NORTEL NETWORKS CORP - 10-K - Management's Discussion and Analysis of Financial Condition and Results of Operations

[March 08, 2012]

NORTEL NETWORKS CORP - 10-K - Management's Discussion and Analysis of Financial Condition and Results of Operations

(Edgar Glimpses Via Acquire Media NewsEdge) TABLE OF CONTENTS Executive Overview 21 Results of Operations - Continuing Operations 36 Results of Operations - EMEA Subsidiaries 40 Results of Operations - Discontinued Operations 40 Liquidity and Capital Resources 41 Off-Balance Sheet Arrangements 44 Application of Critical Accounting Policies and Estimates 44 Accounting Changes and Recent Accounting Pronouncements 47 Outstanding Share Data 47 Legal Proceedings and Environmental Matters 47 Cautionary Notice Regarding Forward-Looking Information 47 The following Management's Discussion and Analysis (MD&A) is intended to help the reader understand the results of operations and financial condition of Nortel Networks Corporation. As noted herein, we have completed the divestitures of all of our businesses as part of our Creditor Protection Proceedings. The MD&A should be read in combination with our audited consolidated financial statements and the accompanying notes. All monetary amounts in this MD&A are in millions and in United States (U.S.) Dollars except per share amounts or unless otherwise stated.

Certain statements in this MD&A contain words such as "could", "expect", "may", "anticipate", "believe", "intend", "estimate", "plan", "envision", "seek" and other similar language and are considered forward-looking statements or information under applicable securities laws. These statements are based on our current expectations, estimates, forecasts and projections which we believe are reasonable but which are subject to important assumptions, risks and uncertainties and may prove to be inaccurate. Consequently, our actual results could differ materially from our expectations set out in this MD&A. In particular, see the Risk Factors section of this report and elsewhere in this annual report on Form 10-K for the year ended December 31, 2011 filed with the U.S. Securities and Exchange Commission (SEC) and Canadian securities regulatory authorities (2011 Annual Report) for factors that could cause actual results or events to differ materially from those contemplated in forward-looking statements. Unless otherwise required by applicable securities laws, we disclaim any intention or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

Where we say "we", "us", "our", "Nortel" or "the Company", we mean Nortel Networks Corporation or Nortel Networks Corporation and its subsidiaries that continue to be consolidated, as applicable. Where we say NNC, we mean Nortel Networks Corporation.

20 -------------------------------------------------------------------------------- Table of Contents Executive Overview Creditor Protection Proceedings On January 14, 2009 (Petition Date), after extensive consideration of all other alternatives, with the unanimous authorization of our board of directors after thorough consultation with our advisors, we initiated creditor protection proceedings in multiple jurisdictions under the respective restructuring regimes of Canada, under the Companies' Creditors Arrangement Act (CCAA) (CCAA Proceedings), the United States (U.S.) under Chapter 11 of the U.S. Bankruptcy Code (Chapter 11) (Chapter 11 Proceedings), the United Kingdom (U.K.) under the Insolvency Act 1986 (U.K. Administration Proceedings), and subsequently, Israel under the Israeli Companies Law 1999 (Israeli Administration Proceedings). On May 28, 2009, one of our French subsidiaries, Nortel Networks SA (NNSA) was placed into secondary proceedings (French Secondary Proceedings). The CCAA Proceedings, Chapter 11 Proceedings, U.K. Administration Proceedings, Israeli Administration Proceedings and French Secondary Proceedings are together referred to as the "Creditor Protection Proceedings". On July 14, 2009, Nortel Networks (CALA) Inc. (NNCI), a U.S. based subsidiary with operations in the Caribbean and Latin America (CALA) region, also filed a voluntary petition for relief under Chapter 11 in the U.S. Bankruptcy Court for the District of Delaware (U.S. Court) and became a party to the Chapter 11 Proceedings. We initiated the Creditor Protection Proceedings with a consolidated cash balance, as of December 31, 2008, of approximately $2,400, in order to preserve our liquidity and fund operations during the process.

"Debtors" as used herein means: (i) us, together with our principal operating subsidiary Nortel Networks Limited (NNL) and certain other Canadian subsidiaries (collectively, Canadian Debtors) that filed for creditor protection pursuant to the provisions of the CCAA in the Ontario Superior Court of Justice (Canadian Court); (ii) Nortel Networks Inc. (NNI), Nortel Networks Capital Corporation (NNCI) and certain other U.S. subsidiaries (U.S. Debtors) that have filed voluntary petitions under Chapter 11 in the U.S. Court; (iii) certain Europe, Middle East and Africa (EMEA) subsidiaries that made consequential filings under the Insolvency Act 1986 in the High Court of England and Wales (English Court) (including NNSA) and certain Israeli subsidiaries that made consequential filings under the Israeli Companies Law 1999 in the District Court of Tel Aviv (EMEA Debtors).

In June, 2009, we determined that selling our businesses was the best path forward. We have completed divestitures of all of our businesses including: (i) the sale of substantially all of our Code Division Multiple Access (CDMA) business and Long Term Evolution (LTE) Access assets to Telefonaktiebolaget LM Ericsson (Ericsson); (ii) the sale of substantially all of the assets of our Enterprise Solutions (ES) business globally, including the shares of Nortel Government Solutions Incorporated (NGS) and DiamondWare, Ltd. (Diamondware), to Avaya Inc. (Avaya); (iii) the sale of the assets of our Wireless Networks (WN) business associated with the development of Next Generation Packet Core network components to Hitachi, Ltd. (Hitachi); (iv) the sale of certain portions of our Layer 4-7 data portfolio to Radware Ltd.; (v) the sale of substantially all of the assets of our Optical Networking and Carrier Ethernet businesses to Ciena Corporation (Ciena); (vi) the sale of substantially all of the assets of our Global System for Mobile communications (GSM)/GSM for Railways (GSM-R) business to Ericsson and Kapsch CarrierCom AG (Kapsch); (vii) the sale of substantially all of the assets of our Carrier VoIP and Application Solutions (CVAS) business to GENBAND Inc. (now known as GENBAND U.S. LLC (GENBAND)); (viii) the sale of NNL's 50% plus one share interest in LG-Nortel Co. Ltd. (LGN), our Korean joint venture with LG-Electronics, Inc. (LGE), to Ericsson; (ix) the sale of substantially all of the assets of our global Multi Service Switch (MSS) business to Ericsson; (x) the sale of substantially all of the assets of Guangdong-Nortel Telecommunications Equipment Co. Ltd. (GDNT) to Ericsson Mobile Data Applications Technology Research and Development Guangzhou Company Limited and Ericsson (Guangdong Shunde) Communications Company Limited (collectively, Ericsson China); (xi) the sale of our remaining patents and patent applications to a consortium consisting of Apple Inc., EMC Corporation, Ericsson, Microsoft Corporation, Research in Motion Limited and Sony Corporation (collectively, the Consortium); and (xii) the sale of a small number of our Internet Protocol version 4 addresses.

Approximately $7,730 in net proceeds have been generated through the completed sales of our businesses and patents and patent applications. Substantially all proceeds received in connection with the completed sales of businesses and assets are being held in escrow, and have been recorded by NNL solely for financial reporting purposes until the final allocation of these proceeds as between various Nortel legal entities is ultimately determined. Through the completed sales, we have preserved 16,000 jobs for our employees with the purchasers of these businesses and assets.

While numerous milestones have been met, significant work remains under the Creditor Protection Proceedings. A Nortel business services group (NBS) was established in 2009 that provided global transitional services to purchasers of the businesses, in fulfillment of contractual obligations under transition services agreements (TSAs) entered into in connection with the sales of the businesses and assets. These services included maintenance of customer and network service levels during the integration process, and provided expertise and infrastructure in finance, supply chain management, information technology (IT), research and development (R&D), human resources and real estate necessary for the orderly and successful transition of businesses to purchasers over a period of generally up to 24 months from the closing of the sales. NBS also focused on maximizing the recovery of remaining accounts receivable, inventory and real estate assets, independent of the TSAs. As of December 31, 2011, we had completed substantially all of our obligations under the TSAs with respect to the business sales. As well, we entered into a TSA in connection with the patent and patent applications sale to the Consortium, which is expected to be completed no later than March 31, 2012.

21 -------------------------------------------------------------------------------- Table of Contents A core corporate group (Corporate Group) was also established in 2009 and continues to be focused on a number of key actions to maximize value for stakeholders, including the sale of remaining assets, wind down of global operations and entities, the creditor claims process, and working toward conclusion of the Creditor Protection Proceedings and any eventual distributions to creditors. The Corporate Group also continues to provide administrative and management support to our consolidated affiliates around the world while completing the orderly wind down of those remaining operations.

With the sale of all of our businesses, the interdependency between the Debtors under the different Creditor Protection Proceedings has diminished and is expected to continue to diminish, and thus the estates have worked toward separation of various corporate functions to allow each estate to be standalone.

Extensive analysis and actions have been performed to segregate most of these functions such that the Canadian Debtors and the U.S. Debtors operate independently of one another. The Debtors continue to work on implementing plans for the separation of IT functions and applications during the first half of 2012.

One of the key remaining matters under the Creditor Protection Proceedings is the determination of allocation of sale proceeds among the various Nortel legal entities that participated in the sales of our businesses, which include entities subject to the respective Creditor Protection Proceedings in the different jurisdictions as well as entities that are not subject to any court supervision or proceedings.

CCAA Proceedings On the Petition Date, the Canadian Debtors obtained an initial order from the Canadian Court (Initial Order) for creditor protection for 30 days, pursuant to the provisions of the CCAA, which has since been extended to April 13, 2012 and is subject to further extension by the Canadian Court. There is no guarantee that the Canadian Debtors will be able to obtain court orders or approvals with respect to motions the Canadian Debtors may file from time to time to extend further the applicable stays of actions and proceedings against them. Pursuant to the Initial Order, the Canadian Debtors received approval to continue to undertake various actions in the normal course in order to maintain stable and continuing operations during the CCAA Proceedings.

Under the terms of the Initial Order, Ernst & Young Inc. was named as the court-appointed monitor under the CCAA Proceedings (Canadian Monitor). The Canadian Monitor has reported and will continue to report to the Canadian Court from time to time on the Canadian Debtors' financial and operational position and any other matters that may be relevant to the CCAA Proceedings. In addition, the Canadian Monitor may advise and, to the extent required, assist the Canadian Debtors on matters relating to the Creditor Protection Proceedings. On August 14, 2009, the Canadian Court approved an order that permits the Canadian Monitor to take on an enhanced role with respect to the oversight of the business, sales processes, claims processes and other restructuring activities under the CCAA Proceedings. On May 27, 2009 and July 22, 2009, representative counsel was appointed on behalf of the former employees of the Canadian Debtors and on behalf of the continuing employees of the Canadian Debtors, respectively (Representative Counsel). Our management and the Canadian Monitor meet regularly with Representative Counsel and creditor groups to provide status updates and share information with them that has been shared with the representatives of other major stakeholders.

As a consequence of the CCAA Proceedings, generally, all actions to enforce or otherwise effect payment or repayment of liabilities of any Canadian Debtor arising prior to the Petition Date and substantially all pending claims and litigation against the Canadian Debtors and their officers and directors have been stayed until April 13, 2012, or such later date as may be ordered by the Canadian Court. In addition, the CCAA Proceedings have been recognized by the U.S. Court as "foreign proceedings" pursuant to the provisions of Chapter 15 of the U.S. Bankruptcy Code, giving effect in the U.S. to the stay granted by the Canadian Court. A cross-border court-to-court protocol (as amended) has also been approved by the U.S. Court and the Canadian Court. This protocol provides the U.S. Court and the Canadian Court with a framework for the coordination of the administration of the Chapter 11 Proceedings and the CCAA Proceedings on matters of concern to both courts.

The Canadian Court has also granted charges against some or all of the assets of the Canadian Debtors and any proceeds from any sales thereof, including the following current charges: a charge in favor of the Canadian Monitor, its counsel and counsel to the Canadian Debtors as security for payment of certain professional fees and disbursements; a charge in favor of NNI as security for excess payment by NNI of certain corporate overhead and R&D services provided by NNL to the U.S. Debtors; a charge to support an indemnity for the directors and officers of the Canadian Debtors relating to certain claims that may be made against them in such roles, as further described below; an intercompany charge in favor of: (i) any U.S. Debtor that loans or transfers money, goods or services to a Canadian Debtor; (ii) any EMEA Debtors who provide goods or services to the Canadian Debtors; (iii) NNL for any amounts advanced by NNL to Nortel Networks Technology Corporation (NNTC) following the Petition Date; and (iv) Nortel Networks UK Limited (NNUK) for certain payments due by NNL to NNUK out of the allocation of sale proceeds NNL actually receives from future material asset sales, subject to certain conditions. The Canadian Court also approved an additional charge against all of the property of the Canadian Debtors to secure payment of the amounts that have been determined to be payable to participants under the NSIP (as defined below). A further charge has been granted in favor of certain former employees and long term disability employees who are beneficiaries under the Settlement Agreement (as defined below) against all of the property of the Canadian Debtors to secure payment of the medical, dental, income, termination and pension payments agreed to be paid by the Canadian Debtors under the Settlement Agreement.

Chapter 11 Proceedings Also on the Petition Date, the U.S. Debtors, other than NNCI, filed voluntary petitions under Chapter 11 with the U.S. Court. The U.S. Debtors received approval from the U.S. Court for a number of motions enabling them to continue to operate their businesses generally in the ordinary course. Among other things, the U.S. Debtors received approval to continue paying employee 22 -------------------------------------------------------------------------------- Table of Contents wages and certain benefits in the ordinary course; to generally continue their cash management system; and to continue honoring customer obligations and paying suppliers for goods and services received on or after the Petition Date. On July 14, 2009, NNCI also filed a voluntary petition for relief under Chapter 11 in the U.S. Court and thereby became one of the U.S. Debtors subject to the Chapter 11 Proceedings, although the petition date for NNCI is July 14, 2009. On July 17, 2009, the U.S. Court entered an order of joint administration that provided for the joint administration, for procedural purposes only, of NNCI's case with the pre-existing cases of the other U.S. Debtors.

As required under the U.S. Bankruptcy Code, on January 22, 2009, the United States Trustee for the District of Delaware (U.S. Trustee) appointed an official committee of unsecured creditors, which currently includes The Bank of New York Mellon, Pension Benefit Guaranty Corporation (PBGC) and Law Debenture Trust Company of New York (U.S. Creditors' Committee). The U.S. Creditors' Committee has the right to be heard on all matters that come before the U.S. Court with respect to the U.S. Debtors. There can be no assurance that the U.S. Creditors' Committee will support the U.S. Debtors' positions on matters to be presented to the U.S. Court. In addition, a group purporting to hold substantial amounts of our publicly traded debt has organized (Bondholder Group). Our management and the Canadian Monitor have met with the Bondholder Group and its advisors to provide status updates and share information with them that has been shared with other major stakeholders. Disagreements between the Debtors and the U.S.

Creditors' Committee and the Bondholder Group could protract and negatively impact the Creditor Protection Proceedings.

On December 8, 2009, we announced that NNI had entered into an agreement with John Ray for his appointment as principal officer of each of the U.S. Debtors (U.S. Principal Officer) and to work with Nortel management, the Canadian Monitor, the U.K. Administrators and various retained advisors, in providing oversight of the conduct of the businesses of the U.S. Debtors in relation to various matters in connection with the Chapter 11 Proceedings. This appointment was approved by the U.S. Court on January 6, 2010.

On June 21, 2010, the U.S. Debtors filed a motion seeking to terminate certain U.S. retiree and LTD benefits effective as of August 31, 2010. The U.S Debtors filed a notice of withdrawal of this motion with the U.S. Court on July 16, 2010. In anticipation that the U.S. Debtors will seek modification or termination of some or all of the U.S. retiree and LTD benefits at a later time, on June 21, 2011, upon the motion of the U.S. Debtors dated June 2, 2011, the U.S. Court entered an order directing the U.S Trustee to establish a committee of retirees for the U.S. Debtors to consult with before undertaking any modification or termination of the U.S. retiree benefits. Additionally, on June 22, 2011, the U.S. Court entered an order directing the U.S Trustee to establish a committee of LTD employees for the U.S. Debtors to consult with before undertaking any modification or termination of the U.S. LTD benefits. On August 2, 2011, the U.S. Trustee appointed the members of these committees.

On July 12, 2010, the U.S. Debtors filed their proposed plan of reorganization (the Plan) under Chapter 11 with the U.S. Court. Pursuant to the Plan, each U.S.

Debtor will either be reorganized to the extent the U.S. Debtors determine it is necessary or beneficial to do so for the purpose of fulfilling its obligations under the asset sale agreements and TSAs, selling or otherwise disposing of its assets and fulfilling its obligations under the Plan, or will be liquidated. The U.S. Debtors filed a proposed disclosure statement for the Plan with the U.S.

Court on September 3, 2010. The effectiveness of the Plan and the U.S. Debtors' exit of the Chapter 11 Proceedings is subject to several conditions, including U.S. Court approval of the disclosure statement, as amended, obtaining the requisite number of votes in favor of the Plan from the solicited creditors of each U.S. Debtor, confirmation of the Plan by order of the U.S. Court and the satisfaction of other conditions precedent.

On September 23, 2011, the U.S. Court established a claims bar date of November 15, 2011 for the filing of certain inter-company claims against the U.S. Debtors, which did not apply to the filing of inter-company claims by the Canadian Debtors, the entities subject to the U.S. EMEA Claims Bar Date (defined below) and majority-owned direct and indirect subsidiaries of the U.S. Debtors.

The November 15, 2011 claims bar date also applied to the filing of all indemnification and/or contribution claims of directors and officers who were directors and/or officers as of August 1, 2009 and whose claims arise from service to the U.S. Debtors or any of the U.S. Debtors' non-debtor affiliates.

Certain affiliates of the U.S. Debtors in the Asia and CALA regions, which are consolidated in our results, filed inter-company claims against the U.S. Debtors for an aggregate amount of approximately $58 by the November 15, 2011 bar date.

We have established reserves as appropriate for these accounts receivable balances in current and prior periods.

As a consequence of the commencement of the Chapter 11 Proceedings, generally, all actions to enforce or otherwise effect payment or repayment of liabilities of any U.S. Debtor preceding the Petition Date and substantially all pending claims and litigation against the U.S. Debtors have been automatically stayed for the pendency of the Chapter 11 Proceedings (absent any court order lifting the stay). In addition, the U.S. Debtors applied for and obtained an order in the Canadian Court recognizing the Chapter 11 Proceedings in the U.S. as "foreign proceedings" in Canada and giving effect, in Canada, to the automatic stay under the U.S. Bankruptcy Code.

Administration Proceedings Also on the Petition Date, the EMEA Debtors made consequential filings and each obtained an administration order from the English Court under the Insolvency Act 1986. The filings were made by the EMEA Debtors under the provisions of the European Union's Council Regulation (EC) No 1346/2000 on Insolvency Proceedings (EC Regulation) and on the basis that each EMEA Debtor's center of main interests was in England. The U.K. Administration Proceedings currently extend to January 14, 2014, subject to further extension. Under the terms of the orders, a representative of Ernst & Young LLP (in the U.K.) and a representative of 23 -------------------------------------------------------------------------------- Table of Contents Ernst & Young Chartered Accountants (in Ireland) were appointed as joint administrators with respect to the EMEA Debtor in Ireland, and representatives of Ernst & Young LLP were appointed as joint administrators for the other EMEA Debtors (collectively, U.K. Administrators) to manage each of the EMEA Debtors' affairs, business and property under the jurisdiction of the English Court and in accordance with the applicable provisions of the Insolvency Act 1986. The Insolvency Act 1986 provides for a moratorium during which creditors may not, without leave of the English Court or consent of the U.K. Administrators, wind up the company, enforce security, or commence or progress legal proceedings. All of our operating EMEA subsidiaries except those in the following countries are included in the U.K. Administration Proceedings: Nigeria, Russia, Ukraine, Israel, Norway, Switzerland, South Africa and Turkey.

The U.K. Administration Proceedings have been recognized by the U.S. Court as "foreign main proceedings" pursuant to the provisions of Chapter 15 of the U.S.

Bankruptcy Code, giving effect in the U.S. to the moratorium provided by the Insolvency Act 1986.

Certain of our Israeli subsidiaries (Israeli Debtors) commenced separate creditor protection proceedings in Israel. On January 19, 2009, the District Court of Tel Aviv (Israeli Court) appointed administrators over the Israeli Debtors (Israeli Administrators). The orders of the Israeli Court provide for a "stay of proceedings" in respect of the Israeli Debtors whose creditors are prevented from taking steps against the companies or their assets and which, subject to further orders of the Israeli Court, remains in effect during the Israeli Administration Proceedings.

On May 28, 2009, at the request of the U.K. Administrators of NNSA, the Commercial Court of Versailles, France (French Court) ordered the commencement of secondary proceedings in respect of NNSA. The French Secondary Proceedings consist of liquidation proceedings and NNSA is no longer authorized to continue its business operations.

Significant Business and Other Divestitures CDMA and LTE Access Assets On November 13, 2009, we announced that following satisfaction of all closing conditions, we, NNL, and certain of our other subsidiaries, including NNI, had completed the sale of substantially all of the assets of our CDMA business and LTE Access assets to Ericsson for $1,130, subject to certain post closing purchase price adjustments. The purchase price has been finalized with a downward purchase price adjustment of $1. In connection with this transaction and included in the net gain realized for accounting purposes, NNL and NNI paid an aggregate break-up fee of $19.5 plus $3 in expense reimbursements to Nokia Siemens Networks B.V., the party to the "stalking horse" asset sale agreement that was outbid by Ericsson in the "stalking horse" or 363 sales process under Chapter 11. We recognized a cumulative gain on disposal of $1,192 for this divestiture.

The related CDMA business and LTE Access assets financial results of operations were not classified as discontinued operations as they did not meet the definition of a component of an entity as required under U.S. Generally Accepted Accounting Principles (U.S. GAAP).

Packet Core Assets On December 8, 2009, we announced that following satisfaction of all closing conditions, NNL and NNI had completed the sale of our Packet Core Assets to Hitachi for $10. We recognized a gain on disposal of $8 for this divestiture.

The related Packet Core Assets financial results of operations were not classified as discontinued operations as they did not meet the definition of a component of an entity as required under U.S. GAAP.

Enterprise Solutions Business On December 18, 2009, we announced that we, NNL, and certain of our other subsidiaries, including NNI and NNUK, had completed the sale of substantially all of the assets of the ES business globally as well as the shares of NGS and DiamondWare, Ltd. to Avaya for a purchase price of $900 in cash, subject to certain post closing purchase price adjustments, with an additional pool of $15 reserved for an employee retention program. The purchase price was finalized with no adjustments. The sale of certain ES assets held by Israeli subsidiaries was subsequently approved by the Israeli Court on December 21, 2009. All other closing conditions had been satisfied as of December 18, 2009. We recognized a cumulative gain on disposal of $750 for this divestiture.

The related ES business and NGS financial results of operations have been classified as discontinued operations beginning in the third quarter of 2009, as they met the definition of a component of an entity as required under U.S. GAAP.

See note 5.

Optical Networking and Carrier Ethernet Businesses On March 19, 2010, we announced that we, NNL, and certain of our subsidiaries, including NNI and NNUK, had completed the sale of substantially all of the assets of its Optical Networking and Carrier Ethernet businesses to Ciena for a purchase price of approximately $774. The purchase price has been finalized with downward working capital adjustments of approximately $81. In conjunction with the sale of our Ottawa Carling Campus, we were required to exercise our early termination rights on the facility lease with Ciena and to pay Ciena $33.5 at closing. See the "Sale of Ottawa Carling Campus" section below for further information. We recognized a cumulative gain on disposal of $546 for this divestiture.

24 -------------------------------------------------------------------------------- Table of Contents The related Optical Networking and Carrier Ethernet businesses' financial results of operations were not classified as discontinued operations as they did not meet the definition of a component of an entity as required under U.S. GAAP.

LGN Joint Venture On June 29, 2010, we announced that NNL had completed the sale of its 50% plus one share interest in LGN to Ericsson for a purchase price of $242 in cash, subject to certain purchase price adjustments. The purchase price was finalized with no change to the purchase price. NNL recognized a gain on disposal of $53 in the year ended December 31, 2010. See note 5.

In addition to the sale proceeds, prior to closing, NNL received approximately 50% of a capital reduction paid out by LGN to its shareholders, NNL and LGE, in the amount of 200 billion Korean Won (approximately CAD $181). NNL received CAD $83, net of withholding taxes.

The related financial results of operations of LGN have been classified as discontinued operations beginning in the second quarter of 2010 as they met the definition of a component of an entity as required under U.S. GAAP.

MSS Business On March 11, 2011, we announced that we, NNL, and certain of our other subsidiaries, including NNI and NNUK, had completed the sale to Ericsson of substantially all of our global MSS business and the associated Data Packet Network and Services Edge Router (Shasta) product groups, for a purchase price of $65 in cash. The purchase price has been finalized and was subject to a downward price adjustment relating to working capital of $12 in the year ended December 31, 2011. We recorded a gain on disposal of $40, as adjusted for all closing conditions, for this divestiture.

The related financial results of operations of the MSS business were not classified as discontinued operations as they did not meet the definition of a component of an entity as required under U.S. GAAP.

GSM/GSM-R Business On March 31, 2010, we announced that we had completed the sale of substantially all of the assets of our global GSM/GSM-R business to Ericsson and Kapsch for aggregate proceeds of $103. The purchase price with respect to the sale to Ericsson has been finalized and the sales proceeds were subject to a downward working capital adjustment of $6 recorded in the year ended December 31, 2010.

The purchase price with respect to the sale to Kapsch was finalized in the fourth quarter of 2011 and resulted in an upward working capital adjustment of $3.We recognized a cumulative gain on disposal of $125 for this divestiture.

The related GSM/GSM-R business financial results of operations were not classified as discontinued operations as they did not meet the definition of a component of an entity as required under U.S. GAAP.

CVAS Business On May 28, 2010, we announced that we had completed the sale of substantially all of our assets of the CVAS business globally to GENBAND for a purchase price of $282, subject to balance sheet and other adjustments estimated at the time at approximately $100, resulting in estimated net proceeds of approximately $182.

Subsequent to closing, a dispute arose between the parties over the interpretation of a defined term in the asset sale agreement regarding the final purchase price payable to us. In connection with the dispute between the parties over the interpretation of a defined term in the asset sale agreement, we recorded a charge in the first quarter of 2011 of $25 as our best estimate of the probable amount payable to GENBAND based on settlement discussions which were ongoing among the parties. In August 2011, the settlement discussions resulted in the parties reaching agreement on a final purchase price of approximately $157, a difference of approximately $25 from the initial purchase price on closing of $182. This settlement was approved by the Canadian Court and the U.S. Court on August 23, 2011. We recognized a cumulative gain on disposal of $180 for this divestiture.

The related CVAS business financial results of operations were not classified as discontinued operations as they did not meet the definition of a component of an entity as required under U.S. GAAP.

GDNT Joint Venture On May 12, 2011, we announced that GDNT had concluded the sale of substantially all of its assets to Ericsson China for an aggregate purchase price of approximately $51 in cash, subject to certain purchase price adjustments. The purchase price has been finalized and the parties agreed to an upward purchase price adjustment of approximately $6, which was recorded in the second quarter of 2011. NNL and Nortel China Limited together own 62 percent of GDNT. Nortel China Limited is wholly owned by NNL. It is expected that GDNT will soon commence a process to wind down the entity and deal with its remaining assets and liabilities in accordance with Chinese law. At the conclusion of this process, any funds remaining in GDNT will be distributed to its shareholders.

Nortel recognized a gain on disposal of $24 for this divestiture.

25 -------------------------------------------------------------------------------- Table of Contents The related financial results of operations of GDNT were not classified as discontinued operations as they did not meet the definition of a component of an entity as required under U.S. GAAP.

Intellectual Property On June 30, 2011, we announced that we, NNL and certain of our other subsidiaries, including NNI and NNUK, concluded a successful auction with the Consortium emerging as the winning bidder for the sale of all of our remaining patents and patent applications for a cash purchase price of $4,500. In connection with the sale of the patents and patent applications, we received good faith deposits of $108 of which $54 was refunded to the unsuccessful bidders in the third quarter of 2011 and the balance was credited toward the purchase price paid on closing by the Consortium. We also received additional proceeds of $18 related to the sale of certain NNL tax attributes to the Consortium, which have been included as part of cash and cash equivalents.

This sale included more than 6,000 patents and patent applications spanning wireless, wireless 4G, data networking, optical, voice, internet, service provider, semiconductors and other patent portfolios. The extensive patent portfolio touched nearly every aspect of telecommunications and additional markets as well, including internet search and social networking.

On July 11, 2011, we, NNL, NNI and certain other subsidiaries obtained orders from the U.S. Court and the Canadian Court at a joint hearing approving the sale agreement. We concluded the sale on July 29, 2011 and recognized a gain on disposal of $4,475. An aggregate break-up fee of $25 plus $4 in expense reimbursements was paid to Google Inc., the unsuccessful "stalking horse" bidder.

Internet Protocol Addresses We commenced a process, approved by the Canadian Court, to sell certain residual IT assets primarily consisting of about 17 million Internet Protocol version 4 addresses (IP Addresses), and IT hardware assets including 700 servers. Working together with the Canadian Monitor, our goal is to maximize the value of these residual IT assets in a timely manner. Any definitive sale agreement will require approval of the Canadian Court.

On February 17, 2012, the Canadian Court approved two sale agreements NNL and NNTC had entered into for the sale of rights in a small number of our IP Addresses. Under one sale agreement CSC Holdings LLC, the operating subsidiary of Cablevision Systems Corporation, is the purchaser of a certain number of the IP Addresses, and under the other sale agreement, Salesforce.com Inc. is the purchaser of a certain number of the IP Addresses. The financial and other terms of each of the sale agreements, including the cash purchase price and the IP Addresses included in each sale, have been sealed by order of the Canadian Court because disclosure of such terms may be detrimental to the Canadian Debtors' interests in seeking to consummate these and other sales of IP Addresses. Both purchasers have obtained approval from the American Registry for Internet Numbers (ARIN) with respect to the transfer and registration of the IP Addresses in the respective purchasers' name upon closing. We closed these sales in the first quarter 2012 and the proceeds from the transactions have been deposited into an NNL single purpose bank account. The Canadian Debtors and the U.S.

Debtors have agreed that any dispute relating to the rights and claims, if any, of the U.S. Debtors in and to the IP Addresses, including to an allocation of such sale proceeds, will be subject to a joint hearing of the Canadian Court and the U.S. Court prior to the distribution of such sale proceeds and, if appropriate, orders of such courts approving such distributions. We continue to seek buyers for the remainder of our IP Addresses.

Transition Services Agreements We entered into TSAs in connection with certain of the divestitures discussed above and are contractually obligated under such TSAs to provide transition services to certain purchasers of our businesses and assets, such as IT, order management, supply chain, service and technical support, finance and certain back office services. We have, subject to certain limitations, agreed to indemnify purchasers for losses in connection with a breach of our obligations under the TSAs or for certain other claims or losses that might arise under the TSAs. We receive income from the TSAs, which is reported in our financial statements under "Billings under TSAs", part of Other income (expense) - net. As of December 31, 2011, we had completed substantially all of our obligations under the TSAs with respect to the business sales. As well, we entered into a TSA in connection with the patent and patent applications sale to the Consortium, which is expected to be completed no later than March 31, 2012.

Sale of Ottawa Carling Campus On December 17, 2010, we announced that NNL and NNTC completed the sale of our Ottawa Carling Campus to Public Works and Government Services Canada (PWGSC) for a cash purchase price of CAD$208. The Ottawa Carling Campus is located on 370 acres of land in Ottawa's national Capital Commission Greenbelt, and is comprised of 11 interconnected buildings totaling over 2 million square feet.

The Canadian Court approved the sale on November 8, 2010.

The sale agreement provides for Nortel to continue to occupy parts of the Ottawa Carling Campus for varying periods of time to facilitate our continuing work on our global restructuring including work under the TSAs with the various buyers of our sold businesses. All other existing leases were assumed by PWGSC, including leases with buyers of our sold businesses. With respect to the lease with Ciena, the purchaser of the Optical Networking and Carrier Ethernet business, we were directed by PWGSC under the sale agreement to exercise, on closing, our early termination rights under the lease, shortening the lease from 10 years to 5 years. This resulted, pursuant to the lease with Ciena, in the repayment to Ciena of $33.5 from the escrowed proceeds from the business divestiture and thus a reduction on the related gain on sale.

26 -------------------------------------------------------------------------------- Table of Contents The sale agreement further provided that at closing title would be delivered free and clear of all encumbrances, including a charge in favor of NNI with respect to an intercompany loan agreement, under which $75 plus accrued interest was outstanding and due on December 31, 2010. NNL repaid this outstanding amount with the proceeds from the sale of the Ottawa Carling Campus prior to December 31, 2010.

Liquidation of Subsidiaries With the completed sales of our businesses, we are focused on maximizing proceeds and cash flows with respect to remaining assets. This includes the winding up of our remaining operations and subsidiaries globally, which may involve orderly wind-ups as well as commencement of liquidation proceedings, as the circumstances warrant.

Events may impact when, and if, an entity is deemed to be in liquidation including local statutory requirements and court approvals. As such approvals and events occur, we will evaluate whether a change in basis of accounting for such entities is appropriate, and in all such cases, we will assess the carrying values of those entities' assets when it appears likely such entities will be approved for liquidation. Generally, we expect that an entity deemed to be in liquidation will result in a loss of control, deconsolidation of the entity, and accounting for the entity prospectively on a cost method basis. We recorded a loss of $74 for the year ended December 31, 2010, related to the liquidation of seven entities, which are included in reorganization items. No additional entities were deemed to be in liquidation in the year ended December 31, 2011.

See note 6 of the accompanying audited consolidated financial statements for additional information about reorganization items.

Divestiture Proceeds Received As of December 31, 2011, approximately $7,730 in net proceeds have been generated and received through the completed sales of businesses and assets.

These divestiture proceeds include the following approximate amounts: (a) $1,070 from the sale of substantially all of our CDMA business and LTE Access assets; (b) $18 from the sale of our Layer 4-7 data portfolio; (c) $10 from the sale of our Packet Core Assets; (d) $932 from the sale of substantially all of the assets of our ES business, including the shares of DiamondWare, Ltd. and NGS; (e) $638 from the sale of substantially all of the assets of our Optical Networking and Carrier Ethernet businesses; (f) $67 from the sale of our North American GSM business; (g) $36 from the sale of our GSM business outside of North America (excluding our GSM business in CALA) and our global GSM-R business; (h) $149 from the sale of substantially all of our CVAS business; (i) $234 from the sale of NNL's 50% plus one share interest in LGN; (j) $45 from the sale of substantially all of our MSS business; (k) $56 from the sale of substantially all of the GDNT assets (proceeds recorded in cash and cash equivalents); (l) $4,470 from the sale of our remaining patents and patent applications; and (m) $5 from the sale of various other business assets.

As of December 31, 2011, $7,250 of proceeds received from divestitures is being held in escrow and an additional $229, representative of proceeds from the sale of LGN, is included in non-current restricted cash and cash equivalents, all of which is currently reported in NNL solely for financial reporting purposes (including with respect to any gain recorded on such divestitures). The difference between the net proceeds received and the amount in escrow at December 31, 2011 is as a result of amounts that, from time to time, have been distributed with the consent of each of the Debtors' estates and court approvals, as applicable, from the escrow accounts to satisfy: 1) various obligations arising from the divestitures, whether through payments to third party vendors, or to reimburse the Debtors or non-consolidated subsidiaries for costs incurred, or 2) payments to the Debtors or non-consolidated subsidiaries related to settlements reached in respect of certain agreements involving proceeds allocation. The ultimate determination of the final allocation of such proceeds among the various Nortel legal entities, including entities that are not consolidated in the accompanying audited consolidated financial statements, has not yet occurred and may be materially different from the NNL classification and related amounts shown in these financial statements. The Interim Funding and Settlement Agreement (IFSA) and the escrow agreements for sales divestiture proceeds entered into by NNL, NNI and other Nortel legal entities provide for the processes for determining the final allocation of divestiture proceeds among such entities, either through joint agreement or, failing such 27 -------------------------------------------------------------------------------- Table of Contents agreement, other dispute resolution proceedings. Adjustments to the NNL classification and any related amounts arising from the ultimate allocation will be recognized when finalized. The NNL classification and related amounts shown in the accompanying audited consolidated financial statements are not determinative of, and have not been accepted by any debtor estate, any party in interest in the Creditor Protection Proceedings or any court overseeing such proceedings, for purposes of deciding the final allocation of divestiture proceeds.

As of December 31, 2011, a further $97 in connection with the divestitures of substantially all of our CDMA business and LTE Access assets, the assets of our Optical Networking and Carrier Ethernet businesses, substantially all of our global GSM/GSM-R and CVAS businesses, and substantially all of the assets of our MSS business is currently unrecorded and will be recognized, subject to agreement between Nortel and each of the various buyers that obligations under the TSAs have been completed. Such amounts, when and if received, will also be held in escrow until the final allocation of these proceeds as between various Nortel legal entities, including the U.S. and EMEA subsidiaries, is ultimately determined. Subsequent to December 31, 2011, our escrow agent has received $5 of the $97, which relates to the release of an escrow amount in connection with the sale of the CVAS business.

Allocation of Divestiture Proceeds and Other Inter-Estate Matters At various times during the second half of 2009 and the first quarter of 2010, the Canadian Debtors, the U.S. Debtors and the U.K. Administrators, with the involvement of the Canadian Monitor, the U.S. Principal Officer, the U.S.

Creditors' Committee and the Bondholder Group engaged in negotiations regarding the scope and terms of a proposed protocol for resolving disputes concerning the allocation of sale proceeds (Allocation Protocol), as required by the terms of the IFSA. However, it became apparent that the parties had differing views concerning the allocation of the sale proceeds, inter-company claims and the scope of the Allocation Protocol. In order to address this impasse, the Canadian Debtors, the U.S. Debtors and the U.K. Administrators agreed to temporarily suspend negotiations on the Allocation Protocol and instead focussed on a process to facilitate a comprehensive settlement to resolve all material outstanding inter-estate matters, including the allocation of the sale proceeds and the settlement of inter-company claims. To this end, the parties met on several occasions to outline, on a confidential and without prejudice basis, their respective allocation methodologies and potential inter-company claims that may be asserted.

As a result of these meetings and the complexity of the issues that were raised, the Canadian Debtors, the U.S. Debtors, the EMEA Debtors, the U.K.

Administrators, the Canadian Monitor the U.S. Principal Officer, the U.S.

Creditors' Committee, the Bondholder Group and certain other interested parties (the Mediation Parties) agreed that these inter-estate negotiations would be aided by the appointment of a neutral mediator to review and mediate the issues. The parties selected Layn R. Phillips, a former U.S. federal district court judge and experienced commercial mediator, to serve as mediator and review the positions and viewpoints of the various parties on allocation and unresolved inter-estate matters. A confidential, non-binding mediation was held in November 2010. The mediation session did not result in the resolution of the issues presented.

As a result of the November 2010 mediation session, and positions taken in the CCAA Proceedings, it became apparent that the U.K. Administrators and certain other parties, who were also substantial creditors of the EMEA Debtors, were alleging a number of significant potential claims against the Canadian Debtors as well as the U.S. Debtors. These potential claims are integral to the allocation positions of these parties and include allegations of proprietary and trust-type claims. Consequently, the Canadian Monitor and the Canadian Debtors determined that, absent reaching a comprehensive settlement of allocation and inter-company claims issues, these specific claims needed to be resolved first. Accordingly, the Canadian Debtors obtained an order of the Canadian Court establishing a process for the calling of claims by EMEA Creditors. See "Creditor Protection Proceedings Claims" below. Notwithstanding the commencement of this process, the Mediation Parties continued to engage in discussions regarding the resumption of mediation and another confidential, non-binding mediation was held in April 2011. On April 13, 2011, we announced that the mediation process that had been commenced in respect of the allocation of sale proceeds of our various business and asset divestitures and other inter-estate matters, including inter-company claims, had ended without resolution of the matters in dispute. In light of the unsuccessful conclusion of the mediation process, we announced that delays in the ultimate resolution of allocation and inter-company claims matters potentially could be significant, and that such delays would result in a corresponding significant delay in the timing of distributions to holders of validated claims of the various estates.

On April 25, 2011, the U.S. Debtors and the U.S. Creditors' Committee filed a joint motion for an order establishing an allocation protocol for the sale proceeds as between various Nortel legal entities (Original Protocol Motion), and for related relief. Subsequently, as a result of further discussions, the U.S. Debtors and the U.S. Creditors' Committee together with the Canadian Debtors jointly filed an amended and restated version of the Original Protocol Motion and agreed to collectively seek an order establishing an allocation protocol before the Canadian Court and the U.S. Court. The proposed order would have had the U.S. Court and the Canadian Court establish procedures and an expedited schedule for the cross-border resolution by the U.S. Court and the Canadian Court on the allocation of proceeds from the sales of our businesses and from the sale of our patent portfolio. The motion was heard at a joint hearing of the U.S. Court and Canadian Court on June 7, 2011. On June 20, 2011, we announced that the Canadian Court and the U.S. Court had reserved their decisions on the motions heard by such courts on June 7, 2011, and directed us, NNL and the other Canadian Debtors, NNI and the other U.S. Debtors, the EMEA Debtors, as well as certain other parties, to participate in a joint mediation of the issues raised in the motions. The directions provided that the Canadian Court and the U.S. Court together would appoint a sole mediator by supplemental order and that the mediator would determine the time, date, place and protocol of the mediation.

28 -------------------------------------------------------------------------------- Table of Contents On June 17, 2011, and as supplemented on June 29, 2011, the Canadian Court and the U.S. Court appointed The Honourable Warren K. Winkler, Chief Justice of Ontario, as the sole mediator (the Mediator) for the mediation. The mediation was ordered because of both courts' concern that the time required to prepare their decisions would also delay allocation proceedings and, therefore, distributions to creditors of the various Nortel estates.

The Mediator has the authority, in consultation with the parties to the mediation, to determine the scope of the mediation, as he deems appropriate, including the issue of allocation of the sale proceeds of Nortel's various businesses and patent portfolio, and global issues relating to allocation and claims. Participation in this mediation is mandatory. The mediation process will be terminated (i) by a declaration by the Mediator that a settlement has been reached (any such settlement would be subject to the approval of the Canadian Court and the U.S. Court, on notice to parties in interest), (ii) by a declaration by the Mediator that further efforts at mediation are no longer considered worthwhile, or (iii) for any other reason as determined by the Mediator. At the request of the U.S. Court, the commencement of the mediation has been delayed pending the outcome of the October 14, 2011 hearing (discussed in more detail below).

The Canadian Court approved a claims process with regard to the significant inter-company claims made by the EMEA Debtors against the Canadian Debtors, which process included a requirement that claims be filed by March 18, 2011. In response to this call for claims, representatives of the U.K. Administrators, on behalf of the EMEA Debtors, filed 84 proofs of claims against the Canadian Debtors and unspecified directors and officers of NNC and NNL (the EMEA Claims).

The EMEA Claims contain broad ranging claims set out with limited specificity.

The EMEA Claims also include a number of large priority claims, which if allowed, would significantly reduce the potential proceeds available for distribution to unsecured creditors of the Canadian Debtors. We are currently unable to quantify the total potential amounts claimed under the EMEA Claims, as many of the claims were not quantified. Of the EMEA Claims quantified, they total approximately CAD$9.8 billion. In addition, the U.K. Pension Trust Limited and the Board of the Pension Protection Fund in the U.K. filed an estimated claim of CAD$3.7 billion in respect of an alleged deficit in the U.K. pension plan (the U.K. Pension Claim). Should the EMEA Claims and the U.K. Pension Claim ultimately be allowed in the CCAA Proceedings on the basis filed, they could have the effect of doubling (or more) the estimated CCAA claims pool and, accordingly, significantly reduce potential distributions to other unsecured creditors of the Canadian Debtors. Further, counsel for 131 former employees of NNSA have submitted a letter indicating they would file proofs of claims in connection with an action that is currently before the courts in France.

On September 30, 2009, the EMEA Debtors and certain of their affiliates (collectively the EMEA Claimants) filed over 350 proofs of claim against the U.S. Debtors and unspecified directors and officers of the U.S. Debtors in the U.S. Court. On May 10, 2011, the U.S. Court entered an order requiring the EMEA Claimants to file more definite statements of their previously-filed claims, and to file any other pre-petition claims against the U.S. Debtors, by June 1, 2011, absent which any of their pre-petition claims would be disallowed. The deadline for filing amended proofs of claim was later extended on request of certain of the EMEA Claimants to June 3, 2011 (U.S. EMEA Claims Bar Date). The EMEA Claimants filed 38 amended proofs of claim on June 3, 2011. The remaining proofs of claim that had been filed by the EMEA Claimants and were not amended on a timely basis have been disallowed and expunged pursuant to the terms of the U.S.

Court's May 10, 2011 order.

On July 15 and 22, 2011, the U.S. Debtors and the U.S. Creditors' Committee filed joint objections and motions to dismiss the claims of NNUK, NNSA and Nortel Networks (Ireland) Limited and the French Liquidator. On August 3, 2011, the U.S. Court issued an order that set October 13 and 14, 2011 as the hearing dates for these motions. The order also requested the Mediator to consider postponing the mediation discussed above until after these hearings and the U.S.

Court's decision on the motions to dismiss. On August 9, 2011, the Mediator advised the parties to the mediation that he was postponing the initial procedural meeting to a date to be determined after the U.S. Court releases its decision. The U.S. Court heard the motions on October 14, 2011 and has reserved judgment.

Creditor Protection Proceedings Claims Processes On August 4, 2009, the U.S. Court approved a claims process in the U.S. for claims that arose prior to the Petition Date. Pursuant to this claims process, proofs of claim, except in relation to NNCI, had to be received by the U.S.

Claims Agent, Epiq Bankruptcy Solutions, LLC (Epiq), by September 30, 2009 (subject to certain exceptions as provided in the order establishing the claims bar date). On December 2, 2009, the U.S. Court approved January 25, 2010 as the deadline for receipt by Epiq of proofs of claim against NNCI (subject to certain exceptions as provided in the order establishing the claims bar date).

On July 30, 2009, the Canadian Court approved a claims process in Canada in connection with the CCAA Proceedings. Pursuant to this claims process, subject to certain exceptions, proofs of claim for claims arising prior to the Petition Date had to be received by the Canadian Monitor by no later than September 30, 2009. This claims bar date did not apply to certain claims, including inter-company claims as between the Canadian Debtors or as between any of the Canadian Debtors and their direct or indirect subsidiaries and affiliates (other than joint ventures), compensation claims by current or former employees or directors of any of the Canadian Debtors, and claims of current or former directors or officers for indemnification and/or contribution, for which claims notification deadlines have yet to be set by the Canadian Court. Proofs of claim for claims arising on or after the Petition Date as a result of the restructuring, termination, repudiation or disclaimer of any lease, contract or other agreement or obligation had to be received by the Canadian Monitor by the later of September 30, 2009 or 30 days after a proof of claim package was sent by the Canadian Monitor to 29 -------------------------------------------------------------------------------- Table of Contents the person in respect of such claim. On September 16, 2010, the Canadian Court approved a methodology for the review and determination of claims filed against the Canadian Debtors. Also on September 16, 2010, the Canadian Court and U.S.

Court approved a cross-border claims protocol to address the level of cooperation and consultation on issues between the Canadian Debtors and the U.S.

Debtors with respect to overlapping and same-creditors' claims between the two debtor estates. The U.K. Administrators commenced an informal creditor claim submission and evaluation process in July 2010. Creditors will also have the opportunity to take part in a formal claims admission and proving process in accordance with English insolvency law provisions in due course.

On January 14, 2011, the Canadian Court approved a claims process with regard to the significant inter-company claims made by the EMEA Debtors against the Canadian Debtors. The claims process implements a 'call for claims' that required the EMEA Debtors to file their claims by March 18, 2011, and establishes a process for the proving and resolution of such claims so that this category of claims also moves forward through the claims process.

On October 6, 2011, the Canadian Court approved a methodology and procedure for compensation related claims in Canada. A bar date of January 6, 2012 for such claims was set. Approximately 16,000 of the Canadian Debtors' employees, former employees, pensioners and survivors including long-term disability (LTD) beneficiaries, may have employment-related claims, with a total value of such claims currently estimated to be approximately CAD$1.06 billion (see notes 8, 9 and 11 in the accompanying audited consolidated financial statements). The order includes a methodology based upon categories of employees for the calculation of compensation claims, as well as a streamlined process, to address such claims intended to provide a fair, reasonable, efficient and orderly process beneficial to both employees and the Canadian Debtors. The methodology was agreed upon after extensive discussions among the Canadian Debtors, the Canadian Monitor, Representative Counsel, LTD beneficiaries' representative counsel, Canadian Auto Workers (CAW) counsel and their respective actuarial and financial advisors.

The compensation claims are valued based on: (a) identified and agreed-upon benefits and agreed categories of claims, including post-retirement benefits; (b) agreed-upon actuarial assumptions and calculations, including with respect to income benefits, other benefits for LTD beneficiaries, post-retirement benefits and non-registered pension plan benefits and, with respect to adjustments relating to administrative costs and income tax, as applicable, agreed upon increase or "gross up" claim amounts; and (c) agreed-upon formulae relating to termination and severance pay claims. The order also calls for grievance claims, director compensation claims and indemnification claims that were excluded from prior claims processes of the Canadian Debtors. For more information on the employee compensation claims, refer to notes 8, 9 and 11 to the accompanying audited consolidated financial statements.

The accompanying audited consolidated financial statements for the year ended December 31, 2011 generally do not include the final outcome of any current or future claims relating to the Creditor Protection Proceedings, other than as described in this report. Certain claims filed may have priority over those of the Debtors' unsecured creditors. The Debtors are reviewing all claims filed and continue the claims reconciliation process. Differences between claim amounts determined by the Debtors and claim amounts filed by creditors will be investigated and resolved pursuant to a claims resolution process approved by the relevant court or, if necessary, the relevant court will make a final determination as to the amount, nature and validity of claims. Certain claims that have been filed may be duplicative (particularly given the multiple jurisdictions involved in the Creditor Protection Proceedings), based on contingencies that have not occurred, or may be otherwise overstated, and would therefore be subject to revision or disallowance. The settlement of claims cannot be finalized until the relevant creditors and courts approve a plan. In light of the number of creditors of the Debtors, the claims resolution process may take considerable time to complete. See note 20 of the accompanying audited consolidated financial statements for additional information about claims.

Interim and Final Funding and Settlement Agreements Historically, we had deployed our cash through a variety of intercompany borrowing and transfer pricing arrangements to allow us to operate on a global basis and to allocate profits, losses and certain costs among the corporate group. In particular, the Canadian Debtors allocated profits, losses and certain costs among the corporate group through transfer pricing agreement payments (TPA Payments). Other than one $30 payment made by NNI to NNL in respect of amounts that could arguably be owed in connection with the transfer pricing agreement, TPA Payments were suspended since the Petition Date. However, the Canadian Debtors and the U.S. Debtors, with the support of the U.S. Creditors' Committee and the Bondholder Group, as well as the EMEA Debtors (other than NNSA), entered into an Interim Funding and Settlement Agreement (IFSA) dated June 9, 2009 under which NNI paid $157 to NNL, in four installments during the period ended September 30, 2009 in full and final settlement of TPA Payments for the period from the Petition Date to September 30, 2009. Similarly, except for two shortfall payments totaling $20, the IFSA provides for a full and final settlement of any and all TPA Payments owing between certain EMEA entities and the U.S. and Canada for the period from the Petition Date through December 31, 2009. A portion of this funding may be repayable by NNL to NNI in certain circumstances. The 30 -------------------------------------------------------------------------------- Table of Contents IFSA was approved by the U.S. Court and Canadian Court on June 29, 2009 and on June 23, 2009, the English Court confirmed that the U.K. Administrators were at liberty to enter into the IFSA on behalf of each of the EMEA Debtors (except for NNSA which was authorized to enter into the IFSA by the French Court on July 7, 2009). NNSA acceded to the IFSA on September 11, 2009.

On December 23, 2009, we announced that we, NNL, NNI, and certain other Canadian Debtors and U.S. Debtors entered into a Final Canadian Funding and Settlement Agreement (FCFSA). The FCFSA provides, among other things, for the settlement of certain intercompany claims, including in respect of amounts determined to be owed by NNL to NNI under our transfer pricing arrangements for the years 2001 through 2005. As part of the settlement, NNL agreed to the establishment of a pre-filing claim in favor of NNI in the CCAA Proceedings in the net amount of approximately $2,063 (FCFSA Claim), which claim will not be subject to any offset. The FCFSA also provides that NNI would pay to NNL approximately $190, which was received, over the course of 2010, including the contribution of NNI and certain U.S. affiliates towards certain estimated costs to be incurred by NNL, on their behalf, for the duration of the Creditor Protection Proceedings.

The FCFSA also provides for the allocation of certain other anticipated costs to be incurred by the parties, including those relating to the divestiture of our various businesses. On January 21, 2010, we obtained approvals from the Canadian Court and the U.S. Court of the FCFSA and the creation and allowance of the FCFSA Claim. In addition, we obtained various other approvals from the Canadian Court and U.S. Court including authorization for NNL and NNI to enter into advance pricing agreements with the U.S. and Canadian tax authorities to resolve certain transfer pricing issues, on a retrospective basis, for the taxable years 2001 through 2005. In addition, in consideration of a settlement payment of $37.5, the United States Internal Revenue Service (IRS) released all of its claims against NNI and other members of NNI's consolidated tax group for the years 1998 through 2008. As a result of this settlement, the IRS stipulated that its claim against NNI filed in the Chapter 11 Proceedings in the amount of approximately $3,000 was reduced to the $37.5 settlement payment. This settlement was a condition of the FCFSA and was approved by the U.S. Court on January 21, 2010. NNI made the settlement payment to the IRS on February 22, 2010.

On August 23, 2011, the Canadian Court approved a Q1 2010 Transfer Pricing Settlement Agreement among NNL, NNI, NNUK, certain other Debtors and the U.K.

Administrators whereby certain inter-company matters were resolved, including NNL remitting $4.7 to NNUK. Further, the Canadian Court approved on the same date an Agreement on Transfer Pricing Amendments and Certain Other Matters among the same parties as well as the French Liquidator. Under this agreement, and related agreements, transfer pricing arrangements ceased among all Nortel entities, and as a result any subsequent inter-company transactions is on a cost plus basis.

APAC Debt Restructuring Agreement To enable certain Nortel subsidiaries (APAC Agreement Subsidiaries) in the Asia Pacific (APAC) region to continue their respective business operations and to facilitate the business divestitures, the Debtors (other than the Israeli Debtors) had entered into an Asia Restructuring Agreement (APAC Agreement).

Under the APAC Agreement, the APAC Agreement Subsidiaries have paid a portion of certain of the APAC Agreement Subsidiaries net intercompany debt outstanding as of the Petition Date (Pre-Petition Intercompany Debt) to the Debtors (other than the Israeli Debtors). Further portions of the Pre-Petition Intercompany Debt have been repaid and continue to be repayable from time to time only to the extent of any such APAC Agreement Subsidiary's net cash balance at the relevant time, and subject to certain reserves and provisions. All required court approvals with respect to the APAC Agreement have been obtained in the U.S. and Canada.

Debt Instruments and Other Contracts Our filings under Chapter 11 and the CCAA constituted events of default or otherwise triggered repayment obligations under the instruments governing substantially all of the indebtedness issued or guaranteed by NNC, NNL, NNI and NNCC. In addition, we may not be in compliance with certain other covenants under indentures and other debt or lease instruments, and the obligations under those agreements may have been accelerated. We believe that any efforts to enforce such payment obligations against the U.S. Debtors are stayed as a result of the Chapter 11 Proceedings. Although the CCAA does not provide an automatic stay, the Canadian Court has granted a stay to the Canadian Debtors that currently extends to April 13, 2012. Pursuant to the U.K. Administration Proceedings, a moratorium has commenced during which creditors may not, without leave of the English Court or consent of the U.K. Administrators, enforce security, or commence or progress legal proceedings.

The Creditor Protection Proceedings may have also constituted events of default under other contracts and leases of the Debtors. In addition, the Debtors may not be in compliance with various covenants under other contracts and leases.

Depending on the jurisdiction, actions taken by counterparties or lessors based on such events of default and other breaches may be unenforceable as a result of the Creditor Protection Proceedings.

In addition, the Creditor Protection Proceedings may have caused, directly or indirectly, defaults or events of default under the debt instruments and/or contracts and leases of certain of our non-Debtor entities. These events of default (or defaults that become events of default) could give counterparties the right to accelerate the maturity of this debt or terminate such contracts or leases.

Value, Listing and Trading of NNC Common Shares and NNL Preferred Shares On January 14, 2009, we received notice from the New York Stock Exchange (NYSE) that it decided to suspend the listing of Nortel Networks Corporation common shares (NNC common shares) on the NYSE. The NYSE stated that its decision was based on 31 -------------------------------------------------------------------------------- Table of Contents the commencement of the CCAA Proceedings and Chapter 11 Proceedings. As previously disclosed, we also were not in compliance with the NYSE's continued listing standards regarding price criteria pursuant to the NYSE's Listed Company Manual because the average closing price of NNC common shares was less than $1.00 per share over a consecutive 30-trading-day period as of December 11, 2008. Subsequently, on February 2, 2009, NNC common shares were delisted from the NYSE. NNC common shares are currently quoted in the over-the-counter market in the Pink Sheets under the symbol "NRTLQ".

On January 14, 2009, we received notice from the Toronto Stock Exchange (TSX) that it had begun reviewing the eligibility of NNC and NNL securities for continued listing on the TSX. However, the TSX stopped its review after concluding that the review was stayed by the Initial Order obtained by the Canadian Debtors pursuant to the CCAA Proceedings.

On February 5, 2009, the U.S. Court also granted a motion by the U.S. Debtors to impose certain restrictions and notification procedures on trading in NNC common shares and NNL preferred shares in order to preserve valuable tax assets in the U.S., in particular net operating loss carryovers and certain other tax attributes of the U.S. Debtors.

On June 19, 2009 (and numerous times subsequently), we announced that we do not expect that holders of NNC common shares and NNL preferred shares will receive any value from the Creditor Protection Proceedings and we expect that the proceedings will ultimately result in the cancellation of these equity interests. As a result, we applied to delist the NNC common shares and NNL applied to delist the NNL preferred shares from trading on the TSX and delisting occurred on June 26, 2009 at the close of trading.

As a result of the TSX delisting, certain sellers of NNC common shares and NNL preferred shares who are not residents of Canada (non-residents) for purposes of the Income Tax Act (Canada) may be liable for Canadian tax and may be subject to tax filing requirements in Canada as a result of the sale of such shares after June 26, 2009. Also, purchasers of NNC common shares and NNL preferred shares from non-residents may have an obligation to remit 25% of the purchase price to the Canada Revenue Agency. Parties to sales of NNC common shares or NNL preferred shares involving a non-resident seller should consult their tax advisors or the Canada Revenue Agency. The statements herein are not intended to constitute, nor should they be relied upon as, tax advice to any particular seller or purchaser of NNC common shares or NNL preferred shares.

On November 1, 2011, NNL announced that in light of its ongoing Creditor Protection Proceedings and the other factors mentioned, NNL would not be following the notification procedures set out in the provisions attached to its Cumulative Redeemable Class A Preferred Shares Series 5 (Series 5 Preferred Shares) in connection with the right of holders of Series 5 Preferred Shares to elect to convert such shares, on December 1, 2011, into Cumulative Redeemable Class A Preferred Shares Series 6 ("Series 6 Preferred Shares"), nor would a fixed dividend rate be set for purposes of the dividend rights attaching to the Series 6 Preferred Shares (none of which are currently outstanding). The principal distinction between the Series 5 Preferred Shares and Series 6 Preferred Shares, aside from their conversion rights, is that the former provide for floating adjustable dividends while the latter provide for fixed dividends, in either case, as and when declared payable by NNL's board of directors. NNL suspended the declaration of all dividends on its preferred shares in November 2008 and currently is not lawfully able to declare or pay dividends on its preferred shares, nor does it expect to resume the declaration or payment of dividends on its preferred shares at any time in the future. Further, as previously announced, NNL does not expect that holders of its preferred shares (of any series) will receive any value from the Creditor Protection Proceedings and expects that these proceedings will result in the cancellation of such shares.

Annual General Meeting of Shareholders We and NNL obtained an order from the Canadian Court under the CCAA Proceedings relieving NNC and NNL from the obligation to call and hold annual meetings of their respective shareholders by the statutory deadline, and directing them to call and hold such meetings within six months following the termination of the stay period under the CCAA Proceedings.

Directors' and Officers' Compensation and Indemnification The Initial Order of the Canadian Court in the CCAA Proceedings ordered the Canadian Debtors to indemnify directors and officers of the Canadian Debtors for claims that may be made against them relating to failure of the Canadian Debtors to comply with certain statutory payment and remittance obligations. The Initial Order also included a charge against the property of the Canadian Debtors in an aggregate amount not exceeding CAD$90 as security for such indemnification obligations. On February 26, 2010, the NNC and NNL boards of directors (Nortel Boards) approved the reduction in the amount of the charge to an aggregate amount not exceeding CAD$45 on the condition that such reduction shall have been approved by an order of the Canadian Court which order shall provide for certain related releases in respect of such claims. The reduction in the amount of the charge was approved by the Canadian Court on March 31, 2010.

In addition, in conjunction with the Creditor Protection Proceedings, NNC established a directors' and officers' trust (D&O Trust) in the amount of approximately CAD$12. The purpose of the D&O Trust is to provide a trust fund for the payment of liability claims (including defense costs) that may be asserted against individuals who serve as directors and officers of NNC, or as directors and officers of other entities at NNC's request (such as subsidiaries and joint venture entities), by reason of that association with NNC or other entity, to the extent that such claims are not paid or satisfied out of insurance maintained by NNC and NNC is unable to indemnify the individual. Such liability claims would include claims for unpaid statutory payment or remittance obligations of NNC or such other entities for which such directors and officers have personal statutory liability but will not include claims for which NNC 32 -------------------------------------------------------------------------------- Table of Contents is prohibited by applicable law from providing indemnification to such directors or officers. The D&O Trust also may be drawn upon to maintain directors' and officers' insurance coverage in the event NNC fails or refuses to do so. The D&O Trust will remain in place until the later of December 31, 2015 or three years after all known actual or potential claims have been satisfied or resolved, at which time any remaining trust funds will revert to NNC.

Certain Nortel entities have not filed for bankruptcy protection (Cascade Subsidiaries). Under the laws of various jurisdictions in which the Cascade Subsidiaries operate, the directors, officers and agents of the Cascade Subsidiaries may be subject to personal liability. In order to protect individuals serving as directors on the boards of the Cascade Subsidiaries and to facilitate participation by the Cascade Subsidiaries in our sales of businesses and assets, NNL and NNI have contributed to a trust (Trust), which will indemnify individuals serving as directors on the boards and as officers or agents of the Cascade Subsidiaries and their successors, if any, for any claims resulting from their service as a director, officer or agent of a Cascade Subsidiary, subject to limited exceptions. The Trust was approved by the Canadian Court and the U.S. Court on March 31, 2010.

Workforce Reductions; Employee Compensation Programs We have taken and expect to take further, ongoing workforce and other cost reduction actions as we work through the Creditor Protection Proceedings. On the Petition Date, we employed approximately 30,300 employees globally. Through the sales of our businesses and cost reduction activities, our workforce was approximately 190 employees as of December 31, 2011, which includes employees in Canada and those employed by our consolidated subsidiaries. Therefore, this number excludes employees employed by any U.S. subsidiary or an EMEA subsidiary.

Given the Creditor Protection Proceedings, we have discontinued all remaining activities under our previously announced restructuring plans as of the Petition Date. For further information, see the "Post-Petition Date Cost Reduction Activities" section of this report.

We continued the Nortel Networks Limited Annual Incentive Plan (Incentive Plan) in 2011 and will continue the Incentive Plan in 2012 for all eligible employees.

The Incentive Plan permits quarterly award determinations and payouts for the business units and the Asia region, and semi-annual award determinations and semi-annual or annual payouts for the Corporate Group and NBS, as applicable.

Where required, we have obtained court approvals for retention and incentive compensation plans for certain key eligible employees deemed essential to the business during the Creditor Protection Proceedings. In March 2009, we obtained U.S. Court and Canadian Court approvals for a key employee incentive and retention program for employees in North America, CALA and Asia. The program consisted of the Nortel Networks Corporation Key Executive Incentive Plan and the Nortel Networks Corporation Key Employee Retention Plan.

On March 4, 2010, we obtained U.S. Court approval and on March 8, 2010 we obtained Canadian Court approval for the Nortel Special Incentive Plan (NSIP), which is designed to retain personnel at all levels of Corporate Group and NBS critical to complete our remaining work. The NSIP was developed in consultation with independent expert advisors taking into account the availability of more stable and competitive employment opportunities available to these employees elsewhere. The NSIP was supported by the Canadian Monitor, U.S. Creditors' Committee and the Bondholders Group. Representative Counsel to former Canadian employees was also advised of the NSIP prior to its approval by the Canadian Court and U.S. Court. Approximately 80% of the NSIP's costs were funded by the purchasers of our businesses, pursuant to the terms of sales agreements. Certain purchasers have required that we retain key employees around the world to ensure that the transition to them of the acquired businesses is as effective and efficient as possible. The NSIP covered the period from January 1, 2010 to December 31, 2011.

As there remain significant milestones to complete the wind-down of our operations and conclude the CCAA Proceedings, a new retention plan (Retention Plan) for our employees and certain of our affiliates in the APAC and CALA regions in which we have an economic interest, was established by us in consultation with the Canadian Monitor to cover the 2012 calendar year. The Retention Plan was approved by the Canadian Court on December 14, 2011. The Retention Plan includes approximately 150 employees in Canada, and the APAC and CALA regions, and the costs of the Retention Plan will be funded by the Nortel entity that employs a particular employee. Retaining our remaining employees is critical to our ability to complete our restructuring efforts, repatriate cash from affiliates in the APAC and CALA regions and complete the wind-down of those global entities, complete the estate segregation activities with respect to the IT infrastructure and applications, assist in the creditor claims processes including resolution of inter-company, trade and compensation related claims, assist in the sales proceeds allocation process, compliance with ongoing public reporting and tax compliance, and ultimately complete and implement a plan of arrangement.

On February 27, 2009, we obtained Canadian Court approval to terminate our equity-based compensation plans (the Nortel 2005 Stock Incentive Plan, As Amended and Restated (2005 SIP), the Nortel Networks Corporation 1986 Stock Option Plan, As Amended and Restated (1986 Plan) and the Nortel Networks Corporation 2000 Stock Option Plan (2000 Plan)) and certain equity plans assumed in prior acquisitions, including all outstanding equity under these plans (stock options, stock appreciation rights (SARs), restricted stock units (RSUs) and performance stock units (PSUs)), whether vested or unvested. We sought this approval given the decreased value of NNC common shares and the administrative and associated costs of maintaining the plans to us as well as the plan participants. As a consequence, all options under the remaining equity-based compensation plans assumed in prior acquisitions had expired.

33 -------------------------------------------------------------------------------- Table of Contents Settlement Agreement with Former and Disabled Canadian Employee Representatives On February 8, 2010, the Canadian Debtors reached an agreement on certain employment related matters regarding our former Canadian employees, including our Canadian registered pension plans and benefits for Canadian pensioners and our employees on long term disability (LTD). We entered into a settlement agreement with court-appointed representatives of our former Canadian employees, pensioners and LTD beneficiaries, Representative Counsel, the Canadian Auto Workers' union and the Canadian Monitor (Settlement Agreement). The Settlement Agreement, as amended, was approved by the Canadian Court on March 31, 2010.

The Settlement Agreement provided that we would continue to administer the Nortel Networks Limited Managerial and Non-Negotiated Pension Plan and the Nortel Networks Negotiated Pension Plan (collectively, the Canadian Pension Plans and individually, a Canadian Pension Plan) until September 30, 2010, at which time the Canadian Pension Plans were transitioned, in accordance with the Ontario Pension Benefits Act, to Morneau Sheppell Ltd. (formerly known as Morneau Sobeco Limited Partnership), a replacement administrator appointed by the Ontario Superintendent of Financial Services (Ontario Superintendent). We, as well as the Canadian Monitor, took all reasonable steps to complete the transfer of the administration of the Canadian Pension Plans to the new administrator. We continued to fund the Canadian Pension Plans consistent with the current service and special payments we had been making during the course of the CCAA Proceedings through March 31, 2010, and thereafter continued to make current service payments until September 30, 2010. On January 17, 2011, the Ontario Superintendent issued a Notice of Intended Decision stating that he intended to order the wind up of the Canadian Pension Plans effective October 1, 2010. See "Pension and Post-retirement Benefits" in this section of this report.

For the remainder of 2010, we continued to pay medical and dental benefits to our pensioners and survivors and our LTD beneficiaries in accordance with the current benefit plan terms and conditions. Life insurance benefits continued unchanged until December 31, 2010 and continued to be funded consistent with 2009 funding. Further, we paid income benefits to the LTD beneficiaries and to those receiving survivor income benefits and survivor transition benefits through December 31, 2010. The employment of the LTD beneficiaries terminated on December 31, 2010. Under the Settlement Agreement, the parties agreed to work toward a court-approved distribution of the assets of Nortel's Health and Welfare Trust, the vehicle through which we generally have historically funded these benefits, with the exception of the income benefits described above, which we have paid directly. On November 9, 2010, the Canadian Court approved the Canadian Monitor's motion regarding a proposed allocation methodology with respect to the funds held in Nortel's Health and Welfare Trust for distribution to beneficiaries of the trust. Leave to appeal that order, which was sought by a group of 39 LTD beneficiaries, was denied by the Ontario Court of Appeal on January 7, 2011. By a series of Canadian Court orders dated December 15, 2010, May 3, 2011 and June 21, 2011, interim distributions out of the Health and Welfare Trust were approved and cumulative interim distributions of approximately CAD$24 were made to approximately 760 beneficiaries between January and July 2011. An additional interim distribution in the amount of approximately CAD$1.9 was made to LTD beneficiaries on or about September 30, 2011. On November 8, 2011, the Canadian Court approved a fifth distribution in the amount of CAD$22.2, substantially all of which was made on or about November 30, 2011 to over 8,000 LTD, pensioner and other beneficiaries. A sixth interim distribution was approved by the Canadian Court on March 2, 2012 in the amount of CAD$10.4. We continue to work with the Canadian Monitor and Representative Counsel to finalize outstanding matters to allow a final distribution from the Health and Welfare Trust.

The Settlement Agreement also provides that we establish a fund of CAD$4.3 for termination payments of up to CAD$0.003 per employee to be made to eligible terminated employees as an advance against their claims under the CCAA Proceedings, of which approximately CAD$4.3 has been paid. See information on employee compensation claims in the "Creditor Protection Proceedings Claims Processes" section of this report.

A charge in the maximum amount of CAD$57 against the Canadian Debtors' assets has been established as security in support of the payments to be made by us under the Settlement Agreement, which amount will be reduced by the amount of payments made. The Settlement Agreement also sets out the relative priority for claims to be made in respect of the deficiency in the Canadian Pension Plans and Nortel's Health and Welfare Trust. Under the Settlement Agreement, these claims will rank as ordinary unsecured claims in the CCAA Proceedings.

See note 11 in the accompanying audited consolidated financial statements for further information on our pension and employee benefits plans.

Environmental Remediation Sites Under the CCAA Proceedings, the Canadian Debtors have filed a motion for an order authorizing and directing the Canadian Debtors to cease performing any remediation at or in relation to five sites (Belleville, Brampton, Brockville, Kingston and London, Ontario), and that any claims in relation to such remediation be subject to the court approved claims process under the CCAA Proceedings. We brought the motion to disclaim any further obligation for such properties that are no longer owned or used by us and that we and our creditors derive no benefit from any further remediation. Subsequent to the filing of the motion, NNL entered into a transition agreement regarding the Brampton site that facilitated a gradual cessation of NNL's environmental risk related tasks at that site, which tasks have now been completed. The Ministry of the Environment (the MOE) has made remediation orders with respect to the four other sites. The motion was heard in September 2011 in the Canadian Court, wherein the Canadian Debtors sought advice and direction that the MOE remediation orders are in breach of the CCAA stay. A decision on that motion is pending. To date, the MOE has not sought to enforce the remediation orders while the Canadian Court's decision is outstanding and NNL has continued to undertake environmental risk assessments and remediation related tasks at those sites.

34 -------------------------------------------------------------------------------- Table of Contents Basis of Presentation and Going Concern Considerations For periods ending after the Petition Date, we reflect adjustments to our financial statements in accordance with Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC) 852 "Reorganization" (ASC 852), on the basis that we will continue as a going concern.

After consideration of the guidance available in FASB ASC 810 "Consolidation" (ASC 810) and ASC 852, the accompanying audited consolidated financial statements as of and for the years ended December 31, 2011 and 2010 have been presented on the following basis with respect to our subsidiaries: • the EMEA Debtors and their subsidiaries (collectively, the EMEA Subsidiaries) were accounted for under the equity method from the Petition Date up to May 31, 2010 and as an investment under the cost method of accounting thereafter; • the U.S. Debtors and their subsidiaries (collectively, the U.S.

Subsidiaries) were accounted for as consolidated subsidiaries until September 30, 2010 and as an investment under the cost method of accounting thereafter; and • our other subsidiaries are consolidated throughout the periods presented consistent with the basis of accounting applied in 2008 prior to the commencement of the Creditor Protection Proceedings with the exception of deconsolidated subsidiaries due to loss of control once deemed to be in liquidation proceedings.

We continue to exercise control over our subsidiaries located in Canada, CALA and Asia (other than those entities that are EMEA Subsidiaries or U.S.

Subsidiaries), and our financial statements are prepared on a consolidated basis with respect to those subsidiaries. We will continue to evaluate our remaining consolidated subsidiaries for the appropriateness of the accounting applied to these investments as the Creditor Protection Proceedings progress.

The accompanying audited consolidated financial statements include all information and notes required by U.S. GAAP in the preparation of annual consolidated financial statements. Although we are headquartered in Canada, the accompanying audited consolidated financial statements are expressed in U.S. Dollars as the greater part of our financial results and net assets are denominated in U.S. Dollars.

The accompanying audited consolidated financial statements do not purport to reflect or provide for the consequences of the Creditor Protection Proceedings.

In particular, such audited consolidated financial statements do not purport to show: (a) as to assets, their realizable value on a liquidation basis or their availability to satisfy liabilities; (b) as to pre-petition liabilities, all amounts that may be allowed for claims or contingencies, or the status and priority thereof, or the amounts at which they may ultimately be settled; (c) as to shareholders' accounts, the effect of any changes that may be made in our capitalization; (d) as to operations, the effect of any future changes that may be made in our business; or (e) as to divestiture proceeds held in escrow and recorded by NNL solely for financial reporting purposes, the final allocation of these proceeds as between various Nortel legal entities, which will ultimately be determined either by joint agreement or through a dispute resolution proceeding (see above and note 2 to the accompanying audited consolidated financial statements).

The ongoing Creditor Protection Proceedings and completed divestitures of our businesses and assets raise substantial doubt as to whether we will be able to continue as a going concern. The accompanying audited consolidated financial statements have been prepared using U.S. GAAP and the rules and regulations of the SEC. While the Debtors have filed for and been granted creditor protection, the accompanying audited consolidated financial statements continue to be prepared using the going concern basis, which assumes that we will be able to realize our assets and discharge our liabilities in the normal course of business for the foreseeable future. However, it is not possible to predict the outcome of the Creditor Protection Proceedings and, as such, there is substantial doubt regarding the realization of assets and discharge of liabilities. If the going concern basis is not appropriate, adjustments will be necessary to the carrying amounts and/or classification of our assets and liabilities. Further, a court-approved plan in connection with the Creditor Protection Proceedings could materially change the carrying amounts and classifications reported in the accompanying audited consolidated financial statements.

In the course of preparing our first quarter 2011 financial statements, we became aware of certain NNL contractual guarantees provided in connection with real estate leases entered into by certain EMEA Subsidiaries and U.S.

Subsidiaries that were not recognized at fair value upon the respective deconsolidation dates of these subsidiaries. See note 2 of the accompanying audited consolidated financial statements for further information on the correction of these immaterial errors related to the applicable periods.

See note 1 in the accompanying audited consolidated financial statements for further information on our basis of presentation and going concern considerations.

35 -------------------------------------------------------------------------------- Table of Contents Reporting Requirements As a result of the Creditor Protection Proceedings, we are periodically required to file various documents with and provide certain information to the Canadian Court, the U.S. Court, the English Court, the Canadian Monitor, the U.S.

Creditors' Committee, the U.S. Trustee and the U.K. Administrators. Depending on the jurisdictions, these documents and information may include statements of financial affairs, schedules of assets and liabilities, monthly operating reports, information relating to forecasted cash flows, as well as certain other financial information. Such documents and information, to the extent they are prepared or provided by us, will be prepared and provided according to requirements of relevant legislation, subject to variation as approved by an order of the relevant court. Such documents and information may be prepared or provided on an unconsolidated, unaudited or preliminary basis, or in a format different from that used in the financial statements included in our periodic reports filed with the SEC. Accordingly, the substance and format of these documents and information may not allow meaningful comparison with our regular publicly-disclosed financial statements. Moreover, these documents and information are not prepared for the purpose of providing a basis for an investment decision relating to our securities, or for comparison with other financial information filed with the SEC.

For a full discussion of the risks and uncertainties we face as a result of the Creditor Protection Proceedings, including the risks mentioned above, see the Risk Factors section of this report. Further information pertaining to our Creditor Protection Proceedings may be obtained through our website at www.nortel.com. Certain information regarding the CCAA Proceedings, including the reports of the Canadian Monitor, is available at the Canadian Monitor's website at www.ey.com/ca/nortel. Documents filed with the U.S. Court and other general information about the Chapter 11 Proceedings are available at http://chapter11.epiqsystems.com/nortel. The content of the foregoing websites is not a part of this report.

Our Business We have completed the sales of all of our businesses. We continue to oversee and fulfill the residual contracts not transferred to the various buyers. As a result, commencing with the first quarter of 2011, we have one reportable segment, as our chief operating decision maker reviews financial and operating results and makes decisions on that basis. Accordingly, we have amended previously reported financial information to conform to the change in reportable segments.

Results of Operations - Continuing Operations Revenues Revenues in 2011 were $27 as compared to $620 in 2010 representing a decrease of $593.

Revenues in 2011 were significantly impacted by the divestitures of all of our businesses, in particular the Optical Networking and Carrier Ethernet and GSM/GSM-R businesses in the first quarter of 2010 and the divestiture of the CVAS business in the second quarter of 2010 when comparing the 2011 results to the same periods in 2010. The decrease in revenues was further impacted by the deconsolidation of the U.S. Subsidiaries at the beginning of the fourth quarter of 2010.

Gross Margin Gross loss was $14 for the year ended December 31, 2011 compared to gross profit of $88 for the year ended December 31, 2010. The gross loss in 2011 was driven primarily by costs related to the transfer of obligations under certain stranded contracts to third parties.

Remaining costs of revenues relate primarily to costs to deliver the remaining TSA activities. Given the minimal revenue, we no longer consider gross margin to be a meaningful measure.

SG&A and R&D Expenses 2011 2010 $ Change % Change SG&A expense $ 157 $ 515 $ (358 ) (70 ) R&D expense - 107 (107 ) (100 ) Selling, General and Administrative (SG&A) expense decreased to $157 in 2011 from $515 in 2010, a decrease of $358 or 70%. The decrease in SG&A expense was due to the business divestitures and the deconsolidation of the U.S.

Subsidiaries noted above. Due to the divestiture of all of our businesses, we no longer invest in research and development (R&D). As a result, our R&D expense was nil in 2011 and is expected to be nil for the remainder of the Creditor Protection Proceedings.

Pre-Petition Date Cost Reduction Plans During the third quarter of 2011, Nortel filed a motion with the Canadian Court to approve a methodology that includes, among other matters, an amount for employees' severance claims. The motion was approved on October 6, 2011. The workforce provision was adjusted to reflect the severance claims amount under the approved methodology. In 2011, charges related to restructuring plans were $4 as compared to a recovery of $5 in 2010.

36 -------------------------------------------------------------------------------- Table of Contents As a result of the Creditor Protection Proceedings, we ceased taking any further actions under our previously announced workforce and cost reduction plans as of January 14, 2009. Any revisions to actions taken up to that date under previously announced workforce and cost reduction plans will continue to be accounted for under such plans, and will be classified in cost of revenues, SG&A and R&D as applicable. Our contractual obligations are subject to re-evaluation in connection with the Creditor Protection Proceedings and, as a result, expected cash outlays relating to contract settlement and lease costs are subject to change. As well, we are not following our pre-Petition Date practices with respect to the payment of severance in jurisdictions under the Creditor Protection Proceedings.

Recoveries primarily result from lease repudiations and other liabilities relinquished due to the Creditor Protection Proceedings and severance related accruals released from pre-Petition Date restructuring plans and re-established under post-Petition Date cost reduction activities. For a description of our previously announced restructuring plans and further details of the charges (recoveries) incurred, refer to note 8 to the accompanying audited consolidated financial statements.

Post-Petition Date Cost Reduction Activities In connection with the Creditor Protection Proceedings, we have taken and expect to take further workforce and other cost reduction actions. During the third quarter of 2011, Nortel filed a motion with the Canadian Court to approve a methodology that includes, among other matters, an amount for employees' severance claims. The motion was approved on October 6, 2011. The workforce provision was adjusted to reflect the severance claims amount under the approved methodology. The actions related to these activities are expected to occur as they are identified. The following current estimated charges are based upon accruals made in accordance with U.S. GAAP. The current estimated total charges to earnings and cash outlays are subject to change as a result of our ongoing review of applicable law. In addition, the current estimated total charges to earnings and cash outlays do not reflect all potential claims or contingency amounts that may be allowed under the Creditor Protection Proceedings and thus are also subject to change.

Workforce Reduction Activities In 2011, approximately $20 of charges relating to the net workforce reduction of 475 positions were incurred. In 2011, approximately $81 was recorded in relation to the Canadian severance claim adjustment noted above. As of December 31, 2011, our workforce reduction provision balances were approximately $140, of which $139 were classified as subject to compromise. As we continue to progress through the Creditor Protection Proceedings, we expect to incur charges and cash outlays related to workforce and other cost reduction strategies. We will continue to report future charges and cash outlays under the broader strategy of the post-Petition Date cost reduction plan.

The following table sets forth charges by caption in the statements of operations: 2011 2010 Cost of revenues $ 4 $ 14 SG&A 14 25 R&D - 10 Other 83 - Total workforce reduction charge $ 101 $ 49 Other Cost Reduction Activities In 2011, there were no charges related to Nortel's real estate cost reduction activities. As of December 31, 2011, our real estate and other cost reduction balances were approximately $6, which are classified as liabilities subject to compromise.

In 2010, our real estate related cost reduction activities resulted in charges of $8, which were recorded against SG&A and reorganization items. In 2010, we recorded an impairment of $11 and additional charges of $13 to reorganization items for lease repudiation and other contract settlements.

37 -------------------------------------------------------------------------------- Table of Contents Other Operating (Income) Expense- Net The components of other operating income - net were as follows: 2011 2010 Royalty license income - net $ (2 ) $ (10 ) Litigation charges - net (6 ) 5 Billings under TSAs (50 ) (269 ) Other - net 1 (7 ) Other operating income - net $ (57 ) $ (281 ) In 2011, other operating income - net was $57 due primarily to billings related to TSAs entered into in connection with our various divestitures. We are expecting only minimal billings related to TSAs in future quarters due to the substantial completion of all agreements, with the exception of the TSA in relation to the sale of our patents and patent applications.

In 2010, other operating income - net was $281 due primarily to billings related to TSAs with Ericsson and Avaya of $269, royalty income of $10, and other - net of $7, partially offset by litigation settlement charges of $5.

Other Income (Expense) - Net The components of other income (expense) - net were as follows: 2011 2010 Gain on sale and impairment of investments $ 1 $ 7 Rental income 3 59 Currency exchange loss - net (35 ) (6 ) Other - net (14 ) (3 ) Other income (expense) - net $ (45 ) $ 57 In 2011, other income (expense) - net was a net expense of $45, primarily comprised of currency exchange loss of $35, and other - net of $14, partially offset by rental income of $3. In 2010, other income (expense) - net was income of $57, primarily due to rental income of $59 and gain on sale and impairment of investments of $7, partially offset by currency exchange loss of $6.

Interest Expense Interest expense remained relatively consistent in 2011 compared to 2010. We have continued to accrue for interest expense in 2011 of $326 and in 2010 of $301 in our normal course of operations related to debt issued by NNC or NNL in Canada until we obtain a claims determination order that adjudicates the claims.

During the pendency of the Creditor Protection Proceedings, we generally have not and do not expect to make payments to satisfy the interest obligations of the Debtors.

38 -------------------------------------------------------------------------------- Table of Contents Reorganization Items - net Reorganization items represent the net direct and incremental charges related to the Creditor Protection Proceedings such as revenues, expenses including professional fees directly related to the Creditor Protection Proceedings, realized gains and losses, and provisions for losses resulting from the reorganization and restructuring of the business. Reorganization items for the years ended December 31, 2011 and 2010 consisted of the following: 2011 2010 Professional fees (a) $ (70 ) $ (155 ) Interest income (b) 14 13 Lease repudiation (c) - (3 ) Employee incentive plans (d) (20 ) (43 ) Employee severance related claims (e) (79 ) - Pension, post-retirement and post-employment plans (f) (95 ) (401 ) NNUK pension guarantee (g) - (634 ) Gain on divestitures - net (h) 65 843 Gain on IP sale (h) 4,475 - Loss on liquidation of subsidiaries (i) (1 ) (74 ) EMEA deconsolidation adjustment (j) - (763 ) U.S. deconsolidation adjustment (k) - (2,013 ) U.S. debt guarantee (l) - (150 ) Gain (loss) on impairment or sale of stranded assets (m) 1 (140 ) Settlements (n) (18 ) (2 ) Lease guarantees (o) - (125 ) Reimbursements from escrow to non-Canadian estates (p) (59 ) - Other (q) (26 ) (47 ) Total reorganization items - net $ 4,187 $ (3,694 ) (a) Includes financial, legal, real estate and valuation services directly associated with the Creditor Protection Proceedings.

(b) Reflects interest earned due to the preservation of cash as a result of the Creditor Protection Proceedings.

(c) We have rejected a number of leases, resulting in the recognition of non-cash gains and losses.

(d) Relates to retention and incentive plans for certain key eligible employees deemed essential during the Creditor Protection Proceedings.

(e) Relates to the estimated allowed claim for employee severance obligations.

See notes 8 and 9 to the accompanying audited consolidated financial statements.

(f) Includes amounts related to the Settlement Agreement, the termination of the Nortel Networks Supplementary Executive Retirement Plan (SERP) defined benefit plan, a partial settlement of the Retirement Allowance Plan (RAP), and adjustments made to estimated allowed claims related to post-employment and post-retirement plans. See note 11 to the accompanying audited consolidated financial statements for more information.

(g) Relates to the NNUK pension guarantee. See note 14 to the accompanying audited consolidated financial statements for further information.

(h) Relates to the gains on various divestitures (includes direct and incremental costs). See note 2 to the accompanying audited consolidated financial statements for further information.

(i) Relates to deconsolidation of certain subsidiaries in connection with liquidation activities during the Creditor Protection Proceedings. See note 2 to the accompanying audited consolidated financial statements for further information.

(j) Relates to the charge due to the deconsolidation of the EMEA Subsidiaries and the application of the cost method of accounting. See note 1 to the accompanying audited consolidated financial statements for further information.

(k) Relates to a charge due to the deconsolidation of the U.S. Subsidiaries and the application of the cost method of accounting. See note 1 to the accompanying audited consolidated financial statements for further information.

(l) Relates to the U.S. debt guarantee. See note 14 to the accompanying audited consolidated financial statements.

(m) Relates to impairment or sale of certain long-lived assets.

(n) Includes net payments pursuant to settlement agreements since the Petition Date, and in some instances the extinguishment of net pre-petition liabilities.

(o) Relates to the estimated fair value under ASC460 of NNL's guarantees of lease obligations primarily related to real estate leases entered into by certain EMEA Subsidiaries and U.S. Subsidiaries. See note 1 and note 14 to the accompanying audited consolidated financial statements for further information.

(p) Relates to certain distributions and payments from escrow made to non-Canadian debtors in the course of the Creditor Protection Proceedings.

See note 2 to the accompanying audited consolidated financial statements.

(q) Includes other miscellaneous items directly related to the Creditor Protection Proceedings.

39 -------------------------------------------------------------------------------- Table of Contents Income Tax Expense In 2011, Nortel recorded a tax expense of $9 on earnings from continuing operations before income taxes and equity in net loss of associated companies and EMEA Subsidiaries of $3,701. The tax expense of $9 is comprised of $3 resulting from taxes on earnings in Asia, $8 relating to the accrual of the deferred tax liability associated with the investments in CALA and Asia, $4 of other taxes including withholding taxes, offset by decreases in uncertain tax positions and other taxes of $4 and the reversal of previously accrued income taxes and interest of $2.

In 2010, Nortel recorded a tax recovery of $40 on loss from continuing operations before income taxes and equity in net loss of associated companies and EMEA Subsidiaries of $4,199. The tax recovery of $40 is largely comprised of $11 of income taxes on current year earnings in various jurisdictions offset by decreases in uncertain tax positions and other taxes of $10 and the reversal of previously accrued income taxes and interest of $41.

Income tax expense or benefit from continuing operations is generally determined without regard to other categories of earnings, such as discontinued operations and other comprehensive income. An exception is provided when there is aggregate income from categories other than continuing operations and a loss from continuing operations in the current year. In this case, the tax benefit allocated to continuing operations is the amount by which the loss from continuing operations reduces the tax expense recorded with respect to the other categories of earnings, even when a valuation allowance has been established against the deferred tax assets. In instances where a valuation allowance is established against current year losses, income from other sources, including discontinued operations, is considered when determining whether sufficient future taxable income exists to realize the deferred tax assets. In 2011 and 2010, the amount of tax recovery allocated to continuing operations and tax expense allocated to discontinued operations as a result of income from discontinued operations being offset by losses from continuing operations was nil and $7 respectively.

We continue to assess the valuation allowance recorded against our deferred tax assets on a quarterly and annual basis. The valuation allowance is in accordance with FASB ASC 740 "Income Taxes" (ASC 740), which requires us to establish a valuation allowance if, based on the weight of available evidence, it is more likely than not that some portion or all of a company's deferred tax assets will not be realized. We previously recorded a full valuation allowance in 2008 against our net deferred tax asset in all tax jurisdictions other than joint ventures in Korea and Turkey. Based on the available evidence, we have determined that a full valuation allowance continues to be necessary as at December 31, 2011 for all jurisdictions. For additional information, see "Application of Critical Accounting Policies and Estimates - Income Taxes" in this section of this report.

Results of Operations - EMEA Subsidiaries As discussed above, the EMEA Subsidiaries were accounted for under the equity method of accounting from the Petition Date through May 31, 2010 and are accounted for under the cost method of accounting beginning June 1, 2010.

Therefore, no results for EMEA Subsidiaries are reported in our accompanying audited consolidated financial statements for the year ended December 31, 2011.

Equity in net loss of EMEA Subsidiaries for the year ended December 31, 2010 only includes the results of EMEA Subsidiaries through May 31, 2010. Equity in net loss of EMEA Subsidiaries was a loss of $50 for 2010, and the following discussion relates to the key components comprising the EMEA Subsidiaries' net loss.

Revenues in 2010 up to May 31, 2010 were $243, excluding $4 in discontinued operations.

Gross profit was $49 and gross margin was 19.8% for the year ended 2010 up to May 31, 2010.

SG&A and R&D expenses were $116 and $8, respectively, for 2010 up to May 31, 2010.

Reorganization items net were $13 for 2010. The primary drivers were charges for professional fees of $39, employee incentive plans of $9 and settlements of $3 partially offset by gain on divestitures of $28 and other of $8.

Results of Operations-Discontinued Operations We completed the sale of substantially all of the assets of the ES business globally, including the shares of DiamondWare, Ltd. and NGS in the fourth quarter of 2009. NNL completed the sale of its 50% plus one share interest in LGN in the second quarter of 2010. The related ES, NGS and LGN financial results of operations have been classified as discontinued operations for all periods presented.

ES Loss from discontinued operations, net of taxes, for 2011 was $1 primarily attributable to reorganization items.

Loss from discontinued operations, net of taxes, for 2010 was $18.

Revenues for 2010 were $11 with a negative gross profit of $3 related to the residual business not transferred to Avaya. Additionally, in 2010, ES incurred SG&A expense of $10.

40 -------------------------------------------------------------------------------- Table of Contents LGN Earnings from discontinued operations, net of taxes, for 2010 for LGN were $42.

We recorded a gain of $53 on the sale of NNL's interest in LGN to Ericsson in the second quarter of 2010. Revenues for 2010 were $210 with a gross profit of $58 for LGN. SG&A and R&D expenses were $37 and $30, respectively.

For further information about discontinued operations see note 5 to the accompanying audited consolidated financial statements.

Liquidity and Capital Resources Overview As of December 31, 2011, our cash and cash equivalents balance was $751.

Our consolidated cash is held globally in various Nortel consolidated entities and joint ventures as follows, as of December 31, 2011: $183 in Asia, $305 in Canada, $43 in CALA, $162 in joint ventures (including GDNT), $52 in China and $6 in EMEA. These amounts exclude restricted cash of $7,572, comprised of $7,563 accounted for in Canadian entities and $9 in Asia. See "Executive Overview - Creditor Protection Proceedings - Divestiture Proceeds Received" for further information regarding restricted cash held in Canadian entities. Cash balances related to the EMEA Subsidiaries and the U.S. Subsidiaries are no longer included in our consolidated cash balance as a result of the previously reported changes to cost accounting.

As of December 31, 2011, approximately $7,730 in net proceeds has been generated and received through the completed sales. As of December 31, 2011, $7,250 of the divestiture proceeds received is being held in escrow until the final allocation of these proceeds as between various Nortel legal entities is ultimately determined. An additional $229, reflecting proceeds from the sale of LGN, is included in restricted cash. As of December 31, 2011, a further $97 in the aggregate was expected to be received in connection with the sales completed to date, subject to the satisfaction of various conditions. Such amount, when received, will also be held in escrow until the final allocation of these proceeds as between various Nortel legal entities is ultimately determined. See "Executive Overview - Creditor Protection Proceedings - Divestiture Proceeds Received".

Historically, we have deployed our cash throughout the corporate group, through a variety of intercompany borrowing and transfer pricing arrangements. As a result of the Creditor Protection Proceedings, cash in the various jurisdictions is generally available to fund operations in that particular jurisdiction, but generally is not available to be freely transferred between jurisdictions, regions, or outside joint ventures, other than for normal course intercompany trade and pursuant to specific court-approved agreements as discussed below.

Thus, there is greater pressure and reliance on cash balances and generation capacity in specific regions and jurisdictions.

Since the Petition Date, we have generally maintained use of our cash management system and consequently have minimized disruption to our operations pursuant to various court approvals and agreements obtained or entered into in connection with the Creditor Protection Proceedings. We continue, to the extent necessary, to conduct ordinary course trade transactions between the Debtors and Nortel companies that are not included in the Creditor Protection Proceedings. The Canadian Debtors and the U.S. Debtors have also each entered into agreements with the EMEA Debtors governing the settlement of certain intercompany accounts, including for the purchase of goods and services. The terms of these agreements were last extended to May 31, 2010. Ongoing day-to-day trade of goods and services and settlement of post-filing intercompany accounts, to the extent still necessary, continues in the normal course. During the pendency of the Creditor Protection Proceedings we generally have not and do not expect to make payments to satisfy any of the interest obligations of the Debtors.

Historically, we have relied upon additional cash management provisions including a transfer pricing model that determines the prices that are charged for goods and services transferred between our subsidiaries and the allocation of profit and loss based upon certain R&D costs. In particular, the Canadian Debtors allocated profits, losses and certain costs among the corporate group through TPA Payments. Other than one $30 payment made by NNI to NNL in 2009 in respect of amounts that could arguably be owed in connection with the transfer pricing agreement, TPA Payments were suspended since the Petition Date and, as a result, NNL's cash flows have been significantly impacted. The Canadian Debtors, the U.S. Debtors, with the support of the U.S. Creditors' Committee and the Bondholder Group, as well as the EMEA Debtors (other than NNSA, which acceded to the IFSA on September 11, 2009), entered into the IFSA dated June 9, 2009 under which NNI has paid $157 to NNL, in four installments during 2009 in full and final settlement of TPA Payments for the period from the Petition Date to September 30, 2009. On August 23, 2011, the Canadian Court approved a Transfer Pricing Settlement Agreement among NNL, NNI, NNUK, certain other Debtors and the U.K. Administrators whereby certain inter-company matters were resolved, including NNL remitting $4.7 to NNUK. Further, the Canadian Court approved on the same date an Agreement on Transfer Pricing Amendments and Certain Other Matters among the same parties as well as the French Liquidator. Under this agreement, TPA arrangements ceased among all Nortel entities, and as a result any subsequent inter-company transactions will be on a cost plus basis.

On December 23, 2009, we announced that we, NNL, NNI, and certain other Canadian Debtors and U.S. Debtors had entered into the FCFSA, which provides, among other things, for the settlement of certain intercompany claims, including in respect of amounts determined to be owed by NNL to NNI under our transfer pricing arrangements for the years 2001 through 2005. The FCFSA also provided that NNI would pay to NNL approximately $190 over the course of 2010 in full and final settlement of all obligations pursuant to the transfer pricing agreements among the Nortel group entities, which includes the contribution of NNI and certain U.S.

41 -------------------------------------------------------------------------------- Table of Contents affiliates towards certain estimated costs to be incurred by NNL on their behalf for the duration of the Creditor Protection Proceedings. These payments were made in 2010. In addition, in consideration of a settlement payment of $37.5, the IRS released all of its tax claims against NNI and other members of NNI's consolidated tax group for the years 1998 through 2008. NNI made the settlement payment to the IRS on February 22, 2010.

A revolving loan agreement between NNI, as lender, and NNL, as borrower, was approved by the Canadian Court and, subject to certain conditions, approved by the U.S. Court on an interim basis. An initial amount of $75 was approved and drawn. The agreement matured on December 31, 2010 and NNL repaid this outstanding amount, together with accrued interest, from the proceeds from the sale of the Ottawa Carling Campus and the agreement has been terminated.

We have established certain cash collateralized facilities in certain jurisdictions. Approximately $6 of cash collateral has been posted by Nortel in support of certain performance bonds and letter of credit facilities.

To enable the APAC Agreement Subsidiaries in the APAC region to continue their respective business operations and to facilitate the business divestitures, the Debtors (other than the Israeli Debtors) entered into an APAC Agreement. Under the APAC Agreement, the APAC Agreement Subsidiaries have paid a portion of the Pre-Petition Intercompany Debt to the Debtors (other than the Israeli Debtors).

As of December 31, 2011, the Canadian Debtors, the U.S. Debtors and the EMEA Debtors have received to date approximately $35, $35 and $28, respectively, in aggregate in respect of the APAC Agreement. Further portions of the Pre-Petition Intercompany Debt continue to be repayable from time to time only to the extent of any such APAC Agreement Subsidiary's net cash balance at the relevant time, and subject to certain reserves and provisions.

We continue several initiatives to generate cost reductions and decrease the rate of cash outflow during the Creditor Protection Proceedings. Some of these initiatives include the workforce reduction plan announced on February 25, 2009 and other ongoing workforce and cost reduction activities and reviews of our real estate and other property leases, IT equipment agreements, supplier and customer contracts and general discretionary spending as well as our new organizational structure announced on August 10, 2009. With the completed sales of all of our businesses, we are focused on maximizing proceeds with respect to remaining assets. This includes the winding up of our remaining operations and subsidiaries globally, which can involve orderly wind-ups as well as commencement of liquidation proceedings, as the circumstances warrant.

Our current cash management system and consolidated cash on hand to fund our operations is subject to ongoing review and approval by the Canadian Monitor and may be impacted by the Creditor Protection Proceedings. The U.S. Principal Officer and the U.K. Administrators oversee the cash management system in their respective jurisdictions and those amounts are not included in our consolidated balance sheet as of December 31, 2011. There is no assurance that (i) we will be able to maintain our current cash management system; (ii) we will generate sufficient cash to fund and wind down our operations; (iii) cash collateralized facilities in certain jurisdictions will be sufficient for our business needs or that we will not have to provide further cash collateral; or (iv) the Debtors will be able to access proceeds in a timely manner from the divestitures as allocation of proceeds from the divestitures of our businesses and assets remains unresolved.

Cash Flows Our total consolidated cash and cash equivalents excluding restricted cash decreased by $56 during the year ended December 31, 2011 to $751, primarily due to cash flows attributable to the net cash used in continuing operations.

42 -------------------------------------------------------------------------------- Table of Contents Our liquidity and capital resources are primarily impacted by: (i) current cash and cash equivalents, (ii) operating activities, (iii) investing activities, and (iv) foreign exchange rate changes. The following table summarizes our cash flows by activity and cash on hand as of December 31, 2011 and 2010: 2011 2010 Change Net earnings (loss) attributable to NNC $ 3,670 $ (4,200 ) $ 7,870 Adjustments to net earnings (loss) and working capital changes (3,962 ) 3,968 (7,930 ) Net cash used in operating activities (292 ) (232 ) (60 ) Net cash from investing activities 249 207 42 Net cash used in financing activities (2 ) (175 ) 173 Effect of foreign exchange rate changes on cash and cash equivalents (11 ) 1 (12 ) Reduction of cash and cash eqivalents of deconsolidated entities - (992 ) 992 Net decrease in cash and cash equivalents (56 ) (1,191 ) 1,135 Cash and cash equivalents at beginning of year 807 1,998 (1,191 ) Cash and cash equivalents of continuing operations at end of year $ 751 $ 807 $ (56 ) Operating Activities In 2011, our net cash used in operating activities of $292 resulted from use of cash of $4,149 from non-cash items, partially offset by net earnings attributable to NNC of $3,670, net loss from discontinued operations of $1, and changes in operating assets and liabilities of $186. Net cash from changes in operating assets and liabilities was mainly due to the decrease in accounts receivable of $82, the change in other of $95, change in payroll, contractual and accrued liabilities of $66 and the increase in deferred cost of $4, partially offset by the increase in accounts payable of $42, the change in deferred revenue of $9 and the increase in advanced billings and income taxes payable of $5 and $5, respectively. The primary non-cash items were $4,276 in reorganization items under ASC 852, partially offset by other of $11, pension and other accruals of $55, amortization and depreciation of $33, earnings attributable to non-controlling interests of $21, and deferred income taxes of $7.

In 2010, our net cash used in operating activities of $232 resulted from net loss attributable to NNC of $4,200, earnings of $24 attributable to discontinued operations, and cash used in discontinued operations of $385, partially offset by cash from changes in operating assets and liabilities of $185, and non-cash items of $4,192. The net cash from changes in operating assets and liabilities was mainly due to the reduction of accounts receivable of $339, change in inventory and deferred cost of $36 and $22, respectively, change in payroll, accrued and contractual liabilities of $66, and the change in deferred revenues of $3, partially offset by the decrease in accounts payable of $63, change in income taxes of $83, change in advanced billings of $78, change in restructuring liabilities of $20, and change in other operating assets and liabilities of $37.

The primary additions to our net loss for non-cash items were $50 equity in net loss of EMEA Subsidiaries, pension and other accruals of $101, amortization and depreciation of $75, other net of $422, which includes funding from discontinued operations, and reorganization items under ASC 852 of $3,533.

Investing Activities In 2011, net cash from investing activities was $249 primarily due to proceeds related to sale of businesses and assets of $4,602, of which $4,583 was reclassified to restricted cash and cash equivalents resulting in an increase in restricted cash and cash equivalents. The increase in restricted cash and cash equivalents related to proceeds was partially offset by decreases in restricted cash and cash equivalents of $230 primarily related to various distributions to the Debtors.

In 2010, net cash from investing activities was $207 primarily due to proceeds related to sale of businesses and assets of $994, a decrease in short term and long term investments of $24, net cash provided by discontinued operations of $211 and proceeds on disposal of plant and equipment of $203, partially offset by an increase in restricted cash and cash equivalents of $1,213, expenditures for plant and equipment of $9, and acquisitions of investments and businesses of $3.

Financing Activities In 2011, cash used in financing activities was $2, primarily due to dividends paid by subsidiaries to noncontrolling interests.

In 2010, cash used in financing activities was $175, primarily due to dividends paid by subsidiaries to noncontrolling interests of $19, decrease in notes payable of $75, net decrease in capital leases payable of $4, and net cash used in discontinued operations of $77.

Other Items In 2011, our cash position was negatively impacted by $11 due to the unfavorable effects of changes in foreign exchange rates primarily from movements of the Canadian Dollar, Indian Rupee and Chinese Yuan against the U.S. Dollar.

43 -------------------------------------------------------------------------------- Table of Contents In 2010, our cash position was negatively impacted by the exclusion of cash of $992 due to the deconsolidation of subsidiaries.

Fair Value Measurements We utilize observable (Level 1 and Level 2) inputs in determining the fair value. See note 15 to the accompanying audited consolidated financial statements for additional information.

Future Uses of Liquidity The matters described below, to the extent that they relate to future events or expectations, may be significantly affected by our Creditor Protection Proceedings. Those proceedings will involve, or may result in, various restrictions on our activities and/or the need to obtain third party approvals for various matters.

Our cash requirements, excluding distributions from restricted cash which may occur from time to time, for the 12 months commencing January 1, 2012 are primarily expected to consist of funding for operations and the following items: • professional fees in connection with the Creditor Protection Proceedings of approximately $87; and • costs related to workforce reductions and real estate actions totaling approximately $4.

Off-Balance Sheet Arrangements Bid, Performance-Related and Other Bonds During the normal course of business, we have provided bid, performance, warranty and other types of bonds, which we refer to collectively as bonds, via financial intermediaries to various customers in support of commercial contracts, typically for the supply of telecommunications equipment and services. If we fail to perform under the applicable contract, the customer may be able to draw upon all or a portion of the bond as a remedy for our failure to perform. The contracts that these bonds support generally have terms ranging from one to five years. Bid bonds generally have a term of less than twelve months, depending on the length of the bid period for the applicable contract.

Performance-related and other bonds generally have a term consistent with the term of the underlying contract. Historically, we have not made material payments under these types of bonds and as a result of the Creditor Protection Proceedings we do not anticipate that we will be required to make any such payments during the pendency of the Creditor Protection Proceedings.

The following table provides information related to these types of bonds as of: 2011 2010 Bid and performance-related bonds(a) $ 3 $ 26 Other bonds(b) - - Total bid, performance-related and other bonds $ 3 $ 26 (a) Net of restricted cash and cash equivalent amounts of $6 and $5 as of December 31, 2011 and 2010, respectively.

(b) Net of restricted cash and cash equivalent amounts of $1 and $15 as of December 31, 2011 and 2010, respectively.

Application of Critical Accounting Policies and Estimates Our accompanying audited consolidated financial statements are based on the selection and application of U.S. GAAP, which require us to make significant estimates and assumptions. We believe that the following accounting policies and estimates may involve a higher degree of judgment and complexity in their application and represent our critical accounting policies and estimates: income taxes, pension and post-retirement benefits, and Creditor Protection Proceedings.

We have discussed the application of these critical accounting policies and estimates with the audit committee of our board of directors.

Income Taxes As of December 31, 2010, Nortel's net deferred tax assets were nil. As of December 31, 2011, the net deferred tax liabilities were $7. The change of $7 resulted from the accrual of the deferred tax liabilities associated with the expected withholding taxes relating to investments in CALA and Asia. Our deferred tax assets are mainly comprised of net operating loss carryforwards, realized and unrealized capital loss carryforwards, tax credit carryforwards, outside basis differences and deductible temporary differences, which are primarily available to reduce future income taxes payable in Canada. During the third quarter of 2011, Nortel concluded the successful auction of Nortel's remaining patent portfolio and closed this transaction on July 29, 2011, which resulted in a gain of $4,475 in the third quarter of 2011. The estimated tax impact in Canada resulted in a reduction of the gross deferred tax asset offset with a reduction in valuation allowance. There is significant uncertainty concerning the forecasted income or loss for 2012 and beyond 44 -------------------------------------------------------------------------------- Table of Contents and the uncertainty concerning the estimated final proceeds allocation by jurisdiction, and thus this significant negative evidence outweighs any positive evidence that may exist and Nortel believes that it is still appropriate to maintain a full valuation allowance in all jurisdictions.

Transfer Pricing Nortel had previously entered into Advanced Pricing Arrangements (APA) with the U.S. and Canadian taxation authorities in connection with its intercompany transfer pricing and cost sharing arrangements between Canada and the U.S. These arrangements expired in 1999 and 2000. In 2002, Nortel filed APA requests with the taxation authorities in the U.S., Canada and the U.K. that applied to the 2001 through 2005 taxation years (2001-2005 APA). In February 2010, Nortel and the U.S. and Canadian taxing authorities settled and executed the 2001-2005 APA resulting in a reallocation of losses from NNI to NNL in the amount of $2,000.

The taxing authorities made no disclosure to Nortel of the basis upon which they agreed to such reallocation. Nortel continues to apply the transfer pricing methodology proposed in the 2001- 2005 APA requests to the other parties subject to the transfer pricing methodology in preparing its tax returns and its accounts for its 2001 to 2005 taxation years. The other parties are the U.K., France, Ireland and Australia.

The U.K. and Canadian tax authorities are also parties to negotiations with respect to the 2001-2005 APA. We are uncertain of the U.K.'s response to the agreement reached between the U.S. and Canadian tax authorities. Since the U.S.

and Canadian tax authorities did not express a view on the proposed transfer pricing methodology, no adjustment has been made to the transfer pricing methodology that we submitted in our 2001-2005 APA application. It is also uncertain whether the Creditor Protection Proceedings will have any impact on the ultimate resolution of the U.K. and Canadian APA, and it is possible that the U.K. and Canadian tax authorities may advance negotiations regarding their 2001-2005 bilateral APA. Although the ultimate outcome of these negotiations is uncertain, there may be a further reallocation of historical losses from Canada to the U.K. This reallocation of losses is not expected to result in a material impact to Nortel's consolidated tax expense. We continue to monitor the progress of the remaining APA negotiations and will analyze the existence of any new evidence, when available. We may make adjustments to the deferred tax and valuation allowance assessments, as appropriate, as additional evidence becomes available in future quarters.

Although we continue to apply the transfer pricing methodology that was requested in the previously withdrawn 2007-2010 APA to the 2006 through to the 2008 taxation years, the ultimate outcome is uncertain and the ultimate reallocation of losses cannot be determined at this time. Certain of the Nortel entities have expressed reservations about the proper application of Nortel's transfer pricing methodologies. Other than in the U.S., there could be a further material shift in historical earnings between the above mentioned parties. If these matters are resolved unfavorably, they are unlikely to have a material effect on Nortel's consolidated financial position, results of operations and/or cash flows.

Tax Contingencies The accounting estimates related to the liability for uncertain tax positions require us to make judgments regarding the sustainability of each uncertain tax position based on its technical merits. If we determine it is more likely than not a tax position will be sustained based on its technical merits, we record the impact of the position in our audited consolidated financial statements at the largest amount that is greater than 50% likely of being realized upon ultimate settlement. These estimates are updated at each reporting date based on the facts, circumstance and information available. For purposes of intraperiod allocation, we include all changes in reserves relating to historical periods for uncertain tax positions in continuing operations. We are also required to assess at each reporting date whether it is reasonably possible that any significant increases or decreases to the unrecognized tax benefits will occur during the next twelve months. Our liability for uncertain tax positions was $11 recorded in other accrued liabilities as of December 31, 2011, of which nil is included in liabilities subject to compromise.

Actual income tax expense, income tax assets and liabilities could vary from these estimates due to future changes in income tax laws, significant changes in the jurisdictions in which we operate, or unpredicted results from the final assessment of each year's liability by various taxing authorities. These changes could have a significant impact on our financial position.

We are subject to ongoing examinations by certain taxation authorities of the jurisdictions in which we operate. We regularly assess the status of these examinations and the potential for adverse outcomes to determine the adequacy of our provision for income and other taxes. The Canadian Debtors believe that they have adequately provided for tax adjustments that we believe are more likely than not to be realized as a result of any ongoing or future examination.

Pension and Post-retirement Benefits We maintain various retirement programs, one or more of which covers substantially all of our employees, which consist of defined benefit, defined contribution and investment plans. In 2011, we contributed $2 to employees' investment plans. In 2011, we also made payments of $2 in relation to its post-retirement obligation for expenses incurred prior to December 31, 2010. All other retirement plans have been closed to new contributions or formally terminated.

45 -------------------------------------------------------------------------------- Table of Contents We are still formally the sponsor of defined benefit pension arrangements, for which administration duties have been transferred to Morneau Sheppell Ltd.

(formerly known as Morneau Sobeco Limited Partnership) as of September 30, 2010, pursuant to a Settlement Agreement with former and disabled Canadian employee representatives. Under this agreement, our post-retirement and post-employment plans were terminated on December 31, 2010, and pension contributions were halted on September 30, 2010. Accordingly, no funding is expected for any of these arrangements in 2011. Further to this agreement, under separate Canadian Court orders, we made advance payments of $47 in 2011 to some beneficiaries in liquidating the Canadian Health and Welfare Trust as advance payment of their estimated claims against the Canadian Debtors.

On March 8, 2011, the Ontario Superintendent of Financial Services ordered the wind-up of the Canadian Pension Plans with an effective date of October 1, 2010.

As a result of this order, Nortel remeasured the pension obligations in the first quarter of 2011 with wind-up assumptions as of the effective date, resulting in a reduction to pension liabilities and other comprehensive income of $96. The settlement process for the Canadian Pension Plans has not been finalized and is subject to changes in applicable legislation which could affect the assumptions used to calculate the Plans' pension obligations.

On October 6, 2011, the Canadian Court approved a methodology and procedure for compensation related claims in Canada. As a result, in the third quarter of 2011, Nortel adjusted the recorded obligations to reflect the approved methodology for pension plans other than the defined benefit plan, but including post-retirement and post-employment plans. An adjustment of $108 was recorded to adjust the respective obligations with the expense recorded in reorganization items. For more information on the compensation claims motion, see "Developments in Creditor Protection Proceedings" section of this report.

According to various claims filed by the trustee of the U.K. defined benefit pension plan and the U.K. Pension Protection Fund against certain Debtors, the U.K. defined benefit pension plan had a purported deficit estimated (on a buy-out basis) at £2,100 or $3,300 as of January 2009. Since that date, the U.K.

Pension regulator has made several attempts through courts in Canada to allow collection of this amount outside of Nortel's stay under CCAA Proceedings, which have all been denied by the Canadian Courts. See note 22 to the accompanying audited consolidated financial statements for further information. We are of the view that any decision made in the U.K. courts would not result in any additional liability given the court decisions noted above.

Pursuant to an intercompany guarantee agreement relating to the U.K. defined benefit pension plan, NNL has guaranteed certain payment obligations of NNUK under a Funding Agreement executed on November 21, 2006. Our current best estimate of the expected allowed claim for this guarantee is £334 or $515 at December 31, 2011. Pursuant to a further intercompany guarantee agreement, NNL has guaranteed NNUK's payment obligations arising upon the wind up, dissolution or liquidation of NNUK and consequent windup of such plan to the lesser of (a) $150 and (b) the amount of the plan's buyout deficit. See note 14 to the accompanying audited consolidated financial statements.

Creditor Protection Proceedings Of the $7,730 in proceeds received from divestitures as of December 31, 2011, $7,250 is being held in escrow and an additional $229, reflecting proceeds from the sale of LGN, is included in restricted cash, all of which is currently reported in NNL solely for financial reporting purposes. The ultimate determination of the final allocation of such proceeds among the various Nortel legal entities, including entities that are not consolidated in these financial statements, has not yet occurred and may be materially different from the NNL classification and related amounts shown in these financial statements.

Adjustments to the NNL classification and any related amounts arising from the ultimate allocation will be recognized when finalized. The NNL classification and related amounts shown in these financial statements are not determinative of, and have not been accepted by any debtor estate, any party in interest in the Creditor Protection Proceedings or any court overseeing such proceedings, for purposes of deciding the final allocation of divestiture proceeds.

ASC 852 requires pre-petition liabilities of the debtor that are subject to compromise to be reported at the claim amounts expected to be allowed, even if they may be settled for lesser amounts. The amounts currently classified as liabilities subject to compromise may be subject to future adjustments depending on actions of the applicable courts, further developments with respect to disputed claims, determinations of the secured status of certain claims, if any, the values of any collateral securing such claims, or other events. In addition, a number of proofs of claim, for which Nortel has not accrued any amount or accrued significantly less than the amounts in the proofs of claim, continue to be reviewed by the Canadian Debtors and may result in significant changes in future periods once these reviews are complete. A number of these proofs of claim, which total approximately $287, relate to certain real estate guarantees provided by NNL in respect of leases entered into by certain EMEA Subsidiaries and U.S. Subsidiaries.

46 -------------------------------------------------------------------------------- Table of Contents Accounting Chang es and Recent Accounting Pronouncements Accounting Changes Our financial statements are based on the selection and application of accounting policies based on accounting principles generally accepted in the U.S. See note 3 to the accompanying audited consolidated financial statements for a summary of the accounting changes that we have adopted on or after January 1, 2011.

Recent Accounting Pronouncements For detailed information regarding recent accounting pronouncements and the impact thereof on our financial statements, see note 1 to the accompanying audited consolidated financial statements.

Outstandin g Share Data As of February 29, 2012, we had 498,206,366 NNC common shares outstanding.

Legal Proceedings a nd Environmental Matters Under the CCAA Proceedings, the Canadian Debtors have filed a motion for an order authorizing and directing the Canadian Debtors to cease performing any remediation at or in relation to five sites (Belleville, Brampton, Brockville, Kingston and London, Ontario), and that any claims in relation to such remediation be subject to the court approved claims process under the CCAA Proceedings. We brought the motion to disclaim any further obligation for such properties that are no longer owned or used by us and that we and our creditors derive no benefit from any further remediation. Subsequent to the filing of the motion, NNL entered into a transition agreement regarding the Brampton site that facilitated a gradual cessation of NNL's environmental risk related tasks at that site. The Ministry of the Environment (the MOE) has made remediation orders with respect to the four other sites. The motion was heard in September 2011 in the Canadian Court, wherein the Canadian Debtors sought advice and direction that the MOE remediation orders are in breach of the CCAA stay. A decision on that motion is pending. To date, the MOE has not sought to enforce the remediation orders while the Canadian Court's decision is outstanding and NNL has continued to undertake environmental risk assessments and remediation related tasks at those sites.

For a discussion of our legal proceedings, see the Legal Proceedings section of this report. For further information on these environmental matters, see note 22 in the accompanying audited consolidated financial statements.

Cautionary Notice Reg arding Forward-Looking Information Certain statements in this report may contain words such as "could", "expect", "may", "should", "will", "anticipate", "believe", "intend", "estimate", "target", "plan", "envision", "seek" and other similar language and are considered forward-looking statements or information under applicable securities laws. These statements are based on our current expectations, estimates, forecasts and projections about the operating environment, economies and markets in which we conduct our remaining business. These statements are subject to important assumptions, risks and uncertainties that are difficult to predict, and the actual outcome may be materially different. Our assumptions, although considered reasonable by us at the date of this report, may prove to be inaccurate and consequently our actual results could differ materially from the expectations set out herein.

Actual results or events could differ materially from those contemplated in forward-looking statements as a result of the following: (i) risks and uncertainties relating to the Creditor Protection Proceedings including: (a) risks associated with our ability to: obtain required approvals and successfully consummate remaining divestitures; ability to satisfy remaining transition services agreement obligations in connection with the divestiture of business and assets; successfully conclude ongoing discussions for the sale of our remaining assets; develop, obtain required approvals for, and implement a court-approved plan; allocation of the sale proceeds of our businesses and assets among the various Nortel entities participating in these sales may take considerable time to resolve; resolve ongoing issues with creditors and other third parties whose interests may differ from ours; maintain adequate cash on hand in each of our jurisdictions to fund our remaining work within the jurisdiction during the Creditor Protection Proceedings; obtain any further required approvals from the Canadian Monitor, the U.K. Administrators, the U.S.

Principal Officer, the U.S. Creditors' Committee, or other third parties; utilize net operating loss carryforwards and certain other tax attributes in the future; avoid the substantive consolidation of NNI's assets and liabilities with those of one or more other U.S. Debtors; operate effectively, and in consultation with the Canadian Monitor, the Canadian creditors' committee, the U.S. Creditors' Committee, the U.S. Principal Officer, work effectively with the U.K. Administrators, and French Liquidator in their respective administration of the EMEA businesses subject to the Creditor Protection Proceedings; continue as a going concern; actively and adequately communicate on and respond to events, media and rumors associated with the Creditor Protection Proceedings; retain and incentivize key employees; retain, or if necessary, replace suppliers on acceptable terms and avoid disruptions in our supply chain regarding our remaining stranded contracts and operations; obtain court orders or approvals with respect to motions filed from time to time; resolve claims made against us in connection with the Creditor Protection Proceedings for amounts not exceeding our recorded liabilities subject to compromise; prevent third parties from obtaining court orders or approvals that are contrary to our interests; and (b) risks and uncertainties associated with: limitations on actions against any Debtor during the Creditor Protection Proceedings; the values, if any, that will be ascribed pursuant 47 -------------------------------------------------------------------------------- Table of Contents to any court-approved plan to outstanding Nortel securities and, in particular, that we do not expect that any value will be prescribed to the NNC common shares or the NNL preferred shares in any such plan; the delisting of NNC common shares from the NYSE; and the delisting of NNC common shares and NNL preferred shares from the TSX; and (ii) risks and uncertainties relating to our remaining restructuring work including: fluctuations in foreign currency exchange rates; the sufficiency of workforce and cost reduction initiatives; any adverse legal judgments, fines, penalties or settlements related to any significant pending or future litigation actions; failure to maintain integrity of our information systems; and our potential inability to maintain an effective risk management strategy. For additional information with respect to certain of these and other factors, see the "Risk Factors" section of this report. Unless otherwise required by applicable securities laws, we disclaim any intention or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

48 -------------------------------------------------------------------------------- Table of Contents

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