Sistema Annual Report 2005

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FY2005 Annual Report · Sistema

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SISTEMA

ANNUAL REPORT 2005

Financial Highlights

Revenue
($, million)

2005

2004

2003

7,593.5
5,733.9
3,759.9

OIBDA*
($, million)

2,982.0
2,462.0
1,626.7

Net income
($, million)

534.4
411.2
387.0

Assets
($, million)

2005

2004

13,090.9
8,823.3

2003

6,818.7

Shareholders' equity
($, million)

3,233.6
1,422.2

989.3

Earnings per share
($)

56.4
50.8

47.8

Revenue by segments**

3.7% Other Businesses

2.7% Retail

1.4% Banking

12.7% Technology

0.7% Mass Media

1.0% Real Estate

5.4% Insurance

77.6% Telecommunications

Assets by segments***($, million)

2,009.13 Other Businesses

81.91 Mass Media
331.79 Real Estate

581.45 Insurance

561.54 Technology

146.28 Retail

1,114.87 Banking

9,696.64 Telecommunications

* OIBDA represents operating income before depreciation and amortization.

OIBDA is not a measure of financial performance under U.S. GAAP.

** Before eliminations of intersegment revenue.

*** Before intersegment eliminations.

ANNUAL REPORT / 2005

Sistema's Mission

Sistema’s Mission
We create leading businesses
in the service sectors,
primarily in the field
of technology.
Our mission is to serve
the interests of both our
shareholders and society
as a whole.

In order to succeed in its mission,
Sistema invests its financial, intellectual
and management resources in the
development of its businesses and
the growth of the Russian
economy.

In this Annual Report, we describe
how Sistema has worked to fulfill
this mission during 2005.

In presenting this Annual Report, we
would like to emphasize that Sistema's
results should ultimately be judged
by how much they have contributed
to fulfilling the corporation's stated
mission.

SISTEMA

Sistema's Mission

ANNUAL REPORT / 2005

Letter from the
Chairman of the
Board of Directors

“While we act as a Russian
company, we nonetheless
understand that we must
build the business
in an environment
of global competition.
But only clear national
leadership allows us to go
beyond the borders of our
country. And only the
ability to truly compete in
the global marketplace can
strengthen our
national
leadership.”

Vladimir Evtushenkov Chairman of the Board of Directors

SISTEMA

It has been little more than a year since Sistema made its successful debut on the London Stock
Exchange. But this was a breakthrough year in every sense for the corporation. The new opportuni-
ties and requirements that come along with the status of a public company have significantly
changed the nature of our business.

Letter from
the Chairman
of the Board
of Directors

The intense scrutiny of the investment community, careful adherence to international standards of
business and alignment with best global practices in management have led us to undertake a thor-
ough revision of our current potential and to more precisely define our strategy. This new outlook
and new level of responsibility has allowed us to raise the bar even higher when establishing the
goals set before the corporation.

Sistema has always focused on building companies that are leaders in their area of business. Our
debut in global capital markets, coupled with the fact that we operate in an open economic envi-
ronment, means we have changed our very understanding of the term ”leadership.” Today, in order
to be at the forefront, it is no longer enough to maintain consistent organic growth and complete
successful M&A deals. One also needs to define new points of growth and foresee the appearance of
new breakthrough markets, generate promising ideas and generate synergies. It is just such an
approach that has led us to make several large-scale wagers.

We have bet on the INNOVATIVE nature of our development. Sistema has always worked in technology
services and developed hi-tech production. But today we are looking at the wider field of innovation:
it is no longer just an important component of our businesses, but a business in itself. The scientific
and innovative base created within the corporation is dedicated both to stimulating R&D within
Sistema's divisions and to the creation of a fully fledged venture investment wing of the corporation.
It is our belief that promising, fast-growth sectors will come into being only on a base of innovation.
It is these sectors that can become the foundation of the technological leadership of Russia.

We have bet on INTEGRATION. The consolidation of fixed-line operators under the single Comstar-UTS
brand was the beginning of this process. The next logical step is the creation, through convergence
technology, of a single diversified group on a common technological and management platform within
Sistema Telecom. The introduction of a single umbrella telecommunications brand (a first in the Russian
marketplace) is an important step down this road. The process of integration will move forward with the
further blurring of boundaries between telecommunications and multimedia services.

We have bet on international EXPANSION. The Russian market remains the clear priority for Sistema
and we act as a national company. We nonetheless understand that we must build the business in an
environment of global competition. Only clear national leadership allows us to go beyond the bor-
ders of our country. But only the ability to truly compete in the global marketplace can strengthen
our national leadership. Sistema has already moved past the borders of the CIS and entered the mar-
kets of Central and Eastern Europe. In addition, we continue to study opportunities in Asia, the
Middle East and other attractive markets.

We understand that the trust of investors is the foundation for growing the capitalization of the cor-
poration and we are continuing to perfect our corporate governance practices. We hope that the
investment community will fully appreciate the appearance of a new independent director on
the Board of Directors. Stephan Newhouse, who was formerly president of investment bank Morgan
Stanley, is a person whose authority is difficult to overestimate.

We wish to acknowledge all of those who have accompanied us during this brilliant and fascinating
year: our employees, partners, investors and shareholders. We look into the future with optimism.
And we hope that we will build the future together with you.

ANNUAL REPORT / 2005

Letter from the
President

“Leadership is
impossible without
leaders. Our main trump
card and primary
resource in the fight for
efficiency is people.
We take pride in the
fact that the corporation
has raised a whole
generation of managers
who have set the highest
standards of business in
Russia. They are the ones
who create value
for Sistema.”

Alexander Goncharuk President

SISTEMA

Sistema's shareholders have set ambitious goals for the management of the corporation. This latest stage
of the corporation’s development means the high expectations of investors have been added to these
goals.

Letter from the
President

What do shareholders expect of us?
High rates of business growth — while maintaining profitability.
Entry into new territories — without risking presence in existing areas.
Development of emerging, promising sectors — without a reduction in profitability in mature sectors.
Conquering new markets — without losing established, leading positions in existing markets.
Acquisition of additional assets — while increasing the manageability of the whole asset portfolio.

Sistema's management is doing all that it can to ensure that the expectations of investors are met.
The net profit of the corporation increased by 30.0% in 2005.
Total assets grew by 48.4%.
The capitalization of the corporation grew by more than a third.
How was all of this made possible? Moreover, upon what foundation are we building our future?
I would describe the position of the management in a single word: EFFICIENCY.

The first principle is to ”stake” ourselves only on existing and potential LEADERS. We conducted a
painstaking analysis of our portfolio and established clear priorities. Subsequently, we concentrat-
ed our investment and managerial resources on the most promising business areas. For example, our
newly established leadership in the cable television market will provide a base for development in
the extremely promising sector of multi-media services.

The second principle is to strictly delimit the criteria for success for our operational companies
according to ORGANIC GROWTH and M&A. Thus the consolidated revenues of the corporation attrib-
utable to organic growth rose last year by 27.7%. In the Technology division, organic growth
accounted for 60% of revenue growth.

The third principle is a BALANCED PORTFOLIO. Sistema is still predominantly a telecommunications cor-
poration. Nonetheless, we are developing other promising areas. Due to the rapid growth in these sec-
tors, the share of revenues from these businesses reached 22.4%, of which 12.7% came from Technology.

The careful MANAGEMENT OF FINANCIAL RESOURCES is the fourth rule. When the timeframe for the
privatization of Svyazinvest, for which the company had earmarked funds from the IPO, was again
delayed, we made the decision to acquire minority shareholdings in very profitable and highly liq-
uid oil assets in Bashkortostan. Today we are working with our colleagues in Bashkortostan to
increase the capitalization of this business by establishing a vertically integrated holding.

The fifth rule is TRANSPARENCY in ownership and management structures. The corporation’s prepa-
ration for its IPO represents the most significant stage of RESTRUCTURING undertaken by Sistema to
date. This received a uniformly high evaluation from the marketplace. The redistribution of author-
ity between the corporate center and the business divisions is the next step in the optimization of
the management structure of the corporation.

Finally and most importantly, leadership is not possible without LEADERS. Our trump card and great-
est resource in the fight for greater efficiency is people. We take pride in the fact that the corpora-
tion has raised a whole generation of managers. These managers possess the highest standards of
leadership in the Russian business world. They are the ones who create value for Sistema. It is for
them that the corporation has developed a full-range of options programs in MTS and Sitronics.

We do not doubt the ability of our team to succeed and we hope to share this success with our investors.

BOARD OF DIRECTORS

ANNUAL REPORT / 2005

Board of Directors
SISTEMA

SISTEMA

Board of Directors
SISTEMA

Alexander Goncharuk
President

Vyacheslav Kopiev
Deputy Chairman of the Board

Vladimir Evtushenkov
Chairman of the Board

Dmitry Zubov
Deputy Chairman of the Board

Evgeny Novitsky
Director

Sergey Drozdov
Senior Vice President,
Head of the Property Complex

Alexander Leiviman
Director

Stephan Newhouse
Non-Executive Director

Alexander Gorbatovsky
Non-Executive Director

Ron Sommer
Non-Executive Director

Nikolai Mikhailov
Non-Executive Director

ANNUAL REPORT / 2005

SISTEMA

Alexander Gorbunov
Acting First Vice President
Head of Strategy & Development

Alexey Buyanov
Senior Vice President
Head of Finance and Investment

Denis Muratov
Vice President
Head of Innovation and Science

Sergey Drozdov
Senior Vice President
Head of Property

Ruslan Almakaev
Vice President
Head of Economic
and Information Security

Sergey Cheremin
Vice President
Head of External Relations

Key Management

KEY
MANAGEMENT

ANNUAL REPORT / 2005

1Strategy

SISTEMA

Our strategy:
The creation of leading
companies in fast-growing
markets and the constant
search for new areas
of growth.

ANNUAL REPORT / 2005

Strategy

“Sistema sets the bar
high for its businesses,
expecting them to occupy
leading positions in
their sectors through
organic growth
and M&A deals. ”

Alexander Gorbunov

Acting First Vice President, Head of Strategy & Development

”THE BUSINESS OF BUILDING BUSINESSES”
The basis of Sistema's strategy is to build market-leading businesses
in the most promising service-oriented industries. This ”Business of
Building Businesses” develops through the skilful combination of
organic growth and the effect of mergers and acquisitions (M&A).
Through this approach, the corporation continues to grow rapidly,
requiring additional investment resources. We were able to success-
fully attract investment through the IPO and are now working active-
ly to bring the corporation's subsidiary companies to the interna-
tional capital markets. In February 2006, Comstar-UTS placed its
shares on the London Stock Exchange. The placement of Sistema-
Hals and Sitronics shares is likely in the near future. Looking forward,
the corporation envisions other subsidiary companies trading on
international financial markets.

Beginning in 2004, the corporation concentrated its efforts on the
development of its key businesses: those that were already market
leaders and those with the clear potential to become leaders in their
sectors in the foreseeable future. These companies were best posi-
tioned to grow together with dynamically evolving markets benefit-
ing from rising consumer purchasing power and the broader growth
of the economy. Sistema provides these businesses with the
resources needed for development and enables them to become lead-

EFFICIENCY INNOVATION EXPANSION RESTRUCTURING TRANSPARENCY

SISTEMA

ers. Other businesses with strong promise that do not yet demonstrate the highest potential expected by
Sistema cannot depend on priority financing of investment from the corporation and must fund their
development from their internal resources. Areas that do not meet the expectations of shareholders and
do not demonstrate signs of future leadership potential are gradually being restructured or sold. This
strategy ensures that Sistema’s financial and management resources are used with maximum efficiency.

”The Business of
Building Businesses”

The successful combination of dynamic organic growth and quality M&A deals was reflected in Sistema's
strong 2005 financial results. Through organic growth the revenues of Sistema's existing businesses grew
by 27.7% or $1.58 billion. The acquisition of new companies accounted for $279 million growth in the
consolidated revenues of the corporation. After the integration of these businesses, they will strength-
en the market positions of the key business areas of the corporation.

The successful IPO on the LSE brought the corporation substantial resources for investment. Sistema
gained the ability to undertake a wide range of M&A transactions to strengthen core business areas. But
increased deal activity has not changed the fundamental strategic goals. Sistema carefully approaches
M&A targets: they must create shareholder value, be well structured and logically integrate within exist-
ing company structures. The corporate center provides the general rules in the area of M&A for the busi-
ness areas. Using these as a framework, each business area carries out its strategy while taking into
account the specifics of its industry.

The fruitfulness of the policy of finding the right combination of organic growth and M&A was clearly
displayed in 2005 at SITRONICS, which integrates the corporation's high technology businesses in IT and
electronics. Following comprehensive restructuring in 2004, the revenues of SITRONICS almost doubled
in 2005. Organic growth accounted for 60% of this and, accordingly, 40% was contributed by M&A.

We are actively making deals in businesses in which shifts in strategy are necessary. For example, during
2005, the corporation conducted a comprehensive restructuring in the Media business area. Lower mar-
gin businesses in mature sectors, such as newspapers and print distribution, were sold. At the same time,
assets were acquired in fast-growth market segments. In particular, UCN, Russia's largest network of
regional cable operators, was acquired. The company is capable in the near term of becoming the core for
the consolidation of regional cable operators. The corporation is investing to transfer the company to the
latest technology platforms. This technology allows the company to provide a wide range of multimedia
services to consumers. The corporation anticipates explosive growth in this sector.

During 2005, the restructuring of the corporation's assets in the fixed-line telecommunications sphere
was successfully completed. Comstar-UTS was able to raise more than $1 billion for investment on the
London Stock Exchange in a successful IPO in early 2006. The scale of the transaction was the second
largest of a Russian company in the international markets to date, after only Sistema’s IPO. Sistema’s IPO
remains the largest IPO in Russian history.

The combination of organic growth and M&A allows Sistema to rapidly grow the scale of its business and
capitalization. The strongest business areas are able to go to financial markets independently in order to
attract needed investment resources. In turn, the corporation can get a fair price for its assets and can
focus on investing in the next wave of leading businesses.

ANNUAL REPORT / 2005

Strategy

”Financial
transparency
is the cornerstone of the
financial policy of the
corporation.”

Alexey Buyanov

Senior Vice President, Head of Finance and Investment

FINANCIAL MANAGEMENT FOR
LONG-TERM STABILITY
The successful February 2005 initial public offering of the corpo-
ration's shares on the London Stock Exchange has created new
possibilities for the financial management of the corporation. At
the same time, it has presented new challenges. Disciplined and
prudent financial management has been a hallmark of the corpo-
ration's strategy since it was founded. This approach is strictly
applied on both the corporate and subsidiary level. Sistema main-
tains stringent control over all aspects of financial activity in an
effort to ensure the long-term financial stability of the group.

During 2005, the liquid financial resources at the disposal of the
corporation increased thanks to the IPO and by high and growing
dividends from MTS and other operating companies. In the inter-
ests of the shareholders, these funds must be invested profitably.
But they must not be diverted over the long term in view of the
need to conduct M&A activity. Therefore, the focus of the finan-
cial management of the corporation in 2005 was to find a solution
for these contradictory goals: to ensure the optimal balance
between having liquid funds on hand and making investments in
short- and medium-term financial instruments with the highest
possible returns. A careful approach to finding such a solution
allowed Sistema to strengthen the financial component of its
activity. This was recognized by the international ratings agen-
cies. In March, S&P increased its rating on the corporation to BB-.
In April, Fitch raised its rating on Sistema to B+.

The achievement of a stable financial position at Sistema is also
made possible by the observance of some basic principles in its
financial strategy.

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

SISTEMA

Sistema’s Financial Transparency
Long before 2005, Sistema had made financial transparency a cornerstone of its financial management.
The corporation has prepared consolidated, audited reporting according to US GAAP standards since
1997. The corporation began disclosure of its financial reporting to the investment community in 2003.
During the same year a dedicated investor relations department was also created with a highly qualified
team of professionals. Sistema disclosed information on its financial results on a semi-annual basis from
2003 to 2005, and began reporting on a quarterly basis during the second half of 2005. During early
2006, the corporation began to transfer financial reporting at its key operating subsidiaries to US GAAP
or IFRS standards. A number of these companies already disclose their financial reporting as stand-
alone enterprises. There are also plans to increase the number of reporting segments at the corporation
during 2006.

Debt Management
To ensure the continued strong financial position of the corporation, Sistema has always paid par-
ticular attention to managing the size and structure of its debt obligations. The corporation seeks
to maintain an optimal capital structure and ensure continued access to liquid funds on the most
attractive possible terms. Between 2002 and 2003, the corporation increased the share of publicly
traded debt instruments in the corporation's overall indebtedness from 21% to more than 60%. This
ensured more favorable borrowing terms and longer average maturity periods that better corre-
sponded with the average period required to achieve return on investment in the corporation's proj-
ects, which varies between three to five years.

Control Over Consolidated Borrowing
Sistema strictly controls the levels of borrowing by its subsidiaries. This has become particularly
important because the corporation's subsidiaries increasingly have independent access to loans and
subsidiary borrowing has increased significantly in recent years. The corporation has established
strict criteria to ensure an optimal structure of consolidated borrowing. For example, the level of
consolidated debt should not exceed 3.5 times the consolidated EBITDA.

Budgeting and Planning
Budgeting at the corporation is based on a ”bottom-up” approach. The procedure for compiling
budgets is the same for all of Sistema's business areas. Each area compiles a yearly budget that goes
to the corporate budget commission for approval. Then Sistema consolidates and approves the budg-
et on the corporate level. The corporation carefully tracks the results of each business area and eval-
uates their success in meeting the strategic goals set before them.

Planning at the corporation is based on one- and five-year time horizons. Beginning in 2005,
Sistema has been developing five-year financial economic plans according to US GAAP accounting
standards. This has raised financial planning and controls to a qualitatively new level. The corpora-
tion's planning takes into account the growing ability of business areas to finance their own devel-
opment and attract significant financial resources. The February 2006 IPO of Comstar-UTS is one
example. Another is the issuance of Eurobonds by SITRONICS. The move of subsidiaries towards inde-
pendently raising finance will become the key development in financial management and planning
in the coming years.

Financial Management
for Long-Term Stability

ANNUAL REPORT / 2005

Strategy

“The formula for effective
restructuring:
maximum volume
of business with
minimal number
of companies and
structures.”

Sergey Drozdov

Senior Vice President, Head of Property

STRUCTURING ASSETS TO CREATE
MARKET LEADERS
The restructuring of assets has been one of the key goals of man-
agement throughout the history of the corporation. This goal
stems directly from the long-term strategy of Sistema: the con-
centration of financial and management resources for the devel-
opment of companies that are market leaders and companies that
have a clear leadership potential. The aim of restructuring is to
form business units with transparent and efficient vertical owner-
ship and management structures. These units should be able to
develop and independently attract funding from the financial
markets. The most significant work on restructuring was accom-
plished during 2004 in preparation for Sistema's IPO. The compa-
ny identified priority core business areas, consolidated assets
within each area and disposed of certain non-core assets. The
effect of this restructuring was quickly apparent in the high eval-
uation by investors, as reflected by Sistema's capitalization.

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

SISTEMA

The IPO did not mark the end of restructuring. This is a constant process and integral to the real-
ization of Sistema's strategy. The activity of each subsidiary is regularly analyzed to identify oppor-
tunities for consolidation to extract synergies or create new structures capable of independently
borrowing and entering the financial markets in order to fund their own long-term development.

Structuring Assets to
Create Market Leaders

Assets that are acquired through M&A undergo analysis both before and after purchase. In the
course of the analysis, it is determined how efficiently new structures can be integrated into exist-
ing business areas. Whenever possible, new assets are broken into separate business units and inte-
grated into business areas as affiliated structures. The restructuring of assets must be accompanied
by management restructuring to ensure the most efficient use of management resources.

The first aim of restructuring is to maintain the maximum turnover of business with the minimum
number of companies. A clear example of this approach is the successful consolidation of all of
Sistema's fixed-line telecommunications operators under the aegis of Comstar United TeleSystems.
As a result of the consolidation, the structure of the business was simplified while management was
centralized and strengthened. This paved the way for the company's IPO in February 2006. A similar
process has been completed recently at Sistema-Hals, which has become the head company in the
Real Estate business area.

A basic principle of restructuring is strengthening vertical ownership. The corporation uses every
opportunity to buy out minority shareholdings and concentrate ownership rights for the companies
in its key businesses. Ideally, these companies will all become subsidiary structures of the head
company in each business area.

In 2005, Sistema continued to dispose of non-core business areas. The corporation sold its share-
holding in Kamov Holding which was 49.5% owned by Kamov OJSC. Also, a number of low-margin
media businesses were sold. This freed up additional financial and management resources for
strengthening strategic business areas. The process of strengthening and uniting businesses con-
tinues. In 2006, Olympic Sistema was integrated into Intourist, the head company in the Tourism
business area.

Hand in hand with restructuring is the evolution of a new management model within the corpora-
tion. A process of delegating authority from Sistema to the management companies and business
areas is underway, in particular in the area of property restructuring. The corporation has set the
goal for itself of providing each strategic business area with the management resources and assets
needed in order to become independent structures ahead of future debuts in the international
financial markets. In the future, each of the business areas will itself engage in the restructuring of
assets under its control.

ANNUAL REPORT / 2005

Strategy

”The unique quality of
the corporation consists
of the fact that all
of our business is,
in principle, built through
the introduction of
innovation.”

Denis Muratov

Vice President, Head of Innovation and Science

POLICY OF INNOVATION — SISTEMA’S
COMPETITIVE EDGE
From the moment it was founded, innovative technologies have
driven the ideas and organization of Sistema. The corporation is
the only player in the service sector of Russia and the CIS that not
just systematically invests in innovation but views it as an inde-
pendent business area.

Each of the company's main business areas are in knowledge
intensive industries. Innovation as a core principle of develop-
ment allows Sistema to stay several steps ahead of the market-
place. This spirit of innovation is one of the core competitive
advantages of Sistema.

To drive innovative development, the corporation founded a new
subdivision called Intellect-Telecom, which performs scientific

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

SISTEMA

research and development in the telecommunications sphere. Intellect-Telecom develops technology
for all of Sistema’s telecommunications units, including fixed-line and mobile communications, as
well as convergent services where traditionally separate telecommunications segments meet. Similar
research and development subdivisions are being established in all of Sistema's divisions.

Policy of Innovation —
Sistema’s Competitive
Edge

In addition, the goals of the corporation include creation of technology infrastructure to support
the management programs of each business area. The research and development subdivisions are
also responsible for implementing these goals.

For Russia, a major obstacle to the transition from an economy based on raw materials to an innova-
tion-based economy is the absence of an infrastructure that can turn ideas into finished products.
Therefore a major step taken by the corporation to address this need is the decision to create a fully
fledged venture investment business area. The Sistema Venture Fund will be fully engaged in iden-
tifying the right projects and organizing investment to develop new, innovative technology.

We believe that leadership and profit growth in maturing markets such as mobile telephony require
new technology rather than simply new approaches in marketing. New technology developed in-
house or acquired through partnerships with international companies offers the potential to create
new markets and reshape mature ones.

All of Sistema's subsidiary companies are engaged in the business of innovation. The Technology busi-
ness area posted 92.8% year-on-year sales growth in 2005. Few companies in the Russian market can
boast such a blistering rate of development. The divisions of SITRONICS work in two main directions,
both acquiring world-leading technology and developing their own intellectual property.

SITRONICS is integrated into the world-wide network of technology development through joint-ven-
ture enterprises established with global companies such as Siemens and Giesecke & Devrient and
strategic partnerships with Oracle, Cisco, Intel and Motorola. In 2005, SITRONICS acquired the exclu-
sive rights to manufacture modules using Infineon technology in Russia and the countries of the
CIS. As the Center of the Russian microelectronics industry, SITRONICS produces smart-cards togeth-
er with Giesecke & Devrient, the world's largest maker of such products. Siemens has an interest in
SITRONICS's development of security technology through the joint-enterprise Center for Innovative
Developments, which was created in 2005.

Sistema's Media business area uses the latest technology to create multi-media content and deliver
it to the consumer. The company is implementing a project for broadband ADSL access and IP tele-
vision, which substantially expands the service offering and number of TV programs offered to the
final consumer. Sistema Mass Media is planning the commercial launch of digital mobile technology
on the DVB-H platform. Users will be able to tune in television on mobile devices such as telephones,
pocket PCs and notebook computers.

One of the most important issues for innovative business areas is training. In August 2005, Sistema
signed a strategic agreement with the Lomonosov Moscow State University to create a new
Department for Innovative Business. The first group of students will begin classes in the new depart-
ment in the fall of 2006.

ANNUAL REPORT / 2005

Strategy

”No fast-growing
company can build its
strategy in today's
environment without
taking into account
the impact of
globalization.”

Sergey Cheremin

Vice President, Head of External Relations

INTERNATIONAL COOPERATION AND
EXPANSION IN GLOBAL MARKETS
Sistema began its operations in 1993 with a focus on the Russian
market. Today, the corporation rightly calls itself the largest con-
sumer services company in the former Soviet Union. In 2005, the
corporation confirmed its ambitions as a global player with its IPO
on the London Stock Exchange. During that year, the corporation
continued its expansion into new markets.

The corporation combines two fundamental principles in its
development in overseas markets: partnership and expansion.

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

SISTEMA

Sistema cultivates partnerships with leading Russian and international companies, financial insti-
tutions and governments on the national and regional level. These ties, built on ”strategic trust,”
are one of the most important factors in the corporation’s success.

International
Cooperation
and Expansion
in Global Markets

Partnerships with leading international players combine Sistema's knowledge of the Russian market
and the industrial and management know-how of leading global players. The partnership between
Deutsche Telekom (DT) and Mobile TeleSystems (MTS) was one of the factors that turned MTS into
the national leader. Cooperation with German company Allianz AG allowed ROSNO insurance com-
pany to introduce international standards of conducting business.

The corporation's Technology business area has gained from synergies in SITRONICS' cooperation
with Oracle, Cisco, Intel and Motorola.

The effectiveness of Sistema's policy of expanding in the markets of the CIS has been confirmed by
the development of the mobile communications segment. Mobile TeleSystems's assets in the CIS
(including Ukraine, Belarus, Turkmenistan and Uzbekistan) account for around 30% of the compa-
ny’s business.

The corporation is working actively in European markets. SITRONICS owns Strom Telecom, the largest
telecommunications equipment and services provider in Central and Eastern Europe. In June 2006,
SITRONICS acquired 51% of the shares of Greek company Intracom Telecom. Strom Telecom has high-
ly competitive product lines in the areas of NGN, billing systems and switching equipment. Intracom
Telecom’s specialities include wireless networks and data exchange systems. The combined poten-
tial of these two companies brings the SITRONICS’ business to a qualitatively new level.

The corporation carefully studies the potential of both regional and global markets. Sistema is
reviewing possibilities in markets such as China, Egypt, India, Serbia and Vietnam. In the summer of
2006, Sistema opened a representative office in India which provides additional opportunities for
the development of business partnerships in that country.

Sistema is implementing its strategy of entering international markets in close cooperation with
government institutions and business associations. The corporation is an active member of the
Russian Union of Industrialists and Entrepreneurs and the Trade-Industrial Chamber of the Russian
Federation as well as bilateral organizations which aim to develop contacts with the business com-
munities of other countries. Sistema is working fruitfully with the Russian-Arabic Business
Committee, the Russian-Chinese Business Committee and the Russian-Saudi Business Committee.
The corporation is also part of the non-commercial partnership Russian-Indian Business Committee
and is part of the Russo-British Chamber of Commerce.

ANNUAL REPORT / 2005

Strategy

“Today we already know
who will be leading the
corporation in 10 years.
We are seeing the
emergence of future
leaders at every
level of the company.”

Ruslan Almakaev

Vice President, Head of Economic and Information Security

EFFECTIVE MANAGEMENT OF HUMAN
CAPITAL IS THE FOUNDATION FOR
SISTEMA’S SUCCESS
The corporation's achievements directly depend on the approxi-
mately 90,000 employees who work at Sistema and its subsidiary
companies. The corporation’s business relies on the innovative
and intellectual potential of people whose knowledge and profes-
sionalism underpins its development. Sistema is always looking
for talent and develops its personnel to sustain its leadership in
innovation. Corporate culture is becoming one of the decisive fac-
tors in ensuring the achievement of the the company’s commercial
goals.

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

SISTEMA

The corporation views investment in the development of personnel at every level as a strategically
vital task. In 2005, a new Corporate Coordination Center was created at the corporate level to help
the human resource departments of subsidiary companies optimize their work. The Center helps
human resources directors find promising employees. The Center is also creating a ”personnel
reserve,” which is a database of future leaders and innovative managers. This greatly simplifies the
recruitment of employees for the corporation's business areas.

Sistema's new project, the ”Leadership Program for the Employee Reserve,” is directed at fostering
future leaders. Participants in the program undertake training abroad, test their knowledge through
internships and receive professional consultation in career planning. Through these types of pro-
grams, the corporation is creating a new generation of leaders able to work effectively in high tech-
nology businesses.

In order to develop the potential of its employees, Sistema conducts regular reviews which serve to
set goals and aid career planning. The review process also ensures employee feedback and creates a
transparent process for evaluating personnel.

The constant development of qualifications is a key factor in increasing the value of the human cap-
ital of the corporation. For the last five years, the corporation has run the Educational and
Methodology Center. The majority of business areas have their own educational centers. In mid-
2006, Sistema signed a long-term agreement with the Lomonosov Moscow State University to create
a Faculty for Innovative Business.

In 2005, the corporation launched a program to provide grants for young scientists. Sistema has cre-
ated committees of young scientists and specialists on the enterprise level. This helps the corpora-
tion find the optimal way to divide management and scientific resources between business areas.

Sistema's human resource policy on the corporate and subsidiary level aims to challenge every
employee to make full use of their talents and professional qualities to achieve the corporation's
goals. Sistema carefully defines what is expected from employees while offering a comprehensive
and specific program that provides opportunities for managers and employees to access training and
continuing education programs to improve their professional qualifications. Other benefits, includ-
ing provision of medical insurance and private pension contributions, allow employees to pursue
their ambitions while feeling secure about their future.

In 2005, Sistema continued to develop its motivational option programs for employees. These pro-
grams exist for managers of the corporation itself as well as in business areas, including MTS and
SITRONICS. In mid–2006, Comstar-UTS developed an option scheme for managers that is unprece-
dented in its scope.

Effective Management
of Human Capital
is the Foundation for
Sistema’s Succes

ANNUAL REPORT / 2005

Strategy

EVENT OF THE YEAR
Sistema’s IPO on the London Stock Exchange remains the largest ever Russian
placement to date
On February 9, 2005, Sistema completed the initial public offering (IPO) on the London Stock
Exchange of 16.5% of its shares in the form of global depositary receipts (GDRs). The IPO book was
2.6 times oversubscribed and raised $1.35 billion. Following the exercise of an overallotment or
”greenshoe” option by the global coordinators of the offering, Credit Suisse First Boston and Morgan
Stanley, the total free float of the corporation's shares reached 19%, and the total funds raised were
$1.56 billion. Sistema's GDRs are listed under the symbol ”SSA.”

The IPO was the largest such transaction by a Russian company in history and valued the corpora-
tion at $8.2 billion. The IPO’s success provided an endorsement of Sistema's diversified, consumer-
oriented businesses by the global investment community. It also silenced skeptics who believed that
Russia's investment potential was largely limited to oil, gas and mineral extraction. Going forward,
the share price of Sistema's GDRs provide a continuing outside assessment of the corporation's per-
formance and outlook.

In the 15 months between Sistema's IPO and the publication of the Corporation's Financial and
Operational Results for the year ending December 31, 2005, the market capitalization of the compa-
ny grew by 40% from $8.2 billion to $11.4 billion.

The IPO marked Sistema's successful transition from a privately held corporation to a public one with
a global shareholder base. But the listing also validated a strategy put in place many years before,
aimed at preparing the company to meet the strict disclosure requirements necessary to access glob-
al debt and equity markets to provide finance growth. These steps included the preparation of con-
solidated, US GAAP accounts starting in 1997 and the publication of the company's list of share-
holders in 2001. The company's transparency allowed Sistema to issue its first Eurobond worth $350
million in April 2003 and a second Eurobond in January 2004, also worth $350 million.

The successful IPO of Sistema has started a new chapter in the history of the corporation. The pro-
ceeds of the offering provide Sistema with funds for carefully selected mergers and acquisitions.
These deals aim to strengthen each of Sistema's core business areas. Other acquisitions provide
short- to medium-term opportunities to increase the value of shareholder funds while the corpora-
tion prepares for possible future large acquisitions, such as the privatization of the Svyazinvest
holding of regional fixed-line companies.

The IPO also confirms Sistema's status as a truly global player. While Russia and the CIS will remain
the central focus of the activities of Sistema and its subsidiaries, the corporation's strategy also
envisions further expansion of its presence abroad. Sistema, a publicly traded company with a glob-
al investor base, has increased its profile on the global stage. As an internationally listed corpora-
tion, Sistema's history, accounts and strategy are available for global business and government part-
ners to see.

Sistema's presence in the global capital markets continued to expand in 2006. In early February, the
corporation's fixed-line subsidiary Comstar-UTS raised $1 billion in an IPO on the London Stock
Exchange. It was the second largest IPO ever of a Russian company on this trading platform.

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

SISTEMA

At the end of February 2006, another high technology subsidiary of the corporation, SITRONICS,
issued a $200 million Eurobond. These transactions allow the corporation's subsidiaries to raise
funds to finance their own growth and benefit from strong demand on behalf of global investors for
exposure to fast-growing consumer markets in Russia and the CIS.

Event of the Year

Sistema has also linked its future to dynamically developing financial markets in Russia. The corpo-
ration was included in the ”B” List of the Moscow Stock Exchange (MSE) in November 2004 under
the symbol ”SIST.” Sistema's shares are also included in the ”B” list of the Russian Trading System
(RTS) under the symbol ”AFKS”. The trading of ordinary shares on Russian exchanges has enhanced
the liquidity of Sistema's shares.

Sistema's successful IPO has also provided new challenges for the corporation. The obligations
placed on publicly listed companies continue to evolve. Sistema takes part in a continuous dialogue
with the global investment community. The corporation's top management regularly meets with
investors and brokerage analysts and these discussions provide an invaluable opportunity to share
knowledge and experience.

The IPO challenges Sistema and each subsidiary to meet and exceed their goals over the short-,
medium- and long-term. As a publicly listed corporation, Sistema's performance is judged by the
global investment community in comparison to other leading global players in the technology and
consumer services sector.

ANNUAL REPORT / 2005

Strategy

TARGETS AND GOALS
A careful balancing of quantitative and qualitative targets and goals allows Sistema to efficiently plan
the development of the corporation.

Quantitative Targets
The corporation provides precise quantitative and qualitative targets and goals for each business area
and for each employee. The use of key performance indicators (KPIs) provides personnel with a clear-
cut understanding of what the corporation expects of them. Sistema undertakes constant monitor-
ing of the performance of the corporation as a whole, as well as the activity of each business area.

For its business units, Sistema uses a measure of performance called the Criteria Base. This system
consists of key efficiency indicators that measure the performance of each business unit. These indi-
cators allow the corporation to evaluate how each business unit is progressing toward meeting its tar-
gets and goals. These indicators provide detailed measures of the efficiency and growth dynamic in
each business area.

Along with the Criteria Base, the activity of the corporation is regulated by the budget, which is the
fundamental element of yearly planning. Quantitative goals placed before the business areas are for-
mulated against the most aggressive scenario of development: only in this way is it possible to main-
tain leadership in fast-growing, highly competitive consumer markets.

Quantitative Goals
Diversification
The corporation's goal is to grow the share of non-telecommunications assets in aggregated revenue,
OIBDA and profit. Significant progress was made in certain business areas in 2005. The Technology
area represented 12.7% of total revenues in 2005, compared to 8.7% in 2004. Retail increased its share
year-on-year from 1.4% to 2.7%. This diversification allows greater exposure to fast-growth markets
and limits the impact of any future negative developments in the telecommunications segment.

Predictable cash flows
Sistema's cash flows have been difficult to predict as the corporation has entered fast-growing mar-
kets. However, in the last three years, the corporation has undertaken asset restructuring and M&A
activity that now permits the prediction of the contribution from each business area with a high
degree of precision.

Financial stability
Sistema's long-term financial stability is built on prudent financial management and tight limits on
level of debt. Due to this policy, Sistema has acquired the ability to raise financing on the most attrac-
tive terms.

Leadership
Sistema’s mission is the development of market-leading businesses. The corporation has undisputed
leadership in its key Telecommunications, Technology, Insurance and Retail business areas. The goal
of the corporation is for each remaining business area to achieve leadership in its respective market.

Corporate culture
The corporation fosters a team-based management culture where key executives share agreed tech-
niques and methodology.

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

SISTEMA

RISKS
The consumer sectors of Russia and the CIS, where the corporation conducts its core business, have
grown impressively in recent years. Nonetheless, the sector carries with it substantial risks that may
affect the pace of development at the corporation's subsidiaries. Therefore, the evaluation and man-
agement of these risks is an important element in the strategy of Sistema. This approach allowed
Sistema to endure the 1998 Russian financial crisis with minimal losses.

Risks

The risks which could affect the corporation's business are diverse. These risks reflect the emergence
of processes and factors beyond the control of Sistema.

A Slowing in Russian Growth Rates
GDP growth rates in Russia and the CIS significantly outpace those in the US and Western Europe.
High oil prices on international markets continue to be the largest single factor fuelling Russia's cur-
rent economic growth. This growth has led to higher real and disposable spending power among
Russian consumers and driven demand for the services provided by Sistema's subsidiaries. A substan-
tial fall in world oil prices could cause economic growth to falter. The subsequent drop in consumer
spending power could have a negative impact on the corporation's activities.

Economic Stability in the CIS
As the share of revenues generated by Sistema's activities in the CIS increases, the corporation is also
exposed to economic risks in these markets. Market reforms in these countries have been carried out
to varying degrees and, like Russia, several CIS economies are exposed to the risk of a decline in world
prices for oil and gas.

Political Risks
Russia still has a number of political groups that do not share the current government's approach to
the market economy and current reforms. Should those groups be able to wield greater influence over
government policy, this could pose a risk to the economy and the status of private-sector companies.
Similar risks exist in other CIS markets.

Exchange Rate Risks
Sistema faces exchange rate risks linked to changes in the value of the ruble, as well as the hryvnia
and the euro, to the US dollar. As a result of inflation in Russia and other markets where it operates,
the corporation links its monetary assets and transactions to the US dollar. Also, a significant share
of the corporation's capital expenditures and operating and borrowing costs are dominated in US dol-
lars. In Russia and Ukraine, many of the corporation's services are priced in US dollar equivalents.

Interest Rate and Other Borrowing Risks
Future changes in interest rates in Russia could substantially alter the cost of loans and raising addi-
tional capital. Sistema has a number of capital intensive businesses, and therefore changes in the cost
of borrowing could have a negative impact on the corporation. Also, if Russia's sovereign debt rating
were lowered, the corporate debt ratings of Sistema could be affected, making borrowing in interna-
tional debt markets more costly.

Investors, partners and other interested persons should consult detailed risk summaries for Sistema
contained in the Management's Discussion and Analysis of Financial Condition and Results of
Operations.

ANNUAL REPORT / 2005

2CORPORATE

GOVERNANCE

SISTEMA

The status of public
company requires
Sistema to observe
global standards of
corporate governance.

ANNUAL REPORT / 2005

Corporate Governance

STRUCTURE OF CORPORATE GOVERNANCE

Shareholders

General Meeting
of Shareholders

Strategy Committee

Corporate Governance
Committee

Secretariat of the
Board of Directors,
Corporate Secretary

Chairman of the
Board of Directors

Nominations and Compensation
Committee

President

Audit Committee

Investor Relations Committee

Finance and Investments
Committee

Budget Commission

Strategy & Development
Complex

Finance and Investments
Complex

Property Complex

External Communications
Complex

Economic and Information
Security Complex

Science and Innovation
Complex

Legal Department

Corporate Accountant

Department for Internal
Control and Audit

Administrative Department

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

SISTEMA

Sistema's structure of corporate governance is constantly evolving. As the section on ”Principles of
Corporate Governance” demonstrates, innovation is integral to ensuring the corporation continues
to be a leader in the field of corporate governance, business transparency and disclosure about the
activity of the corporation. The Board of Directors believed it was vital to codify the essential prin-
ciples of governance of the corporation and its structure in the Code of Corporate Governance and
the Corporate Charter. This ensures that the corporation will continue to observe the highest stan-
dards of governance, as managers make decisions in accordance with prescribed rules.

The Code of Corporate Governance was approved by the Board of Directors in July 2004. This Code
does not contain general formulas and general ideas. Rather, it concretely and clearly formulates
the highest ethical requirements that the corporation has taken upon itself in its dealings with its
shareholders, managers, personnel and other key audiences. The full text of the Code is available,
along with other key normative documents, in English at www.sistema.com.

Sistema has developed and confirmed at the Board of Directors level the rules that establish a basis
for all management bodies, including the Annual and Extraordinary General Meetings of
Shareholders, the Board of Directors, President, Executive Management and the Audit Commission.
In addition, there are clear regulations in effect governing information disclosure, dividend policies,
procedures for internal control, the composition of Board-level committees, procedures for meetings
of the Board of Directors, management of risks, incentives for managers, procedures for the prepara-
tion and contracting of large transactions and corporate events.

The Board of Directors, subordinate to the General Meeting of Shareholders, is the key element in the
corporation's corporate governance system. It carries out five primary management functions: the
definition of the corporation's development strategy; placing these goals before executive manage-
ment and ensuring their execution; the efficient management of assets; the appointment of key
managers; and the continued improvement of corporate governance.

The development strategy consists of concrete tasks in accordance with precise quantitative and qual-
itative goals. For example, the corporation's portfolio strategy consists of a detailed list of business
areas and ratios which clearly define their level of diversification. The strategic goals of financial man-
agement goals are accompanied by qualitative indicators that characterize financial stability.

There is a list of senior management positions in the corporation and subsidiary companies that
requires the approval of the Board of Directors in order to receive the appointment.

The Board of Directors closely follows the results of all of Sistema's business areas while also over-
seeing their internal control and audit functions.

Five committees exist on the Board of Director level for addressing key issues affecting the corpora-
tion's development. These committees are: Strategy and Development, Audit, Appointments and
Compensation, Corporate Governance and Investor Relations. The Committee for Investor Relations
was established in 2005. Its creation reflects the efforts of the corporation to constantly improve
the norms and procedures of corporate governance.

Information disclosure is another primary value for Sistema. The corporation aims to disclose infor-
mation about its activities in a regular and timely manner to all of its stakeholders. The corpora-
tion's websites (in both English and Russian) provide the company’s latest operational and financial
news releases, as well as comprehensive details about the management of the company. At the same
time they are posted on the site, news releases are simultaneously disclosed in English and Russian

Structure of
Corporate Governance

ANNUAL REPORT / 2005

Corporate Governance

via the main news information systems and other disclosure systems mandated by stock exchange
listing rules. In addition, the corporation aims to ensure that it makes all necessary filings with the
relevant organizations regulating the securities markets.

As a result of the IPO on the London Stock Exchange in February 2005, Sistema has acquired a large
number of new shareholders in different countries around the world. Because of this, issues of inter-
action with shareholders have required ever greater attention from the corporation. The corporation
aims to create conditions that are conducive for shareholder participation in the management of the
company. The corporation uses specialized international and domestic agencies to research the com-
position and structure of its shareholder base. This allows the corporation to find new ways to keep
shareholders informed of the latest developments and is especially important for providing com-
plete information about issues on the agenda of Annual General Meetings. Also, during regular
investor ”roadshows” following results announcements, management has the opportunity to meet
with a number of investors. These meetings are another important way of ensuring continued dia-
logue between management and current and potential investors.

The dividend policy of the corporation is coordinated with the investment policy so that sharehold-
ers can extract maximum profit from increases in the value of the company while Sistema and its
businesses are provided with long-term investment.

In 2005, Sistema's Board of Directors approved an Ethical Code which supplements and provides fur-
ther clarification of the rules described in the Code of Corporate Governance. The corporation is con-
stantly improving its governance structure in accordance with new goals that appear before the
business. But the basic principles and values of its fundamental documents are intrinsic parts of
Sistema's success story and they will not change.

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

SISTEMA

PRINCIPLES OF CORPORATE GOVERNANCE
The structure of Sistema's corporate governance, described in the previous section, is defined by the
company's charter. But the fundamental principle of corporate governance at Sistema is innovation.
Corporate governance is not a static concept. Rather, it evolves along with legislation and is led by
the expectations of the Russian and international investment community and changes in Russian
legislation. Sistema is committed to transparency and continually improving communications with
its investors. Innovation also means regular changes in personnel on both the Board of Directors and
in executive management to bring in fresh ideas and practices.

Innovation in corporate governance means that the requirements the corporation sets for itself will
always be stricter than accepted practice. Sistema's goal is to set an example for other companies in
its field. Corporate governance became an area of considerable attention in the Russian business
world about five years ago. Even then, Sistema was a leader in many areas according to many param-
eters. The corporation introduced high standards of corporate governance in advance of accessing
international financial markets. But the main factor was the belief among Sistema's leaders that
adherence to the standards of civilized corporate governance increased the efficiency of the com-
pany. Openness allowed shareholders, business partners, regulators and employees to offer feed-
back. This process in turn led to a productive exchange of views which drove further improvements
in the structure of governance.

Following the principles of transparency in conducting business, the corporation has prepared con-
solidated financial reporting according to US GAAP standards since 1997. These accounts are audit-
ed by one of the leading international accounting firms, Deloitte & Touche. In 1997, Sistema also
appointed its first independent director. In 2001, the Board of Directors created its first oversight
committee. The Committee for Strategic Development was required because of the corporation's
rapid rate of growth. In 2002, the corporation disclosed the names of its main shareholders. In 2003,
Sistema created an International Advisory Council at the Board level, in recognition of the fact that
the corporation’s innovative business would lead it to develop actively beyond Russia's borders.

All of these moves would eventually be required for the corporation's IPO. Putting these elements
into place long before they were required by Russian legislation built trust in the corporation among
potential investors and regulators. It also made the preparation for the IPO much more straightfor-
ward and required less time. Sistema's efforts in improving its corporate governance received recog-
nition at the beginning of 2005 when the Russian Institute of Directors and Expert RA assigned
Sistema a national rating of ”B++.” At the end of 2005, the corporation's rating was reviewed and
raised to the level ”A.”

In 2005 and 2006, the Board of Directors appointed two new independent directors. In June 2005,
Ron Sommer was appointed. He formerly served as Chairman of the Board of Deutsche Telekom,
which was a shareholder of Sistema's Mobile TeleSystems subsidiary. Mr. Sommer brings invaluable
experience in running a global telecommunications business as well as considerable experience in
Russia. Stephan Newhouse, a former president of Morgan Stanley, joined the Board of Directors later
that year. Mr. Newhouse brings the very highest level of expertise in preparing, structuring and exe-
cuting large, cross-border transactions, as well as profound expertise in financial management.

In 2006, Sistema implemented a number of important management changes. These changes reflect
the corporation's long-standing practice of appointing and rotating key executives when the com-
pany enters a new stage of development.

Principles of Corporate
Governance

ANNUAL REPORT / 2005

Corporate Governance

In February 2006, Vladimir Evtushenkov, who had served as President of the corporation, was elect-
ed Chairman of the Board of Directors. Alexander Goncharuk, who served as President of Sistema
Telecom and the CEO of SITRONICS from 2003 to 2006, was appointed President of Sistema. In addi-
tion, the corporation undertook a number of major appointments in strategic business areas. Sergey
Shchebetov was appointed CEO of Sistema Telecom. Alexander Gorbunov was appointed Acting First
Vice-President, Head of Strategy and Development of Sistema. Evgeny Utkin was appointed CEO of
SITRONICS and Mikhail Dunaev was appointed CEO of Sistema Mass Media.

In April 2006, Mobile TeleSystems appointed Leonid Melamed as MTS' acting President and CEO.
Mr. Melamed previously served as General Director of the ROSNO Insurance Group. He has been replaced
in that role by Levan Vasadze, previously First Vice President and Head of Strategy and Development at
Sistema. Vsevolod Rozanov, who previously served as Chief Financial Officer of Comstar-UTS, was moved
over to the same post at MTS. In July 2006, Maxim Entyakov took the post of CEO of Detsky Mir Center.

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

SISTEMA

Credit Ratings

CREDIT RATINGS
Sistema conducts a policy of prudent financial management at both the corporate and subsidiary
level. This policy ensures the long-term financial stability of the corporation. Such stability is meas-
ured by the main international ratings agencies and these ratings play a major role in the corpora-
tion's ability to obtain external financing. Ratings agencies consider a number of key factors in
determining the financial stability of the corporation, including total debt, current obligations,
existing liquidity and future liquidity needs and cash flow. Ratings may also be viewed as an out-
side evaluation of the corporation's overall strategy and its position versus its rivals in core business
areas. Ratings also take into account corporate governance structures in place and protection for
minority shareholders.

The following credit ratings had been assigned as of the end of June 2006 for the corporation:

Issuer

Sistema
Sistema
Sistema

Ratings Agency

Date Assigned

Rating

Outlook

S&P
Fitch
Moody's

24 March 2005
28 April 2006
19 November 2003

ВВ-
В+
В1

Stable
Positive
Stable

In addition, the credit ratings of subsidiary companies also play a major role. They reflect an assess-
ment of the creditworthiness of a subsidiary and the ability of each subsidiary to raise capital.

Issuer

MTS
MTS
SITRONICS
SITRONICS
MGTS
MGTS
МBRD
MBRD

Ratings Agency

Date Assigned

Rating

Outlook

Moody's
S&P
Fitch
Moody's
S&P
Moody's
Moody's
Fitch

10 November 2001
24 March 2005
14 February 2006
16 February 2006
24 March 2005
20 January 2006
15 December 2004
14 April 2006

Ba3
ВВ-
В-
В3
ВВ-
Ba3
В1
В

Stable
Stable
Stable
Stable
Stable
Stable
Stable
Stable

ANNUAL REPORT / 2005

3CORPORATE

INFORMATION

SISTEMA

Transparency in
ownership structure
and governance is
a foundation of our
business.

ANNUAL REPORT / 2005

Corporate
Information

GENERAL INFORMATION
Sistema Joint Stock Financial Corporation was registered at the Moscow Registration Chamber on
July 16, 1993. The corporation is registered at Prechistenka Street 17/8/9, Building 1, Moscow,
119034, Russian Federation.

The charter capital of the corporation is 868,500,000 rubles and consists of 9,650,000 ordinary shares
with a nominal value of 90 rubles.

Sistema's shares are listed on the London Stock Exchange in the form of global depositary receipts
(GDRs) under the symbol ”SSA.” Fifty GDRs represent one ordinary share.

Sistema's shares are included in the ”B” List of the Russian Trading System, under the symbol
”AFKS.” In 2004, Sistema's shares were also included in the ”B” list of the Moscow Stock Exchange
(MSE) under the ticker ”SIST.”

As of the end of 2005, a number of debt obligations issued by subsidiaries of the corporation traded
on the financial market:

Currency

Annual interest rate
(Actual as of December 31, 2005)

($, thousands)

2005

2004

Sistema Capital Notes
Sistema Finance Notes
MTS Finance Notes due 2012
MTS Finance Notes due 2010
MTS Finance Notes due 2008
MBRD Bonds
MGTS Bonds
Detsky Mir Center Bonds
Micron Bonds

Total Corporate Bonds

USD
USD
USD
USD
USD
USD
RUR
RUR
RUR

8.9%
10.3%
8%
8.4%
9.8%
8.6%
8.3%–10.0%
8.5%
–

350,000
350,000
349,285
348,808
399,052 –
400,000
400,000
400,000
400,000
150,000
–
90,094
104,230
39,954
–
6,293
–

2,192,521

1,595,195

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

SISTEMA

SHAREHOLDER STRUCTURE
The graph presented below indicates the shareholding structure of Sistema as of March 30, 2006.
At that time, the corporation had 30 registered shareholders, including 25 direct owners and 5 nom-
inees. The identities of the corporation's GDR holders are generally not reported to the corporation.
However, the corporation undertakes a regular procedure of researching the identity of its share-
holders. This allows Sistema to provide as much information as possible to the largest number of
shareholders.

Shareholder Structure

4.4% Others

19% GDR holders

2.1% Zelnik Holdings Limited
0.2% S. Drozdov
2% A. Goncharuk

3% E. Novitsky

V. Evtushenkov 62.1%

V. Kopiev 0.1%
D. Zubov 1.3%

A. Gorbatovsky 2.4%

A. Leiviman 3.4%

ANNUAL REPORT / 2005

Corporate
Information

SHARE PRICE PERFORMANCE
On February 9, 2005, Sistema completed the initial public offering (IPO) on the London Stock Exchange of
16.5% of its shares in the form of 79.6 million global depositary receipts (GDRs). The IPO book was 2.6 times
oversubscribed and raised $1.35 billion. Sistema's GDRs are listed on the London Stock Exchange under the
symbol ”SSA.” Fifty GDRs represent one ordinary share.

Following the exercise of an overallotment option by Credit Suisse First Boston and Morgan Stanley, the
global coordinators of the offering, for the sale of 11,945,000 additional shares, or an additional 2.5% of
Sistema's shares, the total free float of the corporation's shares reached 19%, and the total funds raised were
$1.56 billion.

Previously, in October 2004, the Russian Federal Securities Market Commission had approved the inclusion
of Sistema's ordinary shares on the quoted lists of the RTS and the Moscow Stock Exchange (MSE). Sistema's
shares were included in the ”B” List of the Russian Trading System at the end of October, under the symbol
”AFKS.” In November 2004, Sistema's shares were included in the ”B” list of the Moscow Stock Exchange
(MSE) under the ticker ”SIST.” Until mid–2005, however, trading liquidity was relatively limited on Russian
exchanges. Following the start of active trading in June 2005, Sistema's ordinary shares were included in
the MSE index.

In May 2005, Morgan Stanley Capital Investment (MSCI), a leading investor in international capital markets
and provider of financial market ratings, announced the inclusion of Sistema's GDRs and Mobile
TeleSystems's American depositary receipts (ADRs) in its index.

On February 9, 2005, the first day of trading, Sistema's GDRs shares closed at $17.45. On the last day of trad-
ing of the year, the shares closed at $23.50. The shares reached a yearly high of $26.75 on October 4, 2005.
The shares followed a strong upward dynamic over the course of the year, linked to both the company's per-
formance and broader optimism about the Russian economy. Sistema, as one of the few internationally list-
ed Russian consumer sector entities, has seen its share price fluctuate in response to broader political and
economic news regarding the country.

The corporation is covered by analysts from a number of Russian and international investment banks. A list
of covering analysts, including contact details, is published on www.sistema.com and regularly updated.

Sistema GDR price performance

01.05

02.05

03.05 04.05 05.05 06.05 07.05 08.05 09.05 10.05 11.05 12.05

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

SISTEMA

ASSET STRUCTURE
The table below outlines Sistema's participation in the capital of its largest subsidiary and affiliated
structures and its voting interests as of December 31, 2005. The corporation's asset structure has
changed significantly in recent years in line with Sistema's strategy of restructuring and consolidating
its ownership in key subsidiaries. The table reflects the completion of restructuring at SITRONICS in the
Technology segment at the end of 2005. It should be noted that Sistema's beneficial ownership and vot-
ing interest in Comstar-UTS, following the IPO of Comstar-UTS on the London Stock Exchange in
February 2006, fell to 59%.

Asset Structure

Segment

Main Business Areas
Telecommunications

Technology
Insurance
Banking

Real Estate
Retail

Media
Tourism
Radio and Space Technology
Other Businesses
Pharmaceuticals
and Biotechnology
Medical Services
Financial Investments
Oil Business

Company

Beneficial
Ownership

Voting
Interest

MTS and subsidiaries
Comstar-UTS and subsidiaries
Sky Link
MTT
SITRONICS and subsidiaries
ROSNO and subsidiaries
MBRD
East-West United Bank
Sistema-Hals and subsidiaries
Detsky Mir
Detsky Mir Center and subsidiaries
Sistema Mass Media and subsidiaries
Intourist and subsidiaries
RTI Systems and subsidiaries

Medical Technological Holding

MEDSI

Bashneft
Ufimsky NPZ
Novoil
Ufaneftekhim
Ufaorgsintez
Bashnefteproduct

53%
100%
50%
43%
78%
49%
95%
49%
100%
75%
100%
100%
72%
100%

67%

69%

21%
22%
26%
18%
22%
17%

53%
100%
50%
50%
78%
51%
99%
49%
100%
75%
100%
100%
72%
100%

67%

74%

25%
26%
28%
22%
25%
19%

ANNUAL REPORT / 2005

4SOCIAL

RESPONSIBILITY

SISTEMA

We see the creation of a
new quality of life as our
responsibility to society.

ANNUAL REPORT / 2005

Social Responsibility

PRINCIPLES OF SOCIAL RESPONSIBILITY
The principles of social responsibility are central to Sistema's business. This year, the corporation is
publishing its first-ever comprehensive Social Responsibility Report. This section represents a brief
overview of Sistema's important ongoing work in this area.

We believe that the most effective social investment depends on the harmonious combination of the
interests of business and society. Sistema links its social activities with the goals of the corporation,
its mission and business strategy. The main social programs of Sistema rely on technological leader-
ship and are directed toward the creation of a new quality of life.

We invest resources in science-led projects and invest funds in science and education, innovative
structures and the introduction of new technologies. The activity of the corporation enables the
transition of the Russian economy from one based on raw materials to one based on services. This
leads to qualitative changes in the standard of living for society as a whole and for each citizen.

Consequently, Sistema integrates the principles of corporate social responsibility into its practices.
Sistema understands corporate social responsibility as its position on a range of economic and social
issues facing Russia and the world today. Social responsibility, in the broadest understanding of the
term, means fulfilling obligations before its customers, business partners, employees and the citi-
zens of the towns, regions and countries where the corporation does business.

Social responsibility toward employees means, in particular, providing them with additional bene-
fits. Voluntary pension contributions and medical insurance provide employees and their families
with faith in the future. The responsibility of the corporation to its partners is reflected in the
observance of the highest principles of business ethics. Working with Sistema, representatives of the
international business and investment communities see a Russian partner demonstrating the high-
est levels of business conduct.

The corporation takes the impact of its activities on the surrounding communities and environment
into account and is constantly working on appropriate procedures to deal with these aspects of its
business. Sistema is convinced that new technology is crucial in dealing with the many issues sur-
rounding Russia's economic growth in an efficient and ecologically friendly way. The creation of effi-
cient Russian technologies also creates the opportunity to develop new industries and export the
country's know-how.

At Sistema, particular attention is paid to supporting education and scientific research in Russia.
This is part of the company's strategy for developing innovation. The activities of the corporation
contribute to the diversification of the Russian economy and reduce dependence on the oil and gas
sectors. Sistema is working in cooperation with government and charitable and private-sector
organizations to create an environment for innovation and to ensure Russia's participation in glob-
al technological development. At the corporate level, this means an increase in the number of
skilled workers as well as the introduction of technologies that will create new businesses and con-
sumer markets for Sistema's products.

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

SISTEMA

Sistema has adopted internationally recognized principles of sustainable development and corporate
social responsibility and integrates them into its business practices. In 2002, the corporation became
one of the first companies in Russia to sign the Global Compact of the United Nations (UN-GC).

Principles of Social
Responsibility

In 2003, Sistema joined the World Business Council for Sustainable Development (WBCSD). As with
other WBCSD members, the corporation has committed itself to maintain a high level of transparen-
cy and responsibility in all aspects of its business. Within Russia, Sistema works in partnership with
government bodies to develop procedures and standards in a range of areas, from human resources
to providing a helping hand to the less fortunate.

The directors and management of Sistema invite readers to read carefully through the corporation's
Social Responsibility Report to learn more about the company's strategy in this area, its achieve-
ments in 2005 and its plans for the future.

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ANNUAL REPORT / 2005

5BUSINESSES

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SISTEMA

The core assets of
Sistema are concentrated
in dynamically
developing sectors
of the economy.

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ANNUAL REPORT / 2005

Businesses

DYNAMIC
The consolidated revenues
of the Sistema Telecom
business area grew by 27.6%
to $5.89 billion in 2005,
outpacing the market for
the fifth year in a row.

MTS remains number one
mobile telephony provider
in Russia and the CIS. Its
number of subscribers grew
by 24 million in 2005.

FOCUS OF THE YEAR
Comstar UTS concluded the
consolidation of assets and
occupied the leading position
in the fixed-line market.

Sergey Schebetov

CEO, Sistema Telecom

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SISTEMA

TELECOMMUNICATIONS
Marketplace
The telecommunications market remains one of the most dynamic sectors in the Russian economy.
The sector's significant growth potential is apparent in all key sectors of the telecommunications busi-
ness. For example, Russian mobile telephony penetration in 2005 stood at 78% compared to 96%
in Western Europe. Fixed-line penetration was 24% compared to the Western European level of 47%.
Internet penetration stood at just 8% compared to 52% in Western Europe and broadband penetration
was 2% compared to 29%1.

According to data from the Russian Ministry of Information Technologies and Communications, the total
volume of the Russian telecommunications market grew 24% in 2005 to $23.3 billion. Markets in the
CIS countries are also creating new prospects for development in an environment of rapid economic
growth and relatively low penetration of telephony services. However, the market continues to see
strong competition in both the wireless and fixed-line sectors and continuous innovation is required
to win and retain market leadership.

Business
Sistema's strategy is focused on long-term leadership in the telecommunications market. Sistema
Telecom, the management company in the Telecommunications business area, is developing busi-
nesses in all of the main segments of the communications market: fixed and mobile telephony,
internet, data exchange and transit traffic.

Wireless Communications
Mobile TeleSystems (MTS) is Sistema's largest asset in the wireless communications market and the
leading cellular operator in Eastern Europe. MTS is one of the top-10 companies in the world in terms
of subscriber numbers. The company is present in Russia (its share in value terms is 35%2)
Turkmenistan, Ukraine and Uzbekistan. At the end of 2005, MTS had a consolidated subscriber base
of 58.2 million, 24 million of which were new subscribers added during 2005. 17.7 million of these
subscribers were added in Russia.

Sistema is MTS's largest shareholder, with 52.8% of its shares. The company is listed on the New York
Stock Exchange and has a freefloat of 46.7% of its shares. Deutsche Telekom, formerly one of the
largest shareholders of the company, sold its remaining 10.1% shareholding in 2005. The move has
enhanced the liquidity of MTS's shares in Russia.

Fixed-Line
Comstar-UTS is Sistema Telecom's integrated holding which manages the fixed-line business area
of Sistema. In addition, following the merger of a number of Moscow-based alternative fixed-line
operators controlled by Sistema, these carriers now operate under the Comstar-UTS brand.

At the end of 2005, Sistema restructured its assets in the fixed-line segment. As a result of this
restructuring, Comstar-UTS gained a controlling stake in Moscow City Telephone Network (MGTS)
and MTU Intel. Following the restructuring, Comstar-UTS became the market leader in the fixed-line
segment, providing a full range of telecommunications services. MGTS provides fixed-line services

1 Source: Pyramid research; mobile and fixed-line figures for September 2005, Internet and broadband figures for 1H 2005
2 Source: AK&M, as of end of Q3 2005

Telecommunications

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ANNUAL REPORT / 2005

Businesses

and a line of high-value residential services is being developed under the Stream brand and Comstar-UTS
services corporate clients.

MGTS is the largest operator in Moscow with a number capacity of more than 4.3 million. It is one
of the largest fixed-line operators in Europe. The company operates in an environment of regulated
tariffs (which grew 17% in 2005) and MGTS is continually upgrading its network infrastructure.

MTU-Intel is a provider of broadband multi-service networks and pay TV. The broadband internet
access business has more than 283,000 clients and 14,000 television subscribers. The company
launched an in-house entertainment offering under the Stream brand in mid–2005, with more than
100 television channels, pay-per-view, gaming and other options.

Results
Consolidated revenues in the Telecommunications segment grew by 27.6% to $5.89 billion in 2005.
The level of sales growth outpaced the overall rate of the telecommunications market for the fifth
year in a row. To further strengthen this capacity, the corporation undertook a wide-scale restruc-
turing of its fixed-line assets, turning Comstar-UTS into the market leader. The restructuring
allowed Comstar-UTS to undertake a successful initial public offering on the London Stock Exchange
in February 2006, raising $1 billion for the further development of the company.

At MTS, dynamic revenue and earnings growth, international expansion and maintenance of market
share were accompanied by ongoing restructuring aimed at buying out minority shareholders in sub-
sidiaries and transformation of subsidiaries into affiliates.

MTS was the primary contributor to revenue growth in the Telecommunications segment of Sistema.
Subscriber growth in Russia and the CIS was the main revenue driver. Total subscriber numbers grew
from 34.2 million at the end of 2004 to 58.2 million at the end 2005. MTS's consolidated revenues
increased by 28% year-on-year to $5.01 billion, compared to $3.92 billion in 2004. Net income
increased by 14% to $1.13 billion in 2005. In May 2005, the company announced a dividend recom-
mendation of 5.75 rubles per ordinary share (approximately $1.03 per ADR) or approximately 40%
of its 2004 net profit under US GAAP.

Comstar-UTS's consolidated revenues increased by 31% year-on-year to $907.6 million for the full
year, compared to $695.1 million in 2004. This growth was primarily organic, with businesses
acquired during the year contributing $32.6 million to revenues in 2005. Net income increased by
39% year-on-year to $105.9 million. At the end of 2005, Comstar-UTS had a 28.6% share of the
Moscow telecom market, serving 4.8 million lines and 41% of the Moscow residential broadband
market.

The corporation sees the growth of the share of non-telecommunications assets as a long-term strat-
egy. However, in order to diversify exposure to a range of fast-growth consumer segments, the
Telecommunications business area remains a vital part of the corporation. The segment's share of
the corporation's aggregated revenues decreased to 77.6% in 2005 from 80.5% in 2004. This was due
to accelerated organic growth and significant acquisitions in other business areas.

The accomplishments of 2005 and early 2006 set the stage for the rollout of a new brand identity
uniting Sistema's telecommunications businesses. The new brand is aimed at all target audiences,
including clients, employees and investors. The graphic symbol of the brand is an egg, symbolizing
unity and universality, hope, trust, growth and innovation. The brand is intended to create a single

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

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SISTEMA

face for the telecommunications area of Sistema and ensure that it is clearly identifiable in the mar-
ketplace. The brand should become a symbol of quality of service in the eyes of consumers, person-
nel and the investment community.

Telecommunications

Key Figures

Revenues

Revenues
$5,892.9 million

Operating Income
$1,933.3 million

Assets
$9,696.6 million

Employees1
47,500

Operating Income

3
.
3
3
9
1

3
.
0
3
6
1

2,000

1,000

3
.
3
0
1
1

9
.
2
9
8
5

7
.
6
1
6
4

6,000

4,000

2,000

6
.
7
4
2
3

FY 2003 FY 2004 FY 2005

Assets

10,000

5,000

7
.
4
0
2
5

7
.
6
9
6
9

3
.
6
8
1
7

FY 2003 FY 2004 FY 2005

1 Source: DirectInfo, Comstar-UTS

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ANNUAL REPORT / 2005

Businesses

DYNAMIC
Revenues in the Technology
business area increased by
93% year-on-year, reaching
$961.1 million.

FOCUS OF THE YEAR
The Technology business area
expanded its presence in the
global marketplace, with oper-
ations distributed across
Central and Eastern Europe.

SITRONICS consolidated its
ownership in key subsidiaries.

Evgeny Utkin

President, SITRONICS

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

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SISTEMA

TECHNOLOGY
Marketplace
Sistema's Technology business is represented by SITRONICS, which is decisively moving into fast-grow-
ing markets for high-tech products and solutions. During 2004 and 2005, these segments experienced
dynamic growth, demonstrating their considerable potential.

Technology

Telecommunications Equipment
The volume of the Russian market for telecommunications equipment was $3.35 billion in 2004,
according to research by consultancy J'son and Partners. This amount includes only equipment and
assemblies for telecommunications operators and excludes sales to other businesses and end users.
Sales of equipment to wireless communications providers accounted for 58% of the market and the
remainder was accounted for by sales of equipment for fixed-line and OSS/billing.

Information Technology
Russia's information technology (IT) market was estimated to have grown by 35.2% to $9.57 billion
in 2004, according to market research group IDC. IDC also estimates that the average annual growth
rate of the IT-services market will be 24.5% between 2005 and 2009, growing to $5.7 billion.

Microelectronic Components
The global market for microelectronics continues to recover from the sharp fall in sales in the sector seen
in 2001 and 2002. According to data collected by World Semiconductor Trade Statistics, the world market
for semi-conductors grew by 28% in 2004 to $213 billion, compared to $166 billion in 2003. Evaluations
published by Electronics Publishing House show that the Russian market for microelectronics continues
to outpace global growth rates, posting annual growth of 18% to 20%. The largest consumers of micro-
electronic components in the Russian market are producers of industrial electronics, communications
equipment makers and the defense industry.

Consumer electronics
International research and consulting company Strategy Analytics estimates that global demand for
flat-screen televisions increased by 66% to 17.5 million units in 2005. According to Russian research
group IT Research, sales of LCD televisions in Russia reached 102,800 units in Q2 2005 and 164,000 units
in Q3 2005, worth $102.2 million and $167.0 million in value terms respectively.

Sales of plasma televisions in Q2 2005 were 20,600 units and 35,000 units in Q3 2005, worth $72.9
million and $109.9 million in value terms respectively.

Looking at the market for GSM and CDMA devices, Russian market research company
RosBusinessConsulting estimates the Russian market was worth $5.5 billion in 2005. Marketing group
Sotovik calculates that the volume of the GSM market surpassed 36 million units in 2005, with a value
of $5.7 billion.

Business
SITRONICS’ goal is to become the largest high-technology enterprise in Russia, the CIS and Eastern
Europe. It seeks to do this through both organic growth and strategic mergers and acquisitions. The
optimal combination of these two tactics will strengthen its position in Russia while driving expansion
in international markets. In order to achieve its long-term goals, SITRONICS has concentrated its
efforts on four key business areas: the development of solutions for New Generation Networks (NGN)

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ANNUAL REPORT / 2005

Businesses

for telecommunications operators, systems integration, the production of smartcards and microchips
and the further development of its SITRONICS umbrella brand for consumer electronics.

The development of telecommunications hardware and software solutions takes place under the Strom
Telecom brand and it accounts for around 25% of sales in the Technology business of Sistema. The cor-
poration is developing this area further through acquisitions and strategic alliances with leading inter-
national equipment manufacturers. SITRONICS is also concentrating on the expansion of its sales
beyond Russia. The development of its products in Russia and Eastern Europe give it a major competi-
tive advantage due to lower production costs and proximity to consumers of service infrastructure.

SITRONICS's systems integration business is built around the base of the Ukrainian group Kvazar-Micro,
51% of which was acquired by the corporation in 2004. Kvazar-Micro has operations in several Central
and Eastern European countries. The company has solid potential for building strong market share in
the systems integration business in Russia, the CIS and Eastern Europe. SITRONICS aims to turn Kvazar-
Micro into the leading IT company in Central and Eastern Europe with a focus on high-margin services
such as systems integration and consulting.

The microelectronics division of SITRONICS is based in Zelenograd, where production capacity and
skilled engineering and technical personnel are concentrated. SITRONICS is strengthening its position
in the domestic market as a leading supplier of solutions for the defense industry and other sectors.
SITRONICS is strengthening its position in the Russian Smart-Card market, with the aim of diversifica-
tion of production and increasing profitability.

In the consumer electronics field, SITRONICS has made considerable progress in cutting production
costs and increasing the price competitiveness of its products. However, its business is not just about
cost competition and it continues to enhance its R&D capacity in this division. Strategic partnerships
with outside electronics producers provide another way to combine a competitive advantage in price
with leading-edge global technology.

Results
In 2005, corporation dramatically demonstrated its ability to restructure and integrate newly
acquired assets into an existing business to create a market leader in an innovation-driven business
environment. The Technology segment was one of Sistema's fastest growing business areas in 2005.
Revenues grew 92.8% year-on-year to $961.1 million in 2005 compared to $498.4 million in 2004
with OIBDA more than tripling year-on-year to $155.6 million.

Systems integration accounted for 49.1% of revenue in the Technology segment during 2005.
The volume of IT services rose 60.1% to $472.0 million in 2005 from $293.5 million a year earlier.
The Consumer Electronics subdivision saw turnover more than triple to $188.0 million in 2005 from
$51.6 million in 2004. The microelectronic solutions business reported 10.6% year-on-year revenue
growth to $59.6 million. Revenues from the info-communications business of SITRONICS grew
by 105.5% in 2005 and amounted to $246.6 million.

Outside of its core business areas, SITRONICS continued to develop its promising Integrated Security
Systems division. The division includes Videofon, which contributed $6.4 million in revenues to the
Technology segment.

During 2005, the corporation strengthened its ownership in key Technology divisions as part of its
strategy of buying out minority interests and strengthening vertical ownership and management
structures in its core businesses. Sistema increased its shareholding in Strom Telecom to 100% dur-
ing the year. Sistema also purchased a further 53% equity stake in Kvant, a personal computer and
components maker, concentrating 88% of the shares in the enterprise in its hands.

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

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Key Figures

Revenues

Revenues
$961.1 million

Operating Income
$143.5 million

Assets
$561.5 million

Employees1
10,500

Operating Income

5
.
3
4
9 1
.
5
4

150

120

-30

4
.
3
-

1
.
1
6
9

4
.
8
9
4

9
.
5
8

FY 2003 FY 2004 FY 2005

Assets

6
.
1
6
5

6
.
3
0
1

2
.
6
0
3

1,000

500

600

300

FY 2003 FY 2004 FY 2005

1 As of August 1, 2006

SISTEMA

Technology

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ANNUAL REPORT / 2005

Businesses

DYNAMIC
In 2005, revenues in the
Insurance business area grew
by 36.2%, reaching
$408.9 million.

The volume of non-life premiums
grew by more than 40% during
2005.

In 2005, ROSNO delivered growth
at twice the rate of the market
as a whole.

FOCUS OF THE YEAR
ROSNO was the first company in
the Russian market to offer its
clients full accompaniment on
third-party liability insurance
(OSAGO).

Levan Vasadze

CEO, ROSNO

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

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SISTEMA

INSURANCE
Marketplace
Insurance has been one of the fastest growing sectors of the Russian economy in recent years.
Between 2003 and 2005, total premiums grew to $17.33 billion from $14.14 billion, according to data
from the Russian Federal Service for Insurance Oversight (FSIO). Today the insurance industry
accounts for approximately 3.0-3.5% of Russia's gross domestic product. Compared to ratios in
Central and Eastern European markets, as well as to Western Europe, the market has enormous fur-
ther potential. Russia's rapid economic growth is stimulating demand from companies and organi-
zations for a wide range of insurance products. At the same time, the retail sale of policies to indi-
viduals is also growing rapidly. Still, it is difficult to precisely measure the size of the insurance mar-
ket because of the presence of ”pseudo-insurance” schemes that are aimed at optimizing tax pay-
ments and not actually presenting insurers with any actuary risk.

In 2005, the insurance market began to consolidate, as regulators imposed a tighter legal framework
and revoked licenses from companies that did not meet charter capital requirements. Currently,
1,073 insurance companies are active in the market. Ten companies accounted for 57% of all premi-
ums, excluding mandatory medical insurance, according to FSIO data for 2005.

Business
ROSNO represents the business of the corporation in the insurance sphere and is one of the largest
players in the market. As a market leader, it can only benefit from the consolidation process.
ROSNO's regional network is made up of 100 affiliates united by 10 territorial directorates. More
than seven million people and more than 50,000 enterprises and organizations use ROSNO insurance
products. For the last several years, the company has consistently been one of the leaders of the
insurance market. Voluntary medical insurance, mandatory automobile and KASKO insurance and
property insurance historically have been the largest contributors to gross premiums written.

ROSNO provides more than 100 types of obligatory and voluntary insurance. The company’s strate-
gy envisions the further strengthening of its leading position and an increase in the company's
share of the insurance market by providing clients with high-quality service. ROSNO is a successful
example of international partnership for Sistema. Allianz AG, a leading German insurer, holds 47.2%
of ROSNO’s shares. In 2004, Allianz and Sistema launched two new joint projects: Allianz ROSNO
Asset Management and Allianz ROSNO Life Insurance.

ROSNO has extensive mandatory reinsurance protection in place to manage risks. Partners of the
company in reinsurance include Allianz, Hannover Re, SCOR, Munich Re, Swiss Re and Russia’s largest
reinsurance companies. ROSNO also works with the broking agents of Lloyd's corporation. Russia's
Expert RA rating agency has awarded ROSNO the top A++ rating for four consecutive years.

Results
In 2005, the Insurance segment's main financial and operational indicators confirmed ROSNO's
strong position in the insurance market. Company revenues increased by 36.2% year-on-year to
$408.9 million in 2005, from $281.6 million (this excludes the operations of subsidiary company
Leader, which was sold in December 2005). Gross premiums jumped 26.1% year-on-year to $463.4
million, from $367.6 million. ROSNO's net premiums earned increased by 31.5% year-on-year to
$364.8 million, from $277.5 million.

Insurance

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ANNUAL REPORT / 2005

Businesses

Growth during 2005 was driven primarily by the non-life business, continued expansion and diver-
sification of the customer base and expanded service offerings. Growth in non-life premiums
(excluding re-insurance) was over 40%, nearly twice the growth rate of the market as a whole. In
order to further diversify its premium portfolio, ROSNO focused on sales of policies to individuals,
which accounted for 32% of premiums in 2005. The company successfully placed investment funds
in Allianz ROSNO Asset Management. The segment's share of Sistema group revenues was approxi-
mately 5%.

ROSNO continued to upgrade its customer service quality across the board with continued training and
assessment. In November 2005, the company launched a new call center which enables most clients to
find needed information or to be connected with the right staff member within just 30 seconds.

The company received the ”Gold Brand of the Year/EFFIE” in 2005. The company also won the
”National Brand” award for the Insurance Company segment in 2005 for a second time.

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

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SISTEMA

Insurance

Key Figures

Revenues

Revenues
$408.9 million

Operating Income
$28.4 million

Assets
$581.5 million

Employees1
3,564

500

250

9
.
8
0
2 4
.
0
0
9 3
.
7
8
1

FY 2003 FY 2004 FY 2005

Operating Income

Assets

2
.
0
3

4
.
8
2

35.0

17.5

1
.
7
1

5
.
1
8
8 5
.
2
5
4

600

300

7
.
5
6
2

FY 2003 FY 2004 FY 2005

1 As of August 1, 2006

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ANNUAL REPORT / 2005

Businesses

DYNAMIC
The value of Real Estate project
portfolio increased nearly
three-fold to $709 million.

FOCUS OF THE YEAR
The successful completion of
restructuring Sistema's real
estate holdings into single
vertically integrated structure.

In 2005, Sistema-Hals
developed the concept of the
super-regional mall ”Hals-Mart”
and won 2005 HYPERSTATE
Awards prize for this project.

Felix Evtushenkov

President, Sistema-Hals

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

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SISTEMA

REAL ESTATE
Marketplace
Sistema has been present in Russia's construction and property sector since the mid-1990s. The cor-
poration’s commitment to consolidate its presence in this market has paid off. In 2005, the market
continued to boom, not only in Moscow but in a large number of regional cities. Changes in the legal
environment for development have created favorable business conditions. In particular, the issues
surrounding the ownership of land underneath properties have been resolved. Economic growth is
driving demand in a number of property market segments. Russian and international companies
require world-class office space. The middle class is prepared to invest money in modern housing
with modern infrastructure and families are increasingly seeking ecologically cleaner areas outside
of cities.

Despite the ongoing boom, however, the market still has room to grow. Modern shopping space per
capita in Moscow was just 50% the level in London in 2005, according to research by Jones Lang
LaSalle. Average residential values rose 233% between 2000 and 2005. The level of empty office
space in Moscow in 2004 and 2005 was practically zero and leasing prices were higher than in
Western Europe. Sistema's superior project management experience and access to capital has
allowed it to gain maximum benefit from a growing market.

Business
Sistema-Hals is Sistema's vertically integrated subsidiary in the Real Estate sector. Commercial real
estate was one of the first areas of investment for Sistema. As part of asset restructuring during
2004 and 2005, the corporation's real estate portfolio was transferred to Sistema-Hals, which had
previously operated as a developer of commercial property and elite housing. Now operating as the
legal owner of the corporation's property portfolio as well as a project management company,
Sistema-Hals has considerably increased its capitalization and ability to attract finance for devel-
opment. The ability to successfully manage its own property as well as conduct deals for acquisition
and sale of assets has significantly increased the value of the project portfolio of the company.

The company's major competitive advantage in Russia's real-estate sector is its ability to manage
projects across practically every market segment, including construction of high-quality office prop-
erty and business-class housing, large multi-functional centers and transportation infrastructure
facilities. It has completed more then 20 major projects, with past clients including Dresdner,
Daimler-Chrysler and Samsung. While Sistema's projects have been concentrated in the Moscow mar-
ket, the company is prepared to expand its presence in Russia's regions.

Results
In April 2006, Sistema announced the results of the regular valuation of its portfolio in the Property
business area, which was conducted by Cushman & Wakefield Stiles & Riabokobylko. The report indicat-
ed that the value of Sistema's real estate portfolio had increased nearly three-fold to $709.2 million in
2005, compared to $238.5 million in 2004.

A large portion of the segment's development projects were not yet completed at the end of the year,
and therefore revenues in the real estate business were down 32.0% from $115.3 million in 2004 to
$78.4 million in 2005. Consequently, operating income for the period declined to $10.4 million from
$23.5 million in 2004.

In 2005, Sistema-Hals moved forward on the construction of the Pokrovskie Gates Class-A office and
hotel complex in central Moscow. The total floor space of the project is more than 24,000 square meters,

Real Estate

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ANNUAL REPORT / 2005

Businesses

with office space accounting for 14,772 square meters. This project is unique in Moscow in that two
physically separate spaces, an office complex and hotel, will be managed as a single object.

The office building under development at Nastasinsky Pereulok in the center of Moscow has a floorspace
of around 8,000 square meters. The new Class-A office complex is targeted at major Russian and inter-
national companies. Since the building is located in a historic part of Moscow, the project has been
designed to fully fit into the surrounding architectural landscape.

In July 2005, construction began on a new business-class living complex in Moscow called Izumrudnaya
Dolina (Emerald Valley). The project will see the construction of two 19-story towers with a common
parking area. The planned total floorspace of the complex is 29,910 square meters. The project is
planned to be completed in Q2 2007.

In August 2005, Sistema-Hals completed and handed over all 89 houses in a new cottage development
called ForestVille in the Moscow Region. The 15 hectare village is located 22 kilometers from the Moscow
Ring Road. Its infrastructure includes a shop, a cafe-bar, playgrounds, a sauna and a pharmacy.

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

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SISTEMA

Real Estate

Key Figures

Revenues

Revenues
$78.4 million

Operating Income
$10.3 million

Assets
$331.7 million

Employees1
1,000

Operating Income

25.0

12.5

5
.
3
2

3
.
0
1

120

400

200

3
.
5
1
1

5
.
8
7

1
.
9
3

FY 2003 FY 2004 FY 2005

Assets

8
.
1
3
3

9
.
2
2
2

FY 2003 FY 2004 FY 2005

n/a

1 As of August 1, 2006

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ANNUAL REPORT / 2005

Businesses

DYNAMIC
Revenues in the Retail
business area grew more than
2.5 times to $208 million.

The division began active
development of small retail
stores based on a new format.

FOCUS OF THE YEAR
The number of Detsky Mir
stores doubled in 2005.

A $40 million bond placement
was conducted at the end of
2005.

Maxim Entyakov

CEO, Detsky Mir Center

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

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SISTEMA

RETAIL
Marketplace
Sistema's retail business is operated through Detsky Mir Center and owns the leading retailer of chil-
dren's goods in Russia, which operates under the same name. Detsky Mir, which means Children's
World, is one of Russia's oldest, most recognized and most trusted retail brands, with a 50-year his-
tory.

Retail

The growth in demand for children's products is driven by Russia's continued economic growth and
the steady improvement in household disposable income. In 2005, the market for children's goods
was worth $7 billion and is projected to grow to $11 billion by 2008. Children under 14 years of age
represent 18.1% of Russia's population.

Patterns of purchasing children's products depend on the level of income enjoyed by a particular
family. For wealthier parents, representing 20% to 25% of the population, time is at a premium.
Parents seek a one-stop shopping experience offering high levels of service, comfort and the avail-
ability of a wide choice of products from well-known companies. Children in this segment have sig-
nificant pocket money and are crucial in dictating shopping decisions and have a high level of brand
awareness. Consumers on more limited incomes represent 45% to 60% of the population. They are
price sensitive and their demand is limited to a narrower range of necessary goods.

Expectant parents are another distinct consumer category. Research demonstrates that they formu-
late purchasing preferences ahead of the arrival of their first child.

Business
Sistema became a shareholder in Detsky Mir in 1996 and runs the business through Detsky Mir
Center. While the chain struggled during the 1990s due to the restructuring of the economy, Sistema
has spearheaded an aggressive expansion of the chain and established consistent revenue and earn-
ings growth. Detsky Mir's flagship store in Moscow is located in central Lubyanka Square, on the
same site it has occupied since 1957.

As of December 31, 2005, the corporation operated 22 stores in Moscow and 23 stores in the regions,
with total retail space of more than 58,000 square meters. Stores are located in high-traffic locations
and popular shopping centers that are accessible by public transportation. This is an important con-
sideration as the level of automobile ownership in Russia continues to trail levels in Central and
Eastern Europe. Store leases are generally negotiated on a five- to ten-year basis.

Sistema is planning the further expansion of Detsky Mir. It is opening new stores in Moscow and
other cities, and the building housing the central store at Lubyanka will be modernized. The strate-
gic goal of the company is to expand to the countries of the CIS. The corporation is also reviewing
the possibility of expansion of the network through franchising.

As Russia's most trusted retailer of children's goods, the Detsky Mir group of companies continues
to develop an ever more satisfying shopping experience across the chain with the refurbishment
of existing stores and development of improved shopping formats. Due to its increased size and
the backing of Sistema, Detsky Mir Center has been able to move away from intermediaries and enter
into direct relationships with international suppliers. As a result, this allows Detsky Mir to offer a
more attractive pricing proposition to its shoppers while at the same time expanding the number
of products available at each store.

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ANNUAL REPORT / 2005

Businesses

Results
In 2005, Detsky Mir Center grew rapidly through store openings and acquisitions. Revenues more
than doubled year-on-year to $208.0 million from $79.3 million in 2004. Detsky Mir opened 25 new
retail outlets during 2005. Total retail space exceeded 58,000 square meters. The company made a
number of acquisitions, including Chudo-Ostrov, Vyrastai-ka and S-Toys businesses, with revenues
of $10.0 million, $0.9 million and $53.7 million respectively.

The Detsky Mir group of companies undertook a range of marketing initiatives during 2005 and the
number of shoppers entering the chain's stores reached 1 million per year. The majority of these
shoppers were regular customers of the chain. During 2005, the company created a new small format
chain called Vyrastai-ka.

Detsky Mir constantly works to improve customer service on the store and company level. In 2005
the chain completed a program aimed at creating a universally high and consistent level of service
across all of its stores. An integrated Call Center was also put into operation in 2005. This permits
customers to get information on the hours and product assortment at any store. In addition, a new
consumer internet portal for parents and children was launched at www.detmir.ru.

Logistics remained a key focus in 2005, reflecting the major expansion in store numbers in the
Moscow area and Russia's regions as well as the significantly greater number of suppliers. Detsky Mir
undertook a wide-ranging re-engineering of its Distribution Center. The personnel composition was
changed and training programs were introduced. Storage and processing times were significantly
reduced to reflect the new demands and the number of Just-in-Time deliveries increased. Further
expansion of the Distribution Center is planned for 2006 as Detsky Mir intends to continue new store
openings.

In December 2005, Detsky Mir Center placed ruble denominated bonds on the Moscow Interbank
Currency Exchange (MICEX), raising 1,150 million rubles (approximately $40 million) with a term
of 9.5 years and a coupon of 8.5%. Around a quarter of the funds raised will be directed to refi-
nancing debt on more favorable terms. The remainder of the funds will be directed toward contin-
ued expansion of the chain, including new acquisition and leases.

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

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SISTEMA

Retail

Key Figures

Revenues

Revenues
$208.0 million

Operating Income
$10.4 million

Assets
$146.3 million

Employees1
4,115

Operating Income

5
.
0
1

0
.
9

8
.
6

250

125

0
.
8
0
3 2
.
9
7

5
.
5
5

FY 2003 FY 2004 FY 2005

Assets

150

3
.
6
4
1

7
.
2
5

n/a

FY 2003 FY 2004 FY 2005

1 As of August 1, 2006

_ g

ANNUAL REPORT / 2005

Businesses

DYNAMIC
Revenues in the Banking
business area grew by 62%
to $106.8 million in 2005.

The number of retail customers
exceeded 90,000 and corporate
clients numbered over 6,000.

FOCUS OF THE YEAR
Sistema consolidated 99%
of the shares of the Moscow
Bank for Reconstruction and
Development.

The successful roll-out of retail
banking business in 2005, with
banking divisions opened
in seven regions.

Sergey Zaitsev

CEO, MBRD

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

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SISTEMA

BANKING
Marketplace
Since 2004, Sistema's banking business, the Moscow Bank for Reconstruction and Development, has
aggressively expanded into the country's fast-growing retail banking sector. Russia's macroeconom-
ic growth has fostered the development of both the corporate and retail banking sectors. At the
same time, Russia's banking sector remains extremely fragmented, with a large number of small
banks and ”treasury” banks.

Banking

In 2005, the Central Bank of the Russian Federation, acting as the regulator of the sector, developed
and implemented a deposit guarantee program for individual clients at banks that had completed a
special certification process. The law ”On Credit Histories” came into effect on June 1, 2005 and gave
further momentum for the development of the sector. This legislation allows the development
of consumer credit for consumers at lower interest rates, including mortgages, automobile finance
and lending.

Russia's banking sector still has considerable room to grow when measured against peers in Central
and Eastern Europe. In 2005, total deposits in Russia were equal to 7% of gross domestic product
(GDP), one of the lowest rates in the region. According to international investment bank Nomura,
the comparable figure in Romania is 19%, 39% in Hungary, 44% in Turkey, 74% in Slovenia and 120%
in the European Union. The market for corporate lending has also not reached the limits of its
growth potential. The volume of loans to GDP in Russia was 11%, compared to 18% in Bulgaria and
Romania, 19% in Poland, 34% in Turkey, 52% in Czech Republic and 102% in the European Union.

Business
Sistema's primary finance and banking business is MBRD. Previously, the MBRD acted primarily as an
in-house treasury function for Sistema. Today, however, MBRD is a full-fledged universal bank, offer-
ing a full range of services to corporate and consumer clients.

In 2004, MBRD launched a program for the development of its retail banking business, using a busi-
ness model developed with the participation of international consulting firm Deloitte & Touche CIS.
During that year, the MBRD opened its first retail outlets in Moscow and created its first affiliates in
the Russian cities of Krasnodar and Yekaterinburg. By the end of 2005, the bank operated in Moscow
and seven Russian regions. The volume of revenues from intra-group operations dropped throughout
the year. The total number of retail customers exceeded 90,000 and the number of corporate clients
exceeded 6,000.

MBRD offers another opportunity for Sistema to develop consumer services across its business areas
and to gain access to the more than 60 million customers served by the corporation. Sistema is
developing internet and mobile access for customers and offers a range of banking services to exist-
ing clients in other business areas. The SMS BankInfo service, launched in 2004, allows customers to
obtain information about credit and debit card transactions and bank balances via mobile phone.

Results
The Banking business area demonstrated strong revenue growth of 62.4% year-on-year to $106.8 mil-
lion from $65.7 million in 2004. Growth during 2005 was due to the strong growth in corporate lend-
ing and the aggressive expansion of the new retail business. As of year end, MBRD's retail network
included 12 branches and 41 sub-branches in Moscow and Russia's regions.

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ANNUAL REPORT / 2005

Businesses

Loans issued to retail customers increased seven-fold during the year. Operating costs also increased
due to the costs of the retail expansion, and the operating margin consequently fell from 17.8%
to 11.9%.

During 2005, Sistema acquired a further 13.0% stake in MBRD for a total consideration of $10 mil-
lion, increasing its voting power in the bank to 99%. In March 2005, MBRD completed an issue of
Loan Participation Notes for the first time for a total of $150 million. The issue was organized via
Dresdner Bank AG, which issued to MBRD a credit for the entire amount. These notes reach maturi-
ty in three years. In March 2006, MBRD issued $60.0 million 8.9% Loan Participation Notes to finance
a subordinated loan. The notes mature in March 2016 and are listed on the Luxembourg Stock
Exchange.

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

_ g

SISTEMA

Banking

Key Figures

Revenues

Revenues
$106.7 million

Operating Income
$12.7 million

Assets
$1,114.8 million

Employees1
1,585

Operating Income

15.0

7.5

7
.
2
1

7
.
1
1

6
.
2

120

8
.
6
0
1

7
.
5
6

5
.
7
5

FY 2003 FY 2004 FY 2005

Assets

1,200

5
.
5
9
5

600

9
.
4
1
1
9 1
.
7
5
7

FY 2003 FY 2004 FY 2005

1 As of August 1, 2006

_ g

ANNUAL REPORT / 2005

Businesses

Mikhail Dunaev

CEO, Sistema Mass Media

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

DYNAMIC
In 2005, revenues from
the Media business area grew
by 45%.

FOCUS OF THE YEAR
In 2005, Sistema Mass Media
took the leading position in
the Russian market for
pay TV.

The film Match Point, pro-
duced by Thema Productions
in 2005, was nominated for
an Oscar.

_ g

SISTEMA

MEDIA
Marketplace
Today, the corporation's Media business segment area operates in the pay TV and multi-media serv-
ices sectors, including cable television. This is a new and fast-developing market in Russia. The total
volume of the pay TV market was estimated in May 2006 to be 4.6 million households. During 2005,
this number was estimated at 2.5 to 3.0 million households, with a market volume of $300 million
per year. Pay TV penetration is 8.8% of the population, compared to the Central and Eastern
European average of 65%.

Media

Cable television operators and content providers have forecast that the Russian cable television
market will grow by more than 30% per year. Today, the market is segmented in the following man-
ner. A number of cable operators are ”Social Package” providers linked to municipal TV networks and
providing only a basic package of five to 15 channels and average revenue per user (ARPU) of only
around $1 per month. Commercial providers offer a ”Basic Package” of 20-60 channels and have
ARPU of $3.5 per month. There is the potential for growing ARPU in this segment closer to the average
Central and Eastern European level of $10.5 per month. Russian premium providers are aiming for ARPU
levels of $25.0 per month. Against the background of sustained growth in the Moscow market, region-
al markets are also showing significant growth in demand for cable and satellite television with a
wide choice of channels and services.

Business
The corporation manages its media businesses through the Sistema Mass Media (SMM) holding com-
pany. Until 2005, SMM was active in advertising and print distribution, and was also engaged in pub-
lishing, film production and news services. In 2005, in accordance with the strategy of asset restruc-
turing, a number of low margin businesses were sold. The decision was made to focus primarily on
high-revenue, high technology areas in the media business, such as the development of infrastruc-
ture and content for pay-TV and multi-media services.

SMM is not confining its distribution and content operations to the Moscow market. At the end of
2005 and early 2006, the holding acquired the regional operators United Cable Networks (UCN) and
Regional Cable Networks (RCN). These acquisitions made SMM the leader in the Russian market for
regional cable television.

In 2005, SMM also entered the segment for mobile television with the acquisition of 74.0% of the
company Tsifrovoe Teleradioveshanie (Digital Television and Radio Broadcasting). Mobile television
is still a market in the early stages of development, both in Russia and globally. Nonetheless, it
offers potential for synergies between Sistema's Media and Telecommunications business segments.

One of SMM’s key areas of development is film production. SMM owns a 75% stake in Thema
Production, which produces films for the international market that feature internationally
acclaimed actors.

Sistema also owns an advertising and public relations agency called Maxima. Russia's advertising
market has been one of the fastest growing in the world in recent years. The corporation continues
to study the possibilities for expanding its business into other fast-growth media market segments.

Results
Consolidated revenues from the Media business area grew by 44.8% to $52.4 million in 2005, com-
pared to $36.2 million in 2004. Operating income was $7.1 million in 2005, compared to an operat-

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ANNUAL REPORT / 2005

Businesses

ing loss of $0.9 million in 2004. Revenue growth was driven primarily by the addition of the newly
acquired regional cable networks.

During 2005, Sistema undertook a wide-scale asset restructuring in the business area. The corpora-
tion conducted a range of deals for the sale of a number of print and distribution assets, including
Nasha Pressa, Stolichnaya Pressa, Concern Radio Center, Credo Service and Gloros Stolitsa. The acqui-
sition of the Esta cable television business and CTV, a digital television broadcasting company, con-
tributed $7.2 million to the Media segment’s revenue. Esta brought SMM 217,000 cable subscribers in
three Russian regions. Its business includes 40,000 Moscow pay TV subscribers under the Kosmos-TV
brand.

In May 2005, Sistema launched STREAM-TV, the first ADSL-based in-house entertainment offering
ever launched in Russia. The STREAM-TV package offers customers access to over 80 Russian and
international television channels, four specialty channels (Drive, Hunting and Fishing, Health and
Wellbeing and Retro), pay-per-view and video-on-demand services as well as internet, networked
games and digital radio. The company has made a range of subscription options available starting at
$9.95 per month, with the flexibility to add new channels individually or in packages for time peri-
ods ranging from a day to a month. This flexibility, along with the option for consumers to pay for
the equipment package upfront or by installment plan over three years, makes STREAM-TV attrac-
tive to millions of Russian consumers seeking digital multimedia content. It creates scope for ARPU
growth by allowing consumers to add content on a flexible basis.

STREAM-TV is a joint project between SMM and Comstar-UTS, Sistema's primary fixed-line telecom-
munications business. It demonstrates the scope for synergized brands across the corporation.
SMM's focus in 2005 on fast-growth segments demonstrates the ability of Sistema to effectively
restructure assets. Acquisitions in the Media business area have enabled SMM to build a market-
leading business in the Pay-TV sector in Russia.

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

_ g

SISTEMA

Media

Key Figures

Revenues

Revenues
$52.4 million

Operating Income
$7.1 million

Assets
$81.9 million

Employees1
1,657

Operating Income

-5

4
.
4
-

1
.
7

9
.
0
-

4
.
2
5

2
.
5
3

2
.
6
3

FY 2003 FY 2004 FY 2005

Assets

100

9
.
1
8

1
.
7
3

n/a

FY 2003 FY 2004 FY 2005

1 As of August 1, 2006

_ g

ANNUAL REPORT / 2005

Businesses

DYNAMIC
Assets in the Tourism business
area grew by more than
3.5 times to $90.27 million in
2005.

FOCUS OF THE YEAR
In 2005 Intourist moved
forward in its goal to become
a universal tour operator.

The acquisition of Megapolyus
Aviacharter has expanded the
capability of Intourist to pro-
vide logistics and transport
services.

Alexander Arutyunov

President, Intourist

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

_ g

SISTEMA

TOURISM
Marketplace
Sistema is represented in the tourism market by Intourist. The company conducts its activity across
the tourist business: the organization of overseas tours for Russian citizens, the reception of foreign
tourists and domestic tourism within Russia. While related, each segment is subject to its own devel-
opment dynamic. Overall, the tourism industry in Russia continues to boom. Expert forecasts sug-
gest the value of the market will grow at an average annual rate of 15% annually through 2010.

Tourism

Growth in per capita disposable income is a major factor encouraging Russians to travel domestical-
ly and abroad. Competition on domestic airline routes has made domestic travel both more afford-
able and flexible, and has influenced the price of travel on Russia's railways as well. World class
hotels and resorts are being built in traditional domestic destinations such as the Black Sea coast.
For Russians traveling abroad, the number of tour operators has multiplied in recent years, offering
greater choice and price competition.

At the same time, Russia's political and economical stability has encouraged inbound tourism
attracted by Russia's rich historical and cultural legacy. Still, the growth in inbound tourism has
been limited by a lack of modern tourism infrastructure, such as international quality hotels,
in many Russian regions. In Russia's most modern cities and popular destinations, Moscow and
St Petersburg, a number of hotels in the mid-market segment have been closed in the last few years.
A very limited supply of rooms has led to a rise in prices. Despite these challenges, the inbound seg-
ment grew on average by 19% between 2001 and 2004. A new tourist infrastructure development
plan has been put into place by the Russian government and the country has stepped up interna-
tional campaigns promoting tourism in the country.

Business
Intourist was founded in 1929. In Soviet times, it was the monopoly provider of tourist services. In
1992, the assets of Intourist were restructured, which resulted in the company retaining only its
international and domestic tour operators. All of the other assets, including hotels and tour buses,
were put under the control of the Russian government.

Today, Intourist aims to turn the company into a universal operator on the tourist market, offering
clients a full range of services. The activity of the company comprises three key areas. The first is
tour operating services, including both inbound and outbound tourism, and corporate services.
Intourist serves more than 400,000 foreign and Russian tourists annually and is actively developing
a network of tour product sales offices. Currently, the company has six affiliate companies overseas,
15 sales offices in Moscow, 46 affiliate companies in Russia's regions and 25 franchised agencies. In
the future, these numbers will continue to grow.

A second key area is the hotel business. The development of a hotel network in Russia and abroad is
being managed by the Intourist Hotel Group. This company is acquiring and taking over manage-
ment of hotels across the country. This is part of fulfilling a strategic goal set by the shareholders.
The hotel segment will develop as an independent business area within the framework of Intourist.

The third area is transportation services. Auto transportation is operated by the company
Inturautoservice. Charter programs are operated by the company Megapolyus Aviacharter, which
was acquired at the end of 2005. Each of these areas has considerable growth potential.

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ANNUAL REPORT / 2005

Businesses

In an environment of ever increasing competition, the company stands out by offering the highest
level of service. At the same time, Intourist strives to maintain the highest standards of financial
and operational transparency.

In 2005, Sistema undertook the restructuring of Intourist with the goal of consolidating ownership
and creating an efficient, vertically integrated structure. In January 2005, Intourist announced
issue of new stock to its existing shareholders. The Moscow City Government purchased the first
tranche of 3,120,516,875 shares in exchange for a 40% stake in Kosmos Hotel, a 1,000-room hotel
complex situated in Moscow, with a fair value of the contributed ownership interest of $20.1 million.
In April 2005, Sistema paid the equivalent of $47.7 million for the remaining 6,961,052,632 additional
shares of Intourist.

Sistema and its affiliated companies control over 71.58% of the Group. GAO Moskva, the second prin-
cipal shareholder, is owned by the Moscow City Government and is focused on the development of
Moscow hospitality infrastructure, including hotels and historic places.

Results
Intourist served 421,000 clients in 2005. The group posted 1.5% revenue growth in 2005, with rev-
enues growing to $98.04 million in 2005 compared to $96.59 million in 2004. The slowing in revenue
growth was due to a 4% reduction in revenues from the domestic tourism area. The outbound seg-
ment, by contrast, grew by 5%.

During 2005, Intourist underwent a significant restructuring program aimed at improving its man-
ageability and increasing the efficiency of its activity. A number of unprofitable regional operating
offices were closed. This restructuring work continues in 2006. It is planned that over 40 regional
subsidiary structures will be converted into affiliates.

Intourist won a tender in 2005 to provide travel services for the Russian-Arab Business Union. It also
received recognition in 2005 of its efforts to increase its product offerings and strengthen its brand.
The independent international firm Superbrands Ltd awarded Intourist the status ”Superbrand of
the Russian Consumer Market.” The Moscow City Committee for Tourism named Intourist a ”Travel
Star” for its ”Invaluable Contribution to the Development of Tourism in Moscow and Russia and High
Quality of Service.”

The group has put in place a three-year development plan aimed at both modernizing and expand-
ing its network of sales offices to 500 offices by 2008. New IT systems are also being deployed to
integrate into a single information space the sales network and regional offices with the Head
Office. As the mid-range hotel category is expected to see the strongest growth in the next five
years, Intourist aims to acquire and manage a number of hotels in key markets including Moscow,
St Petersburg, the Black Sea coast, the Crimea and other key destinations, with the aim of achieving
a 15% market share in the three-star plus category of hotels.

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

_ g

SISTEMA

Tourism

Key Figures

Revenues

Revenues
$98.0 million

Operating Income
$1.3 million

Assets
$90.7 million

Employees1
3,300

Operating Income

3.0

1.5

n/a

8
.
2

3
.
1

100

6
.
6
9

0
.
8
9

n/a

FY 2003 FY 2004 FY 2005

3
.
0
9

Assets

100

9
.
5
2

n/a

FY 2003 FY 2004 FY 2005

1 As of August 1, 2006

_ g

ANNUAL REPORT / 2005

Businesses

DYNAMIC
Revenues grew by more
than 330% year-on-year
to $124.2 million in 2005.

FOCUS OF THE YEAR
The company expanded its
product range, with the ability
to provide complex,
high-value turn-key systems
that maintain national securi-
ty, such as radar systems.

New acquisitions strengthened
the position of RTI Systems in
key segments of the market.

Sergey Boev

CEO, RTI Systems

EFFECIENCY INNOVATION RESTRUCTURING TRANSPARENCY EXPANSION

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SISTEMA

RADIO AND SPACE TECHNOLOGY
Marketplace
Sistema's radio and space technology division includes RTI Systems and its subsidiaries. The com-
pany carries out the design and production of radars and radar systems, aerospace control systems
and power equipment building.

Radio and Space
Technology

In the area of radio equipment, the primary customer for the company is the Ministry of Defense of
the Russian Federation. The volume of government defense contracts was approximately 215 billion
rubles ($7.7 billion) in 2005. 50% of the budget (around $3.9 billion) went to the creation of new
equipment (R&D). Around 4.2% of the general R&D budget ($160 million) consists of the market for
long-range radar systems. The RTI Systems occupies 90% of this sub-segment and is the undisput-
ed leader in Russia. The market for long-range radar between 2005 and 2008 will grow by 38% as
government policy in the area of defense is directed at created new radar complexes. Therefore, the
leading position in this segment will allow the company to maintain a strong organic growth rate.

The market for short-range systems, where the company is also successfully advancing its products,
makes up around 6.5% of the total R&D budget or $250 million and is dynamically developing. This
market will grow by approximately 20% between 2005 and 2008. The company's main goal in the
near-term is to significantly expand its presence in the short-range radar segment.

In the second half of 2005, a new division was formed, Aerospace and Terrestrial Control Systems, with-
in the company. The domestic market for these products is around $3.0 billion and the sub-segments
in which the company operates occupy around 14.3% of this market (approximately $430 to $450 mil-
lion). The main factor for growth in these sub-segments is high domestic demand and strong export
potential. In the period of 2005 to 2008, growth is estimated at approximately 46%. The main goal
of the company in the next few years is to expand its presence in the domestic and overseas mar-
kets. This appears fully realizable, and in the beginning of 2005 yet another major player, DMZ-
Kamov, joined the division.

The formation of the Power Equipment Building division began in the first quarter of 2006 after the
acquisition of UralElektro. The company entered the relatively small market for equipment, which
has volumes of approximately $430 million. The main goal in the next few years is to complete the
formation of this division and then enter the market for large systems projects in this sector of the
economy, which is expected to see growth to more than $8 billion.

The volume of defense exports, according to FinAm, amounted to $6.126 billion in 2005, the large
majority of which (85%, or $5.2 billion) was attributable to the state-run Rosobonexport. RTI's
exports were $15.1 million. Today, the export portfolio of the company has contracts worth $26.0
million.

Business
RTI Systems and its subsidiary companies bring together leading Russian enterprises with strong
track records in management of large-scale projects in the high-technology sphere and considerable
research and production potential.

As part of Sistema's strategy of consolidating and restructuring assets, Sistema has combined a num-
ber of subsidiary businesses into RTI Systems to create a market leader in the fast-growing radio and
aerospace technology market segments. The three main business areas were formed in 2005 and in
2006 RTI's main business areas will be restructured along a clear divisional structure.

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ANNUAL REPORT / 2005

Businesses

During 2005, a number of subsidiaries were added to RTI as the corporation's main holding in this
business area. These included Yaroslavksy Radio Factory, MTU Saturn and Defense Construction
Bureau Planeta. These enterprises substantially strengthen the position of RTI in the market for
space and terrestrial control systems.

Acquisitions and consolidation have allowed RTI to significantly expand its product line. It is now
able to offer satellite and aviation communications systems and rescue and recovery devices. RTI is
able to offer ”turn-key” systems for creating specialized satellite communications networks and is
developing similar radar stations that are already functional upon leaving the factory. Preliminary
testing of these systems began in December 2005.

Results
Revenues in the Radio and Space Technology segment grew more than three-fold in 2005 to $124.2
million, from $37.1 million in 2004. OIBDA in the business grew nearly four-fold to $10.7 million
year-on-year.

RTI Systems and its subsidiaries were successful in a number of high-profile tenders in 2005. In June
2005, RTI Systems won the open competition for the supply and installation of satellite communi-
cations equipment held by the Ministry of Finance of the Republic of Sakha (Yakutiya) and in
December 2005 the project was put into operation.

In October 2005, as part of the IX International Exhibition Interpolytech 2005, RTI's subsidiary
Yaroslavksy Radio Factory was named a laureate in the ”National Security” category for its portable
KVARTs-N radio location equipment. The KVARTs-N is a civilian version of the popular P-168-1K and
is designed to function in urban areas. The device received a high evaluation from President Vladimir
Putin for its results in test conditions.

In March 2006, after the reporting period, Concern RTI purchased a 50% plus one share in
UralEleketro and 100% share in UralElektro-K for $5.4 million. Both companies are producers of elec-
tronic equipment and the acquisitions further bolster RTI's competitive edge in the market.

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Radio and Space
Technology

Financial Highlights

Revenues

Revenues
$124.2 million

Operating Income
$9.8 million

Assets
$69,5 million

Employees1
7,458

150

2
.
4
2
1

1
.
7
3

n/a

FY 2003 FY 2004 FY 2005

Operating Income

Assets

9
.
9

5
.
2

n/a

5
.
9
6

1
.
9
1

n/a

FY 2003 FY 2004 FY 2005

1 As of August 1, 2006

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ANNUAL REPORT / 2005

Businesses

OTHER BUSINESS AREAS
In addition to its core business areas, Sistema maintains a small number of other companies in fast-grow-
ing areas of the economy. These companies represent investments in areas with long-term promise or
that can serve short- to medium-term financial investments that permit the corporation to increase
shareholder capital. These businesses do not occupy a large portion of management time or financial
resources.

Medsi
Sistema manages its medical services business through Medsi and Medsi-P. Medsi provides ambula-
tory and primary care services to patients over 15-years-old while Medsi-P specializes in pediatrics.
Medsi is a full-service medical center for providing diagnostics and ambulatory care. In addition, the
center provides specialist care in its dedicated Diabetes Center, 40-plus Health Center and the
Center for Extracorporeal Healing.

MEDSI Ltd's key areas of business in 2005 included participation in the voluntary medical insurance
sector in Moscow, provision of medical services at Moscow hotels through a network of mini-clinics,
medical screening and vaccinations at Moscow enterprises, medical services through direct contract
with businesses and individuals and the sale of medicines through the center's pharmacy. During
the year, MEDSI cared for 21,338 patients and provided 761,600 services.

MEDSI-P began opened in May 2005 and is located in a separate building in the center of Moscow.
It meets the very latest world standards for a medical care institution. The center has more than
120 doctors in eight departments. A Scientific Committee, composed of leading researchers and aca-
demics from the Russian Academy of Medical Sciences, oversees research work on current pediatric
issues and has introduced of the latest methods in preventive treatments and pediatric care. In 2005,
MEDSI-P cared for 3,250 patients and provided 32,842 services.

Binnofarm
Binnofarm was created in March 2006 when Sistema decided to create a single holding for its pharma-
ceutical and biotechnology assets. During 2005, the business was run through two main subsidiaries,
Medical-Technological Holdings (MTH) and NPO Orgsintez-1. The business segment was also involved in
equipping hospitals under construction in Moscow with medical equipment. Alexander Bakhutashvili
was named head of the new Binnofarm pharmaceutical holding and brings a wide range of experience
across the industry, from R&D and marketing of new medicines to branded generics to wholesale trade
in medicines.

In 2005, MTH began the first industrial production of a vaccine for hepatitis B. The company completed
clinical testing and registered a children's form of the vaccine. Presently, MTH is one of the only enter-
prises in Russia conducting full-cycle vaccine production from substance to final form product. Some
250,000 doses were produced during the year and MTH became a full-fledged biotechnology company.
In addition, MTH produced three million doses of medicines in ampoule form, including nitroglycerin,
polioxides, cyclopheron and thymodepressin. The company began to implement plans to expand the
nomenclature of immunobiological medicines produced, which it sees as the basis for its development
in the future.

In 2005, Orgsintez-1 completed a production plan developed on the basis of a state tender agreement to
make central nervous system analgesics, including promedol and fentanyl. The company also conduct-
ed work to expand the portfolio of these medicines.

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Binnofarm's plans include the launch of new, Good Manufacturing Practice compliant production facil-
ities for making medicines in various forms, including aerosols, injected forms, hard forms, infusions and
bio-generics. The holding is working to expand its product portfolio, creation of new trademarks and
deployment of a national network of medical representatives. R&D will be focused on developing new
medicines. M&A activities will focus on obtaining intellectual property, research skills and creating cost
synergies.

Financial Investments
In August 2005, Sistema acquired minority shareholdings in six raw oil processing and oil extracting
companies located in the Russian Republic of Bashkortostan. Later, the corporation increased its
shareholdings in these assets. The total acquisition costs were around $600 million. The acquisition
of the shareholdings does not represent any change in Sistema's strategic focus on core business
areas involving Russia's consumer sector. Rather, the corporation views the acquisitions as an oppor-
tunity to invest shareholder's funds for the short- to medium-term while waiting for M&A deals to
boost its key businesses. One example is future participation in the privatization of the state fixed-
line operator Svyazinvest.

As of the end of 2005, Sistema had 20.77% of the charter capital of oil extracting company Bashneft
(amounting to 25% of the voting shares). It has a 25.62% stake of the charter capital of Novoil
(28.17% of the voting shares), 18.19% of the charter capital of Ufaneftekhim (22.43% of the voting
shares) and 22.46% of the charter capital of Ufimskiy NPZ (25.5% of the voting shares), all of which
are oil processing companies. In addition, Sistema had acquired 17.21% of the charter capital of
Bashkirnefteprodukt (18.57% of the voting shares), a company involved in the retail sale of oil prod-
ucts, and 21.53% of the charter capital (24.87% of the voting shares) of oil chemicals company
Ufaorgsintez.

The companies occupy a leading position in the oil-energy market in the region. They operate across
the production chain, from oil extraction to oil chemicals. The combined assets represent the third-
largest player in the Russian market for oil processing. The shares of all of the companies are quot-
ed and traded on the Russian Trading System. The shares were acquired from Bashkirskiy Capital,
which currently owns controlling shareholdings in all of the companies. Bashkirskiy Capital
approached Sistema with the offer to purchase the shareholding in order to make use of the corpo-
ration's long-standing experience in restructuring businesses.

Sistema's experts are working with Bashkirskiy Capital to create a transparent, vertically integrated
holding with the goal of maximizing the shareholder value of each company and the holding as a
whole. The restructuring will include the introduction of international best practice in corporate
governance and financial management and reporting.

Sistema's management believes that participation in these companies provides the corporation with
the ability to make efficient use of shareholder funds, and to benefit from additional revenue from
the dynamic development of the oil sector.

Other Business Areas

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ANNUAL REPORT / 2005

Contacts

CONTACTS
Sistema Joint-Stock Financial Corporation
Andre Bliznyuk
Head of Capital Markets
Phone: +7 (495) 730 1543
bliznyuk@sistema.ru

Irina Potekhina
Head of PR
Phone: +7 (495) 730 7188
potekhina@sistema.ru

10 Leontievsky Pereulok
125009 Moscow, Russia
Phone: +7 (495) 629 0600
Fax: +7 (495) 232 3391
www.sistema.com

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Notes

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