2(a) and 2(e) MT has adopted IFRS 3(issued 2004)—Business Combinations  andIAS 39 (revised 2004)—Financial Instruments: Recognition and Measurement inaccordance with IFRS as adopted by the EU.

Accounting principlesgenerally accepted under IFRS as adopted for use in the European Union vary incertain significant respects from accounting principles generally accepted inthe United States of America. Information relating to the nature and effect ofsuch differences is presented in Note 34 to the consolidated financialstatements.

PricewaterhouseCoopers Könyvvizsgáló és GazdaságiTanácsadó Kft.

Budapest, HungaryDecember 20, 2006

F-2

----

**MAGYAR TELEKOMCONSOLIDATED BALANCE SHEETS**

| ** **                                   | ** ** | ** ** | ** ** | **At December 31,**   | ** ** |
|----------------------------------------------|------------|------------|------------|---------------------------------|------------|
| ** **                                   | ** ** | ** ** | ** ** | **HUF**                         | ** ** | **USD** | ** ** |
| ** **                                   | ** ** | **Notes**  | ** ** | **2004**                        | ** ** | **2005** | ** ** | **2005** | ** ** |
| ** **                                   | ** ** | ** ** | ** ** | **(in HUF millions)** | ** ** | **(million USD)** | ** ** |
| ** **                                   | ** ** | ** ** | ** ** | ** **                      | ** ** | ** ** | ** ** | **(unaudited)** | ** ** |
| ** **                                   | ** ** | ** ** | ** ** | ** **                      | ** ** | ** ** | ** ** | **(note 2)** | ** ** |
| **ASSETS**                                   | ** ** |       | ** ** | ** **                      |       | ** ** | ** ** | ** ** | ** ** |   | ** ** | ** ** |   |
| **Current  assets**                          | ** ** |       | ** ** | ** **                      |       | ** ** | ** ** | ** ** | ** ** |   | ** ** | ** ** |   |
| Cash and cash equivalents                    |       |       | 6          | ** **                      |       | 36,879 |   | 46,060 |   |   | 216 | ** ** |   |
| Other financial  assets                      |       |       | 7          | ** **                      |       | 576 |   | 1,817 |   |   | 9 | ** ** |   |
| Trade and other  receivables                 |       |       | 8          | ** **                      |       | 83,440 |   | 97,183 |   |   | 455 | ** ** |   |
| Current income tax  receivable               |       |       |       | ** **                      |       | 3,549 |   | 452 |   |   | 2 | ** ** |   |
| Inventories                                  |       |       | 9          | ** **                      |       | 7,669 |   | 8,414 |   |   | 39 | ** ** |   |
| Assets held for disposal                     |       |       | 10         | ** **                      |       | 3,063 |   | 2,302 |   |   | 11 | ** ** |   |
| **Total  current assets**                    |       |       |       | ** **                      |       | 135,176 |   | 156,228 |   |   | 732 | ** ** |   |
| **Non current assets**                       | ** ** |       | ** ** | ** **                      |       | ** ** | ** ** | ** ** | ** ** |   | ** ** | ** ** |   |
| Property, plant  and equipment—net      |       |       | 11         | ** **                      |       | 571,090 |   | 580,736 |   |   | 2,719 | ** ** |   |
| Intangible  assets—net                  |       |       | 12         | ** **                      |       | 298,351 |   | 319,797 |   |   | 1,497 | ** ** |   |
| Associates                                   |       |       | 14         | ** **                      |       | 5,750 |   | 5,020 |   |   | 23 | ** ** |   |
| Deferred taxes                               |       |       | 26         | ** **                      |       | 12,527 |   | 14,966 |   |   | 70 | ** ** |   |
| Other non current  assets                    |       |       | 15         | ** **                      |       | 6,664 |   | 6,201 |   |   | 29 | ** ** |   |
| **Total  non current assets**                |       |       |       | ** **                      |       | 894,382 |   | 926,720 |   |   | 4,338 | ** ** |   |
| **Total  assets**                            |       |       |       | ** **                      |       | 1,029,558 |   | 1,082,948 |   |   | 5,070 | ** ** |   |
| **LIABILITIES**                              | ** ** |       | ** ** | ** **                      |       | ** ** | ** ** | ** ** | ** ** |   | ** ** | ** ** |   |
| **Current  liabilities**                     | ** ** |       | ** ** | ** **                      |       | ** ** | ** ** | ** ** | ** ** |   | ** ** | ** ** |   |
| Loans from related  parties                  |       |       | 17         | ** **                      |       | 60,000 |   | 74,648 |   |   | 350 | ** ** |   |
| Loans and other  borrowings—third party |       |       | 17         | ** **                      |       | 34,538 |   | 43,602 |   |   | 204 | ** ** |   |
| Trade and other  payables                    |       |       | 18         | ** **                      |       | 109,921 |   | 119,464 |   |   | 559 | ** ** |   |
| Current income tax  payable                  |       |       |       | ** **                      |       | 52 |   | 1,472 |   |   | 7 | ** ** |   |
| Deferred revenue                             |       |       | 19         | ** **                      |       | 1,502 |   | 918 |   |   | 4 | ** ** |   |
| Provision for  liabilities and charges       |       |       | 20         | ** **                      |       | 15,537 |   | 6,817 |   |   | 32 | ** ** |   |
| **Total  current liabilities**               |       |       |       | ** **                      |       | 221,550 |   | 246,921 |   |   | 1,156 | ** ** |   |
| **Non current liabilities**                  | ** ** |       | ** ** | ** **                      |       | ** ** | ** ** | ** ** | ** ** |   | ** ** | ** ** |   |
| Loans from related  parties                  |       |       | 17         | ** **                      |       | 177,675 |   | 212,000 |   |   | 993 | ** ** |   |
| Loans and other  borrowings—third party |       |       | 17         | ** **                      |       | 48,395 |   | 14,215 |   |   | 67 | ** ** |   |
| Deferred revenue                             |       |       | 19         | ** **                      |       | 1,186 |   | 267 |   |   | 1 | ** ** |   |
| Deferred taxes                               |       |       | 26         | ** **                      |       | 1,280 |   | 3,189 |   |   | 15 | ** ** |   |
| Provision for  liabilities and charges       |       |       | 20         | ** **                      |       | 2,761 |   | 3,141 |   |   | 15 | ** ** |   |
| Other non current  liabilities               |       |       | 18         | ** **                      |       | 47 |   | 5,521 |   |   | 26 | ** ** |   |
| **Total  non current liabilities**           |       |       |       | ** **                      |       | 231,344 |   | 238,333 |   |   | 1,117 | ** ** |   |
| **Total  liabilities**                       |       |       |       | ** **                      |       | 452,894 |   | 485,254 |   |   | 2,273 | ** ** |   |
| **EQUITY**                                   | ** ** |       | ** ** | ** **                      |       | ** ** | ** ** | ** ** | ** ** |   | ** ** | ** ** |   |
| **Shareholders’  equity**               | ** ** |       | ** ** | ** **                      |       | ** ** | ** ** | ** ** | ** ** |   | ** ** | ** ** |   |
| Common stock                                 |       |       |       | ** **                      |       | 104,281 |   | 104,281 |   |   | 488 | ** ** |   |
| Additional paid in  capital                  |       |       |       | ** **                      |       | 27,382 |   | 27,382 |   |   | 128 | ** ** |   |
| Treasury stock                               |       |       |       | ** **                      |       | (3,842 | ) | (1,926 | ) |   | (9 | ) |   |
| Cumulative  translation adjustment           |       |       |       | ** **                      |       | (3,026 | ) | (420 | ) |   | (2 | ) |   |
| Retained earnings                            |       |       |       | ** **                      |       | 391,772 |   | 398,250 |   |   | 1,864 | ** ** |   |
| **Total  shareholders’ equity**         |       |       |       | ** **                      |       | 516,567 |   | 527,567 |   |   | 2,469 | ** ** |   |
| Minority interests                           |       |       |       | ** **                      |       | 60,097 |   | 70,127 |   |   | 328 | ** ** |   |
| **Total  equity**                            |       |       |       | ** **                      |       | 576,664 |   | 597,694 |   |   | 2,797 | ** ** |   |
| **Total  liabilities and equity**            |       |       |       | ** **                      |       | 1,029,558 |   | 1,082,948 |   |   | 5,070 | ** ** |   |

 

These consolidatedfinancial statements were authorized for issue by the Board of Directors on December 5,2006 and signed on their behalf by:

| Horst Hermann                          |   | Dr. Klaus Hartmann                                                |   | Thilo Kusch                            |
|----------------------------------------|--------|------------------------------------------------------------------------|--------|----------------------------------------|
| Deputy Chairman  of Board of Directors |   | Chief Financial Officer   until September 15, 2006,  Board member |   | Chief Financial Officer,  Board member |

 

The accompanying notes form an integral part of these consolidated financial statements.

F-3

----

**MAGYAR TELEKOMCONSOLIDATED INCOME STATEMENTS**

| ** **                                                                            | ** ** | ** ** | ** ** | **For the year ended December 31,**              | ** ** |
|---------------------------------------------------------------------------------------|------------|------------|------------|---------------------------------------------------------------------------|------------|
| ** **                                                                            | ** ** | ** ** | ** ** | ** **                                                                | ** ** | **HUF** | ** ** | ** ** | ** ** | **USD** | ** ** |
| ** **                                                                            | ** ** | **Notes**  | ** ** | **2003**                                                                  | ** ** | **2004** | ** ** | **2005** | ** ** | **2005** | ** ** |
| ** **                                                                            | ** ** | ** ** | ** ** | **(in HUF millions, except per share  amounts)** | ** ** | **(million USD)  (unaudited)** | ** ** |
| ** **                                                                            | ** ** | ** ** | ** ** | ** **                                                                | ** ** | ** ** | ** ** | ** ** | ** ** | **(note 2)** | ** ** |
| Fixed line  services                                                                  |       |       | 21         |                                                                      |       | 358,655 |   | 334,174 |   | 331,062 |   |   | 1,550 |   |   |
| Mobile services                                                                       |       |       | 22         |                                                                      |       | 248,597 |   | 267,264 |   | 289,635 |   |   | 1,356 |   |   |
| **Total  revenues**                                                                   |       |       |       |                                                                      |       | 607,252 |   | 601,438 |   | 620,697 |   |   | 2,906 |   |   |
| Employee related expenses                                                             |       |       | 23         |                                                                      |       | (87,920 | ) | (109,497 | ) | (92,783 | ) |   | (434 | ) |   |
| Depreciation and  amortization                                                        |       |       |       |                                                                      |       | (128,334 | ) | (137,666 | ) | (114,686 | ) |   | (537 | ) |   |
| Payments to other  network operators                                                  |       |       |       |                                                                      |       | (84,449 | ) | (87,580 | ) | (89,097 | ) |   | (417 | ) |   |
| Cost of  telecommunications equipment sales                                           |       |       |       |                                                                      |       | (40,811 | ) | (40,971 | ) | (37,221 | ) |   | (174 | ) |   |
| Other operating  expenses—net                                                    |       |       | 24         |                                                                      |       | (143,674 | ) | (140,460 | ) | (153,522 | ) |   | (720 | ) |   |
| **Total  operating expenses**                                                         |       |       |       |                                                                      |       | (485,188 | ) | (516,174 | ) | (487,309 | ) |   | (2,282 | ) |   |
| **Operating profit**                                                                  |       |       |       |                                                                      |       | 122,064 |   | 85,264 |   | 133,388 |   |   | 624 |   |   |
| Net financial expenses                                                                |       |       | 25         |                                                                      |       | (40,002 | ) | (36,146 | ) | (31,288 | ) |   | (146 | ) |   |
| Share of  associates’ profits/losses after tax                                   |       |       | 14         |                                                                      |       | 795 |   | 1,896 |   | 330 |   |   | 1 |   |   |
| **Profit before income tax**                                                          |       |       |       |                                                                      |       | 82,857 |   | 51,014 |   | 102,430 |   |   | 479 |   |   |
| Income tax                                                                            |       |       | 26         |                                                                      |       | (13,517 | ) | (7,687 | ) | (13,511 | ) |   | (63 | ) |   |
| **Profit for the year**                                                               |       |       |       |                                                                      |       | 69,340 |   | 43,327 |   | 88,919 |   |   | 416 |   |   |
| **Attributable  to:**                                                                 | ** ** |       |       |                                                                      | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |   |   |   |   |
| Equity holders of  the Company (Net income)                                           |       |       |       |                                                                      |       | 57,475 |   | 34,641 |   | 78,564 |   |   | 368 |   |   |
| Minority  interests                                                                   |       |       |       |                                                                      |       | 11,865 |   | 8,686 |   | 10,355 |   |   | 48 |   |   |
|                                                                                  |       |       |       |                                                                      |       | 69,340 |   | 43,327 |   | 88,919 |   |   | 416 |   |   |
| **Earnings per share (EPS) information:**                                             |       |       |       |                                                                      |       |   |   |   |   |   |   |   |   |   |   |
| Profit attributable to the equity holders of the  Company                             |       |       |       |                                                                      |       | 57,475 |   | 34,641 |   | 78,564 |   |   | 368 |   |   |
| Weighted average number of common stock outstanding  (thousands) used for basic EPS   |       |       |       |                                                                      |       | 1,037,912 |   | 1,037,912 |   | 1,038,803 |   |   |   |   |   |
| Average number of  dilutive share options (thousands)                                 |       |       |       |                                                                      |       | 122 |   | 318 |   | 417 |   |   |   |   |   |
| Weighted average  number of common stock outstanding (thousands) used for diluted EPS |       |       |       |                                                                      |       | 1,038,034 |   | 1,038,230 |   | 1,039,220 |   |   |   |   |   |
| Basic earnings per share (HUF and USD)                                                |       |       |       |                                                                      |       | 55.38 |   | 33.38 |   | 75.63 |   |   | 0.35 |   |   |
| Diluted earnings per  share (HUF and USD)                                             |       |       |       |                                                                      |       | 55.37 |   | 33.37 |   | 75.60 |   |   | 0.35 |   |   |

 

The accompanying notes form an integral part of these consolidated financial statements.

F-4

----

**MAGYAR TELEKOMCONSOLIDATED CASHFLOW STATEMENTS**

| ** **                                                            | ** ** | ** ** | ** ** | **For the year ended December 31,** | ** ** |
|-----------------------------------------------------------------------|------------|------------|------------|--------------------------------------------------------------|------------|
| ** **                                                            | ** ** | ** ** | ** ** | **HUF**                                                      | ** ** | **USD** | ** ** |
| ** **                                                            | ** ** | **Notes**  | ** ** | **2003**                                                     | ** ** | **2004** | ** ** | **2005** | ** ** | **2005** | ** ** |
| ** **                                                            | ** ** | ** ** | ** ** | **(in HUF millions)**                              | ** ** | **(million USD)** | ** ** |
| ** **                                                            | ** ** | ** ** | ** ** | ** **                                                   | ** ** | ** ** | ** ** | ** ** | ** ** | **(unaudited)** | ** ** |
| ** **                                                            | ** ** | ** ** | ** ** | ** **                                                   | ** ** | ** ** | ** ** | ** ** | ** ** | **(note 2)** | ** ** |
| **Cashflows  from operating activities**                              | ** ** |       | ** ** | ** **                                                   |       | ** ** |   |   |   |   |   |   |   |   |   |
| Cash generated from operations                                        |       |       | 27         | ** **                                                   |       | 240,497 |   | 234,681 |   | 236,937 |   |   | 1,110 |   |   |
| Interest paid                                                         | ** ** |       | ** ** | ** **                                                   |       | (30,063 | ) | (34,030 | ) | (31,078 | ) |   | (146 | ) |   |
| Income tax paid                                                       | ** ** |       | ** ** | ** **                                                   |       | (12,318 | ) | (10,900 | ) | (4,523 | ) |   | (21 | ) |   |
| **Net  cashflows from operating activities**                          | ** ** |       | ** ** | ** **                                                   |       | 198,116 |   | 189,751 |   | 201,336 |   |   | 943 |   |   |
| **Cashflows from investing activities**                               | ** ** |       | ** ** | ** **                                                   |       |   |   |   |   |   |   |   |   |   |   |
| Purchase of tangible and intangible assets                            |       |       | 13         | ** **                                                   |       | (90,788 | ) | (91,748 | ) | (103,587 | ) |   | (485 | ) |   |
| Purchase of subsidiaries and business units                           |       |       | 5          | ** **                                                   |       | (7,992 | ) | (17,273 | ) | (35,927 | ) |   | (168 | ) |   |
| Cash acquired through business combinations                           |       |       | 5          | ** **                                                   |       | 61 |   | 16 |   | 1,866 |   |   | 9 |   |   |
| Interest received                                                     | ** ** |       | ** ** | ** **                                                   |       | 908 |   | 1,452 |   | 2,195 |   |   | 10 |   |   |
| Dividend received                                                     | ** ** |       | ** ** | ** **                                                   |       | 575 |   | 2,633 |   | 1,729 |   |   | 8 |   |   |
| Proceeds from / (payments for) other financial  assets—net       | ** ** |       | ** ** | ** **                                                   |       | 266 |   | 43 |   | (371 | ) |   | (2 | ) |   |
| Proceeds from disposal of non current assets                          | ** ** |       | ** ** | ** **                                                   |       | 2,269 |   | 4,090 |   | 2,529 |   |   | 12 |   |   |
| **Net  cashflows from investing activities**                          | ** ** |       | ** ** | ** **                                                   |       | (94,701 | ) | (100,787 | ) | (131,566 | ) |   | (616 | ) |   |
| **Cashflows from financing activities**                               | ** ** |       | ** ** | ** **                                                   |       |   |   |   |   |   |   |   |   |   |   |
| Dividends paid to shareholders and minority interest                  | ** ** |       | ** ** | ** **                                                   |       | (23,507 | ) | (78,294 | ) | (84,551 | ) |   | (396 | ) |   |
| Proceeds from loans and other borrowings                              | ** ** |       | ** ** | ** **                                                   |       | 192,057 |   | 338,680 |   | 263,329 |   |   | 1,233 |   |   |
| Repayment of loans and other borrowings                               | ** ** |       | ** ** | ** **                                                   |       | (260,583 | ) | (332,481 | ) | (242,595 | ) |   | (1,136 | ) |   |
| Purchase of treasury stock                                            | ** ** |       | ** ** | ** **                                                   |       | (3,842 | ) | — |   | — |   |   | — |   |   |
| Proceeds from sale of treasury stock                                  | ** ** |       | ** ** | ** **                                                   |       | 3,842 |   | — |   | 1,969 |   |   | 9 |   |   |
| Other                                                                 | ** ** |       | ** ** | ** **                                                   |       | (2 | ) | — |   | — |   |   | — |   |   |
| **Net  cashflows from financing activities**                          | ** ** |       | ** ** | ** **                                                   |       | (92,035 | ) | (72,095 | ) | (61,848 | ) |   | (290 | ) |   |
| Effect of foreign exchange rate changes on cash and  cash equivalents |       |       |       | ** **                                                   |       | 1,901 |   | (2,122 | ) | 1,259 |   |   | 6 |   |   |
| **Change in cash and cash equivalents**                               | ** ** |       | ** ** | ** **                                                   |       | **13,281** | ** ** | **14,747** | ** ** | **9,181** | ** ** | ** ** | **43** |   |   |
| Cash and cash equivalents, beginning of year                          | ** ** |       | ** ** | ** **                                                   |       | 8,851 |   | 22,132 |   | 36,879 |   |   | 173 |   |   |
| Cash and cash  equivalents, end of year                               |       |       | 6          | ** **                                                   |       | 22,132 |   | 36,879 |   | 46,060 |   |   | 216 |   |   |

 

The accompanying notes form an integral part of these consolidated financial statements.

F-5

----

**MAGYAR TELEKOMCONSOLIDATED STATEMENTS OF CHANGES IN EQUITY**

| ** **                                                                | ** ** | **Attributable to the equity holders of the Company** | ** **    | **Minority  interest** | ** ** | **Total  equity**                     | ** ** |
|---------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------------|---------------|------------------------|------------|---------------------------------------|------------|
| ** **                                                                | ** ** | **Shares of  common stock  (a)**                                               | ** **    | **Common  stock**      | ** ** | **Additional  paid in  capital** | ** ** | **Treasury  stock** | ** ** | **Cumulative  translation  adjustment** | ** ** | **Retained  earnings  (i)** | ** ** | ** ** | ** ** | ** ** | ** ** |
| **Balance at December 31,  2002**                                    |       |                                                                                     | 1,042,811,600 |                   |       |                                  | 104,281    |   |   |   | 27,382 |   |   |   | (4,488 | ) |   |   | (4,348 | ) |   |   | 393,317 |   |   |   | 59,436 |   |   | 575,580 |   |
| Dividend(g)                                                               |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   | (18,682 | ) |   |   |   |   |   | (18,682 | ) |
| Dividend declared  to minority interest(h)                                |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   | (4,796 | ) |   | (4,796 | ) |
| Business  combinations(b)                                                 |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   | (2,424 | ) |   | (2,424 | ) |
| Sale of treasury  stock(c)                                                |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   | 4,488 |   |   |   |   |   |   |   | (646 | ) |   |   |   |   |   | 3,842 |   |
| Purchase of  treasury stock(c)                                            |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   | (3,842 | ) |   |   |   |   |   |   |   |   |   |   |   |   |   | (3,842 | ) |
| Cumulative  Translation Adjustment                                        |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   | 5,173 |   |   |   |   |   |   |   | 6,193 |   |   | 11,366 |   |
| Profit for the  year                                                      |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   | 57,475 |   |   |   | 11,865 |   |   | 69,340 |   |
| **Balance  at December 31, 2003**                                    |       |                                                                                     | 1,042,811,600 |                   |       |                                  | 104,281    |   |   |   | 27,382 |   |   |   | (3,842 | ) |   |   | 825 |   |   |   | 431,464 |   |   |   | 70,274 |   |   | 630,384 |   |
| Dividend(g)                                                               |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   | (72,654 | ) |   |   |   |   |   | (72,654 | ) |
| Dividend declared  to minority interest(h)                                |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   | (5,651 | ) |   | (5,651 | ) |
| Business  combinations(b)                                                 |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   | (9,109 | ) |   | (9,109 | ) |
| Purchase of  investment in T-Systems Hungary(d)                           |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   | (1,679 | ) |   |   |   |   |   | (1,679 | ) |
| Cumulative  Translation Adjustment                                        |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   | (3,851 | ) |   |   |   |   |   |   | (4,103 | ) |   | (7,954 | ) |
| Profit for the  year                                                      |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   | 34,641 |   |   |   | 8,686 |   |   | 43,327 |   |
| **Balance  at December 31, 2004 as reported**                        |       |                                                                                     | 1,042,811,600 |                   |       |                                  | 104,281    |   |   |   | 27,382 |   |   |   | (3,842 | ) |   |   | (3,026 | ) |   |   | 391,772 |   |   |   | 60,097 |   |   | 576,664 |   |
| Effect of adoption  of changes in IAS 39—net of tax (note 2(e)) |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   | (733 | ) |   |   |   |   |   | (733 | ) |
| **Balance  at December 31, 2004 as restated**                        |       |                                                                                     | 1,042,811,600 |                   |       |                                  | 104,281    |   |   |   | 27,382 |   |   |   | (3,842 | ) |   |   | (3,026 | ) |   |   | 391,039 |   |   |   | 60,097 |   |   | 575,931 |   |
| Dividend(g)                                                               |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   | (72,654 | ) |   |   |   |   |   | (72,654 | ) |
| Dividend declared  to minority interest(h)                                |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   | (11,913 | ) |   | (11,913 | ) |
| Business  combinations(b)                                                 |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   | 9,447 |   |   | 9,447 |   |
| Sale of Telit to  DeTe Immobilien(d)                                      |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   | 495 |   |   |   |   |   |   | 495 |   |
| TSI’s capital  injection in TSH(d)                                   |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   | 669 |   |   |   |   |   |   | 669 |   |
| Sale of treasury  stock(e)                                                |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   | 1,916 |   |   |   |   |   |   |   | 53 |   |   |   |   |   |   | 1,969 |   |
| Effect of fair  value of share based payments(f)                          |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   | 84 |   |   |   |   |   |   | 84 |   |
| Cumulative  Translation Adjustment                                        |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   | 2,606 |   |   |   |   |   |   |   | 2,141 |   |   | 4,747 |   |
| Profit for the  year                                                      |       |                                                                                     |          |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   | 78,564 |   |   |   | 10,355 |   |   | 88,919 |   |
| **Balance  at December 31, 2005**                                    |       |                                                                                     | 1,042,811,600 |                   |       |                                  | 104,281    |   |   |   | 27,382 |   |   |   | (1,926 | ) |   |   | (420 | ) |   |   | 398,250 |   |   |   | 70,127 |   |   | 597,694 |   |
| Of which treasury  stock                                                  |       |                                                                                     | (2,456,659    | )                      |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| **Shares of common stock outstanding at December 31,  2005**         |       |                                                                                     | 1,040,354,941 |                   |       |                                  |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |

 

The accompanying notes form an integral part of these consolidated financial statements.

F-6

----

**MAGYAR TELEKOMCONSOLIDATED STATEMENTS OF CHANGES IN EQUITY (notes)**

(a)           In addition to the1,042,811,600 issued shares of common stock (nominal value of HUF 100), totalshareholders’ equity includes one Series “B” preference share at thenominal value of HUF 10,000 at December 31, 2005. This Series “B”share is held by the Ministry of Informatics and Communications, and bestowscertain rights on its owner, including access to information, and theappointment of a Director. This share may only be held by the Government or itsnominee. The number of authorized shares on December 31, 2005 is1,054,911,600.

(b)          Business combinationsinclude the change in minority interests due to acquisitions. In case of newacquisitions where Magyar Telekom acquires a less than 100 percent stake,minority interests increase. Minority interests decrease where Magyar Telekomacquires further share of ownership in subsidiaries already consolidated.

(c)           Due to statutoryrequirements the Company sold and repurchased its 4,900,000 shares of commonstock in 2003 for HUF 3,842 million, which resulted in a loss of HUF 646million recognized in retained earnings.

(d)          Related partytransactions

In 2004 Magyar Telekom acquired a 49% share ofownership in T-Systems Hungary (TSH), since which time TSH is an associate ofMagyar Telekom Group. As both Magyar Telekom and TSH belong to the DeutscheTelekom group, the ultimate parent of Magyar Telekom, the transaction isconsidered as being between entities under common control. As a result, thedifference between the carrying value of this investment in T-SystemsInternational’s books (HUF 1,751 million) and the purchase price (HUF 3,430million) was accounted for directly against the retained earnings of the Group.

In 2005 Magyar Telekom sold its investment in TelitRt., the real estate outsourcing company of Magyar Telekom to DeTe Immobilien,a Deutsche Telekom group member. As the transaction took place between entitiesunder common control, the gain on the sale of the investment was recognizeddirectly in retained earnings.

In 2005 T-Systems International (TSI) forgave a loangiven to T-Systems Hungary (TSH) in an amount of HUF 1,366 million of which HUF669 appears as an increase in Magyar Telekom’s share of TSH’s net assets onequity consolidation as TSH is an associated company of the Group. As all threeparties are part of the Deutsche Telekom group and the transaction took placebetween entities under common control, the increase in Magyar Telekom’sinvestment in TSH was recognized directly in retained earnings.

(e)           In 2005 Magyar Telekom’sCEO and other managers exercised some of their share options, and the Companyused its treasury shares reserved for the option programs. As a result of thesetransactions, the Company sold 2,443,341 of its treasury shares to the CEO andother managers at the fixed option prices. On the sale of the treasury sharesthe Company recognized a gain of HUF 53 million, which was recognized inretained earnings. For more details on the programs see note 28.

(f)             In 2005 MagyarTelekom adopted IFRS 2—Share-based payment, which requires the Company torecognize the cost of the equity-settled share-based payments against retainedearnings. In 2005 the Company accounted for HUF 84 million of such expenses.For more details see note 28.

The accompanying notes form an integral part of these consolidated financial statements.

F-7

----

(g)           In 2005 Magyar TelekomPlc. declared and paid HUF 70 dividend per share (HUF 70 in 2004, HUF 18in 2003).

(h)          The dividend declared tominority interest almost entirely reflects the dividend declared by Maktel,Magyar Telekom’s Macedonian subsidiary to its minority shareholders.

(i)             The distributablereserves of the Company under Hungarian law at December 31, 2005 amountedto approximately HUF 282,000 million (HUF 283,000 million at December 31,2004).

The accompanying notes form an integral part of these consolidated financial statements.

F-8

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS**

**1**                    GeneralInformation

Magyar Telekom Plc., (the “Company” or “Magyar TelekomPlc.”) with its subsidiaries form Magyar Telekom Group (“Magyar Telekom” or “theGroup”). Magyar Telekom is the principal supplier of telecommunicationsservices in Hungary, Macedonia and Montenegro. Magyar Telekom is a full-servicetelecommunications provider.

The Company was incorporated in Hungary on December 31,1991 and commenced business on January 1, 1992. The Company’s registeredaddress is Krisztina körút 55, 1013 Budapest, Hungary.

Magyar Telekom Plc. islisted on the Budapest and New York stock exchanges, its shares are traded onthe Budapest Stock Exchange, while Magyar Telekom’s American Depository Shares(ADSs) each representing five ordinary shares are traded on the New York StockExchange.

*Investigation intocertain consultancy contracts*

On February 13, 2006, the Company announced thatit was investigating certain contracts to determine whether they were enteredinto in violation of Company policy or applicable law or regulation. Theinvestigation, which is being conducted by an independent law firm andsupervised by the Audit Committee, is still ongoing. Concerns regarding twoconsultancy contracts entered into by one of the Company’s subsidiaries wereinitially raised by the Company’s auditors. As a result of the investigation,two additional consultancy contracts, which were entered into by the Company,have been called into question. The total amount of the four contracts underinvestigation is around HUF 2 billion. The investigators have concluded thatcertain employees impeded the investigation by destroying relevant electronicdocuments. As a consequence of the investigation, the Company has suspended anumber of employees who have since resigned.

Although the investigation has not been finalized, todate the independent investigators have been unable to establish that theCompany or its subsidiaries received benefits from these contracts of a valuecommensurate with the amounts paid on the contracts. Moreover, these contractswere entered into without full compliance with internal company proceduresregarding the entry of such contracts. In its 2005 preliminary resultsannouncement, the Company had capitalized the HUF 1.12 billion payment maderelated to two of these contracts. As a result of the findings of theinvestigation, the Company has expensed the total amount of the HUF 2 billionpaid under these four contracts, and discloses these expenses under the caption“Other operating expenses—net.”  See Note24. This has resulted in a commensurate effect on, among other items, taxes,minority interest and net income when compared to the corresponding items inthe Company’s 2005 preliminary results announcement.

The Company has already implemented certain remedialmeasures designed to enhance its control procedures with respect to the entryinto consultancy contracts, including the introduction of a new governancemodel, replacement of the Board of Directors at Crnogorski Telekom andtermination of work contracts with employees initiating data deletionsinterfering with the investigation.

The Company’s Board of Directors also approved on November 8,2006 a more extensive program of remedial actions, which it expects toimplement in the near future. These decisions include structural and proceduralchanges in relation to mergers and acquisitions and procurement, as well as anew internal control regime. The Company’s Board of Directors also decided on December 5,2006 on certain additional enhancements of internal controls and theimplementation thereof.

F-9

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

As a result of the delays in finalizing its 2005financial statements as a result of the investigation, the Company and some ofits subsidiaries have failed and may fail to meet certain deadlines prescribedby the Hungarian and other applicable laws and regulations for preparing andfiling audited annual results and holding annual general meetings. The Companyhas already been fined HUF 12 million as a consequence of such delays. TheCompany has notified the Hungarian Financial Supervisory Authority, the U.S.Securities and Exchange Commission and the U.S. Department of Justice of theinvestigation and is in contact with these authorities regarding theinvestigation and has responded to a number of inquiries these authorities haveraised.

Magyar Telekom is Hungary’s, Macedonia’s andMontenegro’s largest telecommunications service provider. In addition, MagyarTelekom provides leased lines, data transmission, corporate networks, cabletelevision, internet services and sells and leases telecommunications equipmentin Hungary, Macedonia and Montenegro.

On February 22, 2005, the General Meetingapproved the renaming of Magyar Távközlési Rt. (Matáv) to Magyar Telekom Plc.and rebranding its products, which was completed by December 2005. Asagreed, Deutsche Telekom, the controlling shareholder of the Group, supportedthe renaming and the product rebranding. The impact of renaming and productrebranding on the consolidated financial statements as of December 31,2005 included HUF 7,281 million of expenditures accounted for in the operatingexpenses and a compensation by Deutsche Telekom of HUF 7,281 million disclosedseparately in note 24.

On December 20, 2005 Magyar Telekom’sExtraordinary General Meeting approved the merger of Magyar Telekom Rt. andT-Mobile Magyarország Rt. (T-Mobile Hungary), a 100% subsidiary of MagyarTelekom Rt. As the merger occur between the parent company and its 100% ownedsubsidiary, the transaction will not have any impact on the consolidatedfinancial position of the Group or its operating segments. The merger wasregistered by the Hungarian Court of Registration on February 28, 2006,from which date the two companies continue as one legal entity, Magyar TelekomPlc.

The regulatory environmentunder which the Group operates is summarized as follows:

*Hungarian Fixedline*

Magyar Telekom Plc. is the market leading fixed linetelecom service provider in Hungary. Act C of 2003 on ElectronicCommunications, the latest act on the telecommunications sector, came intoeffect on January 1, 2004. The National Communications Authority (NCA) isthe supreme supervisory body. Magyar Telekom Plc. and its subsidiary, Emitelare designated as universal service providers in their former concession areas.

According to the Act on Electronic Communications,universal services are basic communications services that should be availableto all customers at an affordable price. Universal service providers areentitled to compensation for their net avoidable costs, except for the costsincurred from discount pricing plans offered to residential subscribers.

The NCA assigned 18 relevant markets in the area ofelectronic communications in 2004. In 2004 and 2005 Magyar Telekom wasdesignated as an SMP (an operator with significant market power) in 12 markets.These included all retail and wholesale voice markets, the market of wholesaleleased line and termination, the market of minimum set of leased lines and thewholesale broadband market.

Currently in Hungary, beside the universal services,the retail voice tariff regulation is only concerned with the access market forboth business and residential customers. This regulation is based on the price-

F-10

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

cap method. There is aprice-cap for universal service packages and the SMP designation on residentialand business access markets has introduced a new price cap for all subscriptionfees.

Magyar Telekom Plc.’s regulated access pricescurrently include an access deficit, which should be eliminated according tothe Pricing Act and the relating ministerial decrees.

According to the Act on Electronic Communications,designated SMP operators like Magyar Telekom are obliged to prepare referenceoffers for unbundled local loops (RUO) and bit-stream access and to providethese services when there is a request for them by other telecommunicationsservice providers. The reference offer of each SMP must be approved by the NCA.The price of these services has to be cost based and calculated using FullyDistributed Costs based on a 2003 Ministerial Decree.

The SMPs may refuse the offer for unbundling if thereare technical barriers and providing access to the local loop or bit-streamaccess would endanger the unity of the SMPs’ network. SMPs are also obliged toprepare reference offers for interconnection (RIO) and to provide theseservices in accordance with the reference offer when there is a request forthem by other telecommunications service providers. The reference offers of theSMPs must be approved by the NCA, and prices have to be based on Long Run IncrementalCosts (LRIC).

According to the Act on Electronic Communications,voice telephony customers have the right to select different service providersfor each call directions including Internet calls by dialing a pre-selectednumber or by using a call-by-call pre-fixed number. The requirements forcarrier selection are set out in the interconnection agreements between theaffected service providers.

Fixed linetelecommunications service providers are obliged under the law to providenumber portability on their networks starting January 1, 2004. This meansthat service providers must enable subscribers to change service providerwithout changing their telephone numbers within the same numbering area.

*Macedonian Fixedline*

The Group is also present in the Macedonian fixed linetelecommunications market through its subsidiary, MakTel. MakTel is the largestfixed line service provider in Macedonia. The Macedonian telecommunicationssector is regulated by the newly implemented Electronic Communications Law (ECL)enacted in March 2005. MakTel has a concession contract (under the oldTelecommunications Act) to provide services until December 31, 2018.Further, MakTel had been granted the exclusive rights in (a) fixed voicetelephony services, leased line services and (b) to construct, lease, own,develop, maintain and operate fixed public telecommunications networks until December 31,2004. These exclusive rights included local, national and international longdistance public fixed voice services independently of the technology used,including voice over Internet Protocol services.

During the exclusivity period MakTel was obliged toprovide universal services. It is expected that the Agency for ElectronicCommunications (Agency) will initiate a public tender proceeding for thepurpose of electing one or more universal service providers (USP) in the firsthalf of 2007, after enacting the relevant by-laws.

The regulatory framework for the tariff regulation forMakTel is provided in the currently valid Concession Contract. With theenactment of the ECL, the Agency may regulate retail prices of fixed telephonyservices. Regulated wholesale services are cost based using fully distributedcosts (FDC). Long run incremental costs (LRIC) methodology is to be implementedfrom March 2007.

F-11

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

The concession contracts will be made compliant withthe provisions of the ECL. Under the ECL, MakTel has been designated as an SMPin the market for fixed line voice telephone networks and services, includingthe market for access to the networks for data transmission and leased lines.

MakTel has neither theobligation nor the technical possibility to provide bit-stream unbundling. MakTel as an SMP operator has the obligationtoenableits subscriberstoaccesspubliclyavailabletelephoneservicesofany interconnectedoperatorwith officially signed interconnection contract. Thenumberportabilityis scheduled to be fully implemented not later thantwoyearsaftertheenactmentof the ECL, i.e. by March 5, 2007.

*Montenegrin Fixedline*

The Group’s Montenegrin subsidiary, Crnogorski Telekom(CGT) is the holder of the only license issued for fixed linetelecommunications services in Montenegro although the period of exclusivityprovided by Telecommunications Law published in 2000 (the “2000 Law”) expiredat the end of 2003. The license allows CGT to provide domestic andinternational voice and data services as well as VOIP, leased line, publicpayphone, value added, etc. services.

The telecommunications sector in Montenegro isregulated by the 2000 Law. The 2000 Law established the TelecommunicationsAgency with broad authority and instituted a licensing regime whereby alltelecommunications activity must be licensed by the Telecommunications Agency.Although a new Competition Law has come into force in 2006, a competitionagency has not yet been instituted. To date, there is no consumer protectionlaw or agency in Montenegro.

Prices of CGT must be approved by theTelecommunications Agency. CGT’s tariff structure is currently highlyunbalanced, monthly access fees and local calls are inexpensive, whereaslong-distance and international calls are very expensive, and businesses arecharged approximately twice as much as individuals. During the privatizationprocess, a schedule for the cost-based re-alignment of prices for access linesand traffic, rebalancing tied to the timing of market liberalization was agreedwith the Montenegrin government.

Although the 2000 Law defines universal service, nolegislation covering universal service has been enacted to date.

CGT has an obligation to enter into interconnectagreements in a transparent and non-discriminatory way with operatorsrequesting access to CGT’s network. The 2000 Law requires CGT to publish areference interconnection offer (“RIO”) however CGT has the freedom to agreewith operators on terms different from those set in the RIO.

There is no obligation for number portability, localloop unbundling, bit stream access or accounting separation in Montenegro.

The State Union of Serbiaand Montenegro had been negotiating a Stabilization and Association Agreementwith the EU. It was expected that the agreement would be very similar to theagreements signed with Croatia and Macedonia requiring the harmonization of thetelecommunications regulations with the regulatory framework of the EU. In thecase of Montenegro the expected amendment of the 2000 Law will achieve most ofthat goal. As Montenegro has become an independent state in 2006, the countrywill have to restart negotiations about a Stabilization and AssociationAgreement of its own, however, this will expectedly have no impact on thetelecommunications section of the document.

F-12

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

*Hungarian Mobile*

The Group is the market leader in the Hungarian mobilemarket through its Mobile operations, T-Mobile Hungary. (T-Mobile H).

The initial duration of the concession regarding theGSM 900 public mobile radio telephone service is a period of 15 yearscalculated from the execution of the concession agreement (November 4,1993 to November 4, 2008). On October 7, 1999 an amended concessioncontract was signed between the Ministry of Transport, Communications and WaterManagement and T-Mobile H extending T-Mobile H’s rights and obligations to alsoprovide service in the 1800 MHz band in Hungary. The DCS 1800 public mobile radiotelephone service shall be 15 years from the execution of the new concessionagreement (October 7, 1999 to October 7, 2014).

The Minister is entitled to extend the concessionperiod for both the GSM 900 and the DCS 1800 public mobile radio telephone servicesupon their expiration, which with regard to the GSM 900 public mobile radiotelephone service is on November 4, 2008, and with regard to the DCS 1800public mobile radio telephone service is on October 7, 2014. The extensioncan be for another 7.5 years without the issuance of a tender invitation.

In November 2002, the NCA designated T-Mobile Has having significant market power in the interconnections market.

On December 7, 2004 the NCA awarded T-Mobile Hthe exclusive right of use of certain frequency blocks for the deployment andoperation of an IMT2000/UMTS mobile telecommunications system (3G system). Theduration of the frequency usage right is 15 years (until 2019) with an optionto extend it for another 7.5 years.

T-Mobile H is obliged by the term of the licensedecree to start commercial 3G service within 12 months after the acquisition ofthe license within the inner city of Budapest. It is also obliged to reach apopulation-wide coverage of 30% within 36 months of license acquisition. As of August 26,2005 T-Mobile H had started to provide 3G service in compliance withthe license conditions.

T-Mobile Hungary issubject to number portability regulation since May 2004.

*Macedonian Mobile*

T-Mobile Macedonia (T-Mobile MK), Magyar Telekom’ssubsidiary, is the leading mobile service provider in Macedonia, which has aconcession contract (under the old Telecommunications Act) to provide mobiletelecommunications services until December 31, 2018, which can be renewedfor an additional 20 years without a tender. According to the concessionagreement, T-Mobile MK has the authorization to provide public cellular mobiletelephony services and to construct, lease, own, develop, maintain and operatemobile public telecommunications networks throughout the entire territory ofthe Republic of Macedonia and between locations within Macedonia and placesoutside of Macedonia. T-Mobile MK is also registered to provide a publicnetwork for data transmission and radio transmission, with the correspondingdata transmission and radio communications services, according to the ECL.

Prices of mobile services may be freely set byoperators and providers. However, as a measure against a dominant position, theECL provides the possibility to the Agency to impose regulated retail tariffson the mobile market.

F-13

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

If the Agency determines that any of the existingmobile operators has significant market power, it will request theinterconnection prices to be transparent and cost-oriented.

Carrier selection may be imposed on T-Mobile MK afterthe SMP announcement. Number portability is also applicable to the Mobilesegment.

Under the ConcessionAgreement, T-Mobile MK has the exclusive license to use bandwidth 3 in the GSM900 band and is entitled to operate all radio stations it reasonably requiresto provide mobile public telephony services. T-MobileMK’s use of these frequencies is subject to terms and conditions set forth inthe Concession Agreement.

*Montenegrin Mobile*

T-Mobile Crna Gora (T-Mobile CG), Magyar Telekom’ssubsidiary, is the holder of one of the two GSM licenses issued in Montenegro.T-Mobile CG was launched on July 1, 2000. It arrived as the second mobiletelecommunications operator in Montenegro—four years after the first one.

The telecommunications sector in Montenegro isregulated by the Telecommunications Law, however, it has no specificprescriptions for mobile operators.

T-Mobile CG has to inform the TelecommunicationsAgency about planned changes in its tariffs, however, the Agency has no rightto interfere with the pricing policy of the company.

No obligation for number portability is in force.

A tender for 3G mobilefrequencies is currently being contemplated by the Montenegrintelecommunications regulator. The government plans to issue three 3G licenses,two to the incumbent mobile operators and one to a new entrant. In our view thesize of the Montenegrin market would not justify the entry of a third operatorto the already saturated mobile telecommunications market. We do not expect,however, that the tender would be issued before 2007.

**2**                    Accountingpolicies

***(a) Basis of presentation***

The consolidated financial statements have beenprepared under the historical cost convention, except as disclosed in theaccounting policies below, and in accordance with International FinancialReporting Standards (“IFRS”) as adopted by the European Union. In MagyarTelekom’s case these are identical to the IFRS as issued by the IASB andeffective for 2005.

According to Hungarian regulation, the Annual GeneralMeeting has the power to approve the consolidated financial statements of theGroup.

The consolidated financial statements are shown inmillions of Hungarian Forints (“HUF”). For the convenience of the reader, theconsolidated balance sheet, income statement and cashflow statement for theyear 2005 are also presented in millions of U.S. dollars (“USD”) translated ata rate of HUF 213.58 to USD 1 (the official rate of the National Bank ofHungary at December 31, 2005). These translations are supplementaryinformation and are unaudited.

The preparation of financial statements in conformitywith IFRS requires management to make estimates and assumptions that affect theamounts reported in the financial statements and notes thereto. Actual resultscould differ from those estimates.

F-14

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

In 2005, the Groupadopted the IFRSs below, which are relevant to its operations.

·       IAS1 (revised 2003) Presentation of Financial Statements

·       IAS2 (revised 2003) Inventories

·       IAS8 (revised 2003) Accounting Policies, Changes in Accounting Estimates andErrors

·       IAS10 (revised 2003) Events after the Balance Sheet Date

·       IAS16 (revised 2003) Property, Plant and Equipment

·       IAS17 (revised 2003) Leases

·       IAS21 (revised 2003) The Effects of Changes in Foreign Exchange Rates

·       IAS24 (revised 2003) Related Party Disclosures

·       IAS27 (revised 2003) Consolidated and Separate Financial Statements

·       IAS28 (revised 2003) Investments in Associates

·       IAS32 (revised 2003) Financial Instruments: Disclosure and Presentation

·       IAS33 (revised 2003) Earnings per Share

·       IAS39 (revised 2003) Financial Instruments: Recognition and Measurement

·       IFRS2 (issued 2004) Share-based Payments

·       IFRS3 (issued 2004) Business Combinations

·       IAS36 (revised 2004) Impairment of Assets

·       IAS38 (revised 2004) Intangible Assets

The adoption of IAS1, 2, 8, 10, 16, 17, 21, 24, 27, 28, 32 and 33 (all revised 2003) did notresult in substantial changes to the Group’s accounting policies. In summary:

·       IAS1 (revised 2003) has affected the presentation of minority interest and otherdisclosures.

·       IAS2, 8, 10, 16, 17, 27, 28, 32 and 33 had no material effect on the Group’spolicies.

·       IAS21 (revised 2003) had no material effect on the Group’s policy. The functionalcurrency of each of the consolidated entities has been re-evaluated based onthe guidance of the revised standard. All the Group entities have the samefunctional currency as their measurement currency.

·       IAS24 (revised 2003) has affected the identification of related parties and someother related-party disclosures.

The adoption of IAS 39 (revised 2004) has resulted ina change in the accounting policy relating to the classification of financialassets at fair value through profit or loss. Further, the change in accountingpolicy resulted in the de-recognition of certain embedded derivatives (note2(e)), which was implemented as required by IAS 8—Accounting Policies.

The adoption of IFRS 2 has resulted in a change in theaccounting policy for share-based payments. Until December 31, 2004, theprovision of share options to employees did not result in a charge in the 

F-15

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

income statement.Subsequent to that date, the Group charges the cost of share options to theincome statement (note 23).

The adoption ofIFRS 3, IAS 36 (revised 2004) and IAS 38 (revised 2004) resulted in a change inthe accounting policy for goodwill. Until December 31, 2004, goodwill wasamortized on a straight line basis over a period ranging from 10 to 20 years,and assessed for an indication of impairment at each balance sheet date. Inaccordance with the provisions of IFRS 3:

·       TheGroup ceased amortization of goodwill from January 1, 2005

·       Accumulatedamortization as at January 1, 2005 has been eliminated with acorresponding decrease in the cost of goodwill

·       Fromthe year ended December 31, 2004 onwards, goodwill is tested annually forimpairment, as well as when there are indications of impairment.

The Group has reassessed the useful lives of itsintangible assets in accordance with the provisions of IAS 38. No adjustmentresulted from this reassessment.

All changes in theaccounting policies have been made in accordance with the transitionalprovisions in the respective standards. All standards adopted by the Grouprequire retrospective application other than:

·       IAS16—the exchange of property, plant and equipment is accounted at fair valueprospectively

·       IAS21—prospective accounting for goodwill and fair value adjustments as part offoreign operations

·       IAS39—does not require the classification of financial assets as at ‘fair valuethrough profit or loss’ of previously recognized financial assets

·       IFRS2—retrospective application for all equity instruments granted after November 7,2002 and not vested at January 1, 2005

·       IFRS3—prospectively after March 31, 2004

·       IAS39 requires simultaneous adoption with IAS 32

·       IFRS3 requires simultaneous adoption with IAS 36 and IAS 38

Theadoption of IFRS 2 would have resulted in the following changes to thepreviously reported years and resulted in the following impact during 2005.

| ** **                                                    | ** ** | **For the year ended   December 31,** | ** ** |
|---------------------------------------------------------------|------------|----------------------------------------------------------------|------------|
| ** **                                                    | ** ** | **2003**                                                       | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                                                    | ** ** | **(in HUF millions)**                                | ** ** |
| Increase in  Employee related expenses (share based payments) |       |                                                           | 30         |   |   |   | 82 |   |   |   | 84 |   |   |
| Increase to Retained  earnings                                |       |                                                           | 30         |   |   |   | 82 |   |   |   | 84 |   |   |

 

F-16

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

***(b) Consolidation***

(1)   Subsidiaries

Subsidiaries (including Special Purpose Entities) inwhich the Group has an interest of more than one half of the voting rights orotherwise has power to govern the financial and operating policies, areconsolidated.

The existence and effect of potential voting rightsthat are presently exercisable or presently convertible are also consideredwhen assessing whether the Group controls another entity.

Subsidiaries are consolidated from the date on whichcontrol is transferred to the Group and are no longer consolidated from thedate control ceases. The purchase method of accounting is used to account forthe acquisition of subsidiaries. The cost of an acquisition is measured as thefair value of the assets given up, shares issued or liabilities undertaken atthe date of acquisition plus costs directly attributable to the acquisition.The excess of the cost of acquisition over the fair value of the net assets andcontingent liabilities of the subsidiary acquired is recorded as goodwill.

In case of business combinations where the transactiontakes place between companies under common control, the transaction is recordedat cost and any gains or losses on the transaction are directly recognized inretained earnings.

Inter-company transactions, balances and unrealizedgains on transactions between the Magyar Telekom group companies are eliminated.Where necessary, accounting policies of subsidiaries have been changed toensure consistency with the policies adopted by the Group.

Businesscombinations before April 1, 2004 are accounted for according to thepurchase method of accounting prescribed by IAS 22—Business Combinations. Foracquisitions after March 31, 2004, Magyar Telekom has been applying theprovisions of IFRS 3—Business Combinations. Although IFRS 3 continues torequire purchase price allocation for new acquisitions, in case of additionalshares acquired in subsidiaries already controlled (step acquisition), nopurchase price allocation is made. Consequently, the difference between theconsideration paid and the share of net assets acquired is accounted for asgoodwill.

(2)   Associatesand joint ventures

Investments in associates and joint ventures areaccounted for applying the equity method of accounting. Under this method thecompany’s share of the post-acquisition profits or losses of associates andjoint ventures is recognized in the income statement, under the caption “Shareof associates’ profits/losses after tax”. The cumulative post-acquisitionmovements are adjusted against the cost of the investment.

Associates are entities in which the Group generallyhas between 20% and 50% of the voting rights, or over which the Group hassignificant influence, but which it does not control. Joint ventures areentities in which Magyar Telekom holds a 50% share of ownership with a thirdparty owner of the other 50% with identical voting rights.

F-17

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

At December 31,2005 and 2004 the principal operating subsidiaries and associates of the Group,which are incorporated in Hungary, Macedonia and Montenegro, were as follows:

| ** **                           | ** ** | **Group  interest  in capital  as at December 31,** | ** ** | ** ** | ** ** |
|--------------------------------------|------------|-----------------------------------------------------|------------|------------|------------|
| Subsidiaries                         | ** ** | ** **                                          | ** ** | **2004**   | ** ** | **2005** | ** ** | **Activity** | ** ** |
| *Incorporated  in Hungary:*          |       |                                                |       |       |       |   |   |   |   |
| T-Mobile Hungary                     |       |                                                | 100        | %          |       | 100 | % | Cellular telecom service provider |   |
| T-Online                             |       |                                                | 100        | %          |       | 100 | % | Internet  service and content provider |   |
| T-Kábel                         |       |                                                | 100        | %          |       | 100 | % | Cable  TV operator |   |
| BCN Rendszerház                 |       |                                                | 100        | %          |       | 100 | % | Solutions  for business customers |   |
| Emitel                               |       |                                                | 100        | %          |       | 100 | % | Local  telecom operator |   |
| InvesTel                             |       |                                                | 100        | %          |       | 100 | % | Cable  TV holding |   |
| *Incorporated in Macedonia:*         |       |                                                |       |       |       |   |   |   |   |
| Makedonski Telekommunikacii (MakTel) |       |                                                | 51         | %          |       | 51 | % | Fixed line telecom service provider |   |
| T-Mobile  Macedonia (T-Mobile MK)    |       |                                                | 51         | %          |       | 51 | % | Cellular  telecom service provider |   |
| Telemacedonia                        |       |                                                | 100        | %          |       | 100 | % | Management  consulting |   |
| Stonebridge                          |       |                                                | 100        | %          |       | 100 | % | Holding  company |   |
| *Incorporated in Montenegro:*        |       |                                                |       |       |       |   |   |   |   |
| Crnogorski Telekom (CGT)             |       |                                                | —     |       |       | 76.53 | % | Fixed line telecom service provider |   |
| T-Mobile Crna  Gora (T-Mobile CG)    |       |                                                | —     |       |       | 76.53 | % | Cellular  telecom service provider |   |
| Internet Crna Gora (ICG)             |       |                                                | —     |       |       | 76.53 | % | Internet service and  content provider |   |
|                                      |            |                                                     |            |            |            |  |  |  |  |  |  |

 

| ** **                  | ** ** | **Group  interest  in capital  as at December 31,** | ** ** | ** ** | ** ** |
|-----------------------------|------------|-----------------------------------------------------|------------|------------|------------|
| **Associates**              | ** ** | ** **                                          | ** ** | **2004**   | ** ** | **2005** | ** ** | **Activity** | ** ** |
| *Incorporated  in Hungary:* |       |                                                |       |       |       |   |   |   |   |
| Hunsat                      |       |                                                | 50         | %          |       | 50 | % | Satellite telecommunications |   |
| T-Systems Hungary  (TSH)    |       |                                                | 49         | %          |       | 49 | % | Systems  integration for business customers |   |
| Magyar RTL  (M-RTL)         |       |                                                | 25         | %          |       | 25 | % | Television  broadcast company |   |
|                             |            |                                                     |            |            |            |  |  |  |  |  |  |

 

The Group’s interest inthe capital of the above subsidiaries and associates equals the voting rightstherein.

***(c) Foreign currency translation***

Monetary assets and liabilities denominated in foreigncurrencies are translated into the functional currency of the reportingentities using the exchange rates at the balance sheet date, and any unrealizedexchange gains and losses are recognized immediately. Gains and losses thatarise on foreign currency transactions and financing activities are includedunder Net financial expenses.

For the initial consolidation of foreign subsidiariesacquired, their assets and liabilities at the acquisition date are incorporatedinto the consolidated financial statements after translating the balances 

F-18

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

into HUF using theexchange rate prevailing at that date. The fair value adjustments resultingfrom the purchase price allocation and goodwill are accounted for in HUF foracquisitions before March 31, 2004, after which date these adjustmentsarising on consolidation are accounted for in the functional currency of thesubsidiary as required by IFRS 3—Business Combinations.

As the majority of therevenues and expenses of the Macedonian subsidiaries arise in MKD, thefunctional currency of these entities is MKD, while the majority of therevenues and expenses of the Montenegrin subsidiaries arise in EUR, thefunctional currency of these entities is EUR. At year-end the assets andliabilities of the foreign subsidiaries are translated into HUF using theexchange rates prevailing on the balance sheet date. The income statements ofthe foreign subsidiaries are translated into HUF using the average rate ofexchange during the year. The translation difference arising on consolidationis accounted against the Cumulative translation adjustment in equity.

***(d) Cash and cash equivalents***

Cash and cash equivalentsinclude cash on hand and in banks and all highly liquid deposits and securitieswith maturities of three months or less, and exclude all overdrafts.

***(e) Financial assets***

TheGroup classifies its financial assets into the following categories: at fairvalue through profit or loss, loans and receivables, and available for sale.The classification depends on the purpose for which the financial assets wereacquired. Management determines the classification of its financial assets atinitial recognition and re-evaluates this designation at every reporting date.

(1)   Financialassets at fair value through profit or loss

Thiscategory has two sub-categories: financial assets held for trading, and thosedesignated at fair value through profit or loss at inception. A financial assetis classified in this category if acquired principally for the purpose ofselling in the short term or if so designated by management. Derivatives arealso categorized as financial assets held for trading as Magyar Telekom doesnot apply hedge accounting. Assets in this category are classified as currentassets if they are either held for trading or are expected to be realized within12 months of the balance sheet date.

(2)   Loans andreceivables

Loansand receivables are non-derivative financial assets with fixed or determinablepayments that are not quoted in an active market. They are included in currentassets, except for maturities greater than 12 months after the balance sheetdate. These are classified as non current assets. Loans and receivables duewithin 12 months are classified as Trade and other receivables in the balancesheet, while those with a maturity over 12 months are included in Other noncurrent assets.

(3)   Available-for-salefinancial assets

Available-for-sale financial assets arenon-derivatives that are either designated in this category or not classifiedin any of the other categories. They are included in Other non current assetsunless management intends to dispose of the investment within 12 months of thebalance sheet date. Magyar Telekom has no financial assets that would beclassified in this category.

F-19

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

Regular purchases and sales of investments are recognizedon trade-date, the date on which the Group commits to purchase or sell theasset. Investments are initially recognized at fair value plus transactioncosts for all financial assets not carried at fair value through profit orloss. Financial assets carried at fair value through profit or loss areinitially recognized at fair value and transaction costs are expensed in theincome statement. Investments are derecognized when the rights to receive cashflows from the investments have expired or have been transferred, and the Grouphas transferred substantially all risks and rewards of ownership.Available-for-sale financial assets and financial assets at fair value throughprofit or loss are subsequently carried at fair value.

Loans and receivables are carried at amortized costusing the effective interest method. Gains or losses arising from changes inthe fair value of the financial assets at fair value through profit or losscategory, including interest and dividend income, are presented in the income statementwithin Net financial expenses, in the period in which they arise.

The fair values of quoted investments are based oncurrent bid prices. If the market for a financial asset is not active (and forunlisted securities), the Group establishes fair value by using valuationtechniques. These include the use of recent arm’s length transactions,reference to other instruments that are substantially the same, discounted cashflow analysis, and option pricing models, making maximum use of market inputsand relying as little as possible on entity-specific inputs.

The Group assesses at each balance sheet date whetherthere is objective evidence that a financial asset or a group of financialassets is impaired. If impairment is established, the loss on financial assetsthrough profit or loss is recognized in Other financial expenses, whileimpairment loss of Trade and other receivables is charged in the Otheroperating expenses as Bad debt expense. Recoverable amounts of Trade and otherreceivables, used as a basis for determining whether impairment has becomenecessary, are estimated taking into account potential delays and defaults onpayments.

Amounts due to, and receivable from, other networkoperators are shown net where a right of set-off exists and the amounts aresettled on a net basis.

The revised interpretationof IAS 39—Financial Instruments—Recognition and Measurement does not considercontracts denominated in a currency that is not the functional currency ofeither of the contracting parties as a separable host contract and an embeddedderivative if the contract currency is widely used in that market. As a resultof the change in the interpretation, Magyar Telekom has restated its openingretained earnings to eliminate the carrying amounts of these embeddedderivatives previously recognized (HUF 873 million) and the related deferredtax liability (HUF 140 million) in the balance sheet as at December 31,2004.

***(f) Inventories***

Inventories are stated at the lower of cost or netrealizable value using the historical cost method of accounting, and are valuedon a weighted average or individual basis.

Phone sets are often sold for less than cost inconnection with promotions to obtain new subscribers with minimum commitmentperiods. Such loss on the sale of equipment is only recorded when the saleoccurs as the normal resale value of the phone sets exceeds cost.

F-20

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

***(g) Assets held for disposal***

Assets held for disposalinclude real estate that is no longer needed for the future operations of theGroup, and have been identified for sale, which is expected to take placewithin 12 months. These assets are accounted for at the lower of carrying valueor fair value less cost to sell. These assets continued to be depreciated untilthe sale, in accordance with IAS 16—Property, Plant and Equipment until December 31,2004. From January 2005 Magyar Telekom applies the regulations of IFRS 5—NonCurrent Assets held for Sale and Discontinued Operations, whereby thedepreciation is discontinued from the date of designation to the held for salestatus.

***(h) Property, plant and equipment***

Property, plant and equipment are stated at historicalcost less accumulated depreciation and impairment losses.

The cost of an item of property, plant and equipmentcomprises its purchase price, including import duties and non-refundablepurchase taxes, after deducting trade discounts and rebates, any costs directlyattributable to bringing the asset to the location and condition necessary forit to be capable of operating in the manner intended by management. The initialestimate of the costs of dismantling and removing the item and restoring thesite on which it is located is also included in the costs if the obligationincurred can be recognized as a provision according to IAS 37—Provisions,Contingent Liabilities and Contingent Assets.

Government grants relating to the purchase ofproperty, plant and equipment are deducted from the original cost of the itemsand are recognized in the income statement through the reduced amount ofdepreciation of the related assets over their useful lives. Investment taxcredits relating to qualifying investment projects are also recognized in thismanner (note 26).

Cost in the case of the outside plant comprises of allexpenditures including the cabling within customers’ premises and interest onrelated loans.

When assets are retired or disposed of, the cost andaccumulated depreciation are removed from the accounts and any related gain orloss is recognized in the income statement in Other operating expenses.

Maintenance and repairs are charged to expense whenincurred.

Depreciation is calculated on a straight-line basisfrom the time the assets are deployed and charged over their economic usefullives. Magyar Telekom regularly reviews the useful lives for consistency withcurrent development plans and advances in technology.

Theuseful lives assigned are as follows: 

| ** **                           | ** ** | **Years** | ** ** |
|--------------------------------------|------------|-----------|------------|
| Buildings                            |       | 10 - 50   |       |
| Duct, cable and  other outside plant |       | 25 - 38   |       |
| Other  telecommunications equipment  |       | 7 - 15    |       |
| Other fixed assets                   |       | 3 - 12    |       |

 

***(i) Intangible assets***

Intangible assets are stated at historical cost lessaccumulated amortization and impairment losses.

F-21

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

Acquired computer software licenses are capitalized onthe basis of the costs incurred to acquire and bring to use the specificsoftware. These costs are amortized over their estimated useful lives. Costsassociated with developing or maintaining computer software programs arerecognized as an expense as incurred. Costs that are directly associated withthe production of identifiable and unique software products controlled by theGroup, and that will probably generate economic benefits exceeding costs beyondone year, are recognized as intangible assets. Direct costs include thesoftware development employee costs and an appropriate portion of relevantoverheads. Computer software development costs recognized as assets areamortized over their estimated useful lives.

Costs associated with the acquisition of long termlicenses are capitalized including any related borrowing costs. The usefullives of concessions and licenses are determined based on the underlyingagreements and are amortized on a straight line basis over the period from thebeginning of commercial use of the frequency until the end of the initialconcession or license term. No renewal periods are considered in thedetermination of useful life.

Goodwill represents the excess of the cost of anacquisition over the fair value of the Group’s share of the net assets andcontingent liabilities of the acquired subsidiary at the date of acquisition.Goodwill on acquisitions completed before March 31, 2004 is reported inthe balance sheet as an intangible asset and was amortized using thestraight-line method over its estimated useful life. Goodwill arising onacquisitions after this date was not amortized in 2004. Following the change inthe IFRS regulations, amortization of goodwill arising on acquisition before March 31,2004 was discontinued from January 1, 2005, and impairment testing is nowcarried out on an annual basis for all goodwill recognized in the IFRSaccounts.

Intangibleassets other than goodwill are amortized over their respective economic usefullives.

| ** **                | ** ** | **Years**         | ** ** |
|---------------------------|------------|-------------------|------------|
| Software                  |       | 3 - 5   |       |
| Concessions and  licenses |       | 8 - 25            |       |
| Brand-name                |       | 5 - 10            |       |
| Other intangible assets   |       | 3 - 10            |       |

 

Other than goodwill, theGroup has no intangible assets with indefinite life.

***(j) Impairment of Property, plant and equipmentand Intangible assets***

Assets that have an indefinite useful life are notsubject to amortization and are tested for impairment annually or morefrequently if circumstances indicate that impairment may have occurred. Assets thatare subject to amortization are reviewed for impairment whenever events orchanges in circumstances indicate that the carrying amount may not berecoverable. An impairment loss is recognized for the amount by which the asset’scarrying amount exceeds its recoverable amount. The recoverable amount is thehigher of an asset’s fair value less costs to sell and value in use. For thepurposes of assessing impairment, assets are grouped at the lowest levels forwhich there are separately identifiable cash flows (cash-generating units).

Goodwill impairment istested at the cash generating unit level, which is defined one level below theprimary reporting segments, i.e. the national activities of the Fixed line andthe Mobile segments (see note 4). The corporate headquarters’ assets areallocated to the Hungarian operations of the Fixed line segment.

F-22

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

***(k) Leases***

(1)   Lessor

Assetsleased to customers under operating leases are included in Property, plant andequipment in the balance sheet. They are depreciated over their expected usefullives on a basis consistent with similar fixed assets. Rental income isrecognized on a straight-line basis over the lease term.

(2)   Lessee

Leases of property, plant and equipment where MagyarTelekom assumes substantially all the benefits and risks of ownership areclassified as finance leases. Finance leases are capitalized at the fair valueof the asset or if lower, at the estimated present value of the future minimumlease payments. Each lease payment is allocated between the liability andfinance charges so as to achieve a constant rate on the finance balanceoutstanding. The corresponding lease obligations, net of finance charges, areincluded in Loans and other borrowings. The interest element of the leasepayments is charged to the Net financial expense line of the income statementover the lease period. Property, plant and equipment acquired under financelease contracts are depreciated over the shorter of the lease term or theuseful life of the asset.

Costsin respect of operating leases are charged to the income statement on astraight-line basis over the lease term, included in Other operating expenses.

(3)   Sale andleaseback transactions

Sale and leasebacktransactions involve the sale of an asset by Magyar Telekom and the leasing ofthe same asset or part of it back to Magyar Telekom. When sale and leasebacktransactions qualify as finance leases any gain on the sale is deferred andrecognized in the income statement over the lease term through lowerdepreciation expense.

***(l) Deferred taxes***

Deferred tax isrecognized, using the liability method, for tax losses and tax credits and alltemporary differences arising between the tax bases of assets and liabilitiesand their carrying values for financial reporting purposes. Currently enactedtax rates are used to determine deferred income tax.

***(m) Loans and other borrowings***

Borrowings are recognized initially at fair value lesstransaction costs. In subsequent periods, they are stated at amortized costs.The effective interest is recognized in the income statement over the period ofthe borrowings.

Borrowing costs are recognized as an expense asincurred, net of amounts capitalized. Interest on general borrowings wascapitalized as part of the cost of the relevant fixed asset, up to the date ofcommissioning and is then amortized over the period the asset is depreciated.The rate used to determine the amount of borrowing costs eligible forcapitalization was defined as the ratio of equity to debt financing, where debtexcludes short term borrowings and loans related to the financing ofacquisitions. As all loans taken for capital expenditure on tangible andintangible assets were repaid by the end of 2003, no interest was capitalizedin 2004 and 2005.

F-23

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

Effective borrowing cost (note 17) is calculated usingthe average amount of loans and other borrowings during the year and the totalinterest and other financial charges. The weighted average interest rate onborrowings is calculated using the average amount of loans and other borrowingsduring the year and the interest expense charged.

Fair value information onloans and other borrowings is also presented in the financial statements (note17). Fair value of loans and other borrowings is calculated using thediscounted cashflow method.

***(n) Deferred revenue***

A portion of fees chargedto customers in Hungary upon connection to the fixed line network prior to October 15,1997 represented contributions to the cost of network construction. The capitalcontribution element of such fees was deferred and is amortized to revenue overthe life of the related assets. Legislation was enacted effective October 15,1997 eliminating refunds of such fees and signaling the removal of any capitalcontribution element of future customer fees. Since October 1997, theseconnection fees are recognized in the income statement upon connection,reflecting the change in related legislation and the advanced development ofthe network.

***(o) Employee benefits***

(1)   Short termemployee benefits

Shortterm employee benefits are recognized as a current expense in the period whenemployees render their services. These include wages, social securitycontributions, bonuses, paid holidays, discounted telephone bills, meal andholiday contributions and other fringe benefits and the tax charges thereon.

(2)   Pensions

Payments to defined contribution pension and otherwelfare plans are recognized as an expense in the period in which they areearned by the employees.

MagyarTelekom does not have defined benefit pension schemes.

(3)   Share basedcompensation

Magyar Telekom adopted IFRS 2—Share-based Payment asof January 1, 2005. The standard requires the Group to reflect in itsprofit or loss and financial position the effects of share-based paymenttransactions, including expenses associated with transactions in which shareoptions are granted to employees. Accordingly, Magyar Telekom recognizes thecosts of services received from its employees in a share-based paymenttransaction when services are received. Magyar Telekom recognizes a correspondingincrease in retained earnings if the services are received in an equity-settledshare-based payment transaction, or a liability if the services are received ina cash-settled share-based payment transaction.

Fair values are determined using option pricing models(such as Black-Scholes) and other relevant techniques. As Magyar Telekom Plc.is listed and actively traded on the Budapest and New York Stock Exchanges, theshare price and its history is readily available as a basis for fair value calculations.

Bonuses tied to the longterm performance of the Magyar Telekom share are recognized in the incomestatement at their time-proportioned fair value (note 28) against anaccumulating liability in Trade and other payables.

F-24

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

(4)   Termination benefits

Termination benefits arepayable whenever an employee’s employment is terminated before the nominalretirement date or whenever an employee accepts voluntary redundancy inexchange for these benefits. The Group recognizes termination benefits when itis demonstrably committed to either terminate the employment of currentemployees according to a detailed formal plan without possibility of withdrawalor to provide termination benefits as a result of an offer made to encouragevoluntary redundancy. Benefits falling due more than 12 months after balancesheet date are discounted to present value.

***(p) Provisions***

Provisions as required byIAS 37 are recognized when Magyar Telekom has a present legal or constructiveobligation as a result of past events and it is probable that an outflow ofresources embodying economic benefits will be required to settle theobligation, and a reliable estimate of the amount of the obligation can bemade.

***(q) Treasury stock***

When the Company or itssubsidiaries purchase the Company’s equity share capital, the considerationpaid including any attributable incremental external costs are deducted fromthe Shareholders’ equity as treasury stock until they are cancelled. Where suchshares are subsequently sold or reissued, the treasury share balance decreasesby the original cost of the particular shares, thereby increasing the equity,while any gains or losses are recognized in retained earnings.

***(r) Revenues***

Revenue is primarily derived from services provided toMagyar Telekom’s customer subscribers and other third parties using MagyarTelekom’s telecommunications network, and equipment sales. Revenues for allservices and equipment sales (notes 21, 22) are shown net of VAT, discounts andafter eliminating sales within the Group, and are recognized when there ispersuasive evidence of an arrangement that services have been provided orequipment has been delivered, the price is fixed or determinable and collectionis reasonably assured.

Customer subscriber arrangements typically include anactivation fee, equipment sale, subscription fee and monthly charge for theactual airtime used. The Company considers the various elements of thesearrangements to be separate earnings processes for IFRS purposes and classifiesthe revenue for each of the deliverables at their invoiced amounts into thecategories as disclosed in notes 21 and 22.

Customers may also purchase public phone cards,prepaid mobile and internet cards which allow those customers to use MagyarTelekom’s telecommunications network for a selected amount of time. Customersmust pay for such services at the date when the card is purchased.

Third parties using Magyar Telekom’stelecommunications network include roaming customers of other service providersand other telecommunications providers which terminate or transit calls onMagyar Telekom’s network.

F-25

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

MagyarTelekom’s IFRS revenue recognition policies for the different groups ofservices are as follows:

(1)   Fixed line connection and mobile activation fees

Revenuesearned from connecting subscribers to the fixed or the mobile network arerecognized upon service activation. Fixed line connection fees received before October 1997were deferred and are amortized to revenue over a period of 10 years. See alsoaccounting policy note for deferred revenue.

(2)   Subscriptionfees (fixed line and mobile access)

Monthlysubscription fees represent a fixed monthly fee charged to customer subscribersfor access to Magyar Telekom’s network. Such fees are recognized in the monthduring which the customer is permitted access to the network. In case ofsubscriptions when certain amount of free airtime usage is included in thesubscription, the total amount due for the month is recognized as subscriptionfee revenue.

(3)   Outgoingtraffic revenue (fixed line and mobile network usage)

Outgoing trafficrepresents customer use of Magyar Telekom’s telecommunications network.Customers are charged for outgoing traffic based on their actual use of thenetwork multiplied by a contractually agreed rate. The revenue from usage isrecognized in the period in which service is provided to the customers or thirdparties. A proportion of the revenue received is often paid to other operators(including roaming and interconnect) for the use of their networks, whereappropriate. The revenues and costs of these calls are stated gross in theseconsolidated financial statements.

Revenuesfrom the sale of public phone cards, prepaid mobile cards and prepaid internetcards are recognized when used by the customers or when the cards expired withunused units.

(4)   Incomingtraffic revenue (fixed line and mobile network usage)

Incomingtraffic revenue is recognized in the period of related usage. A proportion ofthe revenue received is often paid to other operators (interconnect) for the useof their networks, where appropriate. The revenues and costs of these transitcalls are stated gross in these consolidated financial statements andrecognized in the period of related usage.

(5)   Leasedlines and data transmission revenues

Leasedline services are provided to customers on a monthly rental basis, while datatransmission is charged on a unit basis. These revenues are recognized in theperiod of usage or availability of the service to the customer.

(6)   Equipmentsales

Revenuesand costs from sale of telephone sets are recognized upon delivery.

F-26

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

(7)   Value addedservices (other fixed line charges and enhanced mobile services)

***Value added services mostly include SMS, MMS, WAP as well asdirectory assistance and similar services. To a lesser extent revenues frompremium rate services are also included in this category, which are in mostcases recognized on a gross basis, when the delivery of the service over MagyarTelekom’s network is the responsibility of the Group and the Group also bearssubstantial risks of these services.***

***(s) R&D and Marketing expenses***

Research and developmentcosts that do not qualify for recognition as an intangible asset as well asmarketing costs are expensed as incurred.

***(t) Earnings per share***

Basic earnings per shareis calculated by dividing profit attributable to the equity holders of thecompany for the period by the weighted average number of common stocksoutstanding, while diluted earnings per share is calculated considering theweighted average number of diluting share options in addition to the number ofcommon stocks outstanding.

***(u) Dividends***

Dividends payable to theCompany’s shareholders and to minority shareholders of the subsidiaries arerecorded as a liability and debited against equity in the Group’s financialstatements in the period in which they are approved by the shareholders.

***(v) Segment reporting***

Magyar Telekom determinessegments primarily based on products and services that are subject to risks andreturns that are different from those of other businesses. The primary segmentsare based on the business lines (Fixed line and Mobile operations), both ofwhich include Hungarian, Macedonian and Montenegrin activities. Reportedsegments are consistent with information used by management for internalreporting and monitoring purposes. The Company’s secondary format for reportingsegment information is the geographical segments.

***(w) Comparative information***

In order to maintainconsistency with the current year presentation, certain items have beenreclassified for comparative purposes.

***(x) Critical accounting estimates and assumptions***

TheGroup makes estimates and assumptions concerning the future. Estimates andjudgments are continually evaluated and are based on historical experience andother factors, including expectations of future events that are believed to bereasonable under the circumstances. The most critical estimates and assumptionsare discussed below.

(1)   Usefullives of assets

Thedetermination of the useful lives of assets is based on historical experiencewith similar assets as well as any anticipated technological development andchanges in broad economic or industry factors. The 

F-27

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

appropriateness of the estimated useful lives isreviewed annually, or whenever there is an indication of significant changes inthe underlying assumptions. We believe that the accounting estimate related tothe determination of the useful lives of assets is a critical accountingestimate since it involves assumptions about technological development in aninnovative industry. Further, due to the significant weight of long-livedassets in our total assets, the impact of any changes in these assumptionscould be material to our financial position, and results of operations. As anexample, if Magyar Telekom was to shorten the average useful life by 10%, thiswould result in additional annual depreciation and amortization expense ofapproximately HUF 11.5 billion.

(2)   Impairmenttesting of goodwill

UnderIFRS, goodwill is no longer amortized, but tested for impairment annually ormore frequently. As all of our subsidiaries are either not listed on stockexchanges or there is no active market for their shares, the fair values of thebusiness units and reportable segments are calculated based on the discountedprojected cashflows of these units. This is highly judgmental, which carriesthe inherent risk of arriving at materially different fair values if estimatesused in the calculations would prove to be inappropriate. If Magyar Telekom hadused a WACC of 11.2% and a 0 percent perpetual growth rate after the ten yearprojected period, it would have resulted in an impairment charge. Any furtherincrease in the WACC or a negative growth rate applied would have resulted infurther amounts of impairment, initially related to goodwill allocated to theinternational operations of the Fixed line segment.

(3)   Potentialimpairment of property, plant and equipment and intangibles

Weassess the impairment of identifiable property, plant, equipment andintangibles whenever there is a reason to believe that the carrying value maymaterially exceed the recoverable amount and where impairment in value isanticipated. The recoverable amounts are determined by value in usecalculations, which use a broad range of estimates and factors affecting those.Among others, we typically consider future revenues and expenses, technologicalobsolescence, discontinuance of services and other changes in circumstancesthat may indicate an impairment. As this exercise is highly judgmental, theamount of potential impairment may be significantly different from that of theresult of these calculations.

(4)   Impairmentof trade and other receivables

Wecalculate impairment for doubtful accounts based on estimated losses resultingfrom the inability of our customers to make required payments. We base ourestimate on the aging of our account receivables balance and our historicalwrite-off experience, customer credit-worthiness and changes in our customerpayment terms when evaluating the adequacy of the impairment loss for doubtfulaccounts. These involve assumptions about future customer behavior and theresulting future cash collections. If the financial condition of our customerswere to deteriorate, actual write-offs of currently existing receivables may behigher than expected and may exceed the level of the impairment lossesrecognized so far.

(5)   Provisions

Provisions in general arehighly judgmental, especially in the cases of legal disputes. The Groupassesses the probability of an adverse event as a result of a past event tohappen and if the probability is evaluated to be more than fifty percent, theGroup fully provides for the total amount of the liability. The Group is ratherprudent in these assessments, but due to the high level of uncertainty, in somecases the evaluation may not prove to be in line with the eventual outcome ofthe case.

F-28

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

(6)   Subscriberacquisition costs

Subscriber acquisitioncosts primarily include the loss on the equipment sales (revenues and costsdisclosed separately) and fees paid to subcontractors that act as agents toacquire new customers. The up-front fees collected from customers foractivation or connection are marginal compared to the costs. These revenues,costs and losses are recognized when the customer is connected to the Group’sfixed or mobile networks. No such costs or revenues are deferred.

**3**                    Financialrisk management

***(a) Financial risk factors***

MagyarTelekom is exposed to interest and foreign exchange rate risk associated withits debt and anticipated transactions. As the vast majority of the revenues andexpenses of the Hungarian entities arise in HUF, the functional currency ofMagyar Telekom is HUF, and as a result, Magyar Telekom’s objective is tominimize the level of its financial risk in HUF terms.

(1)   Foreignexchange risk

The most significant foreign exchange exposure of theGroup is related to its foreign direct investments in the Southern and EasternEuropean region. The Group through its subsidiaries is present in Macedonia,Montenegro, and to a lesser extent in Bulgaria, Romania and Ukraine. Most ofthese countries are candidates to accession to the European Union, which overtime mitigates the currency risk of these countries. The high amount of foreigncurrency (EUR and USD) denominated cash portfolio of subsidiaries in thesecountries mitigates the currency risk on Group level.

The National Bank of Hungary lifted the devaluation ofthe Hungarian Forint against the Euro in October 2001 after widening theintervention band from +/-2.25% to +/-15%as of May 4, 2001. The introduction of this new foreign exchangeregulation increased the foreign exchange risk of the Group significantly. Inorder to mitigate this increased risk, Magyar Telekom minimized its foreigncurrency borrowings in 2002 and 2003. In 2004 and 2005 Magyar Telekom hadinsignificant amount of foreign currency denominated debts.

A further foreign exchange exposure of Magyar Telekomis related to holding foreign currency cash balances, and operating activitiesthrough revenues from and payments to international telecommunications carriersas well as capital expenditure contracted with vendors in foreign currency.These revenues and payments, however, are almost in full balance, thereforeMagyar Telekom very rarely has to buy or sell foreign currency on the market.

MagyarTelekom occasionally enters into derivative contracts for risk reductionpurposes. These foreign currency forward contracts are taken to reduce theexchange rate risk related to the foreign exchange denominated paymentobligations.

(2)   Interestrate risk

Magyar Telekom is exposedto financial market risk primarily through interest rate fluctuations. This isdue to the fact that changing HUF interest rates affect the fair value of fixedrate debts and also affect the cash outflow through the variable rate debts. Tocontrol interest rate risk, a combination of fixed and floating rate debt isused within the HUF portfolio. By the end of 2003 Magyar Telekom managed to 

F-29

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

convertalmost all of its remaining foreign exchange debt portfolio to HUF, therebylimiting its exposure to interest rate fluctuations in the HUF environment.

(3)   Credit risk

The Group has no significant concentrations of creditrisk. Cash and cash equivalents held by the Hungarian members of the Group areprimarily denominated in Hungarian Forint and concentrations of credit risk arelimited as Magyar Telekom places its cash with substantial credit institutions.Cash and cash equivalents held by the Macedonian subsidiaries are denominatedin Macedonian Denars, EUR and in U.S. dollars, while the Montenegrinsubsidiaries possess cash and cash equivalents primarily denominated in EUR.

Concentrationsof credit risk relating to trade receivables are limited due to the largenumber of customers comprising Magyar Telekom’s customer base and theirdispersion across many different industries and geographic areas.

(4)   Liquidityrisk

Prudent liquidity riskmanagement implies maintaining sufficient cash and marketable securities aswell as available funding through adequate amount of committed credit. TheGroup Treasury’s management aims at maintaining flexibility in funding bykeeping committed credit lines available.

***(b) Accounting for derivative financialinstruments and hedging activities***

Magyar Telekom does notapply hedge accounting for its financial instruments, all gains and losses arerecognized in the income statement. The fair value of derivative financialinstruments is included in Other financial assets or Other non current assetsor other current or non current liabilities depending on the maturity of theagreements.

***(c) Fair value estimation***

The fair value of publicly traded derivative financialinstruments and other financial assets is based on quoted market prices at thebalance sheet date. The fair value of forward foreign exchange contracts isdetermined based on forward exchange market rates at the balance sheet date.

In assessing the fairvalue of non-traded derivative financial and other instruments, the Group makesassumptions that are based on market conditions existing at each balance sheetdate and estimated discounted future cashflows are used to determine fair valuefor the remaining financial instruments.

**4**                    Segmentinformation

Magyar Telekom has two primary segments, Fixed lineand Mobile services, which include both Hungarian and international activities.

The Fixed line segment provides local telephony,domestic and international long distance telecommunications services inHungary, Macedonia and Montenegro. The Hungarian operations include theactivities of the points of presence extended to Romania, Bulgaria and Ukraine.Entities in the segment also provide services such as leased lines, datatransmission, PBX, corporate network, internet and cable TV services.

F-30

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

The Mobile segment provides digital services invarious frequency bandwidths in Hungary, Macedonia and Montenegro.

Inter-segment pricing ison an arms’ length basis.

***(a) Primary reporting format***

Thefollowing tables present a summary of operating results of the Group bybusiness segment for the years ended December 31, 2003, 2004 and 2005. Thesegments presented below are substantially consistent with the format used bythe Company’s Management Committee.

| ** **                                  | ** ** | **For the year ended December 31,** | ** ** |
|---------------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                                  | ** ** | **2003**                                                     | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                                  | ** ** | **(in HUF millions)**                              | ** ** |
| **Revenues**                                | ** ** | ** **                                                   | ** ** | ** ** | ** ** | ** ** | ** ** |
| Hungarian Fixed line                        |       | 324,552                                                      |       | 301,743 |   | 288,050 |   |
| International  Fixed line                   |       | 49,690                                                       |       | 45,184 |   | 55,850 |   |
| Total                                       |       | 374,242                                                      |       | 346,927 |   | 343,900 |   |
| Less:  intra-segment revenue                |       | (1,553                                                       | )          | (907 | ) | (1,006 | ) |
| Total revenue of Fixed  line segment        |       | 372,689                                                      |       | 346,020 |   | 342,894 |   |
| Less: inter-segment revenue                 |       | (14,034                                                      | )          | (11,846 | ) | (11,832 | ) |
| Fixed line  revenue from external customers |       | 358,655                                                      |       | 334,174 |   | 331,062 |   |
| Hungarian Mobile                            |       | 254,141                                                      |       | 263,023 |   | 270,362 |   |
| International  Mobile                       |       | 31,575                                                       |       | 33,734 |   | 42,693 |   |
| Total                                       |       | 285,716                                                      |       | 296,757 |   | 313,055 |   |
| Intra-segment  revenue                      |       | (20                                                          | )          | (58 | ) | (27 | ) |
| Total revenue of  Mobile segment            |       | 285,696                                                      |       | 296,699 |   | 313,028 |   |
| Less: inter-segment revenue                 |       | (37,099                                                      | )          | (29,435 | ) | (23,393 | ) |
| Mobile revenue  from external customers     |       | 248,597                                                      |       | 267,264 |   | 289,635 |   |
| Total revenue of  the Group                 |       | 607,252                                                      |       | 601,438 |   | 620,697 |   |

 

F-31

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

 

| ** **                                                              | ** ** | **For the year ended December 31,** | ** ** |
|-------------------------------------------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                                                              | ** ** | **2003**                                                     | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                                                              | ** ** | **(in HUF millions)**                              | ** ** |
| **Depreciation and amortization**                                       | ** ** | ** **                                                   | ** ** | ** ** | ** ** | ** ** | ** ** |
| Hungarian Fixed line—amortization of goodwill                      |       | 1,599                                                        |       | 1,601 |   | — |   |
| Hungarian Fixed  line—impairment of tangible and intangible assets |       | 1,344                                                        |       | 5,355 |   | 316 |   |
| Hungarian Fixed  line—other depreciation and amortization          |       | 68,918                                                       |       | 65,610 |   | 61,074 |   |
| Hungarian Fixed  line                                                   |       | 71,861                                                       |       | 72,566 |   | 61,390 |   |
| International Fixed line—amortization of goodwill                  |       | 663                                                          |       | 684 |   | — |   |
| International  Fixed line—other depreciation and amortization      |       | 9,081                                                        |       | 8,411 |   | 10,505 |   |
| International  Fixed line                                               |       | 9,744                                                        |       | 9,095 |   | 10,505 |   |
| Fixed line segment                                                      |       | 81,605                                                       |       | 81,661 |   | 71,895 |   |
| Hungarian Mobile—amortization of goodwill                          |       | 9,540                                                        |       | 9,540 |   | — |   |
| Hungarian  Mobile—impairment of tangible and intangible assets     |       | —                                                       |       | 4,426 |   | — |   |
| Hungarian  Mobile—other depreciation and amortization              |       | 30,355                                                       |       | 33,605 |   | 33,897 |   |
| Hungarian Mobile                                                        |       | 39,895                                                       |       | 47,571 |   | 33,897 |   |
| International Mobile—amortization of goodwill                      |       | 1,989                                                        |       | 2,051 |   | — |   |
| International  Mobile—impairment of tangible and intangible assets |       | —                                                       |       | — |   | 75 |   |
| International  Mobile—other depreciation and amortization          |       | 4,845                                                        |       | 6,383 |   | 8,819 |   |
| International  Mobile                                                   |       | 6,834                                                        |       | 8,434 |   | 8,894 |   |
| Mobile segment                                                          |       | 46,729                                                       |       | 56,005 |   | 42,791 |   |
| Total depreciation and amortization of the Group                        |       | 128,334                                                      |       | 137,666 |   | 114,686 |   |
| **Segment  results (Operating profit)**                                 | ** ** | ** **                                                   | ** ** | ** ** | ** ** | ** ** | ** ** |
| Hungarian Fixed line                                                    |       | 44,090                                                       |       | 13,061 |   | 40,299 |   |
| International  Fixed line                                               |       | 11,765                                                       |       | 7,028 |   | 9,067 |   |
| Fixed line  segment                                                     |       | 55,855                                                       |       | 20,089 |   | 49,366 |   |
| Hungarian Mobile                                                        |       | 55,030                                                       |       | 56,128 |   | 71,717 |   |
| International  Mobile                                                   |       | 11,179                                                       |       | 9,047 |   | 12,305 |   |
| Mobile segment                                                          |       | 66,209                                                       |       | 65,175 |   | 84,022 |   |
| Total operating profit of the Group                                     |       | 122,064                                                      |       | 85,264 |   | 133,388 |   |
| **Share  of associates’ profits/losses after tax**                 |       |                                                         |       |   |   |   |   |
| Hungarian Fixed  line                                                   |       | 795                                                          |       | 1,896 |   | 330 |   |

 

F-32

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

| ** **                                     | ** ** | **At December 31,**   | ** ** |
|------------------------------------------------|------------|---------------------------------|------------|
| ** **                                     | ** ** | **2003**                        | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                                     | ** ** | **(in HUF millions)** | ** ** |
| **Assets**                                     |       |                            |       |   |   |   |   |
| Assets of Hungarian Fixed line                 |       | 503,091                         |       | 454,564 |   | 444,328 |   |
| Goodwill allocated to Hungarian Fixed line     |       | 14,194                          |       | 13,655 |   | 13,655 |   |
| Associates of Hungarian Fixed line             |       | 4,827                           |       | 5,750 |   | 5,020 |   |
| Hungarian Fixed line                           |       | 522,112                         |       | 473,969 |   | 463,003 |   |
| Assets of International Fixed line             |       | 97,569                          |       | 95,872 |   | 135,397 |   |
| Goodwill allocated to International Fixed line |       | 11,751                          |       | 12,972 |   | 12,972 |   |
| International Fixed line                       |       | 109,320                         |       | 108,844 |   | 148,369 |   |
| Intra-segment elimination                      |       | (879                            | )          | (369 | ) | (761 | ) |
| Fixed line  segment                            |       | 630,553                         |       | 582,444 |   | 610,611 |   |
| Assets of Hungarian Mobile                     |       | 186,720                         |       | 201,032 |   | 206,996 |   |
| Goodwill allocated to Hungarian Mobile         |       | 170,914                         |       | 161,374 |   | 161,374 |   |
| Hungarian Mobile                               |       | 357,634                         |       | 362,406 |   | 368,370 |   |
| Assets of International Mobile                 |       | 36,384                          |       | 38,159 |   | 53,103 |   |
| Goodwill allocated to International Mobile     |       | 35,253                          |       | 38,918 |   | 44,156 |   |
| International Mobile                           |       | 71,637                          |       | 77,077 |   | 97,259 |   |
| Intra-segment elimination                      |       | (1                              | )          | (41 | ) | — |   |
| Mobile segment                                 |       | 429,270                         |       | 439,442 |   | 465,629 |   |
| Inter-segment elimination                      |       | (8,025                          | )          | (8,404 | ) | (8,710 | ) |
| Total segment  assets                          |       | 1,051,798                       |       | 1,013,482 |   | 1,067,530 |   |
| Unallocated  assets(a)                         |       | 7,039                           |       | 16,076 |   | 15,418 |   |
| Total assets of  the Group                     |       | 1,058,837                       |       | 1,029,558 |   | 1,082,948 |   |
| **Liabilities**                                |       |                            |       |   |   |   |   |
| Hungarian Fixed line                           |       | 69,138                          |       | 84,801 |   | 80,988 |   |
| International Fixed line                       |       | 5,918                           |       | 4,039 |   | 10,306 |   |
| Intra-segment elimination                      |       | (879                            | )          | (369 | ) | (761 | ) |
| Fixed line  segment                            |       | 74,177                          |       | 88,471 |   | 90,533 |   |
| Hungarian Mobile                               |       | 43,222                          |       | 47,535 |   | 48,464 |   |
| International Mobile                           |       | 2,526                           |       | 3,393 |   | 5,841 |   |
| Intra-segment elimination                      |       | (1                              | )          | (41 | ) | — |   |
| Mobile segment                                 |       | 45,747                          |       | 50,887 |   | 54,305 |   |
| Inter-segment elimination                      |       | (8,025                          | )          | (8,404 | ) | (8,710 | ) |
| Total segment  liabilities                     |       | 111,899                         |       | 130,954 |   | 136,128 |   |
| Unallocated liabilities(a)                     |       | 316,554                         |       | 321,940 |   | 349,126 |   |
| Total liabilities of the  Group                |       | 428,453                         |       | 452,894 |   | 485,254 |   |

----

(a)           Unallocated assetsinclude income tax assets (current and deferred), while unallocated liabilitiesinclude loans and other borrowings and income tax liabilities (current anddeferred).

F-33

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

 

| ** **                                      | ** ** | **For the year ended December 31,** | ** ** |
|-------------------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                                      | ** ** | **2003**                                                     | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                                      | ** ** | **(in HUF millions)**                              | ** ** |
| **Purchase of tangible and  intangible assets** | ** ** | ** **                                                   | ** ** | ** ** | ** ** | ** ** | ** ** |
| Hungarian Fixed line                            |       | 39,662                                                       |       | 39,495 |   | 42,875 |   |
| International  Fixed line                       |       | 8,227                                                        |       | 5,270 |   | 5,997 |   |
| Fixed line  segment                             |       | 47,889                                                       |       | 44,765 |   | 48,872 |   |
| Hungarian Mobile                                |       | 37,131                                                       |       | 41,440 |   | 47,401 |   |
| International  Mobile                           |       | 5,768                                                        |       | 5,543 |   | 7,314 |   |
| Mobile segment                                  |       | 42,899                                                       |       | 46,983 |   | 54,715 |   |
| Total Group                                     |       | 90,788                                                       |       | 91,748 |   | 103,587 |   |

 

F-34

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

***(b) Secondary reporting format***

MagyarTelekom’s Fixed line and Mobile segments operate in Hungary, Macedonia andMontenegro. The Hungarian Fixed line segment also has points of presence inRomania, Bulgaria and Ukraine, which are shown in one amount in the tablebelow. The geographical segment reporting information is included in the tablesbelow.

| ** **                                            | ** ** | **For the year ended December 31,** | ** ** |
|-------------------------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                                            | ** ** | **2003**                                                     | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                                            | ** ** | **(in HUF millions)**                              | ** ** |
| **Revenues**                                          |       |                                                         |       |   |   |   |   |
| Revenue generated in Hungary                          |       | 538,702                                                      |       | 533,706 |   | 532,557 |   |
| Less: inter-segment  revenue                          |       | (1,322                                                       | )          | (682 | ) | (1,020 | ) |
| Revenue from  external customers—Hungary         |       | 537,380                                                      |       | 533,024 |   | 531,537 |   |
| Revenue generated in Macedonia                        |       | 70,014                                                       |       | 68,352 |   | 67,549 |   |
| Less:  inter-segment revenue                          |       | (250                                                         | )          | (283 | ) | (311 | ) |
| Revenue from  external customers—Macedonia       |       | 69,764                                                       |       | 68,069 |   | 67,238 |   |
| Revenue generated in Montenegro                       |       | —                                                       |       | — |   | 20,522 |   |
| Less:  inter-segment revenue                          |       | —                                                       |       | — |   | (62 | ) |
| Revenue from  external customers—Montenegro      |       | —                                                       |       | — |   | 20,460 |   |
| Revenue generated in other countries                  |       | 128                                                          |       | 509 |   | 2,133 |   |
| Less:  inter-segment revenues                         |       | (20                                                          | )          | (164 | ) | (671 | ) |
| Revenue from  external customers—other countries |       | 108                                                          |       | 345 |   | 1,462 |   |
| Total revenue of the Group                            |       | 607,252                                                      |       | 601,438 |   | 620,697 |   |
| **Purchase  of tangible and intangible assets**       |       |                                                         |       |   |   |   |   |
| Hungary                                               |       | 76,793                                                       |       | 80,390 |   | 88,996 |   |
| Macedonia                                             |       | 13,995                                                       |       | 10,813 |   | 9,623 |   |
| Montenegro                                            |       | —                                                       |       | — |   | 3,688 |   |
| Other countries                                       |       | —                                                       |       | 545 |   | 1,280 |   |
| Total Group                                           |       | 90,788                                                       |       | 91,748 |   | 103,587 |   |

 

| ** **                 | ** ** | **At December 31,**   | ** ** |
|----------------------------|------------|---------------------------------|------------|
| ** **                 | ** ** | **2003**                        | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                 | ** ** | **(in HUF millions)** | ** ** |
| **Assets**                 |       |                            |       |   |   |   |   |
| Hungary                    |       | 872,955                         |       | 828,414 |   | 821,833 |   |
| Macedonia                  |       | 179,553                         |       | 184,876 |   | 187,433 |   |
| Montenegro                 |       | —                          |       | — |   | 56,523 |   |
| Other countries            |       | 201                             |       | 1,187 |   | 3,265 |   |
| Total                      |       | 1,052,709                       |       | 1,014,477 |   | 1,069,054 |   |
| Inter-segment  elimination |       | (911                            | )          | (995 | ) | (1,524 | ) |
| Total segment assets       |       | 1,051,798                       |       | 1,013,482 |   | 1,067,530 |   |
| Unallocated assets         |       | 7,039                           |       | 16,076 |   | 15,418 |   |
| Total assets of the Group  |       | 1,058,837                       |       | 1,029,558 |   | 1,082,948 |   |

 

F-35

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**5**                    Acquisitions

***(a) Acquisition of a 76.53% share of ownership inCrnogorski Telekom (CGT) in 2005***

In 2005, the Company acquired a 76.53% stake in CGT inthe course of the privatization tender. The purchase price of the stake was EUR140.5 million. From this purchase price, Magyar Telekom paid EUR 114.0million for a stake of 51.12% to the government of Montenegro and EUR 22.9million for a stake of 21.92% to minority shareholders. For the remaining 3.49%Magyar Telekom paid EUR 3.6 million through a public offering. CGTowns 100% of the share capital of T-Mobile CG, the Montenegrin mobile company,100% of the share capital of Internet Crna Gora, and 51% of the share capitalof Montenegrocard. The total cost of the acquisition was HUF 35,927 millionincluding directly related expenses.

CGT and its subsidiaries have been consolidated since March 31,2005.

Thefair value of the net assets acquired and the consideration paid for theacquisition is disclosed in the table below.

| **In HUF millions**       | ** ** | ** ** | ** ** | **Total** | ** ** | **Net assets  included in the  Fixed line  segment on first  consolidation** | ** ** | **Net assets  included in the  Mobile segment  on first  consolidation** | ** ** |
|-------------------------------------|------------|------------|------------|-----------|------------|------------------------------------------------------------------------------------------------------------|------------|---------------------------------------------------------------------------------------------------|------------|
| Total cost of  acquisition          |       | 35,927     |       |      |       |                                                                                                       |       |                                                                                              |       |   |   |
| Less: Cash  acquired                |       | (1,866     | )          |      | 1,742      |                                                                                                       |       |                                                                                              | 124        |   |   |
| Consideration  paid                 |       | 34,061     |       |      |       |                                                                                                       |       |                                                                                              |       |   |   |
| Fair value of net assets acquired   |       | 28,939     |       |      |       |                                                                                                       |       |                                                                                              |       |   |   |
| Goodwill                            |       | 5,122      |       |      | —     |                                                                                                       |       |                                                                                              | 5,122      |   |   |
| Fair value of net  assets acquired: |       |       |       |      |       |                                                                                                       |       |                                                                                              |       |   |   |
| Receivables                         |       | 7,678      |       |      | 6,442      |                                                                                                       |       |                                                                                              | 1,236      |   |   |
| Income tax  receivable              |       | 339        |       |      | —     |                                                                                                       |       |                                                                                              | —     |   |   |
| Inventory                           |       | 609        |       |      | 426        |                                                                                                       |       |                                                                                              | 183        |   |   |
| Property, plant  and equipment      |       | 28,687     |       |      | 22,495     |                                                                                                       |       |                                                                                              | 6,192      |   |   |
| Intangible assets                   |       | 9,958      |       |      | 3,700      |                                                                                                       |       |                                                                                              | 6,258      |   |   |
| Other non current  assets           |       | 1,080      |       |      | 1,080      |                                                                                                       |       |                                                                                              | —     |   |   |
| Trade and other payables            |       | (3,917     | )          |      | (3,148     | )                                                                                                          |       |                                                                                              | (769       | ) |   |
| Loans and other  borrowings         |       | (3,290     | )          |      | —     |                                                                                                       |       |                                                                                              | —     |   |   |
| Provisions                          |       | (1,951     | )          |      | (1,914     | )                                                                                                          |       |                                                                                              | (37        | ) |   |
| Net deferred tax  liability         |       | (807       | )          |      | —     |                                                                                                       |       |                                                                                              | —     |   |   |
|                                |       | 38,386     |       |      | 29,081     |                                                                                                       |       |                                                                                              | 13,063     |   |   |
| Minority interest                   |       | (9,447     | )          |      |       |                                                                                                       |       |                                                                                              |       |   |   |
| Total                               |       | 28,939     |       |      |       |                                                                                                       |       |                                                                                              |       |   |   |

 

The Group’s total revenue in 2005 amounted to HUF620,697 million and profit for the year attributable to the equity holders ofthe Company amounted to HUF 78,564 million with CGT group consolidated from March 31,2005. If the acquisition had taken place on January 1, 2005, the Group’stotal revenue would be HUF 626,019 million and profit for the year attributableto the equity holders of the Company would be HUF 78,198 million.

F-36

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

The acquisition of CGTgroup resulted in an additional profit for the year attributable to the equityholders of the Company of HUF 1,482 million for Magyar Telekom Group in 2005.

***(b) Acquisitionof 49% share of ownership in T-Systems Hungary in 2004***

As of September 30,2004, Magyar Telekom acquired a 49% share of ownership in T-Systems Hungary(TSH) from T-Systems International (TSI). The consideration paid amounted toHUF 3,430 million. As the transaction took place between companies ofDeutsche Telekom Group, Magyar Telekom applied predecessor accounting. Thismeans that Magyar Telekom took over the carrying value of the investment andthe related goodwill from the accounts of TSI and the difference between theconsideration paid and the carrying values was recorded in shareholders’ equity(note d on F-7). The goodwill taken over from TSI’s accounts (HUF 149million) is included in the value of the associate.

***(c) Acquisition ofadditional shares in Stonebridge (holding company owning 51% of MakTel)***

The subscription andshareholders’ deed (Deed) agreed between the original owners of Stonebridgeprovided for a put option which entitled SEEF Holdings, one of the co-owners,to sell its shares to Magyar Telekom at a price formula also set out in theDeed on May 15 of each of 2003, 2004 or 2005 or upon the occurrence ofcertain events. The formula took into account the purchase price paid by theconsortium for the shares, the current earnings before interest, tax,depreciation and amortization (EBITDA) and the net debt of MakTel.

Pursuant to the terms ofthe Deed, SEEF exercised its put option (in relation to 3.05% holding inStonebridge) in 2003 and Magyar Telekom paid EUR 21 million (HUF 5,545million). In 2004, SEEF exercised its put option for the remaining 3.05% shareof ownership in Stonebridge. Magyar Telekom paid USD 27.4 million (HUF 5,554million) for these shares, thereby increasing its share of ownership to 92.6%in Stonebridge. The acquisition in 2003 was accounted for according to IAS 22—Businesscombinations, while the 2004 acquisition was accounted for according to IFRS 3—Businesscombinations.

CosmoTelco, the otherco-owner in Stonebridge, and Magyar Telekom entered into a call optionagreement whereby CosmoTelco had the right to acquire additional shares inStonebridge from Magyar Telekom such that CosmoTelco’s holding could haveincreased its original 7.44 percent stake in Stonebridge to 29 percent. Theprice was defined as Magyar Telekom’s acquisition cost plus holding costs.Before the expiration of CosmoTelco’s call option in 2002, Magyar Telekom andCosmoTelco amended the option agreement as a result of which CosmoTelco haduntil 2003 to exercise its option for a 10% share in Stonebridge. MagyarTelekom paid a fee of EUR 7 million (HUF 1,715 million) in return forCosmoTelco letting the option for the remaining 11.55% share expire unexercisedin 2002. In 2003, the parties agreed that CosmoTelco allowed its option tolapse, and Magyar Telekom paid EUR 2.5 million (HUF 658 million) to CosmoTelco.

As of October 26,2004 Magyar Telekom acquired CosmoTelco’s 7.44% share of ownership inStonebridge, whereby Magyar Telekom became the sole owner of Stonebridge. As aresult of this acquisition, Magyar Telekom’s effective ownership in MakTelincreased to 51%. Total acquisition cost of the transaction amounted to HUF9,003 million.

Since Magyar Telekom has a100% ownership in Stonebridge, the holding company structure is no longernecessary. In November 2005 Magyar Telekom commenced the winding-up ofStonebridge in accordance with the relevant Macedonian laws. Once the processis complete, Magyar Telekom will directly own its shares in MakTel, thussimplifying the ownership structure.

F-37

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

***(d) Purchaseof subsidiaries and business units in the cashflow statement***

| ** **                                              | ** ** | **For the year ended  December 31,** | ** ** |
|---------------------------------------------------------|------------|----------------------------------------------------------|------------|
| ** **                                              | ** ** | **2003**                                                 | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                                              | ** ** | **(in HUF millions)**                          | ** ** |
| CGT                                                     |       | —                                                   |       | — |   | 35,927 |   |
| T-Systems Hungary                                       |       | —                                                   |       | 3,430 |   | — |   |
| Stonebridge                                             |       | 5,545                                                    |       | 13,355 |   | — |   |
| Amounts paid to  CosmoTelco for unexercised call option |       | 658                                                      |       | — |   | — |   |
| Other                                                   |       | 1,789                                                    |       | 488 |   | — |   |
| Total purchase of  subsidiaries and business units      |       | 7,992                                                    |       | 17,273 |   | 35,927 |   |

 

Other items include theconsideration paid for shares of non-principal subsidiaries and business units.

**6**                    Cash and cashequivalents

| ** ** | ** ** | **At December 31,**   | ** ** |
|------------|------------|---------------------------------|------------|
| ** ** | ** ** | **2004**                        | ** ** | **2005** | ** ** |
| ** ** | ** ** | **(in HUF millions)** | ** ** | **Average  interest  rate** | ** ** |
| HUF        |       | 1,552                           |       | 1,794 |   |   | 3.22 | % |   |
| MKD        |       | 22,110                          |       | 21,916 |   |   | 6.38 | % |   |
| EUR        |       | 7,815                           |       | 13,527 |   |   | 2.12 | % |   |
| Other      |       | 5,402                           |       | 8,823 |   |   | 3.44 | % |   |
|       |       | 36,879                          |       | 46,060 |   |   | 4.44 | % |   |

 

| ** **                          | ** ** | **At December 31,**   | ** ** |
|-------------------------------------|------------|---------------------------------|------------|
| ** **                          | ** ** | **2004**                        | ** ** | **2005** | ** ** |
| ** **                          | ** ** | **(in HUF millions)** | ** ** |
| Cash on hand                        |       | 93                              |       | 166 |   |
| Cash in banks and  cash equivalents |       | 36,786                          |       | 45,894 |   |
|                                |       | 36,879                          |       | 46,060 |   |

 

**7**                    Otherfinancial assets

Other financial assetsinclude financial assets held for trading including financial instruments withmaturities between three to twelve months and other instruments at fair valuethrough profit or loss. The balance as at December 31, 2004 also includedthe fair value of certain embedded derivatives (HUF 438 million) that werederecognized against retained earnings as a result of the change in accountingpolicy for the recognition of embedded derivatives (note 2 (e)).

F-38

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**8**                    Trade andother receivables

| ** **                                         | ** ** | **At December 31,**   | ** ** |
|----------------------------------------------------|------------|---------------------------------|------------|
| ** **                                         | ** ** | **2004**                        | ** ** | **2005** | ** ** |
| ** **                                         | ** ** | **(in HUF millions)** | ** ** |
| Domestic trade  receivables                        |       | 87,290                          |       | 100,206 |   |
| Foreign trade  receivables                         |       | 4,624                           |       | 7,080 |   |
| Receivables from  associates                       |       | 555                             |       | 1,008 |   |
| Receivables from  Deutsche Telekom Group companies |       | 1,200                           |       | 1,943 |   |
| Advances paid for  current assets                  |       | 796                             |       | 2,577 |   |
| Other taxes  receivable                            |       | 4,259                           |       | 2,742 |   |
| Prepayments and  accrued income                    |       | 2,128                           |       | 3,686 |   |
| Other receivables                                  |       | 6,864                           |       | 7,932 |   |
|                                               |       | 107,716                         |       | 127,174 |   |
| Allowance for  impairment loss                     |       | (24,276                         | )          | (29,991 | ) |
| ** **                                         |       | 83,440                          |       | 97,183 |   |

 

Theallowance for impairment loss and changes therein for 2004 and 2005 are asfollows:

| ** **                                                 | ** ** | **At December 31,**   | ** ** |
|------------------------------------------------------------|------------|---------------------------------|------------|
| ** **                                                 | ** ** | **2004**                        | ** ** | **2005** | ** ** |
| ** **                                                 | ** ** | **(in HUF millions)** | ** ** |
| Impairment loss,  beginning of period                      |       | (20,960                         | )          | (24,276 | ) |
| Charged to  expense (included in other operating expenses) |       | (6,082                          | )          | (6,266 | ) |
| Impairment losses  of acquired companies on acquisition    |       | —                          |       | (3,674 | ) |
| Utilized and  translation differences                      |       | 2,766                           |       | 4,225 |   |
| Impairment loss, end of  period                            |       | (24,276                         | )          | (29,991 | ) |

 

**9**                    Inventories

| ** **                              | ** ** | **At December 31,**   | ** ** |
|-----------------------------------------|------------|---------------------------------|------------|
| ** **                              | ** ** | **2004**                        | ** ** | **2005** | ** ** |
| ** **                              | ** ** | **(in HUF millions)** | ** ** |
| Cables, wires and  other materials      |       | 3,933                           |       | 3,493 |   |
| Inventory for  resale                   |       | 4,724                           |       | 6,215 |   |
| Subtotal                                |       | 8,657                           |       | 9,708 |   |
| Less allowances  for obsolete inventory |       | (988                            | )          | (1,294 | ) |
|                                    |       | 7,669                           |       | 8,414 |   |

 

**10**             Assetsheld for disposal

Assets held for disposal include land and buildingsidentified for sale, which is expected within 12 months, as a result of thecontinuing improvement of utilization of properties and headcount reductions.All of these assets are included in the Fixed line segment.

F-39

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**11**             Property, plant andequipment—net

| ** **                                   | ** ** | **Land and  equivalent  rights** | ** ** | **Buildings** | ** ** | **Telecom.  equipment** | ** ** | **Other  equipment** | ** ** | **Total** | ** ** |
|----------------------------------------------|------------|---------------------------------------|------------|---------------|------------|-------------------------|------------|----------------------|------------|-----------|------------|
| ** **                                   | ** ** | **in HUF millions**         | ** ** |
| **At January 1, 2004**                  | ** ** |                                  | ** ** | ** **    |       |                    | ** ** | ** **           |       |      | ** ** | ** ** |   |   | ** ** | ** ** |   | ** ** | ** ** |
| Cost                                         |       |                                  | 5,963      |          |       |                    | 110,638    |                 |       |      | 852,404    |   |   |   | 135,049 |   |   | 1,104,054 |   |
| Accumulated depreciation                     |       |                                  | (1,430     | )             |       |                    | (19,040    | )                    |       |      | (369,552   | ) |   |   | (88,528 | ) |   | (478,550 | ) |
| Carrying amount                              |       |                                  | 4,533      |          |       |                    | 91,598     |                 |       |      | 482,852    |   |   |   | 46,521 |   |   | 625,504 |   |
| Carrying amount—January 1, 2004    |       |                                  | 4,533      |          |       |                    | 91,598     |                 |       |      | 482,852    |   |   |   | 46,521 |   |   | 625,504 |   |
| Exchange differences                         |       |                                  | (2         | )             |       |                    | (779       | )                    |       |      | (3,914     | ) |   |   | (384 | ) |   | (5,079 | ) |
| Reclassifications                            |       |                                  | —     |          |       |                    | —     |                 |       |      | (858       | ) |   |   | — |   |   | (858 | ) |
| Acquisitions                                 |       |                                  | —     |          |       |                    | 1          |                 |       |      | 170        |   |   |   | 145 |   |   | 316 |   |
| Additions                                    |       |                                  | 145        |          |       |                    | 5,066      |                 |       |      | 43,387     |   |   |   | 12,375 |   |   | 60,973 |   |
| Disposals                                    |       |                                  | (398       | )             |       |                    | (1,141     | )                    |       |      | (642       | ) |   |   | (379 | ) |   | (2,560 | ) |
| Impairment charge                            |       |                                  | —     |          |       |                    | —     |                 |       |      | (5,355     | ) |   |   | — |   |   | (5,355 | ) |
| Depreciation charge                          |       |                                  | (364       | )             |       |                    | (3,173     | )                    |       |      | (75,788    | ) |   |   | (19,463 | ) |   | (98,788 | ) |
| Carrying amount—December 31,  2004 |       |                                  | 3,914      |          |       |                    | 91,572     |                 |       |      | 439,852    |   |   |   | 38,815 |   |   | 574,153 |   |
| **At  December 31, 2004**               | ** ** |                                  | ** ** | ** **    |       |                    | ** ** | ** **           |       |      | ** ** | ** ** |   |   | ** ** | ** ** |   | ** ** | ** ** |
| Cost                                         |       |                                  | 5,543      |          |       |                    | 112,328    |                 |       |      | 868,615    |   |   |   | 135,396 |   |   | 1,121,882 |   |
| Accumulated depreciation                     |       |                                  | (1,629     | )             |       |                    | (20,756    | )                    |       |      | (428,763   | ) |   |   | (96,581 | ) |   | (547,729 | ) |
| Carrying amount                              |       |                                  | 3,914      |          |       |                    | 91,572     |                 |       |      | 439,852    |   |   |   | 38,815 |   |   | 574,153 |   |
| Of which held for disposal                   |       |                                  |       |          |       |                    |       |                 |       |      |       |   |   |   |   |   |   | (3,063 | ) |
|                                         |       |                                  |       |          |       |                    |       |                 |       |      |       |   |   |   |   |   |   | 571,090 |   |
| Carrying amount—January 1, 2005    |       |                                  | 3,914      |          |       |                    | 91,572     |                 |       |      | 439,852    |   |   |   | 38,815 |   |   | 574,153 |   |
| Exchange differences                         |       |                                  | 27         |          |       |                    | 500        |                 |       |      | 2,106      |   |   |   | 149 |   |   | 2,782 |   |
| Acquisitions                                 |       |                                  | 1,226      |          |       |                    | 6,502      |                 |       |      | 19,116     |   |   |   | 1,843 |   |   | 28,687 |   |
| Additions                                    |       |                                  | 185        |          |       |                    | 6,625      |                 |       |      | 54,194     |   |   |   | 14,701 |   |   | 75,705 |   |
| Disposals                                    |       |                                  | (203       | )             |       |                    | (818       | )                    |       |      | (201       | ) |   |   | (313 | ) |   | (1,535 | ) |
| Impairment charge                            |       |                                  | —     |          |       |                    | (75        | )                    |       |      | (199       | ) |   |   | (117 | ) |   | (391 | ) |
| Depreciation charge                          |       |                                  | (214       | )             |       |                    | (3,137     | )                    |       |      | (76,916    | ) |   |   | (16,096 | ) |   | (96,363 | ) |
| Carrying amount—December 31,  2005 |       |                                  | 4,935      |          |       |                    | 101,169    |                 |       |      | 437,952    |   |   |   | 38,982 |   |   | 583,038 |   |
| **At  December 31, 2005**               | ** ** |                                  | ** ** | ** **    |       |                    | ** ** | ** **           |       |      | ** ** | ** ** |   |   | ** ** | ** ** |   | ** ** | ** ** |
| Cost                                         |       |                                  | 6,743      |          |       |                    | 124,636    |                 |       |      | 931,111    |   |   |   | 143,832 |   |   | 1,206,322 |   |
| Accumulated depreciation                     |       |                                  | (1,808     | )             |       |                    | (23,467    | )                    |       |      | (493,159   | ) |   |   | (104,850 | ) |   | (623,284 | ) |
| Carrying amount                              |       |                                  | 4,935      |          |       |                    | 101,169    |                 |       |      | 437,952    |   |   |   | 38,982 |   |   | 583,038 |   |
| Of which held for disposal                   |       |                                  |       |          |       |                    |       |                 |       |      |       |   |   |   |   |   |   | (2,302 | ) |
| ** **                                   |       |                                  |       |          |       |                    |       |                 |       |      |       |   |   |   |   |   |   | 580,736 |   |

 

The closing balance of Property, plant and equipmentincludes assets in the course of construction in an amount of HUF 28,069million as at December 31, 2005 (2004: HUF 16,283 million). This wasreported as a separate category until 2004, while in the table above the assetsin course of construction are shown in the categories where the capitalizationis expected. We have also changed the categorization of the 

F-40

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

property plant andequipment, and prior year balances and movements are now shown in line with thenew disclosure.

Acquisitions include the fair value of the assets ofthe companies that were acquired by Magyar Telekom in the reported years.

Additions to property, plant and equipment are shownnet of the investment tax credit related to broadband investments of HUF 5,373million in 2005 (HUF 6,849 million in 2004). For more details, see note 26.

Impairment losses charged in 2005 relate to variousassets, the recoverable amounts of which were defined based on the respectiveassets’ fair value less cost to sell as these were found higher than theirvalue in use.

Impairment losses charged in 2004 mainly related toMLLN node equipment and operational system, DTU, FMUX, High Speed Subscriber’sFacilities. The recoverable amount for the above mentioned equipment wasdefined based on the value in use, determined using discounted cashflowanalysis. The discount rate used in the discounted cashflow calculations was9.74% in 2004. All impairment losses charged are included in the Fixed linesegment.

Included in buildings are assets sold and leased backunder finance lease conditions. At December 31, 2005 the gross book valueof the leased back assets is HUF 752 million and the net book value is HUF645 million.

Included in telecommunications equipment at December 31,2005 are assets leased under operating lease contracts to customers with agross book value of HUF 5,657 million (2004: HUF 5,436 million) and net bookvalue of HUF 2,217 million (2004: HUF 2,730 million). Depreciation for the yearof these assets amounted to HUF 934 million (2004: HUF 463 million).

As a result of the continuous revision of the usefullife of the Group’s assets, the lives of certain assets were changed as of January 1,2005. These assets mainly included ISDN and ADSL equipment, other equipment andvehicles and the change in life resulted in HUF 1,771 million higherdepreciation expense in 2005.

F-41

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**12**             Intangible assets—net

| ** **                                   | ** ** | **Goodwill**                  | ** ** | **Software** | ** ** | **Concessions  and licenses** | ** ** | **Brand  name** | ** ** | **Other** | ** ** | **Total** | ** ** |
|----------------------------------------------|------------|-------------------------------|------------|--------------|------------|------------------------------------|------------|-----------------|------------|-----------|------------|-----------|------------|
| ** **                                   | ** ** | **in HUF millions** | ** ** |
| **At January 1, 2004**                  |       |                          |       |         |       |                               |       |            |       |      |       |      |       |   |   |
| Cost                                         |       | 289,183                       |       | 75,747       |       |                               | 19,770     |            |       | 7,706     |       | 6,769     |       | 399,175 |   |
| Accumulated amortization                     |       | (57,062                       | )          | (40,401      | )          |                               | (6,251     | )               |       | (2,839    | )          | (4,290    | )          | (110,843 | ) |
| Carrying amount                              |       | 232,121                       |       | 35,346       |       |                               | 13,519     |            |       | 4,867     |       | 2,479     |       | 288,332 |   |
| Carrying amount—January 1, 2004    |       | 232,121                       |       | 35,346       |       |                               | 13,519     |            |       | 4,867     |       | 2,479     |       | 288,332 |   |
| Exchange differences                         |       | —                        |       | (227         | )          |                               | (2         | )               |       | —    |       | (433      | )          | (662 | ) |
| Reclassifications                            |       | —                        |       | 858          |       |                               | —     |            |       | —    |       | —    |       | 858 |   |
| Acquisitions                                 |       | 8,675                         |       | —       |       |                               | —     |            |       | 365       |       | 151       |       | 9,191 |   |
| Additions                                    |       | —                        |       | 16,898       |       |                               | 17,073     |            |       | —    |       | 206       |       | 34,177 |   |
| Disposals                                    |       | —                        |       | (2           | )          |                               | —     |            |       | —    |       | (20       | )          | (22 | ) |
| Impairment                                   |       | —                        |       | —       |       |                               | —     |            |       | (4,426    | )          | —    |       | (4,426 | ) |
| Amortization charge                          |       | (13,876                       | )          | (12,791      | )          |                               | (1,638     | )               |       | (346      | )          | (446      | )          | (29,097 | ) |
| Carrying  amount—December 31, 2004 |       | 226,920                       |       | 40,082       |       |                               | 28,952     |            |       | 460       |       | 1,937     |       | 298,351 |   |
| **At  December 31, 2004**               |       |                          |       |         |       |                               |       |            |       |      |       |      |       |   |   |
| Cost                                         |       | 297,858                       |       | 90,101       |       |                               | 36,829     |            |       | 525       |       | 5,661     |       | 430,974 |   |
| Accumulated amortization                     |       | (70,938                       | )          | (50,019      | )          |                               | (7,877     | )               |       | (65       | )          | (3,724    | )          | (132,623 | ) |
| Carrying amount                              |       | 226,920                       |       | 40,082       |       |                               | 28,952     |            |       | 460       |       | 1,937     |       | 298,351 |   |
| Carrying amount—January 1, 2005    |       | 226,920                       |       | 40,082       |       |                               | 28,952     |            |       | 460       |       | 1,937     |       | 298,351 |   |
| Exchange differences                         |       | 115                           |       | 336          |       |                               | 61         |            |       | 35        |       | 81        |       | 628 |   |
| Acquisitions                                 |       | 5,122                         |       | 1,698        |       |                               | 2,820      |            |       | 1,740     |       | 3,700     |       | 15,080 |   |
| Additions                                    |       | —                        |       | 16,705       |       |                               | —     |            |       | —    |       | 6,964     |       | 23,669 |   |
| Amortization charge                          |       | —                        |       | (14,676      | )          |                               | (2,055     | )               |       | (319      | )          | (881      | )          | (17,931 | ) |
| Carrying  amount—December 31, 2005 |       | 232,157                       |       | 44,145       |       |                               | 29,778     |            |       | 1,916     |       | 11,801    |       | 319,797 |   |
| **At  December 31, 2005**               |       |                          |       |         |       |                               |       |            |       |      |       |      |       |   |   |
| Cost                                         |       | 232,157                       |       | 110,038      |       |                               | 40,139     |            |       | 2,305     |       | 16,197    |       | 400,836 |   |
| Accumulated amortization                     |       | —                        |       | (65,893      | )          |                               | (10,361    | )               |       | (389      | )          | (4,396    | )          | (81,039 | ) |
| Carrying amount                              |       | 232,157                       |       | 44,145       |       |                               | 29,778     |            |       | 1,916     |       | 11,801    |       | 319,797 |   |

 

We have changed the categorization of intangibleassets, prior year balances and movements are now shown in line with the newdisclosure.

Acquisitions include the assets of the companies thatwere acquired by Magyar Telekom in the reported years and the goodwill arisingon acquisitions.

The amortization expense as well as the impairmentlosses of intangible assets including goodwill is accounted for in thedepreciation and amortization line of the income statement.

The Group carried out an impairment test on goodwillin the last quarter of 2004 and 2005 and established that the carrying amountgoodwill allocated to the cash generating units did not suffer impairment asthe recoverable amounts of the segments based on value in use determined using discountedprojected cashflows proved to be higher than the carrying values. Consequently,no goodwill 

F-42

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

impairment was charged inany of the reported years. The cashflows attributable to the nationaloperations of the segments were projected for the coming ten years withterminal values determined.

The most significant amounts of goodwill are allocatedto the Hungarian and the International operations of the Mobile segment. Beyondthe 10 year planning period, the perpetual growth rates of these Mobileoperations were determined at 2.5%. The weighted average cost of capital wasdetermined at 7.43% for the Hungarian Mobile operations, and 9.34% for theInternational Mobile operations.

In 2004, the Hungarian mobile subsidiary, Westel, wasrenamed to T-Mobile Hungary. As a result of the change of the brand name, thecarrying value of the capitalized Westel brand name was impaired and thenderecognized after the completion of the rebranding.

Themost significant individual intangible assets as of December 31, 2005 arelisted in the table below.

| **Description**                                 | ** ** | ** ** | ** ** | **Carrying amount  in HUF millions** | ** ** | **Remaining  useful life** | ** ** |
|-------------------------------------------------|------------|------------|------------|-----------------------------------------------------|------------|---------------------------------|------------|
| ** **                                      | ** ** | ** ** | ** ** | **(years)**                                         | ** ** |
| Goodwill  allocated to Hungarian Mobile         |       |       | 161,374    |                                                |       |                            | —     |   |   |
| Goodwill  allocated to International Mobile     |       |       | 44,156     |                                                |       |                            | —     |   |   |
| Goodwill  allocated to Hungarian Fixed line     |       |       | 13,655     |                                                |       |                            | —     |   |   |
| Goodwill  allocated to International Fixed line |       |       | 12,972     |                                                |       |                            | —     |   |   |
| T-Mobile H UMTS  licence                        |       |       | 16,654     |                                                |       |                            | 14         |   |   |
| T-Mobile H DCS  1,800 licence                   |       |       | 8,368      |                                                |       |                            | 9          |   |   |
| Other intangible  assets                        |       |       | 62,618     |                                                |       |                            | 3-10       |   |   |
|                                            |       |       | 319,797    |                                                |       |                            |       |   |   |

 

**13**             Purchase of tangibleand intangible assets

| ** **                                           | ** ** | **For the year ended December 31,** | ** ** |
|------------------------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                                           | ** ** | **2003**                                                     | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                                           | ** ** | **(in HUF millions)**                              | ** ** |
| Additions to  property, plant and equipment          |       | 70,767                                                       |       | 60,973 |   | 75,705 |   |
| Additions to  intangible assets                      |       | 17,506                                                       |       | 34,177 |   | 23,669 |   |
| Total additions  to tangible and intangible assets   |       | 88,273                                                       |       | 95,150 |   | 99,374 |   |
| Recognition of investment tax credit (note 26)       |       | —                                                       |       | 6,849 |   | 5,373 |   |
| Change in  payables relating to capital expenditures |       | 2,515                                                        |       | (10,251 | ) | (1,160 | ) |
|                                                 |       | 90,788                                                       |       | 91,748 |   | 103,587 |   |

 

F-43

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**14**             Associates 

| ** **                                          | ** ** | **For the year ended  December 31,** | ** ** |
|-----------------------------------------------------|------------|----------------------------------------------------------|------------|
| ** **                                          | ** ** | **2004**                                                 | ** ** | **2005** | ** ** |
| ** **                                          | ** ** | **(in HUF millions)**                          | ** ** |
| Opening balance  of associates                      |       | 4,827                                                    |       | 5,750 |   |
| Acquisition of  TSH.                                |       | 1,602                                                    |       | — |   |
| Goodwill arising  on TSH’s acquisition         |       | 149                                                      |       | — |   |
| TSI’s capital  injection to TSH                |       | —                                                   |       | 669 |   |
| Other additions                                     |       | 10                                                       |       | — |   |
| Share of  associates’ profits/losses after tax |       | 1,896                                                    |       | 330 |   |
| Disposal of  associates                             |       | (101                                                     | )          | — |   |
| Dividends                                           |       | (2,633                                                   | )          | (1,729 | ) |
| Closing balance of  associates                      |       | 5,750                                                    |       | 5,020 |   |

 

Thefollowing table shows the total assets and liabilities as at December 31,2005, and revenues and profit for the year ended December 31, 2005 of themajor associates of the Group.

| ** **          | ** ** | **Hunsat**                      | ** ** | **T-Systems  Hungary** | ** ** | **Magyar  RTL** | ** ** |
|---------------------|------------|---------------------------------|------------|------------------------|------------|-----------------|------------|
| ** **          | ** ** | **(in HUF millions)** | ** ** |
| Total assets        |       |                            | 1,327      |                   |       |            | 9,420      |   |   | 30,486 |   |
| Total liabilities   |       |                            | 911        |                   |       |            | 6,264      |   |   | 19,537 |   |
| Revenues            |       |                            | 3,324      |                   |       |            | 9,323      |   |   | 30,797 |   |
| Profit for the year |       |                            | 316        |                   |       |            | 315        |   |   | 2,988 |   |

 

The profit of T-SystemsHungary includes the income from the loan forgiven by its majority owner, T-SystemsInternational in an amount of HUF 1,366 million. See more details in note d on page F-7.

**15**             Other non currentassets

| ** **              | ** ** | **At December 31,**   | ** ** |
|-------------------------|------------|---------------------------------|------------|
| ** **              | ** ** | **2004 as  reported**      | ** ** | **2005** | ** ** |
| ** **              | ** ** | **(in HUF millions)** | ** ** |
| Employee loans          |       |                            | 3,515      |   |   | 4,089 |   |
| Other loans  receivable |       |                            | 326        |   |   | 98 |   |
| Derivative  instruments |       |                            | 435        |   |   | — |   |
| Other                   |       |                            | 2,388      |   |   | 2,014 |   |
|                    |       |                            | 6,664      |   |   | 6,201 |   |

 

Derivative instruments asat December 31, 2004 included the fair value of certain embeddedderivatives that were derecognized against retained earning as a result of thechange in accounting policy for the recognition of embedded derivatives (note 2(e)).

F-44

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**16**             FinancialInstruments

Financial instruments carried on the balance sheetinclude cash and bank balances, financial investments, trade and otherreceivables, trade and other payables, loans and other borrowings. MagyarTelekom is occasionally also a party to derivative financial instruments thatreduce exposure to fluctuations in foreign currency exchange.

For the acquisition of the remaining 49% of T-MobileHungary and 44% of MakTel Group in 2001, Magyar Telekom received loans fromDeutsche Telekom International Finance B.V. (DTIF), the treasury vehicle ofDeutsche Telekom. In 2002, Magyar Telekom entered into several swap agreementswith Deutsche Telekom AG in order to exchange the cashflows of the EUR loanspayable to HUF cashflows. These loans were accounted for in the originallydenominated currency (EUR), while the related swap agreements were accountedfor as derivative financial instruments. All swap agreements were terminated in2003 parallel with the refinancing of the underlying loans.

Derivative contracts entered into in 2003, 2004 and2005 were limited to foreign currency forward contracts.

The net carrying amounts of current financial assets reflect reasonableestimates of their fair values due to the short period to maturity of theinstruments.

Non current loans receivable are accounted for at amortized cost.

The fair value ofshort term liabilities other than loans and other borrowings approximates theircarrying values due to their relatively short maturities. For the fair value ofloans and other borrowing see note 17. The fair values of other non currentliabilities are reflected in their carrying amount as they are discounted tofair value.

**17**             Loans and otherborrowings

| ** **                                   | ** ** | ** ** | ** ** | **At December 31,**   | ** ** |
|----------------------------------------------|------------|------------|------------|---------------------------------|------------|
| ** **                                   | ** ** | **Notes**  | ** ** | **2004**                        | ** ** | **2005** | ** ** |
| ** **                                   | ** ** | ** ** | ** ** | **(in HUF millions)** | ** ** |
| Current loans  from related parties          |       |       |       |                            |       | 60,000 |   | 74,648 |   |
| Non current loans  from related parties      |       |       |       |                            |       | 177,675 |   | 212,000 |   |
| Total loans from  related parties            |       |       | (a)        |                            |       | 237,675 |   | 286,648 |   |
| Current bank loans                           |       |       |       |                            |       | 34,161 |   | 43,196 |   |
| Non current bank  loans                      |       |       |       |                            |       | 47,266 |   | 13,278 |   |
| Total bank loans                             |       |       | (b)        |                            |       | 81,427 |   | 56,474 |   |
| Current other borrowings                     |       |       |       |                            |       | 377 |   | 406 |   |
| Non current other  borrowings                |       |       |       |                            |       | 1,129 |   | 937 |   |
| Total other  borrowings                      |       |       |       |                            |       | 1,506 |   | 1,343 |   |
| Total third party loans and other borrowings |       |       |       |                            |       | 82,933 |   | 57,817 |   |
| Total loans and  other borrowings            |       |       |       |                            |       | 320,608 |   | 344,465 |   |

 

F-45

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

At December 31,2005, principal repayments fall due in: 

| ** **                        | ** ** | **Maturity  At December 31,** | ** ** |
|-----------------------------------|------------|-----------------------------------------|------------|
| ** **                        | ** ** | **2004**                                | ** ** | **2005** | ** ** |
| **Year**                          | ** ** | ** **                              | ** ** | **(in HUF millions)** | ** ** |
| 2005                              |       | 94,538                                  |       | — |   |
| 2006                              |       | 103,538                                 |       | 118,250 |   |
| 2007                              |       | 25,673                                  |       | 77,342 |   |
| 2008                              |       | 23,053                                  |       | 23,075 |   |
| 2009                              |       | 33,063                                  |       | 81,090 |   |
| 2010                              |       | —                                  |       | 4,110 |   |
| Thereafter                        |       | 40,743                                  |       | 40,598 |   |
| Total loans and other  borrowings |       | 320,608                                 |       | 344,465 |   |
|                                   |            |                                         |            |  |  |  |  |

 

The effective borrowing cost (total interest payableand other charges) for Magyar Telekom’s loans and borrowings was 10.1% in 2005(11.9% in both in 2004 and 2003). The weighted average interest rate onborrowings was 9.4% in 2005 (10.9% in 2004, 7.5% in 2003).

F-46

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

***(a) Loans from related parties***

Primarily all the related party loans are taken fromDeutsche Telekom International Finance (DTIF), the treasury vehicle of DeutscheTelekom Group, and are denominated in HUF. One loan as at December 31,2005, however, was taken from Deutsche Telekom AG (DTAG). DTAG provided thisloan to Magyar Telekom for the financing of the rebranding, the finalsettlement of which was due in February 2006.

Thetable below shows the details of the loans outstanding as at December 31,2005.

| **Lender**        | ** ** | ** **              | ** ** | **Amount** | ** ** | **Interest rate  (%)** | ** ** | **Fixed /  variable** | ** ** | **Repayable** | ** ** |
|-------------------|------------|-------------------------|------------|------------|------------|-----------------------------|------------|----------------------------|------------|---------------|------------|
| ** **        | ** ** | **(HUF millions)** | ** ** | ** ** | ** ** | ** **                  | ** ** | ** **                 | ** ** |
| DTIF              |       |                    | 73,675     |       |       |                        | 9.36       |                       |       | fixed         |       | Jan 2006 |   |
| DTAG              |       |                    | 973        |       |       |                        | 6.19       |                       |       | variable      |       | Feb 2006 |   |
| Total current     |       |                    | 74,648     |       |       |                        |       |                       |       |          |       |   |   |
| DTIF              |       |                    | 20,000     |       |       |                        | 7.55       |                       |       | fixed         |       | Jan 2007 |   |
| DTIF              |       |                    | 20,000     |       |       |                        | 7.61       |                       |       | fixed         |       | May 2007 |   |
| DTIF              |       |                    | 14,000     |       |       |                        | 10.20      |                       |       | fixed         |       | May 2007 |   |
| DTIF              |       |                    | 20,000     |       |       |                        | 7.45       |                       |       | fixed         |       | Dec 2007 |   |
| DTIF              |       |                    | 20,000     |       |       |                        | 8.21       |                       |       | fixed         |       | May 2008 |   |
| DTIF              |       |                    | 5,000      |       |       |                        | 9.68       |                       |       | fixed         |       | Sep 2009 |   |
| DTIF              |       |                    | 20,000     |       |       |                        | 7.53       |                       |       | fixed         |       | Oct 2009 |   |
| DTIF              |       |                    | 25,000     |       |       |                        | 9.61       |                       |       | fixed         |       | Oct 2009 |   |
| DTIF              |       |                    | 28,000     |       |       |                        | 6.40       |                       |       | variable      |       | Oct 2009 |   |
| DTIF              |       |                    | 40,000     |       |       |                        | 8.73       |                       |       | fixed         |       | May 2012 |   |
| Total non current |       |                    | 212,000    |       |       |                        |       |                       |       |          |       |   |   |
|              |       |                    | 286,648    |       |       |                        |       |                       |       |          |       |   |   |

 

***(b) Bank loans***

Bank loans are denominated in HUF and EUR at December 31,2005, while in 2004 all bank loans were denominated in HUF.

Loans totaling HUF 3,825 million at December 31,2005 are revolving loans (HUF 25,581 million in 2004) which can be prepaid atany time and may be drawn down in one to six month rolling periods.

Certain loan agreements contain covenant restrictionsthat require the maintenance of pre-defined financial ratios. Breach of thosecovenants would result in HUF 2,000 million (HUF 15,500 million in 2004) beingdue and payable in 30 days if not remedied. At December 31, 2005 theCompany was in compliance with these covenants. One of the covenants allows adebt to EBITDA (earnings before interest, tax, depreciation and amortization)ratio of maximum 3.0. The other covenant requires the maintenance of an EBITDAto interest expense ratio of minimum 2.0.

F-47

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

Thefollowing table shows the weighted average interest rates of bank loans as at December 31,2005.

| ** **                           | ** ** | **Maturities**                                                | ** ** | ** ** | ** ** |
|--------------------------------------|------------|---------------------------------------------------------------|------------|------------|------------|
| ** **                           | ** ** | **2006**                                                      | ** ** | **2007**   | ** ** | **2008** | ** ** | **2009** | ** ** | **2010** | ** ** | **Thereafter** | ** ** | **Total** | ** ** |
| ** **                           | ** ** | **(in HUF millions, except percentages)** | ** ** |
| **Bank  loans (HUF****Denominated)** |       | * *                                                      | * *   |       |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Variable rate                        |       | 41,917                                                        | * *   | 3,125      |       | 3,000 |   | 3,000 |   | 4,000 |   |   | — |   |   | 55,042 |   |
| *Average interest rate*              | * *   | *6.43*                                                        | *%*        | *6.64*     | *%*        | *6.43* | *%* | *6.67* | *%* | *6.62* | *%* | * * | *—* |   | * * | *6.47* | *%* |
| **Bank loans (EUR Denominated)**     |       | * *                                                      | * *   |       |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Variable rate                        |       | 458                                                           | * *   | 126        |       | — |   | — |   | — |   |   | — |   |   | 584 |   |
| *Average interest rate*              | * *   | *6.31*                                                        | *%*        | *5.29*     | *%*        | * * | * * | * * | * * | * * | * * | * * | * * |   | * * | *6.09* | *%* |
| Fixed rate                           |       | 821                                                           | * *   | 27         |       | — |   | — |   | — |   |   | — |   |   | 848 |   |
| *Average interest rate*              | * *   | *6.05*                                                        | *%*        | *5.90*     | *%*        | * * | * * | * * | * * | * * | * * | * * | * * |   | * * | *6.05* | *%* |
| Total                                |       | 1,279                                                         | * *   | 153        |       | — |   | — |   | — |   |   | — |   |   | 1,432 |   |
| Total bank loans                     |       | 43,196                                                        | * *   | 3,278      |       | 3,000 |   | 3,000 |   | 4,000 |   |   | — |   |   | 56,474 |   |

 

***(c) Fair values***

Thefollowing table is a summary of Magyar Telekom’s market sensitive debtinstruments, including fair value calculated using the discounted cashflowmethod.

| ** **                 | ** ** | **At December 31,**   | ** ** |
|----------------------------|------------|---------------------------------|------------|
| ** **                 | ** ** | **2004**                        | ** ** | **2005** | ** ** |
| ** **                 | ** ** | **Book value**             | ** ** | **Fair value** | ** ** | **Book value** | ** ** | **Fair value** | ** ** |
| ** **                 | ** ** | **(in HUF millions)** | ** ** |
| **Bank  loans**            |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Fixed rate                 |       |                            | —     |   |   |   | — |   |   |   | 848 |   |   |   | 848 |   |   |
| Variable rate              |       |                            | 81,427     |   |   |   | 81,427 |   |   |   | 55,626 |   |   |   | 55,626 |   |   |
| Total bank loans           |       |                            | 81,427     |   |   |   | 81,427 |   |   |   | 56,474 |   |   |   | 56,474 |   |   |
| **Related party loans**    |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Fixed rate                 |       |                            | 177,675    |   |   |   | 178,997 |   |   |   | 257,675 |   |   |   | 268,599 |   |   |
| Variable rate              |       |                            | 60,000     |   |   |   | 60,000 |   |   |   | 28,973 |   |   |   | 28,973 |   |   |
| Total related party  loans |       |                            | 237,675    |   |   |   | 238,997 |   |   |   | 286,648 |   |   |   | 297,572 |   |   |

 

Variable interest rate loans are subject to interestscalculated based on mostly BUBOR (Budapest Inter-Bank Offered Rate) plus amargin interest formula.

The majority of the Group’sloans and borrowings are subject to fixed interest rates that are exposed tofair value risk as it is stated in the table above. Any decrease of marketinterest rates will result in an increase of the fair value of the liabilities.The rest of the Group’s loans and borrowings are subject to variable interests,which are exposed to cashflow risks if interest rates are rising, resulting inhigher cash outflows through interest payments.

***(d) Credit facilities and pledges***

At December 31, 2005,Magyar Telekom had un-drawn committed credit facilities of HUF 71,374 million.These credit facilities, should they be drawn down, are subject to an interestrate of LIBOR, 

F-48

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

BUBORand commercial floating bank prime rates plus a margin depending on thecurrency and institution providing the facilities. There are pledges onreceivables for loans totaling HUF 181 million.

**18**             Trade and otherpayables

| ** **                          | ** ** | **At December 31,**   | ** ** |
|-------------------------------------|------------|---------------------------------|------------|
| ** **                          | ** ** | **2004**                        | ** ** | **2005** | ** ** |
| ** **                          | ** ** | **(in HUF millions)** | ** ** |
| Domestic trade  payables            |       | 47,529                          |       | 58,292 |   |
| Foreign trade  payables             |       | 3,885                           |       | 7,658 |   |
| UMTS license fee  payable           |       | 11,500                          |       | — |   |
| Salaries and  wages                 |       | 10,175                          |       | 8,794 |   |
| Other taxes and  social security    |       | 8,305                           |       | 12,191 |   |
| Amounts received  in advance        |       | 6,380                           |       | 6,861 |   |
| Accrued expenses  and prepayments   |       | 5,457                           |       | 6,587 |   |
| Accrued interest  to DTIF           |       | 5,491                           |       | 6,198 |   |
| Accrued interest  to third parties  |       | 906                             |       | 461 |   |
| Amounts owed to  DT Group companies |       | 2,321                           |       | 1,828 |   |
| Payable to  associates              |       | 1,621                           |       | 694 |   |
| Dividends payable                   |       | 61                              |       | 77 |   |
| Other payables                      |       | 6,290                           |       | 9,823 |   |
| ** **                          |       | 109,921                         |       | 119,464 |   |

 

Included in other payables as at December 31,2005 is an amount of HUF 2,950 million (HUF 1,544 million as at December 31,2004) potentially repayable to universal customers related to the reduced fixedto mobile termination charges (note 30), which was accounted for as a reductionof revenues.

Included in other payablesis also HUF 739 million that relates to the acquisition of a service contractin 2005 for the operation of a governmental backbone network. This representsthe short term portion of a total amount of HUF 6,095 million payable, whilethe rest is included in Other non current liabilities, which caused the increaseof that line of the balance sheet as at December 31, 2005.

**19**             Deferred revenue

| ** **                               | ** ** | **At December 31,**   | ** ** |
|------------------------------------------|------------|---------------------------------|------------|
| ** **                               | ** ** | **2004**                        | ** ** | **2005** | ** ** |
| ** **                               | ** ** | **(in HUF millions)** | ** ** |
| Beginning of  period                     |       | 4,446                           |       | 2,688 |   |
| Amortization                             |       | (1,758                          | )          | (1,503 | ) |
| End of period                            |       | 2,688                           |       | 1,185 |   |
| Amount to be recognized  within one year |       | 1,502                           |       | 918 |   |

 

F-49

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**20**             Provision forliabilities and charges

| ** **                              | ** ** | **Severance**                   | ** ** | **Customer  loyalty  programs** | ** ** | **Legal cases** | ** ** | **Other** | ** ** | **Total** | ** ** |
|-----------------------------------------|------------|---------------------------------|------------|---------------------------------|------------|----------------------|------------|-----------|------------|-----------|------------|
| ** **                              | ** ** | **(in HUF millions)** | ** ** |
| January 1,  2004                   |       |                            | 1,570      |                            |       |                 | 1,453      |      |       |      | 3,061      |   |   | 415 |   | 6,499 |   |
| Amounts utilized  / retired             |       |                            | (1,570     | )                               |       |                 | (1,453     | )         |       |      | (1,369     | ) |   | (330 | ) | (4,722 | ) |
| Additions                               |       |                            | 13,022     |                            |       |                 | 1,785      |      |       |      | 1,468      |   |   | 246 |   | 16,521 |   |
| December 31,  2004                 |       |                            | 13,022     |                            |       |                 | 1,785      |      |       |      | 3,160      |   |   | 331 |   | 18,298 |   |
| January 1, 2005                    |       |                            | 13,022     |                            |       |                 | 1,785      |      |       |      | 3,160      |   |   | 331 |   | 18,298 |   |
| Acquired through  business combinations |       |                            | —     |                            |       |                 | —     |      |       |      | 173        |   |   | 1,778 |   | 1,951 |   |
| Amounts utilized  / retired             |       |                            | (10,721    | )                               |       |                 | (1,701     | )         |       |      | (2,945     | ) |   | (509 | ) | (15,876 | ) |
| Additions                               |       |                            | 1,328      |                            |       |                 | 1,823      |      |       |      | 2,257      |   |   | 177 |   | 5,585 |   |
| December 31,  2005                 |       |                            | 3,629      |                            |       |                 | 1,907      |      |       |      | 2,645      |   |   | 1,777 |   | 9,958 |   |
| Less: non current portion               |       |                            | (1,074     | )                               |       |                 | (1,307     | )         |       |      | (103       | ) |   | (657 | ) | (3,141 | ) |
| Current provision                       |       |                            | 2,555      |                            |       |                 | 600        |      |       |      | 2,542      |   |   | 1,120 |   | 6,817 |   |

 

The provision for severance as at December 31,2005 mostly relates to the employee termination in 2006 and in later years inaccordance with the agreement made with employee representatives of MagyarTelekom Plc. in 2004. The number of employees impacted by the headcountreduction covered in the agreement is approximately 1,900 and includes mostlynetwork and back office personnel. Of this number, approximately 1,600 lay-offswere completed in 2005, while the remaining 300 are expected in the comingyears. In 2005 an additional headcount of 300 was identified for redundancy in2006 in various entities of the Group, for which an additional provision wasrecognized.

The total payments made in relation to employeetermination in 2005 amounted to HUF 14,535 million (HUF 7,549 million in 2004),of which HUF 10,721 million (HUF 1,570 million in 2004) was charged against theprovision for liabilities and charges as at December 31, 2004, while therest was recognized as employee related expense in 2005.

Provision for customer loyalty programs includes thefair value of discount credits earned by customers that have not been utilized.

Provisions for legal casesmainly include amounts expectedly payable to tax and regulatory authorities andamounts expected to be paid as compensation for loss of value of real estatesof inhabitants allegedly caused by cellular base stations installed onneighboring sites.

F-50

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**21**             Revenues—Fixed lineservices

| ** **                                    | ** ** | **For the year ended December 31,** | ** ** |
|-----------------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                                    | ** ** | **2003**                                                     | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                                    | ** ** | **(in HUF millions)**                              | ** ** |
| Subscriptions,  connections and other charges |       | 109,063                                                      |       | 106,224 |   | 105,665 |   |
| Outgoing domestic traffic revenues            |       | 131,659                                                      |       | 112,381 |   | 90,933 |   |
| Outgoing international traffic revenues       |       | 13,096                                                       |       | 12,255 |   | 11,141 |   |
| Total outgoing  traffic revenues              |       | 144,755                                                      |       | 124,636 |   | 102,074 |   |
| Incoming domestic traffic revenues            |       | 10,797                                                       |       | 5,883 |   | 9,618 |   |
| Incoming international traffic revenues       |       | 20,024                                                       |       | 15,781 |   | 16,007 |   |
| Total incoming  traffic revenues              |       | 30,821                                                       |       | 21,664 |   | 25,625 |   |
| Leased lines and data transmission            |       | 41,502                                                       |       | 50,976 |   | 63,743 |   |
| Equipment sales                               |       | 3,249                                                        |       | 3,678 |   | 4,046 |   |
| Other revenues                                |       | 29,265                                                       |       | 26,996 |   | 29,909 |   |
| Total Fixed line  revenues                    |       | 358,655                                                      |       | 334,174 |   | 331,062 |   |

 

Included in other revenuesin 2003 is HUF 6,032 million of subsidies from the Universal TelecommunicationsSupport Fund to compensate for the maintenance of low usage discount packagesprovided by the Hungarian fixed line telecommunications service providers ofthe Group. No such compensation was recognized in 2004 or 2005.

**22**             Revenues—Mobileservices

| ** **                | ** ** | **For the year ended December 31,** | ** ** |
|---------------------------|------------|--------------------------------------------------------------|------------|
| ** **                | ** ** | **2003**                                                     | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                | ** ** | **(in HUF millions)**                              | ** ** |
| Network usage and  access |       | 193,322                                                      |       | 208,193 |   | 226,176 |   |
| Enhanced services         |       | 28,037                                                       |       | 31,945 |   | 38,421 |   |
| Equipment sales           |       | 23,109                                                       |       | 24,549 |   | 22,653 |   |
| Activation fees           |       | 1,534                                                        |       | 820 |   | 819 |   |
| Other revenues            |       | 2,595                                                        |       | 1,757 |   | 1,566 |   |
| Total Mobile revenues     |       | 248,597                                                      |       | 267,264 |   | 289,635 |   |

 

Enhanced services include mainly non-voice value addedservices like SMS, MMS, WAP, GPRS, etc.

F-51

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**23**             Employee relatedexpenses

| ** **                                                                   | ** ** | **For the year ended December 31,** | ** ** |
|------------------------------------------------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                                                                   | ** ** | **2003**                                                     | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                                                                   | ** ** | **(in HUF millions)**                              | ** ** |
| Short term  benefits                                                         |       | 91,056                                                       |       | 92,733 |   | 90,605 |   |
| Share based  payments                                                        |       | —                                                       |       | 70 |   | 270 |   |
| Termination  benefits                                                        |       | 1,101                                                        |       | 20,180 |   | 5,142 |   |
| Total before  capitalization                                                 |       | 92,157                                                       |       | 112,983 |   | 96,017 |   |
| Expenses  capitalized                                                        |       | (4,237                                                       | )          | (3,486 | ) | (3,234 | ) |
|                                                                         |       | 87,920                                                       |       | 109,497 |   | 92,783 |   |
| Total amount paid  to defined contribution plans (including social security) |       | 21,546                                                       |       | 25,876 |   | 21,797 |   |

 

**24**             Other operatingexpenses—net

| ** **                               | ** ** | **For the year ended December 31,** | ** ** |
|------------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                               | ** ** | **2003**                                                     | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                               | ** ** | **(in HUF millions)**                              | ** ** |
| Materials,  maintenance and service fees |       | 57,992                                                       |       | 58,104 |   | 60,696 |   |
| Subcontractors  and agent commissions    |       | 21,792                                                       |       | 22,491 |   | 25,994 |   |
| Marketing                                |       | 16,902                                                       |       | 22,189 |   | 24,888 |   |
| Fees and levies                          |       | 23,833                                                       |       | 20,268 |   | 21,821 |   |
| Consulting                               |       | 6,102                                                        |       | 7,082 |   | 7,571 |   |
| Rental and  operating lease              |       | 6,338                                                        |       | 6,716 |   | 7,246 |   |
| Bad debt expense                         |       | 4,450                                                        |       | 6,082 |   | 6,266 |   |
| Other expenses                           |       | 6,265                                                        |       | 3,448 |   | 6,321 |   |
| Total other  operating expenses          |       | 143,674                                                      |       | 146,380 |   | 160,803 |   |
| Other income                             |       | —                                                       |       | (5,920 | ) | (7,281 | ) |
|                                     |       | 143,674                                                      |       | 140,460 |   | 153,522 |   |

 

Other expenses include HUF 2,059 million paid underfour consulting contracts entered into by the Group, as to which the Companyhas not been able to obtain sufficient evidence that it or its subsidiariesreceived adequate value. This amount also includes the operating taximplications of the payments as well. See Note 1—Investigation into certainconsultancy contracts.

Other income includes compensation received fromDeutsche Telekom AG related to the renaming and rebranding of the Group (note31).

Contributions payable tothe Universal Telecommunications Support Fund were accrued as part of Fees andlevies in 2003 (HUF 5,098 million). According to the decision of the NationalRegulatory Authority on the actual amounts payable, HUF 1,353 million of theaccruals was reversed in 2004 on the same line where the expenses wereoriginally accrued. As the Fund did not accept the claims of the fixed linetelecom operators with respect to 2004 and the same is expected for 2005, noadditional amounts payable were accrued in 2004 or 2005.

F-52

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**25**             Net financialexpenses

| ** **                                                              | ** ** | **For the year ended December 31,** | ** ** |
|-------------------------------------------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                                                              | ** ** | **2003**                                                     | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                                                              | ** ** | **(in HUF millions)**                              | ** ** |
| Interest expense:                                                       |       |                                                         |       |   |   |   |   |
| HUF                                                                     |       | 21,315                                                       |       | 34,611 |   | 31,218 |   |
| Foreign currency                                                        |       | 4,469                                                        |       | 120 |   | 122 |   |
| (Gains) / losses  on the valuation of derivative financial  instruments |       | 972                                                          |       | (647 | ) | — |   |
| Net foreign  exchange losses / (gains)                                  |       | 8,799                                                        |       | 523 |   | (1,014 | ) |
| Other financial  expenses                                               |       | 5,364                                                        |       | 3,183 |   | 3,157 |   |
| Total financial  expenses                                               |       | 40,919                                                       |       | 37,790 |   | 33,483 |   |
| Interest  capitalized                                                   |       | (41                                                          | )          | — |   | — |   |
| Interest and  other financial income                                    |       | (876                                                         | )          | (1,644 | ) | (2,195 | ) |
|                                                                    |       | 40,002                                                       |       | 36,146 |   | 31,288 |   |

 

**26**             Income tax

| ** **             | ** ** | **For the year ended December 31,** | ** ** |
|------------------------|------------|--------------------------------------------------------------|------------|
| ** **             | ** ** | **2003**                                                     | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **             | ** ** | **(in HUF millions)**                              | ** ** |
| Corporate income  tax  |       | 12,259                                                       |       | 9,352 |   | 11,686 |   |
| Deferred income  taxes |       | 1,258                                                        |       | (1,665 | ) | 1,825 |   |
|                   |       | 13,517                                                       |       | 7,687 |   | 13,511 |   |

 

The Company qualified for a reduction in corporateincome tax payable for ten years on meeting certain conditions. The last yearof tax reduction was in 2003, when the Company’s corporate tax payable could bereduced by 60% to 7.2%. 

In December 2003 the Hungarian Parliament passedthe new tax law in which the corporate tax rate was reduced from 18% to 16%from January 2004. Deferred tax balances of the Hungarian members of theGroup were amended accordingly at the end of 2003.

Deferred taxes have been recognized for temporarydifferences arising on the valuation of investments (mainly currencydifferences) in subsidiaries and associates in the parent companies’ books asrequired by IAS 12.

Deferred tax assets are recognized for tax loss carryforwards only to the extent that realization of the related tax benefit isprobable. Recognized tax losses of HUF 2,718 million will expire in 2006, HUF2,435 million in 2007 and HUF 1,517 million in 2008. The remaining balance ofthe recognized tax losses of HUF 31,755 million is not subject tostatutory limitations.

In order to increase broadband internet penetration inHungary, the Hungarian Government decided that companies investing over HUF 100million in broadband assets (e.g. DSL lines) from 2003 can apply for acorporate tax reduction. The potential reduction of the corporate tax charge isdefined as a percentage of the companies’ capital investment in broadbandassets. 

F-53

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

As the recoverability of these investment tax creditswas uncertain in 2003, no deferred tax asset was recognized in 2003. Due to thechange of the assessment of the recoverability, Magyar Telekom recognized adeferred tax asset of HUF 6,849 million in 2004 (HUF 3,879 million related to2004 and HUF 2,970 million related to 2003). As these investment taxcredits are of a governmental grant nature, Magyar Telekom recognized thedeferred tax asset against the cost of the related investment (see also notes11, 13). If the tax credits are not utilized in the year when earned, theamount of tax credits carried forward can be utilized at a higher amount as theGovernment allows the outstanding amounts to be accreted. This accretion isrecognized as an increase in the deferred tax asset against a reduction in theincome tax expense.

Thefollowing table shows the details of the tax credits in HUF millions:

| **Earned  in year** | ** ** | ** ** | ** ** | **Amount of  broadband  investment** | ** ** | **Amount of  tax credit  earned** | ** ** | **Tax credit  utilized** | ** ** | **Accretion  recognized in tax  expense to date** | ** ** | **Tax credit  carried forward at  December 31, 2005** | ** ** |
|--------------------------|------------|------------|------------|-------------------------------------------|------------|---------------------------------------------|------------|-------------------------------|------------|-----------------------------------------------------------------------|------------|--------------------------------------------------------------------------------|------------|
| 2003                     |       |       | 6,638      |                                      |       |                                        | 2,872      |                          |       | (146                                                                  | )          |                                                                           | 464        |   |   |   | 3,190 |   |   |
| 2004                     |       |       | 7,230      |                                      |       |                                        | 3,214      |                          |       | —                                                                |       |                                                                           | 277        |   |   |   | 3,491 |   |   |
| 2005                     |       |       | 15,285     |                                      |       |                                        | 6,136      |                          |       | (2,161                                                                | )          |                                                                           | —     |   |   |   | 3,975 |   |   |
| Total                    |       |       | 29,153     |                                      |       |                                        | 12,222     |                          |       | (2,307                                                                | )          |                                                                           | 741        |   |   |   | 10,656 |   |   |
|                     |       |       |       |                                      |       |                                        |       |                          |       | Expires in                                                            |       |                                                                           | 2007       |   |   |   | 3,190 |   |   |
|                     |       |       |       |                                      |       |                                        |       |                          |       |                                                                  |       |                                                                           | 2014       |   |   |   | 7,145 |   |   |
|                     |       |       |       |                                      |       |                                        |       |                          |       |                                                                  |       |                                                                           | 2015       |   |   |   | 187 |   |   |
|                     |       |       |       |                                      |       |                                        |       |                          |       |                                                                  |       |                                                                           | 2016       |   |   |   | 134 |   |   |
|                     |       |       |       |                                      |       |                                        |       |                          |       |                                                                  |       |                                                                           |       |   |   |   | 10,656 |   |   |

 

MagyarTelekom’s deferred tax balances are as follows: 

| **Deferred tax  assets and (liabilities)**                      | ** ** | ** ** | ** ** | **Balance at  Dec. 31,  2003** | ** ** | **Income  statement  effect** | ** ** | **Other  movements** | ** ** | **Balance at  Dec. 31,  2004** | ** ** | **Income  statement  effect** | ** ** | **Other  movements** | ** ** | **Balance at  Dec. 31,  2005** | ** ** |
|-----------------------------------------------------------------|------------|------------|------------|------------------------------------------|------------|-------------------------------|------------|----------------------|------------|------------------------------------------|------------|-------------------------------|------------|----------------------|------------|------------------------------------------|------------|
| Investment tax credits                                          |       |       | —     |                                     |       |                          | —     |                 |       |                                     | 6,849      |                          |       |                 | 6,849      |                                     |       |   | 741 |   |   |   | 3,066 |   |   |   | 10,656 |   |   |
| Net operating loss carry-forward                                |       |       | 2,377      |                                     |       |                          | 1,344      |                 |       |                                     | —     |                          |       |                 | 3,721      |                                     |       |   | 2,354 |   |   |   | 1 |   |   |   | 6,076 |   |   |
| Investments in subsidiaries                                     |       |       | (500       | )                                        |       |                          | (832       | )                    |       |                                     | (2         | )                             |       |                 | (1,334     | )                                        |       |   | 434 |   |   |   | — |   |   |   | (900 | ) |   |
| Other financial assets                                          |       |       | (36        | )                                        |       |                          | (104       | )                    |       |                                     | —     |                          |       |                 | (140       | )                                        |       |   | 24 |   |   |   | 140 |   |   |   | 24 |   |   |
| Impairment of receivables,  inventory and financial investments |       |       | 3,142      |                                     |       |                          | 381        |                 |       |                                     | (59        | )                             |       |                 | 3,464      |                                     |       |   | 264 |   |   |   | — |   |   |   | 3,728 |   |   |
| Property, plant and equipment and intangible assets             |       |       | (3,725     | )                                        |       |                          | (1,050     | )                    |       |                                     | (20        | )                             |       |                 | (4,795     | )                                        |       |   | (1,918 | ) |   |   | (852 | ) |   |   | (7,565 | ) |   |
| Goodwill                                                        |       |       | —     |                                     |       |                          | —     |                 |       |                                     | —     |                          |       |                 | —     |                                     |       |   | (1,864 | ) |   |   | — |   |   |   | (1,864 | ) |   |
| Trade and other payables                                        |       |       | (61        | )                                        |       |                          | 144        |                 |       |                                     | (2         | )                             |       |                 | 81         |                                     |       |   | 23 |   |   |   | — |   |   |   | 104 |   |   |
| Loans and other borrowings                                      |       |       | 221        |                                     |       |                          | (16        | )                    |       |                                     | —     |                          |       |                 | 205        |                                     |       |   | (49 | ) |   |   | — |   |   |   | 156 |   |   |
| Deferred revenue                                                |       |       | 616        |                                     |       |                          | (236       | )                    |       |                                     | —     |                          |       |                 | 380        |                                     |       |   | (223 | ) |   |   | — |   |   |   | 157 |   |   |
| Provisions for liabilities and  charges                         |       |       | 782        |                                     |       |                          | 2,034      |                 |       |                                     | —     |                          |       |                 | 2,816      |                                     |       |   | (1,611 | ) |   |   | — |   |   |   | 1,205 |   |   |
| Total net deferred tax assets                                   |       |       | 2,816      |                                     |       |                          | 1,665      |                 |       |                                     | 6,766      |                          |       |                 | 11,247     |                                     |       |   | (1,825 | ) |   |   | 2,355 |   |   |   | 11,777 |   |   |
| Add back: deferred tax liability                                |       |       | 1,768      |                                     |       |                          |       |                 |       |                                     |       |                          |       |                 | 1,280      |                                     |       |   |   |   |   |   |   |   |   |   | 3,189 |   |   |
| Deferred tax  assets                                            |       |       | 4,584      |                                     |       |                          |       |                 |       |                                     |       |                          |       |                 | 12,527     |                                     |       |   |   |   |   |   |   |   |   |   | 14,966 |   |   |

 

F-54

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

Deferred tax assets and liabilities are determined bythe legal entities of the Group and disclosed as assets or liabilitiesaccordingly in the balance sheet.

The amounts of other movements in tax credits werebooked against the cost of the related investment.

The amount of other movement in deferred taxes onother financial assets represent the deferred tax on embedded derivativesderecognized against the opening retained earnings as a result of the change inaccounting policy for the measurement of certain embedded derivatives (note 2(e)). 

Included in other movements are HUF -44million (2004: HUF -24million) of currency translation adjustments and HUF -807million (2004: HUF -59million) deferred tax arising on business combinations.

Thereconciliation between the reported income tax expense and the theoreticalamount arising by applying the statutory income tax rates is as follows:

| ** **                                                  | ** ** | **For the year ended December 31,** | ** ** |
|-------------------------------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                                                  | ** ** | **2003**                                                     | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                                                  | ** ** | **(in HUF millions)**                              | ** ** |
| IFRS profit  before income tax                              |       | 82,857                                                       |       | 51,014 |   | 102,430 |   |
| Tax at 18%                                                  |       | (14,914                                                      | )          | — |   | — |   |
| Tax at 16%                                                  |       | —                                                       |       | (8,162 | ) | (16,389 | ) |
| Effect of reduced tax rates in foreign countries            |       | 567                                                          |       | 191 |   | 451 |   |
| Impact of tax rate change from 18% to 16% enacted  for 2004 |       | (296                                                         | )          | — |   | — |   |
| Impact of tax incentives                                    |       | 901                                                          |       | 584 |   | 897 |   |
| Tax on items not subject to tax                             |       | 1,714                                                        |       | 1,889 |   | 2,623 |   |
| Tax on non deductible expenses                              |       | (2,586                                                       | )          | (2,189 | ) | (1,093 | ) |
| Temporary differences reversing at different rates          |       | 1,097                                                        |       | — |   | — |   |
| Income tax expense                                          |       | (13,517                                                      | )          | (7,687 | ) | (13,511 | ) |

 

Items not subject to income tax consist primarily ofthe other income from DTAG (note 31), which is not taxable, as well as theshare of associates’ profit after income tax as it is included net of tax inthe IFRS profit before income tax.

The tax authorities may at any time inspect the booksand records within five years from the end of the year when tax declarationswere submitted and may impose additional tax assessments with penalties andpenalty interest. Management is not aware of any circumstances which may giverise to a potential material liability in this respect.

F-55

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**27**             Cash generated fromoperations

| ** **                                         | ** ** | **For the year ended December 31,** | ** ** |
|----------------------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                                         | ** ** | **2003**                                                     | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                                         | ** ** | **(in HUF millions)**                              | ** ** |
| Profit for the  year                               |       | 69,340                                                       |       | 43,327 |   | 88,919 |   |
| Income tax expense                                 |       | 13,517                                                       |       | 7,687 |   | 13,511 |   |
| Share of associates’ profits/losses after tax |       | (795                                                         | )          | (1,896 | ) | (330 | ) |
| Net financial expenses                             |       | 40,002                                                       |       | 36,146 |   | 31,288 |   |
| Depreciation and amortization                      |       | 128,334                                                      |       | 137,666 |   | 114,686 |   |
| Change in payables                                 |       | 2,885                                                        |       | (3,474 | ) | 9,662 |   |
| Change in inventory                                |       | 4,117                                                        |       | 2,825 |   | (303 | ) |
| Change in receivables                              |       | (2,168                                                       | )          | 4,500 |   | (8,034 | ) |
| Amortization of deferred revenue                   |       | (2,732                                                       | )          | (1,758 | ) | (1,503 | ) |
| Other financial expenses paid                      |       | (5,364                                                       | )          | (3,183 | ) | (3,157 | ) |
| Other cashflows from operations                    |       | (6,639                                                       | )          | 12,841 |   | (7,802 | ) |
| Cash generated from  operations                    |       | 240,497                                                      |       | 234,681 |   | 236,937 |   |

 

**28**             Share-basedcompensation

***(a) Management share option plan***

On April 26, 2002, the annual Shareholders’Meeting approved the introduction of a new management share option plan andauthorized the Company’s Board of Directors to purchase 17 million “A” seriesregistered ordinary shares, each having a nominal value of HUF 100 as treasuryshares. Consequently, the Company issued 4,900,000 shares on July 1, 2002,which were repurchased immediately as treasury shares.

On July 1, 2002, the Company granted 3,964,600options to participants of the stock option plan at an exercise price of HUF933 for the first tranche (exercisable in 2003) and HUF 950 for the second andthird tranches (exercisable in 2004 and 2005). As the Company’s share price asquoted on the BÉT (Budapest Stock Exchange) on the grant date was HUF 833 pershare, there was no intrinsic value to the options. The options have a life offive years from the grant date, meaning that the options are forfeited withoutreplacement or compensation on June 30, 2007. 

The option with respect to a maximum of one-third ofthe shares that can be purchased under the first tranche may be exercised from July 1,2003 until the end of the term. The option with respect to a maximum of afurther one-third of the shares that can be purchased under the second tranchemay be exercised from July 1, 2004 until the end of the term. The optionwith respect to the rest of the shares that can be purchased under the thirdtranche may be exercised from July 1, 2005 until the end of the term.

As the management share option plan does not fall intothe scope of IFRS 2—Share based Payments, the Group did not recognizecompensation expense in any of the periods.

F-56

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

Thetable below shows the movements in the number of management stock options inthousands.

| ** **                                    | ** ** | **2003** | ** ** | **2004** | ** ** | **2005** | ** ** | **Average exercise  price (HUF)** | ** ** |
|-----------------------------------------------|------------|----------|------------|----------|------------|----------|------------|---------------------------------------------|------------|
| Opening number of  share options              |       | 3,964    |       | 3,655    |       | 3,207    |       |                                        | 944        |   |   |
| Number of share  options exercised            |       | —   |       | —   |       | (991     | )          |                                        | 944        |   |   |
| Forfeited share  options                      |       | (309     | )          | (448     | )          | (287     | )          |                                        | 944        |   |   |
| Closing number of  share options              |       | 3,655    |       | 3,207    |       | 1,929    |       |                                        | 944        |   |   |
| Number of  exercisable options at end of year |       | 1,218    |       | 2,138    |       | 1,929    |       |                                        | 944        |   |   |

 

***(b) The CEO’s share option plan***

The CEO of Magyar Telekom was granted share options in2000, 2001, 2002, 2003 and 2004. The exercise price of the options isdetermined in US dollars and the options had no intrinsic values on the grantdates in 2000, 2001, 2002 and 2003, while those granted in 2004 had anintrinsic value of HUF 63 million. One third of the options granted vests afterone year, another one third vests two years after the grant date, while thelast third vests after three years. The options are exercisable for ten yearsafter the grant date. In 2005 the Group recognized compensation expense in anamount of HUF 84 million among employee related expenses against retainedearnings. 

Thetable below shows the details of the CEO’s share options.

| ** **                                                     | ** ** | **Options granted in year** | ** ** | ** ** | ** ** |
|----------------------------------------------------------------|------------|--------------------------------------------|------------|------------|------------|
| ** **                                                     | ** ** | **2000**                                   | ** ** | **2001**   | ** ** | **2002** | ** ** | **2003** | ** ** | **2004** | ** ** | **Total** | ** ** |
| Number of options  granted (thousand)                          |       | 103                                        |       | 250        |       | 303 |   | 619 |   | 1,462 |   | 2,737 |   |
| Exercised  (thousand)—all in 2005                         |       | —                                     |       | (250       | )          | (303 | ) | (413 | ) | (487 | ) | (1,453 | ) |
| Outstanding  (thousand)  at December 31, 2005             |       | 103                                        |       | —     |       | — |   | 206 |   | 975 |   | 1,284 |   |
| Exercisable (thousand)  at December 31, 2005              |       | 103                                        |       | —     |       | — |   | — |   | — |   | 103 |   |
| Exercise price in USD                                          |       | 7.36                                       |       | 2.93       |       | 3.48 |   | 3.62 |   | 3.87 |   |   |   |
| Remaining  contractual life  at December 31, 2005 (years) |       | 4.5                                        |       | —     |       | — |   | 7.5 |   | 8.5 |   |   |   |

 

***(c) Mid-term incentive plan (MTIP)***

In 2004 Magyar Telekom launched a Mid Term IncentivePlan (MTIP) for its top management, whereby the targets to be achieved arebased on the performance of the Magyar Telekom share. The MTIP is a cashsettled long term incentive instrument which is planned to cover five years,with a new package being launched in each year, and with each tranche lasting forthree years. 

The first tranche of the program spans the periodbetween January 1, 2004 and December 31, 2006. The second tranche ofthe program spans the period between January 1, 2005 and December 31,2007. Participants are employees of Magyar Telekom who are incumbents ofcertain top and senior managerial positions.

F-57

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

At the beginning of the plan each participant has anoffered bonus. This value will be paid out at the end of the plan, depending onthe achievement of the two fixed targets, an absolute Magyar Telekom sharespecific and a relative Index target. 

The absolute performance target is achieved when theMagyar Telekom share price, adjusted for dividends paid during the tenure, ismore than 35 percent higher at the end of the lock-up period than at thebeginning of the plan. The basis of the calculation is the unweighted averageclosing price of the Magyar Telekom share at the Budapest Stock Exchange duringthe last 20 trading days before the beginning and the end of the plan. Theshare price calculated according to the above was HUF 755 at the grant date ofthe first tranche, and HUF 843 at the grant date of the second tranche. 

The relative performance target is linked to the TotalReturn of the Magyar Telekom share compared to the performance of the Dow JonesEuro STOXX Total Return Index during the vesting period, each at the last 20trading days. Measurement is the unweighted average Magyar Telekom share priceplus dividend payments.

Total compensation expenseaccrued for the first two tranches of the program as at December 31, 2005is HUF 256 million (HUF 186 million expensed in 2005 and HUF 70 million in2004). The expenses are included in employee related expenses recognizedagainst payables to employees.

**29**             Commitments

***(a) Lease commitments***

Finance leases in 2005 relate to the sale and leaseback of spaces in buildings accommodating telephone exchanges. Operating leasecommitments are mainly in respect of the rental of cell sites, with otherleases related to buildings, network and other telecommunications facilities.

Futureminimum lease payments under finance and operating leases at December 31,2004 and 2005 are as follows:

| ** **                                                                    | ** ** | **Finance Leases  At December 31,** | ** ** |
|-------------------------------------------------------------------------------|------------|----------------------------------------------------|------------|
| **Year**                                                                      | ** ** | ** **                                         | ** ** | **  2004  ** | ** ** | **  2005  ** | ** ** |
| ** **                                                                    | ** ** | **(in HUF millions)**                    | ** ** |
| 2005                                                                          |       |                                               | 150        |   |   |   | — |   |   |
| 2006                                                                          |       |                                               | 137        |   |   |   | 211 |   |   |
| 2007                                                                          |       |                                               | 137        |   |   |   | 213 |   |   |
| 2008                                                                          |       |                                               | 137        |   |   |   | 214 |   |   |
| 2009                                                                          |       |                                               | 137        |   |   |   | 213 |   |   |
| 2010                                                                          |       |                                               | 137        |   |   |   | 215 |   |   |
| Thereafter                                                                    |       |                                               | 417        |   |   |   | 739 |   |   |
| Total minimum  lease payments                                                 |       |                                               | 1,252      |   |   |   | 1,805 |   |   |
| Less: amounts  representing interest                                          |       |                                               | (604       | ) |   |   | (944 | ) |   |
| Present value of  net minimum lease payments                                  |       |                                               | 648        |   |   |   | 861 |   |   |
| Less: finance lease obligations included in current  other borrowings         |       |                                               | (45        | ) |   |   | (51 | ) |   |
| Long-term finance  lease obligations included in non current other borrowings |       |                                               | 603        |   |   |   | 810 |   |   |
|                                                                               |            |                                                    |            |  |  |  |  |  |  |  |  |

 

F-58

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

 

| ** **                    | ** ** | **Operating Leases  At December 31,** | ** ** |
|-------------------------------|------------|------------------------------------------------------|------------|
| **Year**                      | ** ** | ** **                                           | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                    | ** ** | **(in HUF millions)**                      | ** ** |
| 2005                          |       | 5,283                                                |       | — |   |
| 2006                          |       | 4,932                                                |       | 5,410 |   |
| 2007                          |       | 4,583                                                |       | 4,548 |   |
| 2008                          |       | 4,157                                                |       | 3,736 |   |
| 2009                          |       | 3,241                                                |       | 3,031 |   |
| 2010                          |       |                                                 |       | 2,588 |   |
| Thereafter                    |       | 2,984                                                |       | 10,494 |   |
| Total minimum lease  payments |       | 25,180                                               |       | 29,807 |   |
|                               |            |                                                      |            |  |  |  |  |

 

The lease commitmentsrepresent a high amount of smaller lease agreements, the terms of which vary ona wide range. These lease agreements range from 3 to 20 years with renewaloptions in most cases.

***(b) Purchase commitments for tangible assets***

As of December 31, 2004, Magyar Telekom hadcontractual commitments for capital expenditures of HUF 3.2 billion (HUF 6.1billion in 2004, HUF 3.4 billion in 2003) falling due within 1 year.

In addition to the above,in October 2005 Magyar Telekom won the government tender and signed acontract with the Prime Minister’s Office to build and operate the nationwideUnified Digital Radio Network (EDR) system in Hungary. EDR is a 380-400MHz bandnation-wide Professional Mobile Radio (PMR) network used by public safety andsecurity services in Hungary. The main users of EDR will be the Police, FireDepartments and Ambulance Services. The rollout of EDR is planned for 2006 andthe contract lasts until end of 2015. Magyar Telekom expects to invest HUF20-22 billion in 2006 in the assets required to build out the EDR service. Inline with its contractual obligations Magyar Telekom Group established a fullyowned subsidiary, Pro-M to deliver the EDR services. The company is included inthe Hungarian operations of the Group’s Mobile segment. 

***(c) Future lease revenues***

Thefollowing table sets forth the future minimum lease payments receivable by theGroup for the operating leases of PBX equipment where Magyar Telekom is thelessor.

| **Year**                                 | ** ** | ** **                      | ** ** | **Lease revenues** | ** ** |
|------------------------------------------|------------|---------------------------------|------------|-------------------------|------------|
| ** **                               | ** ** | **(in HUF millions)** | ** ** |
| 2006                                     |       |                            | 2,426      |                    |       |
| 2007 – 2009                         |       |                            | 2,438      |                    |       |
| 2010 and  thereafter                     |       |                            | 164        |                    |       |
| Total minimum lease  payments receivable |       |                            | 5,028      |                    |       |

 

**30**             Contingencies

Magyar Telekom’s most significant contingency isrelated to the fixed to mobile termination charges in Hungary.

F-59

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

The Hungarian National Communications Authority (NHH)published several decisions in 2004 and 2005 as to how the termination chargesof the fixed to mobile calls should be reduced in the interconnect contracts ofthe fixed line and mobile telecom operators. All mobile telecom operatorsappealed against the decisions at court and in most cases did not change theircontracts with the fixed line telecom operators.

As the interconnect contracts were not amended toreflect the appealed decisions of the NHH, the fixed line operators did notchange their charges to their customers for the fixed to mobile calls. There isa high level of uncertainty as to whether any of these NHH decisions will befound properly established by the Hungarian Court. If so, it is also uncertainas of when these new interconnect rates should be applied and whetherretrospectively or prospectively and whether the fixed line telecom operatorscan be forced to repay the difference to their customers for these calls.

These consolidatedfinancial statements reflect the Group’s estimate of the most probable outcome.Thereby the fixed line operators can be forced to repay the difference only totheir customers with universal packages, while the interconnect charges betweenthe fixed line and mobile companies are accrued based on the fees required bythe NHH decisions, regardless of the actual amounts invoiced, the differencebeing treated as payables or receivables.

**31**             Relatedparty transactions

All transactions withrelated parties are on an arm’s length basis.

***(a) Deutsche Telekom Group***

Deutsche Telekom AG is the ultimate majority owner ofMagyar Telekom Plc. holding 59.21% of the issued shares. Deutsche Telekom (DT)Group has a number of fixed line and mobile telecom service providersubsidiaries worldwide, with whom Magyar Telekom Group has regulartransactions.

The Company is directly owned by MagyarCom GmbH, whichis a holding company of DTAG. Magyar Telekom pays dividends annually to itsowners including MagyarCom GmbH. These payments are made during the year resultingin no outstanding payable at the end of the years.

MagyarCom Services Kft., a Hungarian company owned byDeutsche Telekom, provides Magyar Telekom with management and consultingservices.

Deutsche Telekom International Finance (DTIF) is thetreasury vehicle of DT Group, which provides loan financing across the DT Groupincluding Magyar Telekom.

DTAG entered into cross-currency swap agreements withMagyar Telekom in 2002, which were closed in 2003. The related derivativeinterest expenses incurred in 2003 were included in the 2003 income statement.

The Company’s Mobile subsidiary, Westel was renamed asT-Mobile Hungary during 2004, while other companies were renamed in 2005. Theexpenditure incurred in connection with the launch and promotion of the newbrands and the loss of value caused by discontinuing the old brands werecompensated in value by Deutsche Telekom AG. The compensation received wasrecognized as other operating income in the “Other operating expenses—net” lineof the income statement (note 24).

F-60

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

Thetable below summarizes the above related party transactions with DT group.

| ** **                                                 | ** ** | **2003**                        | ** ** | **2004** | ** ** | **2005** | ** ** |
|------------------------------------------------------------|------------|---------------------------------|------------|----------|------------|----------|------------|
| ** **                                                 | ** ** | **(in HUF millions)** | ** ** |
| Revenues from  telecom services provided to DT Group       |       | 8,682                           |       | 6,921    |       | 5,155    |       |
| Costs of telecommunications services provided by DT  Group |       | (4,955                          | )          | (6,289   | )          | (6,158   | )          |
| Consulting  expenses to MagyarCom Services Kft.            |       | (1,287                          | )          | (1,488   | )          | (1,140   | )          |
| Other income from  DTAG                                    |       | —                          |       | 5,920    |       | 7,281    |       |
| Interest expense to DTIF                                   |       | (15,009                         | )          | (23,271  | )          | (24,518  | )          |
| Derivative  interest paid to DTAG                          |       | (3,219                          | )          | —   |       | —   |       |
| Dividends paid to MagyarCom GmbH                           |       | (11,114                         | )          | (43,222  | )          | (43,222  | )          |
| Accounts receivable from DT Group                          |       | 2,692                           |       | 1,200    |       | 1,943    |       |
| Accounts payable to MagyarCom Services Kft                 |       | (456                            | )          | (410     | )          | (313     | )          |
| Accounts payable  to other DT Group companies              |       | (1,105                          | )          | (1,911   | )          | (1,515   | )          |
| Accrued interests  payable to DTIF                         |       | (4,674                          | )          | (5,491   | )          | (6,198   | )          |
| Loans payable to DTIF  and DTAG                            |       | (200,319                        | )          | (237,675 | )          | (286,648 | )          |

 

Deutsche Telekom haspledged its support for Magyar Telekom’s financing needs through to June 30,2008.

***(b) Governments***

Magyar Telekom providesservices to Government departments and businesses in Hungary, Macedonia andMontenegro, but individually none of these customers represent a significantsource of revenue.

***(c) Associates***

Hunsat is an enterprise founded by the Company (50%)and Antenna Hungária Rt. (50%). The revenues of Hunsat include commissionsreceived from Hungarian telecommunications companies for the use of services ofinternational satellite agencies. The operational transactions and balanceswith Hunsat are insignificant. Dividends received from Hunsat amounted to HUF1,376 million in 2005 (HUF 2,133 million in 2004 and HUF 75 million in 2003).

M-RTL is a Hungarian television broadcast company, inwhich Magyar Telekom has a 25% effective share of ownership through a holdingcompany, IKO-Telekom Média Holding Rt. M-RTL sells airtime through mediaagencies to Magyar Telekom, and Magyar Telekom provides telecom services toM-RTL mainly through an interactive service provider. Consequently, the directoperating transactions between M-RTL and the Group are insignificant.M-RTL declared dividends to Magyar Telekom directly and indirectly in an amountof HUF 550 million in 2005 (HUF 500 million in 2004 and HUF 500 million in2003).

T-Systems Hungary (TSH) isan associated company of Magyar Telekom, in which the Company acquired a 49%share of ownership in September 2004. The acquisition took place throughshare purchase from T-Systems International, a Deutsche Telekom Group company,and a capital increase in TSH. The inter-company transactions and balances withTSH are not significant. All inter-company transactions and 

F-61

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

balanceswith TSH are included in the amounts shown in the table earlier in this notefor the Deutsche Telekom Group relations.

***(d) Board and supervisory board members***

The remuneration of themembers of the Company’s Board of Directors amounted to HUF 10 million in 2005(HUF 9 million in 2004 and in 2003). The remuneration of the members of theCompany’s Supervisory Board amounted to HUF 14 million in 2005 (HUF 10 millionin 2004, HUF 9 million in 2003).

***(e) Key management***

Key management has been identified as the members ofthe Group’s Management Committee, which is the main operational decision makingbody of Magyar Telekom.

Thetable below shows in total the compensation expenses incurred (including socialsecurity and payroll related taxes as well) by the Group in relation to the keymanagement.

| ** **                                       | ** ** | **At December 31,**   | ** ** |
|--------------------------------------------------|------------|---------------------------------|------------|
| ** **                                       | ** ** | **2003**                        | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                                       | ** ** | **(in HUF millions)** | ** ** |
| Salaries and  other short-term employee benefits |       |                            | 801        |   |   |   | 800 |   |   | 670 |   |
| Contractual  termination expense                 |       |                            | —     |   |   |   | — |   |   | 350 |   |
| Share based  compensation (note 28)              |       |                            | 30         |   |   |   | 101 |   |   | 130 |   |
|                                             |       |                            | 831        |   |   |   | 901 |   |   | 1,150 |   |

 

The Group does not provideloans to its key management.

**32**             Subsequentevents

On January 12, 2006 Magyar Telekom signed aproject financing loan agreement in an amount of HUF 47.4 billion. The loan wasgranted by the European Investment Bank through Deutsche Telekom InternationalFinance BV to finance the broadband investments of Magyar Telekom. The loanmatures in January 2013, and will be repaid in five equal installmentswith two years grace period. The loan bears a variable interest rate based onthe 3-month BUBOR.

In June, 2006 MakTel acquired 10% of its own shares ata public auction held by the Macedonian Government, the minority owner for EUR60.9 million. Following the share purchase transaction, Magyar Telekom’s votingrights in MakTel increased from 51% to 56.7%, while the Macedonian Government’sshare of ownership fell to 36.81%, with the rest of the shares owned by smallerminority shareholders.

In June 2006 Magyar Telekom and Deutsche Telekomdecided to change the Group’s Macedonian mobile operator, MobiMak’s name toT-Mobile Macedonia (T-Mobile MK), and to introduce the “T” brands in Montenegroas well for both the Fixed line and the Mobile operations.

At the end of 2004, theGroup had receivables amounting to HUF 1,468 million and liabilities in theamount of HUF 1,131 million related to the Universal Telecommunication SupportFund. During 2005, HUF 619 million of the receivables was recovered. Due to aCourt decision as of September 15, 2005, which annulled the Group’sliability toward the above Fund, the remaining receivable and the outstandingliability were written off. With its review decision of April 25, 2006 theSupreme Court upheld the resolution that the Group was still liable with thepreviously recognized amount of HUF 1,131 million, 

F-62

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

whichindicated that the Group would be able to partly recover the previouslywritten-off receivable. This event has been identified as an adjustingpost-balance sheet event and accounted for as such, consequently both areceivable and a liability in relation to the above Fund have been reinstatedin the financial statements of 2005.

***Purchase of subsidiaries and business units after thebalance sheet date***

On November 29, 2005 Magyar Telekom concluded anagreement to acquire a 100% stake in Orbitel for EUR 8 million. Orbitel is analternative Bulgarian telecommunications and internet service provider offeringcountrywide voice and data services to the business community utilizing IPtechnology. In 2005, the company generated revenues of EUR 11.5 million. Thefinancial closing of the deal took place on February 3, 2006.

On December 12, 2005 Magyar Telekom agreed toacquire a 100% stake in Dataplex Kft. for HUF 5.1 billion, based on the netdebt position of the company at the time of the agreement. Dataplex is anoperator in the Hungarian IT outsourcing market with revenues of around HUF 1.3billion in 2005 (unaudited). The financial closing of the transaction tookplace following the approval by the Hungarian Competition Authority, on April 5,2006.

In April 2006 Magyar Telekom acquired the 100%ownership of iWiW Kft., the leading Hungarian online social network, for apurchase price of HUF 1.1 billion. iWiW (‘who is who’) operates the so far onlyonline social network for existing friendships and relationships with more thanhalf a million registered members, making it the fourth most visited web page inHungary. In 2005 iWiW generated revenues of HUF 5 million.

In May 2006 Magyar Telekom acquired the 100%ownership of Adnetwork Kft, the leading Hungarian online advertisement networkfor a purchase price of HUF 0.2 billion. Adnetwork was established in 2005 andgenerated revenues of HUF 28 million in 2005.

In June 2006 Magyar Telekom signed a sharepurchase agreement to acquire the 100% ownership of KFKI-LNX, one of theleading Hungarian IT companies for a purchase price HUF 8.2 billion plus anoptional earn-out payment of HUF 1.5 billion dependent on the 2006 financialperformance. The acquisition was closed on September 15, 2006, from whichdate KFKI Group will become consolidated in the Group. In 2005, KFKI Group’srevenues amounted to approximately HUF 17 billion. KFKI-LNX has two 100% ownedsubsidiaries, ICON and IQSYS.

All of the above business combinations effected in2006 will be included in the Fixed line segment of the Group.

By the time of the approval of the financialstatements the Company has only finalized the purchase price allocation for theOrbitel acquisition. The result of the remaining purchase price allocationswill be available by the closing of 2006 and therefore will be included in 2006financial statements of the Group.

F-63

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

Thecarrying values and the fair values of Orbitel’s net assets at acquisition aswell as the consideration paid are disclosed in the table below.

| ** **                                                          | ** ** | **Fair  values**              | ** ** | **Carrying  values** | ** ** |
|---------------------------------------------------------------------|------------|-------------------------------|------------|----------------------|------------|
| ** **                                                          | ** ** | **In HUF millions** | ** ** |
| Purchase price of  ownership acquired                               |       | 2,014                         |       |                 |       |   |   |
| Additional costs  directly attributable to the business combination |       | 38                            |       |                 |       |   |   |
| Consideration  paid                                                 |       | 2,052                         |       |                 |       |   |   |
| Net assets acquired                                                 |       | 1,015                         |       |                 |       |   |   |
| Goodwill                                                            |       | 1,037                         |       |                 |       |   |   |
| *Net assets acquired:*                                              |       |                          |       |                 |       |   |   |
| Cash                                                                |       | 22                            |       |                 | 22         |   |   |
| Other financial  assets                                             |       | 6                             |       |                 | 6          |   |   |
| Receivables                                                         |       | 378                           |       |                 | 378        |   |   |
| Income tax  receivable                                              |       | 8                             |       |                 | 8          |   |   |
| Inventory                                                           |       | 12                            |       |                 | 12         |   |   |
| Property, plant  and equipment                                      |       | 512                           |       |                 | 370        |   |   |
| Intangible assets                                                   |       | 802                           |       |                 | 211        |   |   |
| Other non current  assets                                           |       | 4                             |       |                 | 4          |   |   |
| Trade and other payables                                            |       | (396                          | )          |                 | (396       | ) |   |
| Loans and other  borrowings                                         |       | (199                          | )          |                 | (199       | ) |   |
| Net deferred tax  liability                                         |       | (134                          | )          |                 | (24        | ) |   |
| Total                                                               |       | 1,015                         |       |                 | 392        |   |   |

 

F-64

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

Thecarrying values of the net assets of the companies (KFKI group, iWiW andAdnetwork) acquired in individually immaterial business combinations aredisclosed in their aggregate amounts in the table below.

| ** **                                                          | ** ** | **Carrying  values**          | ** ** |
|---------------------------------------------------------------------|------------|-------------------------------|------------|
| ** **                                                          | ** ** | **In HUF millions** | ** ** |
| Purchase price of  ownership acquired                               |       |                          | 10,968     |   |   |
| Additional costs  directly attributable to the business combination |       |                          | 161        |   |   |
| Consideration paid                                                  |       |                          | 11,129     |   |   |
| Net assets acquired                                                 |       |                          | 1,339      |   |   |
| Goodwill                                                            |       |                          | 9,790      |   |   |
| *Net  assets acquired:*                                             |       |                          |       |   |   |
| Cash                                                                |       |                          | 350        |   |   |
| Receivables                                                         |       |                          | 2,886      |   |   |
| Income tax receivable                                               |       |                          | 32         |   |   |
| Inventory                                                           |       |                          | 656        |   |   |
| Property, plant and  equipment                                      |       |                          | 633        |   |   |
| Intangible assets                                                   |       |                          | 238        |   |   |
| Net deferred tax asset                                              |       |                          | 23         |   |   |
| Trade and other payables                                            |       |                          | (2,737     | ) |   |
| Loans and other  borrowings                                         |       |                          | (588       | ) |   |
| Provisions                                                          |       |                          | (154       | ) |   |
| Total                                                               |       |                          | 1,339      |   |   |

 

Dataplex did not have IFRSaccounts at the date of the acquisition, which makes the book value disclosureon Dataplex’s balance sheet as at the acquisition date impracticable.

**33**             Recent AccountingPronouncements

The Group has reviewed thenew standards, amendments and interpretations to existing standards that havebeen published that are mandatory for the Group’s accounting periods afterJanuary 1, 2006 and found the following changes relevant.

IFRIC 4—Determiningwhether an Arrangement contains a Lease requires the determination of whetheran arrangement is or contains a lease to be based on the substance of thearrangement. It requires an assessment of whether: (a) fulfillment of thearrangement is dependent on the use of a specific asset or assets (the asset);and (b) the arrangement conveys a right to use the asset. As MagyarTelekom often provides complex services to its business clients that require thedeployment of certain technological assets as well, revenues that have so farbeen reported as service revenues may have to be split and some reported aslease revenues. In case lease components are identified and the lease qualifiesas a finance lease according to IAS 17, the applicable part of the servicerevenues that would have been recognized evenly over the service period will berecognized upfront as revenue from sale of assets. Consequently, thedepreciation that would have arisen over the useful life of the applicableassets will be recognized as cost of equipment sold at the deployment of theasset. In the relevant cases, finance income will also accrue on the financelease receivables. This will result in changes in the relevant income statementand balance sheet lines, but the expected change to the net income or theequity of the Group is not expected to be significant. One of the examples thatis impacted by the adoption of this interpretation is the Tetra servicescommenced in 2006. See more details on the Tetra services in note 29 (b).

F-65

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

IAS 39 (Amendment), The Fair Value Option (effectivefrom January 1, 2006). This amendment changes the definition of financialinstruments classified at fair value through profit or loss and restricts theability to designate financial instruments as part of this category. The Groupbelieves that this amendment should not have a significant impact on theclassification of financial instruments, as the Group should be able to complywith the amended criteria for the designation of financial instruments at fairvalue through profit and loss. The Group will apply this amendment from annualperiods beginning January 1, 2006.

IFRS 7—FinancialInstruments: Disclosures, and a complementary amendment to IAS 1, Presentationof Financial Statements—Capital Disclosures (effective from January 1,2007). IFRS 7 introduces new disclosures to improve the information aboutfinancial instruments. It requires the disclosure of qualitative andquantitative information about exposure to risks arising from financialinstruments, including specified minimum disclosures about credit risk,liquidity risk and market risk, including sensitivity analysis to market risk.The Group will apply IFRS 7 and the amendment to IAS 1 from annual periodsbeginning January 1, 2007.

F-66

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

**34**             Reconciliationto U.S. GAAP

Magyar Telekom’sconsolidated financial statements are prepared in accordance with InternationalFinancial Reporting Standards, which in certain respects differ from U.S. GAAP,the generally accepted accounting principles in the USA. The principaldifferences between IFRS and U.S. GAAP are presented below, together withexplanations of the adjustments that affect consolidated profit for each of thethree years in the period ended December 31, 2005 and total shareholders’equity as of December 31, 2004 and 2005.

| ** **                                                                             | ** ** | ** ** | ** ** | **For the year ended December 31,**              | ** ** |
|----------------------------------------------------------------------------------------|------------|------------|------------|---------------------------------------------------------------------------|------------|
| ** **                                                                             | ** ** | **Notes**  | ** ** | **2003**                                                                  | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                                                                             | ** ** | ** ** | ** ** | **(in HUF millions,  except per share amounts)** | ** ** |
| Profit attributable to the equity holders of the  Company (Net income) under IFRS      |       |       |       |                                                                      |       | 57,475 |   | 34,641 |   | 78,564 |   |
| Profit attributable to minority interests under IFRS                                   |       |       |       |                                                                      |       | 11,865 |   | 8,686 |   | 10,355 |   |
| Profit for the year under IFRS                                                         |       |       |       |                                                                      |       | 69,340 |   | 43,327 |   | 88,919 |   |
| Adjustments for  U.S. GAAP:                                                            |       |       |       |                                                                      |       |   |   |   |   |   |   |
| Revenue recognition                                                                    |       |       | (a)        |                                                                      |       | 3,712 |   | 4,749 |   | 4,237 |   |
| Asset retirement obligation                                                            |       |       | (b)        |                                                                      |       | (136 | ) | (871 | ) | (402 | ) |
| Employee expenses                                                                      |       |       | (c)        |                                                                      |       | — |   | 950 |   | (1,110 | ) |
| Interest capitalized                                                                   |       |       | (d)        |                                                                      |       | 359 |   | 420 |   | 472 |   |
| Derivatives                                                                            |       |       | (e)        |                                                                      |       | — |   | — |   | (227 | ) |
| Other income (rebranding)                                                              |       |       | (f)        |                                                                      |       | — |   | (5,920 | ) | (7,281 | ) |
| Purchase price allocation (business combinations)                                      |       |       | (g)        |                                                                      |       | (6,720 | ) | (6,977 | ) | (4,775 | ) |
| Goodwill                                                                               |       |       | (h)        |                                                                      |       | 13,795 |   | 13,876 |   | — |   |
| Profit before tax                                                                      |       |       |       |                                                                      |       | 11,010 |   | 6,227 |   | (9,086 | ) |
| Tax                                                                                    |       |       | (i)        |                                                                      |       | (711 | ) | (1,503 | ) | 610 |   |
| Profit after tax                                                                       |       |       |       |                                                                      |       | 10,299 |   | 4,724 |   | (8,476 | ) |
| Minority interest                                                                      |       |       | (j)        |                                                                      |       | (1,370 | ) | 319 |   | (828 | ) |
| Total U.S. GAAP adjustments on Net income                                              |       |       |       |                                                                      |       | 8,929 |   | 5,043 |   | (9,304 | ) |
| Profit attributable to the equity holders of the  Company (Net income) under U.S. GAAP |       |       |       |                                                                      |       | 66,404 |   | 39,684 |   | 69,260 |   |
| Profit attributable to minority interests under U.S.  GAAP                             |       |       |       |                                                                      |       | 13,235 |   | 8,367 |   | 11,183 |   |
|                                                                                   |       |       |       |                                                                      |       | 79,639 |   | 48,051 |   | 80,443 |   |
| Basic earnings per share under U.S. GAAP (HUF)                                         |       |       |       |                                                                      |       | 63.98 |   | 38.23 |   | 66.67 |   |
| Diluted earnings per share under U.S. GAAP (HUF)                                       |       |       |       |                                                                      |       | 63.97 |   | 38.22 |   | 66.65 |   |
| Net income under U.S. GAAP                                                             |       |       |       |                                                                      |       | 66,404 |   | 39,684 |   | 69,260 |   |
| Other comprehensive income                                                             |       |       | (k)        |                                                                      |       | 5,173 |   | (3,851 | ) | 163 |   |
| Total comprehensive income                                                             |       |       |       |                                                                      |       | 71,577 |   | 35,833 |   | 69,423 |   |

 

The amounts in thetable above show by topic how much more or less income or expense wasrecognized in the U.S. GAAP accounts in comparison to the IFRS accounts.

F-67

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

 

| ** **                                                   | ** ** | ** ** | ** ** | **At December 31,**   | ** ** |
|--------------------------------------------------------------|------------|------------|------------|---------------------------------|------------|
| ** **                                                   | ** ** | **Notes**  | ** ** | **2004**                        | ** ** | **2005** | ** ** |
| ** **                                                   | ** ** | ** ** | ** ** | **(in HUF millions)** | ** ** |
| Total  Shareholders’ equity under IFRS—as reported |       |       |       |                            |       | 516,567 |   | 527,567 |   |
| Restatement for IAS 39                                       |       |       |       |                            |       | (733 | ) | — |   |
| Total  Shareholders’ equity under IFRS—as restated |       |       |       |                            |       | 515,834 |   | 527,567 |   |
| Minority interests under IFRS                                |       |       |       |                            |       | 60,097 |   | 70,127 |   |
| Total equity  under IFRS—as restated                    |       |       |       |                            |       | 575,931 |   | 597,694 |   |
| *Adjustments  for U.S. GAAP:*                                |       |       |       |                            |       |   |   |   |   |
| Revenue recognition                                          |       |       | (a)        |                            |       | (13,705 | ) | (9,468 | ) |
| Asset retirement obligation                                  |       |       | (b)        |                            |       | (1,007 | ) | (1,409 | ) |
| Employee expenses                                            |       |       | (c)        |                            |       | 960 |   | (213 | ) |
| Interest capitalized                                         |       |       | (d)        |                            |       | 4,993 |   | 5,465 |   |
| Derivatives                                                  |       |       | (e)        |                            |       | 873 |   | 646 |   |
| Purchase price allocation (business combinations)            |       |       | (g)        |                            |       | 13,881 |   | 8,132 |   |
| Goodwill                                                     |       |       | (h)        |                            |       | 16,693 |   | 14,237 |   |
| Tax                                                          |       |       | (i)        |                            |       | (5,747 | ) | (5,049 | ) |
| Minority interest                                            |       |       | (j)        |                            |       | 2,132 |   | 2,190 |   |
| Total U.S. GAAP  adjustments on Shareholders’ equity    |       |       |       |                            |       | 19,073 |   | 14,531 |   |
| U.S. GAAP adjustment on Minority interest                    |       |       | (j)        |                            |       | (2,132 | ) | (2,190 | ) |
| Total U.S. GAAP  adjustments on Equity                       |       |       |       |                            |       | 16,941 |   | 12,341 |   |
| Total Shareholders’ equity under U.S. GAAP              |       |       |       |                            |       | 534,907 |   | 542,098 |   |
| Minority  interests under U.S. GAAP                          |       |       |       |                            |       | 57,965 |   | 67,937 |   |
|                                                         |       |       |       |                            |       | 592,872 |   | 610,035 |   |

 

In previous years theGroup’s equity reconciliation was presented on the basis of the cumulativeincome statement impact of the reconciling adjustments between U.S. GAAP andIFRS. The amounts included in the table above show the cumulative adjustmentson the net assets by reconciling item. The format of the disclosure has beenchanged on the basis the revised format is more informative.

*(a) Revenuerecognition*

In Magyar Telekom’s IFRS accounts fixed lineconnection fees collected after October 1997 are recognized immediatelytogether with the directly related expenses. Mobile activation fees are alsorecognized when customers’ subscriptions are activated. In the U.S. GAAPaccounts, however, fixed line connection fees and mobile activation fees untilDecember 31, 2003 were deferred and recognized as revenue over the expectedcustomer relationship period as regulated by SAB 101. Directly related expensesof the connections and activations were also deferred up to the amount of therevenues.

F-68

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

In the U.S. GAAP accountsthere is a higher amount of deferred revenues and there are deferred expensesas well related to the direct costs of the activations and connections. Thetable below shows the deferred connection and activation revenue and relateddeferred expense balances in IFRS and in U.S. GAAP.

| ** **                                            | ** ** | **At December 31,**   | ** ** |
|-------------------------------------------------------|------------|---------------------------------|------------|
| ** **                                            | ** ** | **2004**                        | ** ** | **2005** | ** ** |
| ** **                                            | ** ** | **(in HUF millions)** | ** ** |
| IFRS deferred connection  and activation revenue      |       | 2,688                           |       | 1,185 |   |
| U.S. GAAP adjustment                                  |       | 17,353                          |       | 12,200 |   |
| U.S. GAAP deferred  connection and activation revenue |       | 20,041                          |       | 13,385 |   |
| IFRS deferred expenses                                |       | —                          |       | — |   |
| U.S. GAAP adjustment                                  |       | 3,648                           |       | 2,732 |   |
| U.S. GAAP deferred  expenses                          |       | 3,648                           |       | 2,732 |   |
| U.S. GAAP adjustment on Shareholders’ equity     |       | 13,705                          |       | 9,468 |   |

 

Further, as of January 1, 2004 Magyar Telekom adoptedEITF 00-21 and SAB 104 in its U.S. GAAP accounts, according to whichbundled customer packages are analyzed by the elements of the bundle. Revenuesfrom the individual elements are recognized in proportion of the relative fairvalues of the elements. Connections in all cases are bundled with otherdeliverables such as equipment and/or prepaid usage. As connections andactivations are no longer considered separate earnings events, the fair valueof this element is considered zero. Accordingly, amounts collected forconnections and activations are allocated to the other elements of thepackages, and recognized according to revenue the recognition policies appliedto those services (such as equipment sales, prepaid airtime, etc.).

The application of EITF 00-21and SAB 104 results in insignificant differences between IFRS and U.S. GAAP asthe bundled packages in most cases include subsidized equipment that takes upthe marginal amounts collected for the connection or activation, while anytraffic is used in a short period of time.

*(b) Assetretirement obligation*

On January 1, 2003 Magyar Telekom adoptedStatement of Financial Accounting Standards (SFAS) No. 143—Accountingfor Asset Retirement Obligations in its U.S. GAAP accounts. SFAS 143 requiresthat the fair value of a liability for an asset retirement obligation berecognized in the period in which it is incurred (i.e. when the asset isconstructed) if a reasonable estimate of fair value can be made. The associatedasset retirement costs are capitalized as part of the carrying amount of thelong-lived asset.

Assets considered for retirement obligation primarilyinclude antenna towers and switching and transmission equipment constructed onrented properties of the mobile segment. In addition, the cost of the publicpayphones constructed in public and private areas and assets constructed inrented shops are also adjusted for the potential retirement obligation.

Although there is a legal obligation to remove allunused cabling of the fixed network from public and third parties’ properties,the Group believes that the probability of an event of having to remove suchcables in the future is zero. As a result, no provision was recognized for thisunlikely legal obligation. As the fixed line service providers of MagyarTelekom are universal service providers and have significant market power,these entities are obliged to provide fixed line services in its geographicalareas of service. 

F-69

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

In addition, the Groupalso has to make their lines available to other service providers on acontractual basis. As a result, Magyar Telekom can not be forced to remove itscables from private and public properties as the Group has indefinite right ofuse on these properties free of recurring charge.

The method applied for mobile equipment constructed onleased property assumes two prolongations after the expiry of the originalrental term. The expected cash outflows occurring at the end of the thirdrental period are discounted to the time of the construction and capitalized aspart of the cost of the asset, and recognized as an expense throughdepreciation over the useful life of the asset. The present value of the futureobligation is also recognized as a provision. The provision is then accretedusing the discount rate that was applied when the obligation was determined.This accretion expense is recognized in the income statement. In subsequentperiods the Group may reassess the expected cash outflows to settle the assetretirement obligation, in which case the liability is increased against thecarrying amount of the asset.

The carrying amount of the obligation capitalized aspart of the carrying value of the related asset and the fair value of theobligation were assumed equal as at January 1, 2003. As a result, thecumulative effect of adopting the standard did not result in an incomestatement impact. The asset retirement obligation adjustment in the incomestatement reconciliation table reflects the annual changes in the carryingamount of the assets and those of the provision. In the equity reconciliationtable the adjustment reflects the difference between the carrying amount of thecapitalized asset retirement obligation and that of the provision.

Thetable below shows the U.S. GAAP adjustments to the carrying amount of assetretirement obligations (ARO) capitalized as part of the cost of the relatedassets and the adjustment on the provisions.

| ** **                                           | ** ** | **At December 31,**   | ** ** |
|------------------------------------------------------|------------|---------------------------------|------------|
| ** **                                           | ** ** | **2004**                        | ** ** | **2005** | ** ** |
| ** **                                           | ** ** | **(in HUF millions)** | ** ** |
| IFRS—Carrying  amount of capitalized ARO        |       | —                          |       | — |   |
| U.S. GAAP  adjustment                                |       | 2,221                           |       | 2,359 |   |
| U.S.  GAAP—Carrying amount of capitalized ARO   |       | 2,221                           |       | 2,359 |   |
| IFRS—Carrying amount of provision for ARO       |       | —                          |       | — |   |
| U.S. GAAP  adjustment                                |       | 3,228                           |       | 3,768 |   |
| U.S.  GAAP—Carrying amount of provision for ARO |       | 3,228                           |       | 3,768 |   |
| U.S. GAAP  adjustment on Shareholders’ equity   |       | (1,007                          | )          | (1,409 | ) |

 

F-70

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

*(c) Employeeexpenses*

Certainseverance related expenses recognized as a provision in 2004 in the IFRSaccounts related to redundancies in 2005 did not meet the criteria to berecognized as a liability in U.S. GAAP (SFAS 88 and 146). These expenses wererecognized in the U.S. GAAP accounts in 2005. The table below shows the amountof severance related expenses recognized in the IFRS accounts (IAS 37) and inthe U.S. GAAP accounts (SFAS 88 and 146) in the reported years.

| ** **                        | ** ** | **For the year ended December 31,** | ** ** |
|-----------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                        | ** ** | **   2003   **                 | ** ** | **2004** | ** ** | **2005** | ** ** |
| ** **                        | ** ** | **(in HUF millions)**                              | ** ** |
| Termination  expense in IFRS      |       |                                                         | (1,101     | ) |   | (20,180 | ) | (5,142 | ) |
| U.S. GAAP  adjustment             |       |                                                         | —     |   |   | 960 |   | (960 | ) |
| Termination expense in  U.S. GAAP |       |                                                         | (1,101     | ) |   | (19,220 | ) | (6,102 | ) |

 

In addition, more expense was recognized in the IFRSaccounts for share based payments according to IFRS 2 than in the U.S. GAAPaccounts according to APB 25. Until the release of IFRS 2—Share Based Paymentsin March 2004 there was no guidance in IFRS for the accounting for sharebased payments, and the Group had not recognized compensation expenses in itsIFRS accounts related to share based compensations before 2004. In its U.S.GAAP accounts, the Group applies the provisions of APB 25, whereby theintrinsic value of the share options granted are recognized evenly over thevesting period of the instruments.

Differences between theaccounting for the share based compensation programs are described below.

*(1) Shareoptions of the CEO (note 28)*

TheCEO of Magyar Telekom was granted share options in 2000, 2001, 2002, 2003 and2004. The options had no intrinsic values on the grant dates in 2000, 2001,2002 and 2003, while the options granted in 2004 had an intrinsic value of HUF63 million. The table below shows the amount of expenses recognized in the IFRSaccounts (IFRS 2) and in the U.S. GAAP accounts (APB 25) in the reported years.

| ** **                         | ** ** | **For the year ended December 31,** | ** ** |
|------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                         | ** ** | **    2003    **     | ** ** | **    2004    ** | ** ** | **    2005    ** | ** ** |
| ** **                         | ** ** | **(in HUF millions)**                              | ** ** |
| Compensation  expense in IFRS      |       |                                                         | —     |   |   |   | — |   |   |   | (84 | ) |   |
| U.S. GAAP  adjustment              |       |                                                         | —     |   |   |   | (10 | ) |   |   | 63 |   |   |
| Compensation expense in  U.S. GAAP |       |                                                         | —     |   |   |   | (10 | ) |   |   | (21 | ) |   |

 

*(2) Managementshare option plan (note 28)*

On July 1, 2002, theCompany granted 3,964,600 options to participants of the management shareoption plan. As the Company’s share price as quoted on the Budapest StockExchange on the grant date was HUF 833 per share, there was no intrinsic valueto the options, thus no compensation expense is recognized in the IFRS or theU.S. GAAP accounts.

*(3) Mid TermIncentive Plan (MTIP—note 28)*

The MTIP is a cash settled long term incentive programlasting for three years whereby the targets to be achieved are based on theperformance of the Magyar Telekom share.

F-71

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

Thetable below shows the amount of expenses recognized in the IFRS accounts (IFRS2) and in the U.S. GAAP accounts (APB 25) in the reported years.

| ** **                         | ** ** | **For the year ended December 31,** | ** ** |
|------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                         | ** ** | **    2003    **     | ** ** | **    2004    ** | ** ** | **    2005    ** | ** ** |
| ** **                         | ** ** | **(in HUF millions)**                              | ** ** |
| Compensation  expense in IFRS      |       |                                                         | —     |   |   |   | (70 | ) |   |   | (186 | ) |   |
| U.S. GAAP  adjustment              |       |                                                         | —     |   |   |   | — |   |   |   | (213 | ) |   |
| Compensation expense in  U.S. GAAP |       |                                                         | —     |   |   |   | (70 | ) |   |   | (399 | ) |   |

 

*Pro-formadisclosure*

In December, 2004 the FASB issued Statement 123(revised 2004) (SFAS 123(R))—Share-Based Payment. SFAS 123(R) replacesFASB Statement No. 123—Accounting for Stock-Based Compensation, andsupersedes APB Opinion No. 25—Accounting for Stock Issued to Employees.SFAS 123(R) requires all share-based awards to employees, including grantsof employee stock options, to be recognized in the financial statements basedon their grant-date fair values. The related compensation costs are to berecognized over the period during which an employee is required to provideservice in exchange for the award. Magyar Telekom will adopt the prospectiveprovisions of SFAS 123(R) to new and existing plans as of January 1,2006. The grant-date fair values of unvested awards that are outstanding on thedate of adoption will be charged to expense over their remaining vestingperiods.

A reconciliation of the Group’s net income to proforma net income, and the related pro forma earnings per share amounts, for theyears ended December 31, 2005, 2004 and 2003, is provided below. Forpurposes of pro forma disclosure, the estimated fair value of the options at thedate of grant is amortized to expense over the vesting period.

Underthe fair value method of SFAS 123, the Group’s net income (in HUF millions) andearnings per share (in HUF) would have been as follows:

| ** **                                                                                                                               | ** ** | **For the year ended December 31,**              | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------------|------------|---------------------------------------------------------------------------|------------|
| ** **                                                                                                                               | ** ** | **   2003   **                              | ** ** | **   2004   ** | ** ** | **   2005   ** | ** ** |
| ** **                                                                                                                               | ** ** | **(in HUF millions,  except per share amounts)** | ** ** |
| Net income as  reported                                                                                                                  |       |                                                                      | 66,404     |   |   |   | 39,684 |   |   |   | 69,260 |   |   |
| Add: Stock-based employee compensation expense  included in reported net income (loss), net of related tax effects                       |       |                                                                      | —     |   |   |   | 80 |   |   |   | 420 |   |   |
| Deduct: Stock-based employee compensation expense  determined under fair value based accounting method, net of related tax  effects |       |                                                                      | (493       | ) |   |   | (325 | ) |   |   | (319 | ) |   |
| Pro forma net income                                                                                                                     |       |                                                                      | 65,911     |   |   |   | 39,440 |   |   |   | 69,361 |   |   |
| *Earnings per share (HUF)*                                                                                                               |       |                                                                      |       |   |   |   |   |   |   |   |   |   |   |
| Basic earning per share as reported                                                                                                      |       |                                                                      | 63.98      |   |   |   | 38.23 |   |   |   | 66.67 |   |   |
| Basic earning per  share pro forma                                                                                                       |       |                                                                      | 63.50      |   |   |   | 38.00 |   |   |   | 66.77 |   |   |
| Diluted earning per share as reported                                                                                                    |       |                                                                      | 63.97      |   |   |   | 38.22 |   |   |   | 66.65 |   |   |
| Diluted earning per  share pro forma                                                                                                     |       |                                                                      | 63.50      |   |   |   | 37.99 |   |   |   | 66.74 |   |   |

 

F-72

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

At thegrant dates, the underlying assumptions and the resulting fair values peroption were as follows:

| ** **                                           | ** ** | **CEO’s  share  options  2000** | ** ** | **CEO’s  share  options  2001** | ** ** | **CEO’s  share  options  2002** | ** ** | **CEO’s  share  options  2003** | ** ** | **CEO’s  share  options  2004** | ** ** | **Management  share option  plan** | ** ** |
|------------------------------------------------------|------------|--------------------------------------|------------|--------------------------------------|------------|--------------------------------------|------------|--------------------------------------|------------|--------------------------------------|------------|-----------------------------------------|------------|
| Risk free  interest rate (%)                         |       | 7.4-7.6                              |       | 7.3-7.5                              |       | 7.9-8.2                              |       | 6.9-7.2                              |       | 8.9-9.4                              |       |                                    | 8.31       |   |   |
| Expected dividend  yield (%)                         |       | 0.45                                 |       | 1.21                                 |       | 1.29                                 |       | 2.16                                 |       | 8.41                                 |       |                                    | 1.51       |   |   |
| Expected lives  (years)                              |       | 7-9                                  |       | 7-9                                  |       | 7-9                                  |       | 7-9                                  |       | 7-9                                  |       |                                    | 5          |   |   |
| Expected stock  volatility (%)                       |       | 9.39                                 |       | 10.16                                |       | 9.58                                 |       | 9.23                                 |       | 8.82                                 |       |                                    | 40         |   |   |
| Fair value per  option granted during the year (HUF) |       | 1,420                                |       | 166                                  |       | 189                                  |       | 122                                  |       | 350                                  |       |                                    | 284        |   |   |

 

*(d) Interestcapitalized*

In the IFRS accounts Magyar Telekom capitalized agradually decreasing amount of interest in prior years, and did not capitalizeany interest in 2004 and 2005. This was the case as all loans taken for capitalinvestment projects in prior years had been gradually repaid by the end of2003.

In accordance with U.S. GAAP, Magyar Telekom does notdifferentiate the loans based on the purpose for which they were taken, all areconsidered for interest capitalization. As a result, a higher amount ofinterest is capitalized in the U.S. GAAP accounts, which results in a higherbalance of property, plant and equipment and consequently a higher amount ofdepreciation.

Thetable below is the summary of the U.S. GAAP adjustments related to interestcapitalization.

| ** **                                                                        | ** ** | **For the year ended December 31,** | ** ** |
|-----------------------------------------------------------------------------------|------------|--------------------------------------------------------------|------------|
| ** **                                                                        | ** ** | **   2003   **                 | ** ** | **   2004   ** | ** ** | **   2005   ** | ** ** |
| ** **                                                                        | ** ** | **(in HUF millions)**                              | ** ** |
| IFRS interest  capitalized                                                        |       |                                                         | 41         |   |   |   | — |   |   |   | — |   |   |
| U.S. GAAP  adjustment                                                             |       |                                                         | 1,350      |   |   |   | 1,624 |   |   |   | 2,093 |   |   |
| U.S. GAAP  interest capitalized                                                   |       |                                                         | 1,391      |   |   |   | 1,624 |   |   |   | 2,093 |   |   |
| IFRS depreciation of Property, plant and equipment                                |       |                                                         | 98,425     |   |   |   | 98,788 |   |   |   | 96,363 |   |   |
| U.S. GAAP adjustment                                                              |       |                                                         | 991        |   |   |   | 1,204 |   |   |   | 1,621 |   |   |
| U.S. GAAP  depreciation of Property, plant and equipment                          |       |                                                         | 99,416     |   |   |   | 99,992 |   |   |   | 97,984 |   |   |
| Carrying amount  of U.S. GAAP adjustment on interest capitalized—end of year |       |                                                         | 4,573      |   |   |   | 4,993 |   |   |   | 5,465 |   |   |

 

*(e) Derivatives*

The revised interpretation of IAS 39—FinancialInstruments—Recognition and Measurement does not consider contracts denominatedin a currency that is not the functional currency of either of the contractingparties as a separable host contract and an embedded derivative if the contractcurrency is widely used in that market. As a result of the change in theinterpretation, Magyar Telekom has restated its opening IFRS retained earningsto eliminate the carrying amounts of these embedded derivatives (HUF 873million) and the related deferred tax liability (HUF 140 million) as at December 31,2004.

The change in the IFRS interpretation does not have animpact on the U.S. GAAP accounts, in which these embedded derivatives remain tobe recognized and re-measured to fair value.

 

F-73

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

Thetable below shows the U.S. GAAP adjustment on the fair value of derivatives.

| ** **                                       | ** ** | **At December 31,**                | ** ** |
|--------------------------------------------------|------------|----------------------------------------------|------------|
| ** **                                       | ** ** | **   2004   ** | ** ** | **   2005   ** | ** ** |
| ** **                                       | ** ** | **(in HUF millions)**              | ** ** |
| IFRS fair value  of derivatives—as reported |       |                                         | 873        |   |   |   | — |   |   |
| IFRS restatement                                 |       |                                         | (873       | ) |   |   | — |   |   |
| IFRS fair value  of derivatives—as restated |       |                                         | —     |   |   |   | — |   |   |
| U.S. GAAP adjustment                             |       |                                         | 873        |   |   |   | 646 |   |   |
| U.S. GAAP fair value of  derivatives             |       |                                         | 873        |   |   |   | 646 |   |   |

 

*(f) Other income(rebranding)*

The Company’s mobile subsidiary, Westel was renamed asT-Mobile Hungary during 2004, while other companies of the Group were renamedin 2005. The compensation received from DTAG is shown as other income and thewrite off of the Westel brand and the costs of launching and promoting the newbrands are shown gross as expenses respectively in the IFRS income statement.

Under U.S. GAAP, MagyarTelekom recognizes the brand name write off and the additional costs mentionedabove in the income statement, while the compensation received is recognized asa contribution of capital by the majority shareholder in accordance with APB 25and SAB Topic 5-T. This results in a lower net income in the U.S. GAAPaccounts, but the Shareholders’ equity is no different in this respect.

*(g) Purchase priceallocation (business combinations)*

Due to the different intangible asset recognitionrules of IFRS and U.S. GAAP in earlier years, the fair values of the net assetsof T-Mobile, Maktel and Emitel on the acquisitions in 2001 were different. Inthe U.S. GAAP accounts, in general, a higher amount of intangible assets was recognizedon acquisition. Consequently, the amortization expense of these intangibles ishigher than in the IFRS accounts.

In addition, from March 31, 2004 in the IFRS accountsthe total amount of fair value adjustments on the net assets of the acquiredcompanies are recognized on consolidation, while in the U.S. GAAP accounts thefair value adjustments are only recognized in proportion to the share ofownership acquired, as was the policy in the IFRS accounts before the abovementioned date. This results in a lower amount of fair value adjustments in theU.S. GAAP accounts for intangible and tangible assets arising on businesscombinations since March 31, 2004.

Thefollowing table shows the carrying amounts of the U.S. GAAP adjustments on thebalance sheet lines that have arisen on the acquisition of subsidiaries.

| ** **                                         | ** ** | **At December 31,**   | ** ** |
|----------------------------------------------------|------------|---------------------------------|------------|
| ** **                                         | ** ** | **2004**                        | ** ** | **2005** | ** ** |
| ** **                                         | ** ** | **(in HUF millions)** | ** ** |
| Property, plant  and equipment                     |       | —                          |       | 358 |   |
| Intangible assets                                  |       | 13,881                          |       | 7,754 |   |
| Other liabilities                                  |       | —                          |       | 20 |   |
| U.S. GAAP adjustment on  Shareholders’ equity |       | 13,881                          |       | 8,132 |   |

 

F-74

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

Thefollowing table shows the expected amortization expense of all intangibleassets recorded under U.S. GAAP in the following years.

| **Year**   | ** ** | ** **                      | ** ** | **Amortization** | ** ** |
|------------|------------|---------------------------------|------------|------------------|------------|
| ** ** | ** ** | **(in HUF millions)** | ** ** |
| 2006       |       |                            | 27,130     |             |       |
| 2007       |       |                            | 21,721     |             |       |
| 2008       |       |                            | 14,448     |             |       |
| 2009       |       |                            | 8,382      |             |       |
| 2010       |       |                            | 4,543      |             |       |
| thereafter |       |                            | 19,170     |             |       |

 

*(h) Goodwill*

Due to the different asset recognition rules of IFRSand U.S. GAAP in earlier years, the fair value of the net assets of T-Mobile,Maktel and Emitel on the acquisitions in 2001 was different. In the U.S. GAAPaccounts, in general, a higher amount of intangible assets was recognized inthose years on business combinations. Consequently, the goodwill recognized inthe U.S. GAAP accounts was lower than in the IFRS accounts.

In addition, while according to Magyar Telekom’s IFRSaccounting policy, connection and activation fees are not deferred, SAB 101required the deferral of these fees. This resulted in a zero fair value ofdeferred revenue in the IFRS balance sheet of the companies acquired in 2001,while the fair value of the acquired companies’ liabilities included deferredrevenue in U.S. GAAP. Related to these deferred revenues, there were alsodeferred expenses in the U.S. GAAP balance sheets of the acquired companies.This difference also resulted in a different amount of goodwill arising on theacquisition of these subsidiaries.

Further, according to SFAS 141 and 142, goodwill isnot amortized under U.S. GAAP in the 3-year period presented, which resulted insignificant differences between the IFRS and U.S. GAAP accounts in 2003 and2004. From January 1, 2005 no goodwill is amortized in IFRS either,consequently no further differences arise in this respect.

Further, goodwill is recorded in the currency of theacquired company under U.S. GAAP, while in earlier years goodwill wasrecognized in HUF under IFRS. This results in currency translation adjustmentsin the Shareholders’ equity when compared to IFRS, the impact of which isincluded in the Goodwill line of the reconciliation table.

F-75

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

Thetable below shows the development of the carrying amount of goodwill comparingIFRS and U.S. GAAP.

| ** **                                                                                 | ** ** | **IFRS** | ** ** | **U.S. GAAP  adjustment** | ** ** | **U.S. GAAP** | ** ** |
|--------------------------------------------------------------------------------------------|------------|----------|------------|--------------------------------|------------|--------------------|------------|
| Carrying amount—January  1, 2004                                                      |       | 232,121  |       |                           | 3,725      |               |       |   | 235,846 |   |   |
| Increase due to acquisitions                                                               |       | 8,675    |       |                           | (1,099     | )                  |       |   | 7,576 |   |   |
| Deferred tax  expense credited to the carrying amount of goodwill                          |       | —   |       |                           | (212       | )                  |       |   | (212 | ) |   |
| Amortization  charge                                                                       |       | (13,876  | )          |                           | 13,876     |               |       |   | — |   |   |
| Carrying amount—December  31, 2004                                                    |       | 226,920  |       |                           | 16,290     |               |       |   | 243,210 |   |   |
| Exchange differences                                                                       |       | 115      |       |                           | (2,443     | )                  |       |   | (2,328 | ) |   |
| Increase due to  acquisitions                                                              |       | 5,122    |       |                           | —     |               |       |   | 5,122 |   |   |
| Deferred tax  expense credited to the carrying amount of goodwill                          |       | —   |       |                           | (118       | )                  |       |   | (118 | ) |   |
| Amortization  charge                                                                       |       | —   |       |                           | —     |               |       |   | — |   |   |
| Carrying amount—December  31, 2005                                                    |       | 232,157  |       |                           | 13,729     |               |       |   | 245,886 |   |   |
| Add back cumulative deferred tax expense credited to  the carrying amount of goodwill |       |     |       |                           | 508        |               |       |   |   |   |   |
| U.S. GAAP  adjustment on Shareholders’ equity                                         |       |     |       |                           | 14,237     |               |       |   |   |   |   |

 

Goodwill was tested forimpairment by reporting segment as of January 1, 2002 and in the last quarterof every year since then. As the fair value of the net assets of the reportingsegments was always higher than the book values, no impairment charge wasnecessary to be recognized in any of the reported periods.

*(i) Tax*

Most of the above describedU.S. GAAP adjustments result in temporary differences for which deferred tax isrecognized.

*(j) Minorityinterest*

Some of the above described adjustments are related tosubsidiaries in which Magyar Telekom’s share of ownership is less than 100 percent.In these cases the minority interests take their share of the adjustments.

Further, the Company hadseveral call options for the remaining shares of certain consolidatedsubsidiaries. Co-owners of subsidiaries also had call and put options forshares held by Magyar Telekom in certain consolidated subsidiaries. Therecognition and measurement of these options differed in certain cases underIFRS and U.S. GAAP. The differences between the recognition and measurement ofthese options resulted in U.S. GAAP adjustments in 2003 and 2004, which wereaccounted for in the minority interest line of the reconciliation tables. 

*(k) Othercomprehensive income*

Other comprehensive incomeincludes the cumulative translation adjustments arising on consolidation. Theseitems are not subject to tax.

F-76

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

*(l) Recentaccounting pronouncements*

In 2004, the FASB issued Statement 123 (revised 2004)(SFAS 123(R))—Share-Based Payment. SFAS 123(R) requires all share-based awardsto employees, including grants of employee stock options, to be recognized inthe financial statements based on their grant-date fair values. The relatedcompensation costs are to be recognized over the period during which anemployee is required to provide service in exchange for the award. MagyarTelekom adopted the prospective provisions of SFAS 123(R) to new and existingplans as of January 1, 2006. The grant-date fair values of unvested awards thatare outstanding on the date of adoption are charged to expense over theirremaining vesting periods starting from 2006. The adoption of SFAS 123(R) doesnot have a material impact on the 2006 financial statements of the Group.

In 2005, the FASB issued FSP FAS 123(R)-3—TransitionElection Related to Accounting for the Tax Effects of Share-Based PaymentAwards, which provides an elective shortcut approach when a company transitionsto SFAS 123(R). The guidance in the FSP is effective on November 10, 2005. TheFSP allowed up to one year from Magyar Telekom’s initial adoption of SFAS123(R) on January 1, 2006 to evaluate the available transition alternatives.The adoption of FSP FAS 123(R) also does not have a material impact on theGroup’s 2006 financial statements.

In 2005, the FASB issued FSP FAS 123(R)-2—PracticalAccommodation to the Application of Grant Date as Defined in FASB Statement No.123(R). The FSP provides an exception to the application of the concept of“mutual understanding” in the determination of whether a grant date hasoccurred. The exception permits companies to measure compensation cost for equityawards to employees on the Board approval date if certain conditions are met,provided that the communication to the employee occurs within a “relativelyshort period of time” from the approval date. Magyar Telekom adopted theprovisions of this FSP to new plans as of January 1, 2006. The FSP does nothave any impact on the Group’s financial statements as no such equity rewardswere granted in 2006.

In 2005, the Securities and Exchange Commission issuedStaff Accounting Bulletin No. 107—Share Based Payment. SAB 107 summarizes theviews of the SEC staff regarding the interaction between SFAS 123R andcertain SEC rules and regulations, and provides the staff’s views regarding thevaluation of share-based payment arrangements for public companies. MagyarTelekom adopted SAB 107 concurrently with the adoption of SFAS 123(R) witheffect from January 1, 2006. The adoption of SAB 107 does not have a materialimpact on the Group’s 2006 financial statements as share based payments grantedby the Group are fairly limited.

In 2004, the FASB issued Statement 153 (SFAS 153)—Exchangesof Non-monetary Assets—an amendment of APB Opinion No. 29. The guidance in APB29 is based on the general principle that exchanges of non-monetary assetsshould be measured based on the fair value of the assets exchanged. Theguidance in APB 29 included certain exceptions to that principle. SFAS 153amends APB 29 to eliminate the narrow exception for non-monetary exchanges ofsimilar productive assets and replaces it with a broader exception forexchanges of non-monetary assets that do not have commercial substance (thatis, transactions where future cash flows are not expected to significantlychange as a result of the exchange). Magyar Telekom adopted the provisions ofSFAS 153 for non-monetary asset exchange transactions entered into afterDecember 31, 2005. The adoption of SFAS 153 does not have any impact on theGroup’s 2006 financial statements as no such transactions have been enteredinto since the adoption date.

In 2005, the FASB issued FSP FIN46R-5—ImplicitVariable Interests under FASB Interpretation No. 46 (FIN 46R—revisedDecember 2003). FSP FIN46R-5 requires a reporting enterprise to consider 

F-77

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

whether it holds animplicit variable interest in a variable interest entity (VIE) or potentialVIE. Magyar Telekom adopted the provisions of FSP FIN46R-5 in the reportingperiod beginning on January 1, 2006. The adoption of FSP FIN46R-5 has no impacton the Group’s financial statements as we have concluded to have no such VIEs.

In 2005, the FASB issued Statement of FinancialAccounting Standards No. 154 (SFAS 154)—Accounting Changes and ErrorCorrections. SFAS 154 replaces APB 20—Accounting Changes, and SFAS 3—ReportingAccounting Changes in Interim Financial Statements. SFAS 154 applies to all voluntarychanges in accounting principle and changes the accounting for, and reportingof, a change in accounting principle, and requires the retrospectiveapplication to prior periods’ financial statements of a voluntary change inaccounting principle unless it is impracticable. SFAS 154 is effective foraccounting changes and correction of errors made in fiscal years beginningafter December 15, 2005. The adoption of SFAS 154 will only have an effect whenthe Group implements changes in accounting principle that are addressed by thestandard or corrects accounting errors in future periods.

In 2005, the FASB issued FSP APB 18-1—Accounting by anInvestor for its Proportionate Share of Other Comprehensive Income of anInvestee Accounted for under the Equity Method in Accordance with APB OpinionNo. 18 upon a Loss of Significant Influence. The FSP requires that if aninvestor loses significant influence over an investee, the investor’sproportionate share of the investee’s equity adjustments for Other ComprehensiveIncome should be offset against the carrying value of the investment at thetime significant influence is lost by the investor. Magyar Telekom adopted theprovisions of FSP APB 18-1 in the reporting period beginning on January 1,2006. The adoption of FSP APB 18-1 has no impact on the Group’s 2006 financialstatements as no such event took place in 2006.

In 2005, the FASB issued FSP FAS 13-1—Accounting forRental Costs Incurred during a Construction Period. The FSP concludes thatrental costs associated with ground or building operating leases that areincurred during a construction period should be recognized as rental expense.Magyar Telekom applied the guidance in this FSP to the reporting periodbeginning January 1, 2006. The adoption of this FSP has no significant impacton the Group’s 2006 financial statements as the Group primarily operates in itsown facilities, therefore no rental costs would normally qualify forcapitalization.

In 2005, the FASB issued FSP Nos. FAS 115-1 and FAS124-1—The Meaning of Other-Than-Temporary Impairment and Its Application toCertain Investments, which effectively nullify the requirements of EITF 03-1.This FSP provides guidance on determining when an investment is consideredimpaired, whether that impairment is other than temporary, and the measurementof an impairment loss. Additionally, the FSP provides accounting considerationssubsequent to the recognition of an other-than-temporary impairment andrequires certain disclosures about unrealized losses that have not beenrecognized as other-than-temporary impairments. Magyar Telekom adopted theprovisions of this FSP in the reporting period beginning January 1, 2006. Theadoption of this FSP has no impact on the Group’s 2006 financial statements asno impairment on investments was necessary to charge.

In June 2006, the FASB issued FASB Interpretation(FIN) 48, Accounting for Uncertainty in Income Taxes, an Interpretation of FAS109, Accounting for Taxes, to create a single model to address accounting foruncertainty in tax positions taken or expected to be taken in a tax return.Under FIN 48, the tax benefit from an uncertain tax position may be recognizedonly if it is more likely than not that the tax position will be sustained,based solely on its technical merits. The Group plans to adopt FIN 48 beginningJanuary 1, 2008. The cumulative effect of adopting FIN 48, if any, will berecorded in retained earnings. The Group is 

F-78

----

**MAGYAR TELEKOM NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Continued)**

currently evaluating thepotential impact that the adoption of FIN 48 may have on the Group’s financialstatements.

In September 2006, the FASB issued SFAS 157, FairValue Measurements. This statement defines fair value, establishes a frameworkfor measuring fair value in U.S. GAAP, and expands disclosures about fair valuemeasurements. This statement applies under other accounting pronouncements thatrequire or permit fair value measurements, the FASB having previously concludedin those accounting pronouncements that fair value is the relevant measurementattribute. Accordingly, SFAS 157 does not require any new fair valuemeasurements. The Group plans to adopt this standard as of January 1, 2008. TheGroup is currently evaluating the potential impact that the adoption of SFAS157 may have on the carrying values of assets and liabilities determined byfair valuation.

In September 2006, the FASB issued SFAS 158,Employers’ Accounting for Defined Benefit Pension and Other PostretirementPlans, which amends SFAS 87, SFAS 88, SFAS 106 and SFAS 132. As the Groupcurrently provides no such benefits, the issuance of SFAS 158 will not have anyimpact on the Group’s financial statements.

F-79

----

**SIGNATURES**

The registrant hereby certifies that it meets all ofthe requirements for filing on Form 20-F and that it has duly causedand authorized the undersigned to sign this annual report on its behalf.

Date: February 22, 2007
|        | **MAGYAR TELEKOM PLC.** |
|--------|-------------------------|
|   | By:                     | /s/ CHRISTOPHER MATTHEISEN |
|   | Name:                   | Christopher Mattheisen |
|   | Title:                  | *Chairman and Chief Executive Officer* |
|   | By:                     | /s/ THILO KUSCH |
|   | Name:                   | Thilo Kusch |
|   | Title:                  | *Chief Financial Officer* |

 

137

----