2007 Operating and financial review

Consolidated net sales of the group in 2007 amount to Euros 6,504.5 million. This is an increase of 34.4 percent compared to Euros 4,841.2 million in 2006. Excluding the sales relating to the deconsolidation of DGAG real estate assets, net sales exceed Euros 5 billion and amount to Euros 5,208.9 million, an increase of 7.6 percent compared to 2006. Taking into account the foreign exchange effect, the growth on a like-for-like basis is equal to 8.5 percent.

Gross operating profit (EBITDA) amounts to Euros 580.9 million, a decrease of 5.4 percent compared to Euros 614.1 million in 2006. Consolidated operating profit (EBIT) is Euros 366.9 million, with a decrease of 8.6 percent from Euros 401.4 million in 2006. Compared to last year, the contribution of the real estate business to consolidated EBITDA and EBIT is lower while earnings from investments are significantly higher. In 2006, the operating profit included nonrecurring expenses of Euros 13.2 million in connection with Pirelli Tyre IPO project.

Operating profit including earnings (losses) from investments, which includes the effect of earnings or losses from companies accounted for by the equity method and dividends from unconsolidated holdings, is Euros 562.2 million. This figure is slightly higher than in 2006, net of the extraordinary component represented by the gains realized in the prior year on the sale of the 38.9 percent stake in Pirelli Tyre S.p.A. (Euros 416.4 million) and the investment in Capitalia S.p.A. (Euros 215.2 million). Including these gains, the operating profit including earnings (losses) from investments in 2006 was Euros 1,192.1 million.

The impacts relating to the investment in Olimpia S.p.A., subsequent to the sales agreement between Pirelli/Sintonia and Telco executed on October 25, 2007, qualify, in accordance with IFRS, as discontinued operations and contribute solely to the net result. Olimpia S.p.A.’s impact on the net result in 2007 is a loss of Euros 53.8 million and relates to the adjustment of the company’s value to its sale price (Euros 3,329 million for the 80 percent stake held by Pirelli). The impact of Olimpia S.p.A. on the net result in 2006 was a loss of Euros 1,940 million (due to the impairment loss on the investment recognized in the third quarter). Discontinued operations also include the gain realized on the sale of the Prysmian (Lux) S.à.r.l. warrants to Goldman Sachs which took place in the first quarter of 2007 (Euros 91 million) and an adjustment of Euros 4 million on the accrual relating to the guarantees provided following the sale of the cables business.

The consolidated net result is income of Euros 323.6 million compared to a loss of Euros 1,048.8 million in 2006.

The income attributable to the equity holders of Pirelli & C. S.p.A. in 2007 is Euros 164.5 million, compared to a loss of Euros 1,167.4 million in 2006.

The income of the parent, Pirelli & C. S.p.A., is Euros 100.7 million, compared to a loss of Euros 1,642.3 million in 2006.

Total consolidated equity at December 31, 2007 is Euros 3,804.1 million, compared to Euros 4,686.6 million at the end of 2006.

Equity attributable to the equity holders of Pirelli & C. S.p.A. at the same date is Euros 2,980.2 million (Euros 0.56 per share), compared to Euros 3,879.6 million at the end of 2006.
Equity is affected by the reduction resulting from the extraordinary dividends approved by the shareholders’ meetings held in December 2007 for the amount of approximately Euros 826 million (equal to Euros 0.154 per share).

The net financial position of the Group at December 31, 2007 is a net liquidity position of Euros 302.1 million. This amount also takes into account the estimated payment of about Euros 826 million for extraordinary dividends that will be distributed shortly. The net financial position of the Group was a debt position of Euros 2,328.8 million at September 30, 2007 and Euros 1,979.6 million at December 31, 2006. The sale of the investment in Olimpia S.p.A., finalized during the last quarter of the year, had a positive impact on the net financial position of the Group of Euros 3,329 million.

The number of employees of the Group at December 31, 2007 is 30,813 compared to 28,617 at December 31, 2006. The increase of 2,196 people is mainly due to the expansion of the tyre and real estate businesses.

Significant events in 2007

On January 11, 2007, Pirelli Real Estate finalized the acquisition of DGAG (Deutsche Grundvermogen AG), one of the most important real estate companies in Germany with offices in Hamburg and Kiel.

On February 27, 2007, the world council of FIA accepted Pirelli’s offer to supply tyres for the World Rally Championship (WRC) for the three-year period 2008-2010.

On March 30, 2007, Pirelli & C. S.p.A. sold the financial instruments from the disposal of the former Cables and Systems sector, concluded on July 28, 2005, to Goldman Sachs for consideration of about Euros 246 million.

On April 28, 2007, Pirelli & C. S.p.A., Sintonia S.p.A. and Sintonia S.A. reached an agreement with leading financial institutional investors and industrial operators (Assicurazioni Generali S.p.A., Intesa Sanpaolo S.p.A., Mediobanca S.p.A., Sintonia S.A. and Telefonica S.A.), which later set up the Telco NewCo, for the sale of 100 percent of the share capital of Olimpia S.p.A.. The agreement was signed on May 4, 2007 and executed on October 25, 2007. The transaction produced a positive impact of Euros 3,329 million on the net financial position of the Group.

On May 22, 2007, Gamma RE (a joint venture with a 51 percent investment held by Morgan Stanley Real Estate Special Situation Fund and a 49 percent stake by Pirelli & C. Real Estate) announced its intention to launch two voluntary public tender offers for the shares of the closed-end real estate investment funds Tecla Fondo Uffici and Berenice Fondo Uffici, listed on the stock exchange and managed by Pirelli RE SGR.

The offering later focused on the Tecla fund and Euros 690 per share was offered in cash. The takeover bid ended positively on July 5, 2007 with a total payment of Euros 255 million.

On June 27, 2007, the joint venture between Pirelli & C. Real
Estate and Intesa Sanpaolo was finalized with the aim of creating a leader in facility and project management in Europe.

On July 3, 2007, Pirelli Ambiente and Global Cleantech Capital, a private equity fund specialized in clean energy investments, signed an agreement to set up Solar Utility S.p.A., a joint venture operating in the photovoltaic energy sector.

On July 13, 2007, Piedmont Region, Province of Turin, City of Settimo Torinese and Pirelli signed a framework agreement with the aim of creating a hi-tech technological and industrial center to manufacture car and truck tyres in the territory of Settimo Torinese.

On July 17, 2007, Pirelli & C. Real Estate and the RREEF (Deutsche Bank Group) real estate investment funds sealed a binding agreement for the purchase of 100 percent of BauBeCon, an important German real estate group, from Cerberus. The deal was concluded on July 27, 2007 and Pirelli RE (40 percent) and RREEF (60 percent) acquired the real estate assets intended mainly for residential use for a amount of approximately Euros 1,650 million.

On July 18 and 19, 2007, agreements were reached to set up the following joint ventures: Pirelli RE Romania (80 percent Pirelli RE and 20 percent UniCredit Tiriac Bank, one of the most important credit institutions in Romania) and Pirelli RE Bulgaria (75 percent Pirelli RE and 25 percent UniCredit Bulbank, the largest financial institution in Bulgaria).

On July 19, 2007, at Slatina, Pirelli presented the development programs and the activities of the Group’s new industrial and technological center in Romania. Pirelli’s new base in Romania is composed of three production plants, two of which are already operational (high-performance and steelcord tyres) and one which is still being built (anti-particulate filters), involving a total investment of approximately Euros 235 million.

DGAG Amburgo

The offices of the DGAG German real estate company in Hamburg.

On July 27, 2007, Pirelli & C. S.p.A. purchased 859,741 Pirelli & C. Real Estate S.p.A. shares, equal to approximately 2 percent of the company’s share capital, from a leading institutional investor for approximately Euros 34.4 million. In the rest of the year, Pirelli & C. S.p.A. purchased another 575,000 Pirelli & C. Real Estate S.p.A. shares for a total of approximately Euros 20 million, bringing its holding at December 31, 2007 to 53.67 percent.

On August 7, 2007, Quadrifoglio Milano (a 50-50 joint venture between Pirelli RE-Fintecna Immobiliare) signed the urbanistic agreement, together with City of Milan and Autonomous Administration of the State Monopolies, for the urban recovery and development project of the former Manifattura Tabacchi complex. The estimated value of the project is approximately Euros 250 million.

On October 29, 2007, the Pirelli Group signed an agreement with Alcatel-Lucent for the purchase of a 12.4 percent stake in Avanex Corporation, one of the major world players in
telecommunications components and optical modules, at a market price of approximately Euros 33.4 million. As part of the deal, Alcatel-Lucent sealed supply contracts with Pirelli and Avanex in the optical components sectors.

On November 9, 2007, a share capital reduction of approximately Euros 1,235 million, by reducing the par value per ordinary and savings share from Euros 0.52 to Euros 0.29, was submitted by the board of directors of Pirelli & C. S.p.A. for approval by the ordinary and savings shareholders’ meetings. The reduction was made to allow the Company to reimburse the shareholders a part of the financial resources obtained from the sale of the investment in Olimpia S.p.A., by distributing extraordinary dividends of Euros 0.154 per share (for a total of approximately Euros 826 million), as well as optimize the equity structure of the company, by appropriating about Euros 409 million to reserves. The shareholders’ meeting approved the transaction in December 2007.

On November 16, 2007, Capitalia Partecipazioni S.p.A. sold its 81,665,400 Pirelli & C. S.p.A. ordinary shares (equal to about 1.56 percent of ordinary share capital) that had been conferred to the Pirelli & C. S.p.A. Shareholders’ Agreement pro-rata to the other participants in the Agreement.

On November 27, 2007, Pirelli inaugurated the second factory of the Group in China, in the Shandong Province, where the production of high-performance tyres has commenced. Pirelli’s investment to build the new factory amounted to almost USD 100 million.

On December 17, 2007, Pirelli & C. Real Estate was awarded the mandate for the management of a non-performing loan portfolio that originated from Banca Antonveneta and the subsidiary Interbanca, the gross book value of the portfolio amounts to approximately Euros 2.6 billion.

On December 21, 2007, City of Milan, Lombardy Region and Pirelli Real Estate representing the promoters of the Progetto Grande Bicocca (Italian and foreign real estate investment funds and cooperatives) signed a protocol agreement which modifies the Program Agreement dated July 6, 2003 and calls for new additions to complete the project.

Group consolidation

In this report on operations, in addition to the financial
performance measures established by IFRS, certain non-IFRS measures originated from the latter are presented although they are not required by IFRS (Non-GAAP Measures).

These performance measures are presented for purposes of a better understanding of the trend of operations of the Group and should not be construed as a substitute for the information required by IFRS.

Specifically, the Non-GAAP Measures used are described as follows:

  • Gross operating profit: this financial measure is used by the Group as the financial target in internal business plans and in external presentations (to analysts and investors). It represents a useful unit of measurement for the evaluation of the operating performance of the Group as a whole and for each single segment, in addition to the Operating Profit. The Gross Operating Profit is an intermediate performance measure represented by the Operating Profit from which depreciation and amortization are subtracted.
  • Earnings (losses) from investments: earnings (losses) from investments consist of all the effects recorded in the income statement referring to investments that are not consolidated line-by-line. These include dividends, the share of the earnings (losses) of companies accounted for using the equity method, impairment losses on available-for-sale financial assets and gains (losses) on the disposal of available-for-sale financial assets. Changes in the fair value of available-for-sale financial assets which are recognized directly in equity are excluded.
  • Net financial (liquidity)/debt position: this performance measure is represented by the gross financial debt less cash and cash equivalents as well as other interest-earning financial receivables. The notes present a table that shows the balance sheet amounts used to calculate the net financial (liquidity)/debt position.
3476.JPG

The official opening of the Chinese
Yanzhou car-tyre factory.

The highlights of the consolidated financial statements for the year ending December 31, 2007 can be summarized as follows:

Group consolidation (in millions of Euros)

12/31/2007

12/31/2006

Net sales

6,504.5 *

4,841.2

Net sales (excluding DGAG deconsolidation)

5,208.9

4,841.2

Gross operating profit

580.9

614.1

% of net sales (excluding DGAG deconsolidation)

11.2%

12.7%

Operating profit

366.9

401.4

% of net sales (excluding DGAG deconsolidation)

7.0%

8.3%

Earnings (losses) from investments

195.3

790.7

Operating profit (loss) incl. earnings (losses) from investments

562.2

1,192.1

Financial income (expenses)

(138.2)

(143.1)

Income taxes

(133.5)

(127.8)

Income from continuing operations

290.5

921.2

% of net sales (excluding DGAG deconsolidation)

5.6%

19.0%

Income (loss) from discontinued operations

33.1

(1,970.0)

Total income (loss)

323.6

(1,048.8)

Income (loss) attributable to the equity holders of Pirelli & C. S.p.A.

164.5

(1,167.4)

Earnings per share (in Euros)

0.031

(0.217)

Total equity

3,804.1

4,686.6

Equity attributable to the equity holders of Pirelli & C. S.p.A.

2,980.2

3,879.6

Equity per share (in Euros)

0.555

0.723

Net financial (liquidity)/debt position

(302.1)

1,979.6

Capital expenditures

287

255

R&D expenditures

173

171

Employees (number at year-end)

30,813

28,617

Factories

24

24

Pirelli & C. shares outstanding

ordinary shares (number in millions)

5,233.1

5,233.1

savings shares (number in millions)

134.8

134.8

Total shares outstanding

5,367.9

5,367.9

* of which, the impact of the DGAG deconsolidation is Euros 1,295.6 million

For a more meaningful understanding of the performance of the Group in its various segments of business, the following economic data and the net financial position are provided by business segment.

CONTINUING OPERATIONS - 12/31/2007 (in millions of Euros)

Tyre

Real
Estate

Broadband

Other
businesses

Other

Total

Net sales

4,161.7

2,148.7 *

117.1

71.4

5.6

6,504.5

Net sales (excluding DGAG)

-

853.1

-

-

-

5,208.9

Gross operating profit (loss)

548.6

61.8

(11.1)

(7.6)

(10.8)

580.9

Operating profit (loss)

358.1

50.4

(13.5)

(8.5)

(19.6)

366.9

Earnings (losses) from investments

1.5

186.1

-

(0.3)

8.0

195.3

Operating profit (loss) incl. earnings
from investments

359.6

236.5

(13.5)

(8.8)

(11.6)

562.2

Financial income (expenses)

(55.2)

(41.5)

(3.9)

(0.5)

(37.1)

(138.2)

Income taxes

(93.9)

(34.1)

-

(0.5)

(5.0)

(133.5)

Income (loss) from continuing operations

210.5

160.9

(17.4)

(9.8)

(53.7)

290.5

Net financial (liquidity)/debt position

559.6

289.7

21.5

5.6

(1,178.5)

(302.1)

* including Euros 1,295.6 million from the DGAG deconsolidation

CONTINUING OPERATIONS - 12/31/2006 (in millions of Euros)

Tyre

Real
Estate

Broadband

Other
businesses

Other

Total

Net sales

3,949.5

702.0

129.4

69.0

(8.7)

4,841.2

Gross operating profit (loss)

533.7

113.1

1.1

0.5

(34.3)

614.1

Operating profit (loss)

342.3

103.7

(0.3)

(0.2)

(44.1)

401.4

Earnings (losses) from investments

(2.4)

110.7

(1.0)

-

683.4

790.7

Operating profit (loss) incl. earnings
from investments

339.9

214.4

(1.3)

(0.2)

639.3

1,192.1

Financial income (expenses)

(54.1)

(3.1)

(1.6)

(0.1)

(84.2)

(143.1)

Income taxes

(86.5)

(49.3)

(0.4)

(0.5)

8.9

(127.8)

Income (loss) from continuing operations

199.3

162.0

(3.3)

(0.8)

564.0

921.2

Net financial (liquidity)/debt position

601.5

96.4

13.1

-

1,268.6

1,979.6

Net sales

Net sales in 2007 including nonrecurring effect of the deconsolidation of DGAG activities (PRE Group) amount to Euros 6,504.5 million, with an increase of 34.4 percent compared to Euros 4,841.2 million in 2006. Excluding the effect of the above deconsolidation, net sales are equal to Euros 5,208.9 million and increased by 7.6 percent compared to the prior year.

Excluding the foreign exchange effect (-1.1 percent), the change on a like-for-like basis is equal to 8.5 percent.

A percentage breakdown of net sales by business segment is as follows:

2007

2006

Pirelli Tyre

80.1%

81.5%

Pirelli Real Estate

16.4%

14.4%

Pirelli Broadband Solutions

2.2%

2.7%

Other businesses

1.3%

1.4%

A percentage breakdown of net sales on a like-for-like basis by business segment is as follows:

Pirelli Tyre

+ 6.5%

Pirelli Real Estate

+ 21.5%

Pirelli Broadband Solutions

- 9.5%

Other businesses

+ 3.5%

Total change on a like-for-like basis

+ 8.5%

Foreign exchange effect

- 1.1%

Net sales for DGAG deconsolidation

+ 27.0%

Total change

+ 34.4%

Operating profit

Operating profit in 2007 amounts to Euros 366.9 million, representing 7.0 percent of net sales compared to Euros 401.4 million in the prior year (8.3 percent of net sales).

The change in operating profit by business segment is the following (in millions of euros):

Operating profit 2006

401.4

Pirelli Tyre

15.8

Pirelli Real Estate

(53.3)

Pirelli Broadband Solutions

(13.2)

Other businesses

(8.3)

Other

24.5

(34.5)

Operating profit 2007

366.9

Operating profit including earnings (losses) from investments

Operating profit including earnings (losses) from investments in 2007 is Euros 562.2 million compared to Euros 1,192.1 million in the prior year.

The change by individual business segment is as follows (in millions of euros):

Operating profit post-investments 2006

1,192.1

Pirelli Tyre

19.7

Pirelli Real Estate

22.1

Pirelli Broadband Solutions

(12.2)

Other businesses

(8.6)

Other *

(650.9)

(629.9)

Operating profit post-investments 2007

562.2

* The loss for 2006 included gains realized on the sale of the 38.9 percent stake in Pirelli Tyre S.p.A. (Euros 416.4 million) and the investment in Capitalia S.p.A. (Euros 215.2 million).

Income

Income from continuing operations in 2007 is Euros 290.5 million, compared to Euros 921.2 million in 2006, which included nonrecurring items relating to gains realized on the sale of the 38.9 percent stake in Pirelli Tyre S.p.A. and the investment in Capitalia S.p.A., besides the costs for the Pirelli Tyre S.p.A. IPO project.

Income from discontinued operations is Euros 33.1 million and includes the negative effect resulting from the sale of Olimpia S.p.A. (Euros 53.8 million). It also comprises the gain of Euros 91 million on the sale to Goldman Sachs of the warrants obtained under the July 2005 sales agreement for the Energy and Telecom Cables and Systems businesses and connected with the economic benefits on Prysmian (Lux) S.à.r.l. and an adjustment of the accrual connected with the guarantees provided following that sale for Euros 4 million.

The loss of Euros 1,970 million in 2006 was due to the writedown
of Olimpia S.p.A. (Euros 2,110 million) offset by a positive amount of Euros 170 million as a result of accounting for Olimpia S.p.A. using the equity method, in addition to a negative amount of Euros 30 million for the price adjustment relating to the sales contract for the Energy and Telecom Cables and Systems businesses.

Total income in 2007 is Euros 323.6 million (Euros 0.031 per share), compared to a loss of Euros 1,048.8 million in 2006 (-Euros 0.217 per share).

Income attributable to the equity holders of Pirelli & C. S.p.A. in 2007 is Euros 164.5 million, compared to a loss of Euros 1,167.4 million in 2006.

Equity

Equity went from Euros 4,686.6 million at December 31, 2006 to Euros 3,804.1 million at December 31, 2007. The change that can be summarized as follows:

equity (in millions of Euros)

Translation differences

7.7

Income for the year

323.6

Dividends to third parties paid by:

(74.4)

- Pirelli Tyre S.p.A.

(27.2)

- Pirelli & C. Real Estate S.p.A.

(42.9)

- Other Group companies

(4.3)

Share capital reduction

(826.3)

Pirelli & C. Real Estate S.p.A. treasury share purchases/sales

(53.0)

Purchase of Pirelli & C. Real Estate S.p.A. shares

(24.0)

Change in fair value of available-for-sale financial assets

(102.1)

Net actuarial gains (losses) on employee benefits

2.6

Gains (losses) transferred to income statement upon disposal of available-for-sale
financial assets or when there are impairment losses

(118.1)

Purchase of minority interests in Tyre companies (Turkey and China)

(15.9)

Other changes

(2.6)

(882.5)

The reconciliation between the equity of the parent, Pirelli & C. S.p.A., and the consolidated equity attributable to the equity holders of the parent is as follows:

reconciliation between equity pirelli & C. S.p.A. and consolidated
equity attributable to the equity holders (in millions of Euros)

Share capital

Reserves

Income (loss)

Total

Equity - Pirelli & C. S.p.A. at December 31, 2007

1,556

419

101

2,076

Results for the year of consolidated companies (pre-consolidation adjustments)

-

-

190

190

Capital and reserves of consolidated companies (pre-consolidation adjustments)

-

1,429

-

1,429

Consolidation adjustments:

- carrying amount of investments in consolidated companies

-

(727)

-

(727)

- intragroup dividends

-

652

(652)

-

- other

-

(514)

526

12

Consolidated equity - group at December 31, 2007

1,556

1,259

165

2,980

Net financial position

The consolidated net financial position of the Group went from a debt position of Euros 1,979.6 million at December 31, 2006 to a liquidity position of Euros 302.1 million at December 31, 2007.

The change during the year can be summarized in the following cash flows:

Net financial position (in millions of Euros)

Cash flows used in ordinary activities

298.5

Financial and tax income (expenses)

(271.7)

Sale of Olimpia S.p.A. investment

3,329.0

Payable for reimbursement of share capital

(826.3)

Proceeds from sale of Prysmian warrants

91.0

Purchase of RCS shares

(8.1)

Purchase of Pirelli & C. Real Estate shares

(54.2)

Investments in funds and Baubecon - Pirelli & C. Real Estate

(110.3)

Pirelli & C. Real Estate treasury shares purchases/sales

(52.8)

Purchase of 12.4% stake in Avanex

(33.4)

Dividends paid

(74.4)

Other

(5.6)

Change in net financial position

2,281.7

Capital expenditures

Capital expenditures in property, plant and equipment total Euros 287 million. The ratio of capital expenditures to depreciation is 1.4.

Capital expenditures are principally concentrated in the Tyre Sector and directed to the development of innovative processes, the increase in production capacity for the premium tyre range and the launch of new products.

Research & development expenditures

The Pirelli Group places its capacity to innovate products and processes and to evaluate new opportunities arising from continuing research at the heart of its growth strategy.

R&D expenditures borne by the Group and completely expensed to income went from Euros 171 million in 2006 to Euros 173 million in 2007. R&D as a percentage of net sales is 3.3 percent (excluding DGAG).

With regard to Pirelli Tyre, Euros 148 million was spent on research activities, focusing on the following:

  • developing new products;
  • applying innovative solutions associated with the use of materials;
  • product innovating, with the aim of augmenting safety;
  • developing the future generation of the MIRS™ (Modular Integrated Robotized System) process, the revolutionary robotized production system patented by Pirelli, and the hi-tech CCM™ Continuous Compound Mixing method;
  • developing the Cyber Tyre, the ‘intelligent’ tyre that supplies useful information to on-board electronic systems.

In the Pirelli Labs Materials Innovation laboratories, activities continued directed to the continual research of innovation in the Tyre business, the support of initiatives with Pirelli Real Estate on innovative building materials and the development of research into materials.

Interno camere bianche.jpg

Research activities in Pirelli Labs.

In particular, with regard to the activities of the Tyre sector, expertise in sensor systems in general, and, in particular, for the systemic and technical aspects of modeling and identifying sensor parameters in the field, was applied to a project that involves the use of innovative tyre sensor systems to determine parameters of fundamental importance in terms of the interaction between the tyre and the road, with important ramifications in terms of the safety of cars on the road.

Activity with Pirelli RE continued, with the development of the product for acoustic insulation from footfalls/overhead noise. This product is made with recycled rubber (made from end-of-life tyres) and a special water-based binder developed by Pirelli Labs and certified by INRIM (National Institute of Metrological Research) in Turin. The product was used in about 1,000 m2 of floor in residential buildings. Tests conducted by external testing agencies have confirmed its excellent acoustic performance, which well exceeds legal requirements (DPCM – Decree of the President of the Council of Ministers of December 5, 1997).

With regard to other activities, collaboration continued in 2007 with Telecom Italia in the sphere of telecommunications on innovative materials. For example, new models of antenna were studied and implemented which, when integrated with ADSL routers using WI-FI access technology, resulted in excellent performance.

modem router pirelli

Integrated antenna ADSL modems developed
by Pirelli Broadband Solutions.

The new models are incorporated in some of the products being marketed by Pirelli Broadband Solutions.

Another study involved intelligent antenna systems. They consist essentially of an arrangement of passive radiating elements which can be selected, when the conditions of the radio signals vary, to capture the best-quality signal.

As for the Distributed Sensor Networks sector, in 2007, work continued to optimize and develop the product, from the standpoint of general purpose platform and specific applications, for monitoring traffic and environment flow.

With regard to products/systems for monitoring traffic flow, work moved forward on the engineering of the proprietary sensors and operation and control system, on which testing has begun, both in the laboratory and in the field.

As for systems for monitoring the environment, various joint experiments with public entities have produced positive results, particularly an important test conducted in Parma with the CNR (National Research Council) and financed by the Ministry of the Environment. Tests were also completed on the instrumentation required by the certification process by the national body responsible for environmental monitoring. Collaboration also continues with Telecom Italia and Sartec, a well-established player in the environmental monitoring sector, on activities geared to defining and developing the market.

In Fuel Cells research, activities focused on the development of materials for highly-efficient components for polymeric cells fed directly with methanol (DMFC) and for Solid Oxide Fuel Cells (SOFC).

Research continued on selected topics in the field of quantum optical networks. The studies were mainly conducted within the sphere of the two European projects QAP and SINPHONIA. Pirelli contributed effectively to the work program by optimizing a superconducting detector to count single photons.

In collaboration with ENEA, joint development work continued, with promising preliminary results in phenomena of energy generation in palladium hydride (cold fusion). The aim is to try to clarify controversial aspects for the development of solutions geared to the possible future production of energy.

Again within the sphere of the partnership with ENEA and in collaboration with Telecom Italia, innovative photovoltaic systems were developed and installed at the Telecom Italia telephone exchange at Naples Barra in parallel with the construction and installation of an experimental measuring station for photovoltaic systems.

The activities of Pirelli Labs in Optical Innovation focused on three main areas: photonics nanotechnologies, optical modules and systems and electronic network access devices.

In the field of photonics nanotechnologies, work began on the development of an optical tunable laser in a butterfly package, which exploits the technological platform of the tunable laser with the addition of an indium-phosphide external modulator.

Work also began to develop a planar optical tunable laser modulable directly without using an external modulator, up to 10 Gbit/s. It will be possible to incorporate this laser in an optical transmitter that can be placed in a miniaturized pluggable module that conforms to the XFP standard. Within the same sphere of development, work is under way to create a Mach-Zehnder type optical filter that can be inserted into the actual transmitter so as to permit a propagation distance of at least 120 km without any optical regeneration.

Work on the engineering phase of an integrated optical device to compensate for broadband chromatic dispersion has been completed. The device will have possible applications by being integrated either in a tunable laser or in an optical fiber line to replace the sections currently used for compensation.

In the field of optical modules and systems, work continues to develop the light WDM system, with the aim of integrating the functions of the coarse WDM and dense WDM systems on the same platform and guaranteeing sufficient capacity to transport broadband services in metropolitan and regional access networks at a low cost.

Work began to design and develop an innovative WDM PON access system which exploits photonics technologies to guarantee that users have access to broadband at a competitive cost compared to the current GPON-type TDM systems. This system is based on a photonics component that achieves integration between laser arrays, indium-phosphide photodiodes and silicon passive optical circuits.

In the field of electronic devices for access networks, work has been completed on the first phase of a study to solve the co-existence problems of domestic telecommunications networks, such as powerline, operating in the same building.

By inserting electric filtering devices and suitable software control protocols, it proved possible to have up to 10 simultaneous connections using streaming data flows at 30 Mbit/s.

A feasibility study was also completed at Georgia Tech in Atlanta (U.S.A.) on a wireless home networking solution with a high capacity (2.5 Gbit/s) operating on millimetric wave bands (60 Ghz).

Significant events subsequent to the end of the year

On January 16, 2008, Acea and Pirelli Ambiente announced that the 50-50 A.PI.C.E. joint venture will operate in the sector of sources of renewal energy from waste and will combine Acea’s expertise and territorial roots with Pirelli Ambiente’s experience
and technology to carry out projects aimed at the manufacture of CDR-Q, a fuel derived from quality waste which will used in thermo-electric power plants and cement factories.

On January 17, 2008, Pirelli unveiled the new Cinturato Pirelli. The tyre that set the pace for traveling in style in Italy and in the world starting from the mid-fifties has been reproposed in a new version which combines all of the very best in state-of-the art technologies, safety and ecosustainability.

On February 1, 2008, the new Group company PGT Photonics was formed. It will operate in the sphere of second-generation photonics based on nanotechnologies.

This company is the result of the integration of the photonics business unit of Pirelli Broadband Solutions and the Pirelli Labs Optical Innovation Division. The aim is to create ever-greater synergies between research and business development activities. The company will focus on the areas of innovative optical components, optical modules and transport systems.
At the same time, Pirelli Broadband Solutions will concentrate its business activities on broadband access, which increasingly involves market dynamics and technological dynamics which are different from photonics.

On February 22, 2008, Piedmont Region, Province of Turin, City of Settimo Torinese, the Politecnico University of Turin and Pirelli Group sealed a collaboration agreement aimed at developing research and innovation programs under the project to build a new Pirelli industrial hub in Settimo Torinese.

Pirelli plans to invest about Euros 140 million in the Settimo Torinese project.

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The Pirelli Cinturato: a historical name for a tyre with state-of-the-art technological content.

On February 28, 2008, Pirelli RE SGR and First Atlantic RE SGR concluded an agreement to transfer the management of Berenice Fondo Uffici, receiving the go-ahead from Zwinger which holds more than 90 percent of the shares. Zwinger has committed to acquiring 5 percent of the shares held by SGR for a total of Euros 19.6 million.

On March 11, 2008, Pirelli & C. S.p.A. reached an agreement to acquire the entire share capital of Speed S.p.A., a company in which interests are held by leading financial institutions (Intesa Sanpaolo, Gruppo Banca Leonardo, UniCredit, One Equity Partners – JP Morgan Group, Lehman Brothers and Mediobanca) and, the holder, since August 2006, of the 38.9 percent stake in Pirelli Tyre S.p.A., for Euros 434.4 million which was financed by the company’s liquid resources. The price takes into account a payable by Speed S.p.A. of Euros 401.1 million. The transfer of the Speed S.p.A. shares took place at the closing on March 12, 2008, except for a 19.19 percent stake which is expected to be transferred to Pirelli in July 2008.

On March 19, 2008, a consortium consisting of RREEF, GREF (Generali Group), Borletti Group and Pirelli RE sealed a binding agreement with Karstadt Quelle AG (Arcandor Group) for the purchase of a 49 percent stake in Highstreet, an investment company which holds the majority of the buildings leased to large German department stores.

During the first quarter of 2008, Pirelli & C. S.p.A. purchased 687,000 Pirelli & C. Real Estate S.p.A. shares on the market for a total Euros 15.8 million, bringing its interest to 55.28 percent.

Outlook for the current year

Despite the difficulties in the global economy and the sector as a whole, the continuous increase in the prices of production factors and the strengthening of the euro, Pirelli Tyre expects to record a slight growth during the current year compared to 2007.

Bearing in mind the general economic and financial scenario, in 2008, Pirelli Real Estate expects to report operating profit including earnings from investments in line with that of the prior year, net of the effects of the temporary consolidation of DGAG.

Therefore, in 2008, Pirelli & C. S.p.A. Group forecasts that the overall operating profit of its businesses will be in line with that of the prior year, unless external extraordinary events occur which cannot be foreseen at this time.