Interim Results

Alternative Networks plc

Alternative Networks plc, ('the Company' or 'the Group'), a leading independent business-to-business communications provider, reports its Interim Results for the six months ended 31 March 2011.

HIGHLIGHTS

·; Organic growth and continued market share gains

·; Very successful acquisition of Scalable, high growth participant in Enterprise Data market

·; Margin improvement: new 3 year commercial agreement with mobile network provider

·; Strong cash conversion of profits

·; Securing leading position in provision of converged telephony services

·; Increased cross-selling of services

·; Progressive dividend policy maintained:

o Interim dividend of 3p payable on 1 July 2011, a 50% increase in real terms : 2010 interim of 5p included a special dividend of 3p.

o Target of at least 9p full year dividend and a minimum 10% dividend growth proposed for 2012 and 2013

KEY FINANCIAL INFORMATION

* Results before intangible assets amortisation excluding software, IFRS write off of deferred consideration, share based payments, and exceptional costs of Scalable acquisition.

** Statutory performance reflects IFRS requirement to write off £1.35m to the Profit & Loss Account on the deferred consideration payable to the vendors of Scalable, because the terms of the acquisition require them to be employees of the Company when this payment falls due. This has an exceptional 3.1 pence negative impact on Earnings per share in this period.

*** Calculated by taking the interim proposed in each period and dividing by the shares currently in issue. In 2010, an additional 3p per share was paid as a special interim dividend. Total interim dividend in 2010 was 5 pence.

James Murray, Chief Executive Officer, commented:

"Alternative Networks goes from strength to strength. Key to our success has been our ability to integrate acquisitions that have not only delivered significant financial returns but have also cemented our position in the telephony services market. It is crucial to be able to provide customers with a full range of services and the recent acquisitions of Scalable and AKJ have enabled us to do this. Better still, we are starting to move up the scale in terms of customer size, accessing greater levels of available expenditure.

"This outstanding performance is reflected in today's figures. Sales and underlying profits are strongly ahead and our continued ability to generate cash means our balance sheet is as strong as ever, even after paying for the Scalable acquisition in October 2010 and the final dividend at the start of the year. Both financially and operationally, the Group is ideally placed to continue its pattern of growth, underpinned by an increasingly compelling service offering."

Enquiries:

 Chairman's Statement

Alternative Networks has delivered another strong performance in the first half of the financial year, with turnover of £59.0m (H1 2010: £47.1m) and an impressive 24% increase in adjusted operating profits from £5.7m in H1 2010 to £7.1m. Cash generation from operations across the Group remains strong at £7.2m (H1 2010: £7.6m), with a good cash conversion ratio of 97% (H1 2010: 127%) of adjusted EBITDA.

As a result of this strong cash position, the Board intends to maintain its progressive dividend policy, with a minimum target of 9p for the full year, representing an increase of 48% in real terms, after adjusting for the special dividend of 3p paid in 2010. Further dividend growth of at least 10% is targeted for 2012 and 2013. The strong cash position also provides scope for the Group to continue to seek acquisitions that complement the Group's existing product base and meet its stringent criteria.

Through its increasing ability to offer customers a complete range of telephony services, the Group has succeeded in making strong gains in market share over the past year. The mobile subscriber base has increased by 5% since 30 September 2010, whilst the Fixed Line customer estate has increased 17% since 31 March 2010. This is indicative of the Group's capacity for cross selling, which has seen the number of larger customers using at least 3 services rise from 58% to 60% in 2010. The Group's increasing customer base is evidence of our strong product offering and the Group's consistent organic growth.

Our successful acquisition policy is fundamental to the Group's strategy. Scalable Communications has consistently outperformed expectations since its acquisition in October 2010, delivering significant revenue in a fast growing market. Having rapidly grown its presence in the Enterprise Data market, Scalable has successfully broadened the Group's offering of converged data and voice products for SME and larger enterprises. Moreover, as a UK based IP Networks integrator, Scalable is ideally placed to meet the increasing demand for telephony based on IP.

Similarly, the Aurora Kendrick James ("AKJ") acquisition in October 2009 is also proving a valuable contribution to the group, as it allows for the development of a customer Portal to support converged services. We believe the Portal launched in October 2010, is unique within the SME market and provides customers with a high level of efficiency. It is these specifically tailored products that enable the Group to maintain consistently high levels of customer service which in turn boost cross-selling opportunities.

With the successful integration of these acquisitions, the Group has been able to continue to broaden its customer profile to include larger SME's with higher levels of expenditure. There is also the increased possibility of cross-selling with higher spend customers, resulting in significant organic growth.

In addition, Alternative Networks has also secured a new three year commercial agreement with a mobile network provider that is expected to provide a boost to profits. Mobile margins increased from 32% in H1 2010 to 35% in this period. This new agreement will enable the Group to maintain these margins and deliver strong revenues within a competitive market.

These strategic initiatives will provide a sound platform for further cross selling and improving margins. We are committed to maintaining a high level of customer service and we intend to continue this through our highly efficient product base. We look forward to increasing revenues and building on our significant market share. In so doing we will retain the leading position in the provision of converged telephony services.

In spite of market conditions remaining uncertain, the outlook for the remainder of the year and beyond is positive and we continue to trade in line with expectations.

Tony Caplin

Non-Executive Chairman

Business Review

This has been an excellent period of trading for the Group, with headline figures showing group revenues up 25% and adjusted operating profits increased 24%. This result has been supported by the October 2010 acquisition of Scalable, which has been a very good fit strategically and has performed well ahead of expectations. The Group's business mix has been transformed with now 35% of its gross profits coming from the Advance Solutions data and voice integration business.

At the underlying level, the Group generated organic revenue growth of 5%, with revenues, gross margins, and operating profits all increasing on the comparative period. These are driven by on-going gains in market share in the fixed line and mobile customer bases, as well as advanced solutions revenues.

Cash conversion remained excellent with 97% of adjusted EBITDA converting into operating cash flow, and the Group generating free cash flow of £5.4m (2010: £6.4m).

The Group has improved its supply terms for its mobile products in respect of tenure, product and margins, and has made good progress on all other products in terms of organic growth and lower customer attrition.

In this period, the group has invested substantially in its sales force, and in growing the newly acquired Scalable business and in the development of its unique customer Portal. This investment and the current momentum in the business gives the Board confidence in the opportunity for further growth and margin enhancement.

This period has a significant contribution from Scalable for the first time, following its acquisition on 2 October 2010. We have set out the summary contribution below:

Total sales increased 25% to £59.0m (2010: £47.1m), with a higher than expected contribution from Scalable of £10.1m. The product revenue splits are detailed further below.

The underlying organic revenue growth of the group is estimated at 5% across all products. This is calculated after adjustments for firstly, AKJ having an extra month's revenue in this period (2010: 5 month period) and secondly, for the substantial change in the mobile commercials from January 2011. The net impact of these combined was to reduce the Group's revenues by £0.9m, but have no material impact on gross profits. The underlying growth figure assumes these are added back on a like for like basis.

Gross Margins have increased from 36% to 37%, as expected, due to stronger margins in mobile and resilient margins in fixed line. Further analysis is detailed below by product set. Scalable's gross margins were slightly lower at 36%. Scalable includes approximately £0.7m fixed line and data revenues at margins of less than 20%. Without these, in its core products sets, Scalable gross margins were 37.5%.

Adjusted operating profit has increased 24% to £7.1m from £5.7m in 2010. With nearly £1.2m contributed by Scalable, the remainder £0.2m came from organic growth: specifically a £1.0m increase in gross profits offset by a £0.8m increase in selling and general administration costs. Of this, £0.4m was increased investment in the sales team, as flagged at the outset of the year. The return on that investment is expected to build up over the next 12 months. The Board believes the scope to increase operating margins remains.

The Scalable operating profits above have been stated before any internal allocation of group overheads which were incurred following integration of the support functions.

The adjusted operating profit is stated before non-cash intangible asset amortisation of £1.11m (H1 2010: £0.69m), and a write off of £1.35m in respect of deferred consideration payable to the two major shareholders in the business. This is required by IFRS as the payment of the deferred consideration is contingent on them being employed at the point it falls due. Ordinarily, deferred consideration would be an addition to goodwill on the balance sheet. In addition to these, adjusted operating profits are stated before exceptional costs in respect of the Scalable acquisition £0.1m (H1 2010: £NIL), and share option costs of £0.34m (H1 2010: £0.46m).

Statutory profits before tax have reduced 8% from £4.6m to £4.2m.

Net funds and facilities 

Period end cash balances were £8.7m, down from £10.3m at 30 September 2010, following the significant outlay on the acquisition of Scalable for £7.5m on 2 October. Net funds were £7.9m at 31 March 2011 (2010: £9.4m).

Adjusted EBITDA (note 5 below) cash conversion was excellent at 97% (H1 2010: 127%). As announced on acquisition, Scalable averaged 80% cash conversion in two years prior to acquisition, but this has improved materially since acquisition by the Group. During the six months to 31 March 2011, the cash conversion of Scalable's adjusted EBITDA was over 100%.

In the six months to 31 March 2011, the group generated £7.2m of cash from operations (H1 2010: £7.6m). There was boosted by a net inflow of £1.2m cash into working capital (H1 2010: £1.8m inflow). There was an exceptional working capital inflow of £1.3m related to the liability for the Scalable deferred consideration. Otherwise there was a working capital outflow of £0.1m.

Capital expenditure

Capital expenditure in the period was £0.6m compared to £0.1m in the six months to 31 March 2010. Of this, £0.3m was additional expenditure in respect of establishing the Portal, and £0.1m was in respect of maintenance spares for Scalable. Full year estimates remain at approximately £1m, with initial guidance for 2012 being a reduction in annual expenditure to £0.6m across the whole Group.

Bank facilities

The Group has renegotiated its banking facilities during the period, and the group has renewed a £6m three year drawdown loan facility available on demand, but has not renewed the overdraft facility, as it is not a current requirement. The facilities are unused to date.

Earnings per share

Adjusted fully diluted earnings per share have increased by 32% from 8.1p to 10.7p. The adjustments relate to amortisation of intangibles (acquired), the exceptional costs on the Scalable acquisition and exceptional IFRS charge for the deferred consideration. In 2010, there was a deduction relating to the exceptional tax relief on exercise of share options by employees. Share based payments have been deducted in full from profits for earnings calculations.

Basic earnings per share were 6.7p down from 8.0p in 2010. The impact of the Scalable exceptional costs (charging the deferred consideration due to the principal two shareholders delivered a 3.1 pence reduction in basic earnings per share. Without this, basic earnings per share would have increased to 9.8p, a 23% increase and in line with underlying profits growth.

The weighted average shares in issue increased by 1.4m shares to 43.7m over the comparative period, due to share options exercised by staff in the year and due to the 0.7m shares issued for the AKJ acquisition. The number of potential dilutive shares have increased from 2.3m to 4.7m due to the Scalable acquisition, the new LTIP arrangements put in place in March 2010, and a higher dilutive effect of extant options following a rise in the share price, as many options were underwater a year ago.

 Dividend

The Board proposes to pay an interim dividend of 3 pence per share on 1 July 2011. In 2010, the Group paid an interim dividend of 5 pence per share on 1 April 2010. Of that dividend, 3 pence was a second further interim dividend, being a distribution of surplus cash following the sale of property. The remaining 2 pence was in respect of an interim dividend normally paid in July.

The Board has indicated that the full year dividend is expected to be no less than 9 pence, with a minimum of 10% increase each year in the years to 30 September 2012 and 2013.

The Board does not consider that these actions represent any material shift in dividend policy, which has been progressive. As in prior years, the Board will continue to monitor cash levels and will look to return cash where considered in the best interests of the shareholders to do so.

Scalable consideration - update on deferred consideration and accounting treatment

The first period of the deferred consideration, for which there was a maximum £2.25m consideration payable, was the year ended 31 December 2010. The amount of the consideration due to the shareholders of Scalable has been agreed at £1.5m, being approximately two thirds of the maximum amount, with the first £1m to be settled in equity, to be satisfied by the transfer of shares currently held in treasury by the Group. A cash alternative has been offered at 1.93 pence per share. In the acquisition agreement, there is a mechanism for the Scalable shareholders to claw back any shortfall to the extent that the deferred consideration in the year ended 31 December 2010 fell short of the maximum, by outperforming targets in the year ended 31 December 2011 on a pro rata basis. Current estimates of the total deferred consideration payable are £2.9m.

Recent amendments to accounting standards under IFRS have meant that 75% of the deferred consideration is to be deducted from profits, on the basis that the deferred consideration of the two founders and largest shareholders was linked to them being employed by the Group at the time the payments fell due. The element which relates to performance up to 31 March 2011 (being the 2010 earn out, and a quarter of the 2011 earn out) is estimated at £1.3m and has been treated as an exceptional item in the profit and loss account.

Share Buy Backs

In the period ended 31 March 2011, the Group did not repurchase any shares in the Company (2010: 320,000 acquired for an aggregate sum of £359,100, and subsequently cancelled).

Pursuant to a general meeting on 29 March 2010, the Group has the authority to repurchase up to 4,436,085 shares before 29 March 2013. To date the Group has not repurchased any shares under that authority. The Directors will continue to monitor the level of cash required for the business and determine if further repurchases remain in the shareholders' best interests.

The Group is growing organically in a flat market as it continues to take market share. The group is also showing strong margin performance, and excellent cash generation. Each of these is expected to continue and provides the platform for achieving further growth, both organically and by acquisition.

The performance in the first six months gives strong encouragement for continued gains in market share. The exciting organic growth of Scalable and the potential for further cross selling, together with development of a stronger converged product set available on a unique portal, provide the Board with confidence for the rest of the financial year and beyond.

 Review of business and KPIs by product divisions

Advanced Solutions

·; Advanced solutions revenues are significantly enhanced by the acquisition of Scalable, which contributed a full 6 months revenue of £9.6m.

Notwithstanding these excellent contributions, the legacy business of the Group performed well and revenues in each category made good headway.

o IP PBX install revenues increased 25% to £3.5m (2010: £2.8m) reflecting improved market conditions and previous investment made by the Group. The largest customer win in this period was the South East Coast Ambulance Services, as a result of the investment in the "Blue Lights" team last summer.

o IP PBX support revenues were flat year on year, but again reflecting some larger customer wins and some closing down of existing sites by customers. Without including any Scalable figures, average annual revenues per customer increased to £4,106 at 31 March 2011, compared to £3,500 at 31 March 2010.

o Data circuit revenues increased 30% to £1.3m from £1.0m in 2010. This reflects the growth in sales from the new sales team established last summer, and the launch of several new products over the last year, e.g. MPLS, Ethernet First Mile, Data storage and business continuity products.

o AKJ billing services revenues increased 36% to £1.9m. However the comparative period was only 5 months sales contribution following acquisition. On a like for like basis we estimate revenues grew 13% year on year, which was a very pleasing result, given the focus of AKJ on the development of the Portal for the Group. The key impetus for the increase was the previously announced major contract with a mobile network operator for their fixed line billing. During the period, £0.25m revenues were derived from this contract, and the project successfully went live in February 2011, with the first bill run in March 2011. Going forward the scope for further growth of external billing revenues is less likely, given the continuing industry consolidation, and increasing focus of AKJ on Group software development.

o Scalable

The acquisition of Scalable on 2 October 2010 was covered in last year's annual report. This first 6 month period of trading has been excellent. Management accounts for the six months to 31 March 2010 in the previous year indicate revenues of £6.0m in IP network and pbx and support revenues. This year's revenues of £9.6m implies organic annual growth of 60%.

Significant new contracts won in this period include solutions for Virgin Money and Newsquest, and Hotelscene to build and develop their data networks. It is worth noting that Virgin Money and Newsquest were existing clients for voice (ip pbx) products and services solutions, and are now using Scalable for data networks build and support. This confirms the cross-sell possibilities.

Hotelscene was an Alternative Networks prospect, with AN proposing to supply and supporting an Avaya telephone system, and was the first "cross sell" deal signed since the acquisition. As announced on April 1, the Group has initially developed a prospect list of around 25 strong cross sell opportunities, and recently the Group also won a contract to supply Virgin Money with inbound telephony services, illustrating the potential for the Group to expand its networks footprint into the Enterprise customer market.

The Group is looking to continue to exploit the opportunities for Scalable in a fast growth segment of the data market, and has already increased headcount from 53 at acquisition to 66 heads at 31 March 2011, and management is considering plans for a further 10 recruits to be added over the summer. The roles recruited are principally in sales and engineering support.

 ·; Gross margins in advance solutions have performed slightly ahead of expectations, reducing from 46% to 40% in 2011.

o The main influence was the significant addition of the lower margin Scalable business which has margins of 37%. These are lower than the Group's voice engineering margins, due to firstly having a smaller proportion of support revenues, which are higher margin, and also due to kit margins in data switches being 5% to 10% lower than kit margins in voice switches and related accessories.

o AKJ's gross margins were slightly down year on year due to the increase in developer headcount to accommodate the Group's Portal, and also set up costs for the major mobile network operator billing.

o IP PBX and data services margins were 40% from 44% a year ago. In the six months to 31 March 2009, margins were 41%. The reduction this year was principally due to the change in sales mix, with more data revenues and more kit installation revenues as a percentage of the total revenues. These are both significantly lower margin than support revenues. Current guidance is for a range of 38% to 42% margin. Longer term, we would expect data revenues to grow from their relatively low level and composite margins will trend down. Support revenues margins in 2011 were a little bit lower due to more outsourcing relating to larger contracts.

The outlook for gross margins remains positive, with a diverse and supportive set of suppliers and changes will be largely dependent on product mix, rather than competitive pressures.

Telephony services- Mobile

·; Mobile revenues were in line with Group expectations. Each of ARPU, subscriber numbers and churn were in line with forecasts, after adjusting for the change in commercials from January 2011. Since then, approximately £1.1m of network subsidies which hitherto would have been recognised in turnover as a commission for connection to their network, have not been received. Instead a much lower cost of sales on ongoing line rentals and usage revenues has been negotiated. The net impact is a favourable impact on gross profits, which were up 2% in line with the subscriber base growth, in spite of marginally lower ARPUs. Margins are expected to be at least 35% going forward, and the agreement allows for additional margin gains if certain performance criteria are met. The agreement is to last for three years to end March 2013, and applies specifically to all "AN contracted base" and "AN contracted VSP" (third party distributors) on that network. The "managed subscriber" base on the Vodafone network is subject to a separate agreement. Management remains confident in achieving the expected gross margin for the full year.

·; The mobile subscriber base has grown 2% to 65,004, since 31 March 2010, but has grown 5% in the 6 months since 30 September 2010.

o The key change is the large increase (42% since 30 September 2010) in the managed subscriber base. The largest customer win was RSM Tenon with over 2,500 connections in March 2011.

o The core business subscriber base has increased by 487 to 54,948 subscribers since the year end. This was an improvement over the second half of 2010 when there was a 434 reduction in subscriber numbers. The market remains competitive with some businesses still downsizing their fleets whilst the impact of moving to one converged device reduces headline subscriber numbers.

o The gross new connections in the period were 10,371 (2010: 7,185) made up of 6,272 (2010: 6,815) on the Alternative contracted base, and 4,099 on the managed base (2010: 370). This represents a significant increase on 2010, and reaffirms the Group's ongoing success in direct sales and marketing in a flat overall market.

o Small net subscriber losses were recorded on a base of customers which are directly contracted with Alternative but via a virtual service provider ('VSP'). This business was acquired with ICB in 2005, and has gradually whittled down to less than 1,000 connections, with over 500 net disconnections in the last year. Following the new commercial framework established in the period, it is expected that these declines may be reversed in future periods.

·; Data connections have grown 26% over the year to 30,949 connections. The net increase of approximately 6,400 data connections includes a net gain of 2,577 data only devices, with the balance in Smartphones. Data only devices include connections for iPad, generic netbooks and tablets as well as traditional "dongles". During the period 70% of devices shipped to customers were either Smartphones (56%) or data only devices (14%). This compares to 62% in the corresponding period last year.

·; ARPU on the Alternative contracted base has performed well at £50 (2010 £51) after accounting for the higher proportion of low ARPU data-only connections in the period. This is largely due to the continuing growth of converged devices which have ARPU of around £80. The underlying trends are :

o ARPU on international calls has stabilised since September 2010, showing a modest increase.

o There has been a steady decline in voice ARPU (averaging 5% over the last year), as customers continue to move to bundle tariffs, evidenced as line rental as a % of total spend has increased to 44% from 41% in the period ended 31 March 2010. It is worth noting this leads to greater ARPU stability as usage variations are minimised;

o Overall mobile Data revenues have increased significantly with the strong growth in data devices, but the average spend per user has been declining, in spite of over 50% growth in data usage in the customer base over the last year. Partly this reflects the high penetration this year of high usage low value data bundles on tablets, which are a new much larger part of our customer base, and partly it was due to a transition period as customers re-signed into contracts with the new data tariffs offering much larger data usage. Going forward, the new tiered data tariff schemes will monetise higher data usage and would lead to higher data ARPU dependent on product mix.

The new commercials significantly reward higher ARPU and the Group has set in motion a number of initiatives to push ARPU higher and these are expected to impact in 2012 after a flat ARPU in the second half of 2011, a period in which ARPU will be depressed again after the EU roaming regulated tariffs are reduced again in July.

·; Mobile churn levels remain steady and comfortably ahead of industry averages, although there are some changes in client behaviour.

o The level of customer attrition by value has returned to a historical low figure of 14%, after the unusual loss of some larger mobile-only customers in the second half of 2010. This has been helped by the low level of insolvencies in the last 6 months - only 11 corporate failures (averaging less than £500 monthly spend each) compared to 32 in the previous year's comparative period - reflecting strong credit control in the Group.

o Network churn levels have remained consistently low at 19%. In the last three reporting periods, churn has averaged around 19%. It is worth noting this is a little higher than the 5 year average and the increase is due to more willingness from customers to switch networks (but remain with the Group) and continued conversion of customers to smartphone devices.

o The number of subscribers in contract has reduced from 75% to 71%. As explained at the year end, this is an ongoing trend as many data only devices continue roll on monthly terms beyond their minimum contract length, and contracts are not formally renewed as it is not economic for the Group to do so.

·; Mobile gross margins have increased to 34.6% from 32.1%. The increase is due to the three month impact of higher margins on the new network commercials; with the growth in the new managed customer base having had a negligible impact on margins in the first half, as many of the new connections were not until March 2011. It is expected that margins will increase further in the second half due to a full 6 month period of the new commercial deal and also an increase in the managed customer base, which has margins nearer 70%. The Board expects margins will settle in the 35-37% range going forwards, in spite of the increased cost of provision of Smartphones.

Telephony services - Fixed Line Network Services

·; Fixed line network services revenues have increased by 11% on the same period in 2010. Revenues in the 6 months to 31 March 2011 include £0.5m revenues acquired with Scalable. Without these, like for like revenues advanced 9%. Gross profits include £0.08m contribution from Scalable. Like for like gross profits advanced 7%, recording the first advance since 2008.

·; Outbound KPIs

o In Outbound sales, revenues have increased by 11% to £16.0m from £14.4m in 2010. Stripping out the Scalable contribution, like for like revenues were up 8%. These revenues are split as follows:

§ Outbound Wholesale Line Rental (WLR) continued to grow with a net increase of 6,125 (2010: 5,975) lines/channels since 30 September 2010, and an annual organic growth in the base size of 17%. Revenues from WLR grew 14% with the overall Group revenues growing by £0.9m to £7.3m.

§ Outbound call revenues were up 3% from £8m to £8.2m. This reflected a 6% increase in volume of calls, offset by a 4% drop in the average revenue per minute, year on year.

§ Outbound average revenue per customer per month ('ARPU') has increased 10% over the year, as more customers take both line rentals and calls, and with the addition of larger customers in the period. Significant customer wins included Persimmon plc and British Car Auctions.

o Gross margins for outbound revenues were in line with expectations. Excluding Scalable's lower margin revenues, margins were 32.6% compared to 32.8% in 2010. After adjusting for the change in sales mix (with lower margin line rental revenues increasing to 47% from 44% of total revenues), the margins on call revenues and on line rental were both increased year on year. The recently announced change in mobile termination rates has had no impact in this period, but it is expected that the second half margins will be slightly higher as the Group will gradually pass on the lower cost base to its clients but retain similar margin per minute. Margins have been assisted by some higher margin SIP (IP based connections as opposed to digital or analog) revenues which is a new, albeit initially modest, revenue stream in this period, and it is anticipated that future revenue growth in SIP will help bolster margins.

o Scalable's gross margins at 16% reflect a very high proportion of analog line rental in its customer base and the Group is currently negotiating new tariffs with its main supplier.

·; Inbound KPIs - These do not include any revenues from Scalable, which had no inbound customers in this period.

o Revenues and gross profits both performed well growing by 11% and 7% respectively. The group continued its momentum of 2010, retaining its key customers and added a couple of new larger customers such as Ceridian UK Limited.

o Following the deregulation of revenue share in August 2009, in 2010 we gave guidance that margins would fall to the 48-52% range. To date, they have held up well at the higher end of the range indicated, due to some better than expected buying gains early in the year.

Organic Growth

The Group continues to focus successfully on the following key factors for continued organic growth:

Focus on larger customers in SME space

We continue to target the mid enterprise market, particularly those customers with multi-sites and employees ranging from 80 to 1000. The acquisition of Scalable has allowed the Group to sell some of its services into the larger corporates or Enterprise market, and has introduced nearly 200 customers in the large customer category, which are not yet included in the analysis below.

The number of customers with recurring revenues of more than £1,000 per month has been steady at 1,240 (31 March 2010: 1,249), with the number of higher spending business customers who take more than 3 products from the group increasing to 746 (31 March 2010 : 738) representing 60% of the larger client base (H1 2010 : 58%).

Significantly the average spend of these larger customers has increased as larger customers have been won and more products cross sold into existing larger clients. The average spend has increased 5% from £4,738 in the six months to 31 March 2010 to £4,997 per month in the six months ended 31 March 2011. Similarly, the average spend of the large customers taking 3 or more products has increased 5% from £5,488 to £5,761 in the same period.

The success of cross selling products into our existing smaller customers so that smaller customers become larger ones can also be measured as below.

Cross-selling of products across all customers

A key part of our organic growth strategy remains to sell more products to new and existing customers. During the period we have had further success substantially increasing the product penetration in our customer base. The number of customers taking more than one product is 47% (up from 43% in March 2010). This has been helped by the number of multi-product new customers. In the larger customer base (i.e. those spending > £1,000) we have seen a continued increase in product penetration, with the number of large customers buying more than one product up to 78% (77% in March 2010).

Reduction in churn

The group has continued to experience low churn levels across all products. Mobile has traditionally had the highest attrition rates of the product sets and is covered separately above. The levels of customer attrition in the other product sets remain in line with targets as the customer Portal continues to add value at no additional cost to the customer.

Product development

The group continues to expand its product range to enable taking a wider share of its customers spend on communications and enabling a wider range of products with which to engage new customers. Increasingly the products and services being offered are being developed by Alternative uniquely on our own platforms and are not simply products for resell. These internally developed products are marked with an * below.

During this period, new products included:

Mobile

We strengthened our mobile offering with the Apple iPhone range, signing new service provider contracts with Vodafone and O2. In addition, we recently launched a mobile call recording solution to enable our Financial Services clients to meet new compliance regulations.

Fixed Line Voice

The key changes were a full scale SIP launch and the final transfer of the management of the line rental product onto BT Openreach's "WLR3" platform. This enables enhanced services to be offered by Alternative including: better engineer visit booking, better visibility of spare capacity at exchanges, enhanced business Continuity products, and temporary lines*.

Advanced Solutions

We have launched Ethernet First Mile connectivity together with a number of our suppliers.

A major new initiative was the launch of market leading cloud based data backup and storage solutions.

Technical enhancements included the new Mitel Virtual PBX solution which allows IT managers to deliver the platform over VMware.

In the next six months, planned product launches include:

Mobile

·; Smartphones and tablets - a proliferation of launches later this summer from Android adopters, and Blackberry's PlayBook Tablet. RIM also release the new Blackberry Bold Touch 9900 range which introduces a new operation system giving an enhanced web browsing experience, as well as replacements for the Torch and Curve handsets.

·; Mobile Device Management cloud based software applications - to give clients visibility of device usage, security risk management and cost management of mobiles*,

·; New tariff initiatives include a "High User Club" set of tariffs and services*.

Fixed Line Voice

·; Networks call performance reporting (e.g. trunk utilisation, unanswered calls)*,

·; New fixed line services for customers in Eire;

·; SIP product enhancements enabling clients to manage incoming calls across fixed line, mobile, and SIP environment (a migration path to VoIP and enhanced resiliency), allowing clients to port existing geographic numbers into the SIP network, and the ability to present multiple CLIs from one SIP connection.

·; Inbound products from Gamma Telecom, focussing on business continuity and SIP integration.

Advanced Solutions

·; Converged connectivity - a new suite of MPLS, VPLS, and Ethernet services, allowing aggregate access from a number of tier-one providers;

·; Pbx converged solutions- launch of Mitel UC Mobile for BlackBerry 5.0, and the Avaya Aura Conferencing solution.

·; Video conferencing- a platform independent, market leading video conferencing suite of products from Polycom.

Your Alternative Portal

The development of the Portal is on track with the schedule outlined in our Investor day in January 2011. Since the launch in October 2010, the major additions in this period have been the Case Management (customer care) functionality and Asset Management module, introduced with the new Portal framework. The latter is being control tested by a sample of customers before general release in June 2011.

Adoption and uptake of the Portal has been swift, with usage and uptake increasing month on month, with over 90% of our managed base having access to the system and over 75% using it month on month.

March 2010 saw our highest ever recorded usage, with the highest ever number of individuals. The Portal has also played a key role in attracting new clients and retaining our current base.

Listening to client feedback has been central to shaping the development, and Case Management has been a perfect example of this, we have already released an update to the initial functionality that allowed clients to view updates and track cases online for Fixed line and Advanced solutions faults. This has helped achieve 15% of all cases now raised by clients online.

Significant functionality improvements scheduled for the rest of the year are as follows

·; Case Management enhancements

This update will show all cases raised with Alternative on the portal, regardless of how they were originated (email, phone or on-line). The update will allow the tracking of the cases online and email updates will be extended to all cases.

·; Mobile Management

This will be the first stage giving full control of a mobile fleet to customers.

Clients will be able to control all network services, adding and removing international calling, roaming, SMS, premium calling, lost and stolen bars and activating new connections.

The module will also allow you to simply run an audit of which services are live on your entire fleet, complete with SIM numbers & PUK codes.

2012 releases will allow the adding and removing of data or SMS bolt on's

·; Handset ordering

We will be adding the ability to order all mobile hardware and accessories online.

This will include purchasing online either from a hardware account, or via invoice.

The devices will be ordered directly with our distributor, and automatically despatched.

Invoices will be available online.

Orders can be tracked online to monitor deliveries.

New devices will be automatically added to the asset register, including IMEI number, make model and purchase date allowing you to easily keep track of your assets

Growth by Acquisition

The recent acquisitions of Echo, AKJ and Scalable have driven the transformation of the Group's business and the Board continues to target earnings enhancing acquisitions. Currently, the Group is in discussions with a number of companies which operate in the telephone and data networks market, and meet our strict criteria of businesses which are growing, profitable, and expected to be earnings enhancing in the first year of acquisition. The focus remains on strategic right-fit acquisitions, and the Group is well placed to take advantage of those opportunities as they arise.

James Murray

Edward Spurrier

UNAUDITED CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME

UNAUDITED CONSOLIDATED BALANCE SHEETS

UNAUDITED STATEMENT OF CHANGES IN EQUITY

UNAUDITED CONSOLIDATED Cash flow statementS

NOTES TO THE ACCOUNTS

1. Basis of preparation

The financial information contained in this interim statement does not constitute accounts as defined by section 434 of the Companies Act 2006. The interim report has been neither audited nor reviewed by the Group's auditors. The financial information for the year ended 30 September 2010 is derived from the statutory accounts for that period that have been delivered to the Registrar and included an audit report, which was unqualified and did not contain any statement under section 498 of the Companies Act 2006.

Alternative Networks plc's consolidated financial statements and these interim financial statements have been prepared in accordance with IFRS and International Accounting Standards (IAS) as adopted by the European Union (EU). The accounting policies applied are consistent with those described in the Annual Report and Financial Statements 2010 except as described below. The Interim Report has been prepared in accordance with IAS 34 'Interim Financial Reporting' and should be read in conjunction with the Annual Report and Financial Statements 2010.

Fixed annual charges are apportioned to the interim period on the basis of time elapsed provided that a contractual or constructive obligation exists at the interim balance sheet date. Other expenses are accrued in accordance with the same principles used in the preparation of the annual accounts, as modified by the introduction of new accounting standards.

The Group has adopted the following new standards and interpretations for the accounting period commencing 1 October 2010. The adoption of these standards has had no material impact on the Group.

IAS 32 (Revised) Classification of Rights Issues

IAS 39 (Revised) Financial Instruments: Recognition and Measurement

IFRIC 9 (Revised) Embedded Derivatives

IFRIC 17 Distributions of Non-cash Assets to Owners

IFRIC 18 Transfer of Assets from Customers

IFRIC 19 Extinguishing Financial Liabilities with Equity Instruments

IAS 27 (Revised) Consolidated and Separate Financial Statements

The interim results were approved by the Board on 28 May 2011.

2. Accounting Policies

The accounting policies applied are consistent with those of the annual financial statements for the year ended 30 September 2010, as described in those annual financial statements except as noted above. Taxes on income in the interim periods are accrued using the tax rate that would be applicable to expected total annual earnings.

3. Dividends

The reported dividend in these statements represents the 2010 proposed final dividend of 4.10 pence per £0.00125p ordinary share, which was paid on 27 January 2011 (2010: represents the 2009 proposed and paid final dividend of 3.50 pence per £0.00125p ordinary share). The amount of dividend paid was £1,875,000 (2009: £1,552,000).

The directors propose an interim dividend for 2011 of 3.0 pence per £0.00125p ordinary share (2010: 2.0 pence per share Interim dividend and 3.0 pence per share second interim dividend), with a total payment value of £1,433,000 (2010: £888,000 Interim and £1,331,000 second interim). This was approved on 28 May 2011, and has not been accrued in the financial statements. This will be paid on 1 July 2011 to shareholders on the register on 10 June 2011. The ex-dividend date is 8 June 2011.

4. Earnings per share

The calculation of basic and fully diluted earnings per ordinary share is based on profit attributable to equity holders of the Company divided by the weighted average numbers of ordinary shares in issue during the year.

For fully diluted earnings per share, the weighted average number of ordinary shares in issue is adjusted to assume conversion of all dilutive potential ordinary shares. The Group has two categories of potential ordinary shares: those share options granted to employees where the exercise price is less than the average price of the company's ordinary share during year and those that may be issuable as part of the deferred consideration payable relating to the acquisition of Scalable Communications.

The profit and weighted average number of shares used in the calculations are set out below:

The adjusted EPS is based on the adjusted profit before tax set out in Note 5, and the weighted average number of shares as described above.

As in prior periods, the calculation of the weighted average number of shares in issue excludes the shares held by Alternative Networks Employee Benefit Trust (EBT). The EBT held 1,915,200 shares until 31 March 2010 when this number increased to 3,915,200.

There were 48,777,070 shares in issue at 31 March 2011 including 980,326 shares held in treasury. On 31 March 2010 there were 48,008,491 shares. The weighted average number of shares during the six months to March 2011 was 43,739,875 (2010: 42,327,346).

5. Reconciliation to adjusted performance

Adjusted earnings per share is calculated on adjusted earnings after deduction of share option costs.

This analysis is provided as the Group considers it provides a truer reflection of the underlying performance of the business, and is common practice in the investment analyst community.

6. Taxation

Income tax expense is recognised based on management's best estimate of the weighted average annual income tax rate expected for the full year. The estimated average annual tax rate used for the year to 30 September 2011 is 30.1% (the estimated tax rate for the first half to 31 March 2010 was 26.5%). The increase on last year is due to lower than expected schedule 23 deductions in respect of share options exercised and contingent consideration payable to existing employees which is not deductible for corporation tax.

The standard rate of tax in the comparative period was 28%.

7. Intangible fixed assets

Other intangibles arising on acquisition are being amortised on a straight-line basis over 3 to 10 years which is the anticipated life of the assets. Purchased customer contracts are amortised over 3 to 5 years.

8. Cash generated from operations

9. Analysis of movement of net funds

10. Acquisition of Scalable Communications plc

On 2 October 2010 the Group acquired 100% of the ordinary shares of Scalable Communications plc (Scalable) and obtained control of the Company. Scalable is a computer network integrator based in Buckinghamshire and London and employed more than 50 staff on the date of acquisition. As a result of the acquisition, the Group expects to increase its presence in the SIP (Session Initiation Protocol) market, have greater cross-selling opportunities and to reduce costs through increased group purchasing power.

The revenue included in the consolidated statement of comprehensive income since 2 October 2010 contributed by Scalable was £10,154,000. Scalable also contributed profit after tax of £758,000 over the same period. The following unaudited pro forma summary presents consolidated information of the Group as if the business combination had occurred on 1 October 2010.

The following tables summarise the consideration transferred to acquire Scalable and the amounts of identified assets acquired and liabilities assumed at the acquisition date.

The contingent consideration arrangement requires the Group to pay the former owners of Scalable dependent on the gross profit and the recurring gross profit for the twelve month periods ending 31 December 2010 and 31 December 2011 respectively. A maximum undiscounted amount of £1,000,000 (£250,000 in shares and £750,000 cash) is to be paid if all of the following criteria are met:

a) Systems gross profit for year ending December 2010 is greater than £3,450,000

b) Systems gross profit for year ending December 2011 is greater than £4,170,000

c) Recurring gross profit for year ending December 2010 is greater than £3,390,000

d) Recurring gross profit for year ending December 2011 is greater than £3,920,000

A further £250,000 (cash) will be paid contingent on a schedule 23 tax deduction being obtained relating to Scalable share options exercised pre-acquisition.

The potential undiscounted amount of all future payments that the Group could be required to make under the contingent consideration arrangement is between £nil and £1,250,000.

A further amount of up to £3,000,000 (£750,000 in shares and £2,250,000 cash) is payable to employees which is linked to their on-going employment. Under IFRS3 (revised) this amount is debited to the income statement over the earn-out period, rather than being treated as deferred consideration on acquisition.

The fair value of trade and other receivables was £5,399,000 and included trade receivables with a fair value of £4,358,000. The gross contractual amount for trade receivables due was £4,387,000, of which £29,000 was expected to be uncollectable.

The residual goodwill of £3,496,000 arising from the acquisition consists largely of the workforce of the acquired business and the significant synergies and economies of scale expected from combining the operations of the Group and Scalable.

None of the goodwill recognised is expected to be deductible for income tax purposes.

The Group incurred £73,000 of third-party costs related to this acquisition. These expenses are included in operating costs in the company's consolidated statement of comprehensive income for the period ended 31st March 2011.

11. Segmental Reporting

Per IFRS 8, adopted by the Group on 1 October 2009, operating segments require identification on the basis of internal reporting about components of the Group that are regularly reviewed by the chief operating decision maker to allocate resources to the segments and to assess their performance.

The chief operating decision maker has been identified as the Board. The Board review the Group's internal reporting in order to assess performance and allocate resources. The operating segments are Telephony Services, Advanced Solutions (Echo), Advanced Solutions (Scalable) and Billing Services which are reported in a manner consistent with the internal reporting to the Board. The Board assesses the performance of the operating segments based on revenue, net profit for the year and EBITDA.

Telephony Services consists of two revenue streams, fixed line and mobile. The maintenance and systems side of the business is Advanced Solutions, while Billing Services relates to the provision of billing facilities. There are no comparatives for Advanced Solutions (Scalable) as this only came into existence with the purchase of Scalable Communications on 2 October 2010.