Level 3 network in new construction areas, customer connections, and own work capitalized, and include €1.0 million for the upgrading of iesy’s network for an additional 67,000 homes in Frankfurt and Marburg. In the future we expect that the upgrade of iesy’s network for high speed Internet services will increase iesy’s capital expenditures. We estimate that iesy’s capital expenditures for the year ended December 31, 2005 will be approximately €14.0 million, taking into account both non-discretionary and discretionary spending. We expect that iesy’s repair and maintenance expenditures (not accounted for in capital expenditures) will be approximately €3.0 million in 2005. See “Business— Business of iesy—Products and Services” for a description of these new products. The investments required for iesy’s high speed Internet services are modular, so investments can be allocated in ways which are based on customer demand. iesy has partially included in its capital expenditures budget upgrades of Level 4 or inhouse networks for its high speed Internet services. iesy has also assumed that a number of homes are already upgraded and that further upgrades will be undertaken by housing associations, professional Level 4 operators and iesy in connection with new contracts. If these assumptions are incorrect, we may need to make additional expenditures in order to upgrade the Level 4 and in-house networks for iesy’s high speed Internet users. In addition, we may decide to accelerate the upgrade of our network depending upon our competitive position, which could increase our level of capital expenditures significantly. We believe that, because of significant additional digital capacity available on iesy’s network, we will be able to undertake iesy’s planned expansion of its premium cable television services without major additional capital expenditures. In addition, capital expenditures requirements for premium cable television services are limited because we currently rely on third party providers who have established infrastructures. For example, iesy does not, as a result of its service agreement with MSG, provide its own technical services in relation to the digital playout facility for premium cable television, and therefore iesy does not provide for capital expenditures for such facilities. However, most of the agreements concluded with MSG with respect to such services have been terminated or have expired and are currently being renegotiated, and iesy may be required to make certain capital expenditures in order to provide for its own or third party facility. Following the ish Acquisition, we intend to rely on ish’s NOC in Kerpen if renegotiations are not successful and we do not continue to receive these services from MSG. Recently MSG notified us of its intention to terminate certain services relating to the distribution of iesy’s own premium cable television programming. The incremental capital expenditures required to connect to ish’s NOC in Kerpen are not expected to be material. See “Business—Business of iesy—Supply—Other Significant Supply Agreements” and “Risk Factors—Risks Relating to Our Business—We rely on MSG, a subsidiary of KDG, for the provision of certain playout services and because of changes in our relationship with MSG, our premium cable television services could be disrupted or may lead to higher costs. Existing contracts of MSG with third parties, especially Premiere, as well as our current agreements with MSG could adversely affect the development of our digital strategy” for a further description of the arrangement with MSG. The total level of capital expenditures will depend, among other things, upon iesy’s success in attracting new customers, including housing association contracts, the competitive and regulatory environment, and whether unexpected network problems develop. In the future, other products may require significant capital expenditures if they require new technologies or if new technologies are needed to improve iesy’s competitive position. In addition, iesy’s business requires capital expenditures on a continuing basis for various purposes, including the maintenance of iesy’s network, investing in new customer acquisitions, and offering new services. However, iesy does not currently believe that major capital projects are required to maintain iesy’s network, other than the capital expenditures described above. See “Risk Factors—Risks Relating to Our Business—Our assumptions about the low cost of upgrading selected parts of our network to provide basic Internet services may be inaccurate. Failure to maintain our cable television network or make other network improvements could have a material adverse effect on our operations and impair our financial condition.” 86
Subscribers iesy classifies its customers based on its three main business activities. The following table sets forth iesy’s subscriber numbers for its main business activities. 87 As of December 31, As of March 31, 2003 2004 2004 2005 Subscriber information (’000s, except percentages) Homes passed (1) 1,902 1,919 1,908 1,921 Total basic cable subscribers 1,243 1,202 1,239 1,197 % penetration (2) 65.4% 62.6% 64.9% 62.3% Residential (3) 543 527 542 522 Housing associations (4) 450 437 450 433 Professional Level 4 operators (5) 250 238 246 242 Premium cable subscribers (6) 2.8 9.6 5.2 12.2 High speed Internet subscribers 0.5 0.6 0.5 2.3 Total RGUs (7) 1,246.3 1,211.9 1,244.7 1,211.1 (1) iesy calculates homes passed based on iesy’s estimate of the number of potential subscribers who are passed by iesy’s network and to whom iesy can offer its cable television services. (2) Percent penetration represents the number of subscribers at the end of the relevant period as a percentage of the number of homes passed by iesy’s network at the end of the relevant period. (3) Residential subscribers typically represent accounts of one to five dwelling units. (4) Housing associations represent accounts of six dwelling units and upwards and encompass professional property investors, public property owners, property management firms and financial advisors. Housing associations include customers that not only own and operate their own Level 4 networks, but also operate and administer the networks of other housing associations and, accordingly, display certain characteristics of professional Level 4 operators. (5) Comprised of BN, EWT, PrimaCom and Tele Columbus. (6) Includes subscribers to iesy’s English language programming, which iesy introduced in the fourth quarter of 2004, but does not include subscriber numbers from Premiere (Premiere’s Hesse subscribers are estimated at more than 100,000 as of March 31, 2005). (7) Revenue generating units, or “RGUs,” relate to sources of revenues, which may not always be the same as subscriber numbers. For example, one person may subscribe to two different services, thereby accounting for only one subscriber but for two RGUs. In the period from December 31, 2004 to March 31, 2005, iesy’s subscriber numbers declined from approximately 1.202 million to approximately 1.197 million. This represents a net decrease in subscribers of 5,000 which includes 1,000 subscribers disconnected by professional Level 4 operators following our revised discounting policies with the remainder having disconnected due to the price increases we implemented in 2004. We experienced higher than usual churn levels in early 2005 as annual subscriber contracts came up for renewal for the first time since our 2004 price increase. These disconnection rates equate to an annualized equivalent churn rate of 5.9% excluding the professional Level 4 operators, or 6.4% including the professional Level 4 operators. In the period from December 31, 2003 to December 31, 2004, iesy subscriber numbers declined from approximately 1.24 million to approximately 1.20 million. This represents a net decrease in subscribers of 41,000 during the year, again comprised of 34,000 subscribers disconnected by professional Level 4 operators following iesy’s revised discounting policies. These disconnection rates equate to a churn rate of 4.8% excluding the professional Level 4 operators, or 7.5% including the professional Level 4 operators. iesy believes that the principal causes of the decline in its number of subscribers are the price increases it implemented in 2002 and 2004 and the changes in its discounting policies regarding the professional Level 4 operators. BN and EWT, two professional Level 4 operators, disconnected certain subscribers from iesy’s network when its previous agreement with them expired. See “—Basic Cable Television Sales” and “—ARPU.” ARPUs for large professional Level 4 operators tend to be comparatively low so the sales impact of these subscriber losses is not as significant as it would be for residential customers. In addition, the elimination of the discounts enjoyed by BN under its previous contract with iesy increased ARPU for the remaining BN subscribers.