To Deutsche Telekom Aktiengesellschaft, Bonn

REPORT ON THE AUDIT OF THE CONSOLIDATED FINANCIAL STATEMENTS AND OF THE GROUP MANAGEMENT REPORT

Audit Opinions

We have audited the consolidated financial statements of Deutsche Telekom Aktiengesellschaft, Bonn, and its subsidiaries (the Group), which comprise the consolidated statement of financial position as at December 31, 2017, and the consolidated income statement, the consolidated statement of comprehensive income, consolidated statement of changes in equity and consolidated statement of cash flows for the financial year from January 1 to December 31, 2017, and notes to the consolidated financial statements, including a summary of significant accounting policies. In addition, we have audited the group management report of Deutsche Telekom Aktiengesellschaft, which is combined with the Company’s management report, for the financial year from January 1 to December 31, 2017. We have not audited the content of those parts of the group management report listed in the “Other Information” section of our auditor’s report in accordance with the German legal requirements.

In our opinion, on the basis of the knowledge obtained in the audit,

  • the accompanying consolidated financial statements comply, in all material respects, with the IFRSs as adopted by the EU, and the additional requirements of German commercial law pursuant to § [Article] 315e Abs. [paragraph] 1 HGB [Handelsgesetzbuch: German Commercial Code] and, in compliance with these requirements, give a true and fair view of the assets, liabilities, and financial position of the Group as at December 31, 2017, and of its financial performance for the financial year from January 1 to December 31, 2017, and
  • the accompanying group management report as a whole provides an appropriate view of the Group’s position. In all material respects, this group management report is consistent with the consolidated financial statements, complies with German legal requirements and appropriately presents the opportunities and risks of future development. Our audit opinion on the group management report does not cover the content of those parts of the group management report listed in the “Other Information” section of our auditor’s report.

Pursuant to § 322 Abs. 3 Satz [sentence] 1 HGB, we declare that our audit has not led to any reservations relating to the legal compliance of the consolidated financial statements and of the group management report.

Basis for the Audit Opinions

We conducted our audit of the consolidated financial statements and of the group management report in accordance with § 317 HGB and the EU Audit Regulation (No. 537/2014, referred to subsequently as “EU Audit Regulation”) and in compliance with German Generally Accepted Standards for Financial Statement Audits promulgated by the Institut der Wirtschaftsprüfer [Institute of Public Auditors in Germany] (IDW). We performed the audit of the consolidated financial statements in supplementary compliance with the International Standards on Auditing (ISAs). Our responsibilities under those requirements, principles and standards are further described in the “Auditor’s Responsibilities for the Audit of the Consolidated Financial Statements and of the Group Management Report” section of our auditor’s report. We are independent of the group entities in accordance with the requirements of European law and German commercial and professional law, and we have fulfilled our other German professional responsibilities in accordance with these requirements. In addition, in accordance with Article 10 (2) point (f) of the EU Audit Regulation, we declare that we have not provided non-audit services prohibited under Article 5 (1) of the EU Audit Regulation. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinions on the consolidated financial statements and on the group management report.

Key Audit Matters in the Audit of the Consolidated Financial Statements

Key audit matters are those matters that, in our professional judgment, were of most significance in our audit of the consolidated financial statements for the financial year from January 1 to December 31, 2017. These matters were addressed in the context of our audit of the consolidated financial statements as a whole, and in forming our audit opinion thereon; we do not provide a separate audit opinion on these matters.

In our view, the matters of most significance in our audit were as follows:

1 | Recoverability of goodwill

2 | Appropriateness of revenue recognition and disclosures on the expected impact of the initial application of IFRS 15

3 | Reversal of impairment loss recognized on intangible assets of the cash-generating unit “USA”

4 | Accounting treatment of the Toll Collect Legal Dispute

Our presentation of these key audit matters has been structured in each case as follows:

1 | Matter and issue

2 | Audit approach and findings

3 | Reference to further information

Hereinafter we present the key audit matters:

1 | Recoverability of goodwill

1 | Goodwill in an amount of EUR 12.3 billion (8.7 % of consolidated total assets) is reported under the line item "Intangible assets" of the consolidated statement of financial position in the consolidated financial statements of Deutsche Telekom Aktiengesellschaft. The Company tests goodwill for impairment (impairment test) once a year or if there are indications that goodwill may be impaired. The carrying amount of the relevant cash-generating unit or group of cash-generating units (referred to subsequently as “unit” or “units”), in each case including allocated goodwill, is compared with the corresponding recoverable amount in the context of the impairment test. These measurements are generally based on the present value of future cash flows of the unit to which the respective goodwill is allocated. The recoverability of the unit “USA” is determined on the basis of the listed share price of T-Mobile US, Inc. The other measurements are based on budget projections of the individual units, which in turn are based on the financial budgets approved by management. The discount rate used is the weighted average cost of capital for the relevant unit. The impairment tests of the units “Market Unit” (Systems Solutions), “Poland”, “Romania” and “Albania” led to impairment losses on goodwill totaling EUR 2.1 billion in the financial year 2017.

The result of these measurements depends particularly on management's assumptions of future cash inflows and the discount rate used. The measurements are therefore subject to uncertainty. Against this background and due to the complex nature of the measurement, this matter was of particular significance in the context of our audit.

2 | We assessed whether the future cash inflows underlying the measurements and the discount rates used on the whole provide a proper basis for the impairment tests of the individual units. As part of our assessment, we relied, among other things, on a comparison with general and sectorspecific market expectations as well as the management's detailed explanations regarding key planning value drivers. In this context, we also assessed whether the costs of Group functions were properly included in the impairment tests of the respective cash-generating units. With the knowledge that even relatively small changes in the discount rate applied can in some cases have material effects on values, we also focused our testing on the parameters used to determine the discount rate applied, and evaluated the measurement model. We also conducted our own sensitivity analyses for the units with a low carrying amount to present value ratio in order to estimate any potential impairment risk related to any potential changes in key assumptions of the measurement. In our view, the measurement inputs and assumptions used by management were properly derived for conducting impairment tests.

3 | The Companyʼs disclosures pertaining to impairment tests are contained in the “Accounting policies” section of the “Summary of accounting policies” chapter and in section “5 – Intangible assets” of the notes to the consolidated financial statements.

2 | Appropriateness of revenue recognition and disclosures on the expected impact of the initial application of IFRS 15

1 | Revenue of EUR 74.9 billion is recognized in the consolidated income statement in the consolidated financial statements of Deutsche Telekom Aktiengesellschaft. This material item is subject to considerable inherent risk due to the complexity of the systems necessary for properly recording and identifying revenue and the impact of everchanging business, price and tariff models (including tariff structures, customer discounts, incentives). Against this background, the proper application of the accounting standards is considered to be complex and to a certain extent based on estimates and assumptions made by management.

In addition, the application of the new standard on revenue recognition, “International Financial Reporting Standard 15 – Revenue from Contracts with Customers” (IFRS 15), will have a significant impact from the financial year 2018 onward, which already has to be presented in the notes to the consolidated financial statements for the financial year 2017. Deutsche Telekom Aktiengesellschaft will exercise the option on initial application to recognize the cumulative effect of the transition directly in equity as of January 1, 2018 in accordance with the transitional provisions. It therefore expects that, in particular, the initial recognition of contract assets and the costs of obtaining contracts will lead to an increase in retained earnings under equity of around EUR 2.2 billion to EUR 2.6 billion (before accounting for deferred taxes) as of January 1, 2018. It anticipates moreover that the implementation of IFRS 15 will lead to a decline in the share of revenue from the provision of services and an increase in the share of revenue from the sale of goods and merchandise of total revenue of around 2 percentage points. In view of the expected material impact and the complexity of the Groupwide implementation of the new standard, the presentation of the expected impact was of particular importance for our audit.

2 | In light of the fact that the high degree of complexity and estimates and assumptions give rise to an increased risk of accounting misstatements, we assessed the Groupʼs processes and controls for recognizing revenue as part of our audit. Furthermore, in order to mitigate the inherent risk in this audit area, we ensured that audit procedures were consistently carried out throughout the Group by issuing the relevant instructions to the component auditors. Our audit approach included testing of the controls and substantive audit procedures, including:

  • Assessing the environment of the IT systems related to invoicing and measurement as well as other relevant systems supporting the accounting of revenue, including the implemented controls of system changes.
  • Assessing the invoicing and measurement systems up to entries in the general ledger.
  • Examining customer invoices and receipts of payment on a test basis.

Furthermore, we assessed the accounting effects of new business and price models. We assured ourselves of the appropriateness of the systems, processes, and controls in place and that the estimates and assumptions made by management are sufficiently documented and substantiated to ensure that revenue is properly recognized.

With regard to the expected impact of the initial application of IFRS 15 from the financial year 2018 onward, we assessed the impact determined during the Groupwide project for implementing the new standard. In order to take account of the complexity of implementing the new standard, we ensured that audit procedures were consistently carried out throughout the Group by issuing the relevant instructions to the component auditors. Our audit approach included, among other items:

  • Assessing the impact analysis and the accounting estimates made for the different business models of the Group companies.
  • Assessing the design of the processes set up to account for the transactions in accordance with the new standard and of the IT systems to support the implementation of the new requirements.
  • Assessing the appropriateness of the methods used to determine the expected impact of the initial application of IFRS 15.

We assured ourselves that the systems and processes set up by management and the estimates and assumptions made are sufficiently documented and substantiated to ensure that the expected impact of initial application is properly presented.

3 | The Company's disclosures pertaining to the particularities surrounding the recognition of revenue in the consolidated financial statements of Deutsche Telekom Aktiengesellschaft are contained in the comments on the accounting policies found in the “Accounting policies” and “Judgments and estimates” sections of the “Summary of accounting policies” chapter of the notes to the consolidated financial statements. The expected impact of the initial application of IFRS 15 is presented in the section entitled “Standards, interpretations, and amendments issued, but not yet to be applied” in the “Summary of accounting policies” chapter in the notes to the consolidated financial statements.

3 | Reversal of impairment loss recognized on intangible assets of the cash-generating unit "USA"

1 | Mobile communications licenses granted by the Federal Communications Commission in the USA (“FCC licenses”) in an amount of EUR 34.3 billion (24.3 % of consolidated total assets) are reported under the line item “Intangible assets” of the consolidated statement of financial position in the consolidated financial statements of Deutsche Telekom Aktiengesellschaft. As part of an impairment test of the cash-generating unit “USA” triggered by indications of impairment as of September 30, 2012, impairment losses had been recognized in particular on certain FCC licenses. Since then, these impaired FCC licenses had to be tested regularly to establish whether the reasons for impairment have ceased to apply – at least in part. In this context, limits applied on the reversal of impairment losses pursuant to IAS 36, which stipulated that, when reversing impairment losses, the carrying amount of an asset could not be increased above the lower of (a) its recoverable amount and (b) the carrying amount that would have been determined if no impairment losses had been recognized in prior periods. The fair value less costs to sell of the cash-generating unit “USA” has increased since 2012 as a result of a rise in the share price of T-Mobile US, Inc. In previous financial years, the recoverable amount of the abovementioned FCC licenses was below their carrying amount; as a result, the limits on the reversal of impairment losses had to be observed. The results of the 600 MHz auction of the Federal Communications Commission available in the third quarter of 2017 provided the indication in the financial year 2017 that the impairment losses on the FCC licenses may have to be reversed.

In response, the license portfolio was remeasured using the discounted cash flow method. The total value was subsequently allocated to the FCC licenses, on which impairment losses had previously been recognized. The measurement revealed a fair value of USD 16.1 billion for the FCC licenses that had to be tested as to whether the impairment loss may have decreased. The last carrying amount prior to that was USD 14.1 billion, and this resulted in a partial reversal of the impairment loss and an increase in the carrying amount of the FCC licenses by USD 2.0 billion (EUR 1.7 billion) being recognized through other operating income.

Due to the material impact on profit or loss and managementʼs judgments and estimates made in assessing the reversal of the impairment loss, this matter was of particular importance for our audit.

2 | As part of our audit, we assessed, among other things, whether the future cash inflows underlying the measurements and the discount rate used on the whole provide a proper basis for measuring the license portfolio of T-Mobile US, Inc. As part of our assessment, we relied, among other things, on a comparison with general and sector-specific market expectations as well as the managementʼs detailed explanations regarding key planning value drivers. With the knowledge that even relatively small changes in the discount rate applied can in some cases have material effects on values, we also focused our testing on the parameters used to determine the discount rate applied, and evaluated the measurement model. In addition, we assessed the plausibility of the allocation of the total value to the FCC licenses which were impaired at the time, and verified the measurement model. From our point of view, the measurement and allocation method used by management was properly applied and the valuation inputs and assumptions were logically derived.

3 | The Companyʼs disclosures pertaining to the partial reversal of impairment losses on the FCC licenses are contained in sections “5 – Intangible assets” and “17 – Other operating income” of the notes to the consolidated financial statements.

4 | Accounting treatment of the Toll Collect Legal Dispute

1 | Deutsche Telekom Aktiengesellschaft is a party in court and out-of-court proceedings with authorities, competitors, and other parties. The determination of whether or not a provision should be recognized to cover the risks, and if so, in what amount, is subject to a high degree of uncertainty. The following action brought by the Federal Republic of Germany against, among others, Deutsche Telekom Aktiengesellschaft is of particular importance for our audit, due primarily to the high monetary value of the asserted claims.

In 2004, the Federal Republic of Germany initiated arbitration proceedings in connection with the establishment and operation of a toll system. This arbitration is, among others, directed against Deutsche Telekom Aktien­gesellschaft and its investment Toll Collect GbR (“Toll Collect Legal Dispute”). Claims for damages are asserted for lost toll proceeds and contractual penalties due to breaches of contract. Deutsche Telekom Aktiengesellschaft recognized a provision for the risks stemming from the legal dispute under other provisions in its consolidated financial statements.

2 | As part of our audit, we assessed the process established by Deutsche Telekom Aktiengesellschaft to ensure that a legal dispute is reported, its risks are assessed, and the dispute is accounted for. This assessment also included a substantive review of the material legal risks, including the Toll Collect Legal Dispute. Our assessment took into account the knowledge gained in the course of our regular meetings with Deutsche Telekom Aktiengesellschaftʼs legal department as well as from the assessments provided to us in writing on the outcomes of the respective proceedings. Furthermore, an external legal opinion on the Toll Collect Legal Dispute was obtained as of the balance sheet date, which up-holds Deutsche Telekom Aktiengesellschaftʼs risk assessment. We assessed and deem appropriate the presentation of the legal dispute and the associated risk provision in the consolidated financial statements.

3 | The aforementioned legal dispute is disclosed in section “13 – Other provisions” of the chapter “Notes to the consolidated statement of financial position” as well as in section “32 – Contingencies” of the notes to the consolidated financial statements.

Other Information

The executive directors are responsible for the other information. The other information comprises the following non-audited parts of the group management report:

  • the statement on corporate governance pursuant to § 289f HGB and § 315d HGB included in section “Other Disclosures – Corporate Governance Statement in accordance with §§ 289f, 315d HGB” of the group management report
  • the non-financial statement pursuant to § 289b Abs. 1 HGB and § 315b Abs. 1 HGB included in section “Corporate Responsibility and Non-­Financial Statement” of the group management report

The other information comprises further the remaining parts of the annual report – excluding cross-references to external information – with the exception of the audited consolidated financial statements, the audited group management report and our auditor’s report.

Our audit opinions on the consolidated financial statements and on the group management report do not cover the other information, and consequently we do not express an audit opinion or any other form of assurance conclusion thereon.

In connection with our audit, our responsibility is to read the other information and, in so doing, to consider whether the other information

  • is materially inconsistent with the consolidated financial statements, with the group management report or our knowledge obtained in the audit, or
  • otherwise appears to be materially misstated.

If, based on the work we have performed, we conclude that there is a material misstatement of this other information, we are required to report that fact. We have nothing to report in this regard.

Responsibilities of the Executive Directors and the Supervisory Board for the Con-solidated Financial Statements and the Group Management Report

The executive directors are responsible for the preparation of the consolidated financial statements that comply, in all material respects, with IFRSs as adopted by the EU and the additional requirements of German commercial law pursuant to § 315e Abs. 1 HGB and that the consolidated financial statements, in compliance with these requirements, give a true and fair view of the assets, liabilities, financial position, and financial performance of the Group. In addition the executive directors are responsible for such internal control as they have determined necessary to enable the preparation of consolidated financial statements that are free from material misstatement, whether due to fraud or error.

In preparing the consolidated financial statements, the executive directors are responsible for assessing the Group’s ability to continue as a going concern. They also have the responsibility for disclosing, as applicable, matters related to going concern. In addition, they are responsible for financial reporting based on the going concern basis of accounting unless there is an intention to liquidate the Group or to cease operations, or there is no realistic alternative but to do so.

Furthermore, the executive directors are responsible for the preparation of the group management report that, as a whole, provides an appropriate view of the Group’s position and is, in all material respects, consistent with the consolidated financial statements, complies with German legal requirements, and appropriately presents the opportunities and risks of future development. In addition, the executive directors are responsible for such arrangements and measures (systems) as they have considered necessary to enable the preparation of a group management report that is in accordance with the applicable German legal requirements, and to be able to provide sufficient appropriate evidence for the assertions in the group management report.

The supervisory board is responsible for overseeing the Group’s financial reporting process for the preparation of the consolidated financial statements and of the group management report.

Auditor’s Responsibilities for the Audit of the Consolidated Financial Statements and of the Group Management Report

Our objectives are to obtain reasonable assurance about whether the consolidated financial statements as a whole are free from material misstatement, whether due to fraud or error, and whether the group management report as a whole provides an appropriate view of the Group’s position and, in all material respects, is consistent with the consolidated financial statements and the knowledge obtained in the audit, complies with the German legal requirements and appropriately presents the opportunities and risks of future development, as well as to issue an auditor’s report that includes our audit opinions on the consolidated financial statements and on the group management report.

Reasonable assurance is a high level of assurance, but is not a guarantee that an audit conducted in accordance with § 317 HGB and the EU Audit Regulation and in compliance with German Generally Accepted Standards for Financial Statement Audits promulgated by the Institut der Wirtschaftsprüfer (IDW) and supplementary compliance with the ISAs will always detect a material misstatement. Misstatements can arise from fraud or error and are considered material if, individually or in the aggregate, they could reasonably be expected to influence the economic decisions of users taken on the basis of these consolidated financial statements and this group management report.

We exercise professional judgment and maintain professional skepticism throughout the audit. We also: Identify and assess the risks of material misstatement of the consolidated financial statements and of the group management report, whether due to fraud or error, design and perform audit procedures responsive to those risks, and obtain audit evidence that is sufficient and appropriate to provide a basis for our audit opinions. The risk of not detecting a material misstatement resulting from fraud is higher than for one resulting from error, as fraud may involve collusion, forgery, intentional omissions, misrepresentations, or the override of internal control.

  • Obtain an understanding of internal control relevant to the audit of the consolidated financial statements and of arrangements and measures (systems) relevant to the audit of the group management report in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an audit opinion on the effectiveness of these systems.
  • Evaluate the appropriateness of accounting policies used by the executive directors and the reasonableness of estimates made by the executive directors and related disclosures.
  • Conclude on the appropriateness of the executive directors’ use of the going concern basis of accounting and, based on the audit evidence obtained, whether a material uncertainty exists related to events or conditions that may cast significant doubt on the Group’s ability to continue as a going concern. If we conclude that a material uncertainty exists, we are required to draw attention in the auditor’s report to the related disclosures in the consolidated financial statements and in the group management report or, if such disclosures are inadequate, to modify our respective audit opinions. Our conclusions are based on the audit evidence obtained up to the date of our auditor’s report. However, future events or conditions may cause the Group to cease to be able to continue as a going concern.
  • Evaluate the overall presentation, structure and content of the consolidated financial statements, including the disclosures, and whether the consolidated financial statements present the underlying transactions and events in a manner that the consolidated financial statements give a true and fair view of the assets, liabilities, financial position and financial performance of the Group in compliance with IFRSs as adopted by the EU and the additional requirements of German commercial law pursuant to § 315e Abs. 1 HGB.
  • Obtain sufficient appropriate audit evidence regarding the financial information of the entities or business activities within the Group to express audit opinions on the consolidated financial statements and on the group management report. We are responsible for the direction, supervision and performance of the group audit. We remain solely responsible for our audit opinions.
  • Evaluate the consistency of the group management report with the consolidated financial statements, its conformity with German law, and the view of the Group’s position it provides.
  • Perform audit procedures on the prospective information presented by the executive directors in the group management report. On the basis of sufficient appropriate audit evidence we evaluate, in particular, the significant assumptions used by the executive directors as a basis for the prospective information, and evaluate the proper derivation of the prospective information from these assumptions. We do not express a separate audit opinion on the prospective information and on the assumptions used as a basis. There is a substantial unavoidable risk that future events will differ materially from the prospective information.

We communicate with those charged with governance regarding, among other matters, the planned scope and timing of the audit and significant audit findings, including any significant deficiencies in internal control that we identify during our audit.

We also provide those charged with governance with a statement that we have complied with the relevant independence requirements, and communicate with them all relationships and other matters that may reasonably be thought to bear on our independence, and where applicable, the related safeguards.

From the matters communicated with those charged with governance, we determine those matters that were of most significance in the audit of the consolidated financial statements of the current period and are therefore the key audit matters. We describe these matters in our auditor’s report unless law or regulation precludes public disclosure about the matter.