Accounting policies

In accordance with § 53 (6) of the Exchange Rules for the Frankfurter Wertpapierbörse (FWB), Deutsche Telekom AG voluntarily publishes a quarterly financial report that comprises interim consolidated financial statements and an interim Group management report. The interim consolidated financial statements were prepared in accordance with the International Financial Reporting Standards (IFRSs) applicable to interim financial reporting as adopted by the EU. The interim management report for the Group was prepared in accordance with the German Securities Trading Act (Wertpapierhandelsgesetz).

Statement of compliance

The interim consolidated financial statements for the period ended September 30, 2019 are in compliance with International Accounting Standard (IAS) 34. As permitted by IAS 34, it has been decided to publish a condensed version compared to the consolidated financial statements at December 31, 2018. All IFRSs applied by Deutsche Telekom AG have been adopted by the European Commission for use within the EU.

In the opinion of the Board of Management, the reviewed quarterly financial report includes all standard adjustments to be applied on an ongoing basis that are required to give a true and fair view of the results of operations and financial position of the Group. Please refer to the notes to the consolidated financial statements as of December 31, 2018 for the accounting policies applied for the Group's financial reporting.

Initial application of standards, interpretations, and amendments in the reporting period

In January 2016, the IASB issued IFRS 16 “Leases.” This standard is mandatory for reporting periods beginning on or after January 1, 2019. IFRS 16 has a material effect on Deutsche Telekom’s consolidated financial statements, particularly on total assets, the results of operations, cash generated from operations, net cash from/used for financing activities, and the presentation of the financial position.

The new regulations affect Deutsche Telekom as a lessee especially in relation to leases of cell sites (land, space in cell towers, or rooftop surface areas), network infrastructure, and buildings used for administrative or technical purposes.

Deutsche Telekom has not applied the new lease standard retrospectively in full, but makes use of the exemption provisions for lessees, also known as the modified retrospective method. On the transition to IFRS 16, remaining payment obligations from existing operating leases are discounted using the relevant incremental borrowing rate and recognized as a lease liability. The right-of-use assets were carried as of January 1, 2019 in the amount of the lease liability, adjusted by the amount of the prepaid or accrued lease payments. Due to the significant amount of liabilities from straight-line leases in accordance with IAS 17, which in accordance with IFRS 16 must be deducted from the right-of-use assets, the right-of-use assets as of January 1, 2019 under IFRS 16 were carried at a significantly lower amount than the corresponding lease liability (2018 Annual Report, Note 16 “Other liabilities”). This liability primarily relates to leases for T‑Mobile US’ cell sites. As of the transition date of January 1, 2019, in a first step, the lease terms underlying the liabilities were adjusted to the lease terms determined in accordance with IFRS 16. This adjustment increased shareholders’ equity. The remaining accrued lease liability was deducted from the right-of-use asset as described above. In addition to existing operating leases, existing finance leases and their carrying amounts as of December 31, 2018 are recognized as right-of-use assets and lease liabilities as of January 1, 2019.

Significant policy elections and practical expedients are exercised as follows:

• Right-of-use assets and lease liabilities are presented separately in the statement of financial position.
• The recognition, measurement, and disclosure requirements of IFRS 16 also apply to short-term leases and leases of low-value assets.
• Non-lease components are not separated from lease components; instead, each lease component and any associated non-lease components is accounted for as a single lease component.
• IAS 38 is applied for leases of intangible assets rather than IFRS 16.

In addition, on the date of first-time adoption of IFRS 16, use was made of the main policy elections and practical expedients as follows:

• Provisions for onerous contracts recognized in connection with leases were adjusted against the right-of-use asset as of January 1, 2019.
• In determining the lease term, hindsight may be used where economic considerations and penalties indicate that it is reasonably certain that options to extend or terminate the lease will be exercised.
• Existing contracts will not be grandfathered. On January 1, 2019, IFRS 16 was therefore applied to all existing leases falling within its scope. It applies to contracts in which Deutsche Telekom is a lessee and to contracts in which the Group is a lessor.

Overall, the new definition of a lease does not have a material impact for Deutsche Telekom as a lessor. However, the number of identified leases changes. The new definition does not affect the contracts for servers or similar hardware provided to customers as part of data and network solutions or contracts for terminal equipment provided to customers. These will continue to be defined as leases. However, the number of leases for contracts involving modems/routers for the latest generation of devices provided to consumers as part of fixed-network mass-market contracts is decreasing. In relation to services provided in data centers, the leasing of space, for example separate rooms for setting up the customer’s own hardware, will be identified as a component of a lease. Furthermore, the leasing of local loop lines and space to wholesale fixed-network customers (e.g., co-location space) is also classified as a lease.

The adjustments made to the consolidated statement of financial position as of January 1, 2019 and attributable to the first-time application of IFRS 16 are as follows^a:

After deferred tax liabilities totaling EUR 0.1 billion (net) were taken into account, the transition to the new standard as of January 1, 2019 resulted in a cumulative effect that increased retained earnings by EUR 0.3 billion and included the effect of shares attributable to non-controlling interests. This largely results from the derecognition of accrued lease payments (liabilities from straight-line leases) described above.

Reclassifications relate in particular to reclassifications of carrying amounts from previous finance leases to right-of-use assets and lease liabilities and the adjustments of prepaid or accrued lease payments from operating leases under the previous accounting method, provisions for onerous contracts, or liabilities from straight-line lease against right-of-use assets, as described above. For more information, please refer to the section “Selected notes to the consolidated statement of financial position.”

The obligations arising from operating leases as of December 31, 2018 (2018 Annual Report, Note 37 “Leases”) gave rise to the following reconciliation to the opening balance of lease liabilities as of January 1, 2019:

If the interest rate implicit in the lease cannot be readily determined, the interest rate used for the measurement of right-of-use assets and lease liabilities is the incremental borrowing rate of interest. The incremental borrowing rate of interest is determined by deriving benchmark interest rates for a period of up to 30 years from maturity-related risk-free interest rates which are increased by a credit-risk premium and adjusted for a liquidity and country-risk premium.

Weighted average incremental borrowing rates applied to lease liabilities recognized in the statement of financial position as of January 1, 2019 of 1.7 percent to 5.0 percent were used in the euro currency area and 5.2 percent in the U.S. dollar currency area for discounting.

The increase in lease liabilities leads to a corresponding increase in net debt.

The right-of-use assets reported as of September 30, 2019 were as follows:

Right-of-use assets include assets that until December 31, 2018 were recognized in property, plant and equipment as part of finance leases.

This gave rise to the following presentation in the income statement for the first three quarters of 2019^a:

For more information on standards, interpretations, and amendments that have been issued but not yet applied, as well as disclosures on the recognition and measurement of items in the statement of financial position and discretionary decisions and estimation uncertainties, please refer to the 2018 Annual Report, section “Summary of accounting policies” in the notes to the consolidated financial statements.

Changes in accounting policies, changes in estimates

With the exception of the standards, interpretations, and amendments that are effective for the first time in the financial year, Deutsche Telekom did not make any major changes in its accounting policies.

The contractual grants receivable from public funding projects for the broadband build-out in Germany are recognized in full as of the start of the third quarter of 2019. This is due to the fact that the broadband build-out in Germany has now become a routine activity such that now, as soon as a grant agreement is concluded, it has to be assumed with the reasonable assurance required under IFRS that Deutsche Telekom will meet the conditions for the grant and that the public sector will pay out the grant. Consequently, the expected grants are now recognized in full as other financial assets upon conclusion of the agreement, with a matching non-financial other liability for the existing build-out obligation. Previously, the grant conditions were only deemed to be met with reasonable assurance upon acceptance after completion, and hence until now, only advance payments received were recognized as non-financial other liabilities. Consequently, the funded portion of the payments was initially capitalized as property, plant and equipment, as a result of which the corresponding carrying amount was higher. The grants receivable recognized as other financial assets in the third quarter of 2019 as a result of this change in estimate amounted to EUR 1.3 billion, and non-financial other liabilities of EUR 0.9 billion were newly recognized for the build-out obligations to be fulfilled. The difference is deducted from property, plant and equipment. The financial assets measured at amortized cost are reduced upon receipt of the grants. The non-financial other liabilities are derecognized on a pro rata basis as the build-out progresses, reducing the cost of the publicly funded property, plant and equipment. All grants received from funding projects and payments made for the build-out are recognized in net cash from/used in investing activities. Grants and payments for funding projects for which the reasonable assurance described above already exists are recognized separately in the items “Proceeds from public funds for investments in the broadband build-out” and “Payments for publicly funded investments in the broadband build-out.” Since the payments are not made at the same point in time as the proceeds are received, the net amounts can be positive or negative in the individual periods. These investments are not included in “Cash outflows for investments in property, plant and equipment,” because the payments made do not result in additions to property, plant and equipment. For more information, please refer to the section “Notes to the consolidated statement of cash flows.”