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LJUBLJANA (Slovenia), January 9 (SeeNews) - S&P Global Ratings said on Monday it has assigned its 'BB+' long-term corporate credit rating to Slovenian telecommunications operator Telekom Slovenije, with a stable outlook.
"The rating reflects Telekom Slovenije's exposure to what we consider a challenging and highly competitive Slovenian market for fixed and mobile telecommunications, paired with our expectations of Telekom Slovenije maintaining relatively solid credit metrics in 2017-2018", the ratings agency said in a statement.
S&P also said:
"Telekom Slovenije's revenue has declined by a mid-single-digit percentage for a number of years in the domestic mobile segment, where competition is particularly intense, and fixed-line revenues remain pressured by the structural decline of classical fixed-line telephony. We expect any stabilization of market conditions will take place only very gradually, and, as a result, we project that Telekom Slovenije's comparatively low S&P Global Ratings-adjusted EBITDA margins will continue to modestly weaken within the 26%-29% range in 2016-2018. Telekom Slovenije is attempting to develop new revenue streams, such as in IT services and the resale of electricity, but we expect that it will not be able to fully compensate for the EBITDA impact from the loss of high-margin telecom service revenues in the near term. We think that these operating headwinds are balanced by the company's moderate adjusted leverage of below 3x in our forecast, and by our expectation of relatively benign free operating cash flow (FOCF) of more than 7% of adjusted debt, despite significant investments in its fiber network in the next two years.
Our assessment of Telekom Slovenije's business risk captures the high level of competition in the market for telecoms services in Slovenia and our view of the country's regulatory environment for the sector as fairly restrictive. In mobile, Telekom Slovenije competes with two other mobile network operators as well as mobile virtual network operators. Since 2013, Telekom Slovenije's mobile average revenue per user (ARPU) has declined by about 20%, and we expect ARPUs will continue to fall by about 4% annually in 2016 and 2017. Fixed-line competition is intense due to the presence of two alternative high-speed fixed-line networks with meaningful and partly overlapping coverage--a feature that distinguishes Slovenia from many other European markets. Like Telekom Slovenije, its main rivals are able to offer a complete portfolio of fixed, mobile, and TV services, which is increasingly driving competition based on fixed-and-mobile "convergence" products. As an incumbent operator with significant market power, Telekom Slovenije is subject to a comprehensive set of regulatory obligations, including the obligation to provide fully unbundled as well as bitstream access to its copper and fiber-to-the-home (FTTH) networks. We think the current wholesale rates of €13.43 per month for unbundled fiber access are relatively low and potentially weaken the returns Telekom Slovenije can achieve on its FTTH-based high-speed services. In addition, our view of Telekom Slovenije's business risk is constrained by its limited scale and geographic diversification, with about 85% of 2015 EBITDA generated in Slovenia, and the remainder mostly in Kosovo, plus from small operations in Bosnia.
In spite of these challenges, Telekom Slovenije remains the leading domestic fixed and mobile operator, with a particularly high mobile subscriber market share of 48%, well ahead of the second-largest player si.mobil with about 31% and Telemach, which holds about 15% (all data according to the national regulatory authority AKOS and as of June 30, 2016). In fixed broadband, Telekom Slovenije leads with a share of 34%, followed by cable operator Telemach with 25%, and it is also the No. 2 player in the pay TV market with a share of about 27%, after leader Telemach with 31%-32%. Furthermore, Telekom Slovenije has made good progress upgrading its fixed and mobile networks, having achieved 97% population coverage with fourth-generation mobile technology as of the third quarter of 2016, and it is able to serve about 23% of Slovenian households with services based on FTTH. As part of its investment program, Telekom Slovenije is planning to increase FTTH coverage meaningfully in the next few years. Although we project this will cause its capital expenditure (capex) to sales ratio, excluding spectrum license costs, to soar to 18%-21% in 2016 and 2017 from about 15% in 2015, we expect these measures to strengthen its market position in fixed broadband.
Our view of Telekom Slovenije's financial risk profile is determined by its moderate leverage and good FOCF, partly offset by high shareholder remuneration under the influence of its 74% shareholder, the Republic of Slovenia. Based on our forecast that Telekom Slovenije will succeed in gradually stabilizing operating performance, we expect relatively solid adjusted debt to EBITDA of 2x-3x and funds from operations (FFO) to debt well within the 30%-40% range in the next three years. We understand that the company wishes to play a role in market consolidation within the region, but we currently do not expect that potential transactions would cause significant deviations from our leverage projections. Although dividends for 2015 were cut by 50% from the previous year, Telekom Slovenije has a track record of paying out its entire distributable profit, and we expect shareholder remuneration to revert to pre-2015 levels in the near to medium term. Our assessment also takes into account what we consider as Telekom Slovenije's good conversion of EBITDA to operating cash flow, which is boosted by low cash interest and taxes.
In arriving at Telekom Slovenije's adjusted credit metrics, we treat certain program rights that are capitalized by the company as an expense, and we apply our adjustments for captive finance operations to Telekom Slovenije's wireless equipment installment program. We do not publish these adjustments, but in aggregate they improve our forecast for adjusted debt to EBITDA by about 0.1x.
In our base case, we assume:
- Revenue growth, excluding revenue from ONE Macedonia in 2015, of 0%-1% in 2016 and approximately flat revenues in 2017, excluding the revenue contribution from Antenna TV SL which is consolidated from Jan. 1, 2017. This reflects a mix of revenue declines in mobile and fixed telephone offset by new revenue streams such as IT services and the resale of electricity to residential customers, and in 2016 also by the first full-year revenue contribution of debitel.
- Adjusted EBITDA margins of about 28% in 2016, at the same level as in 2015, as cost efficiencies from earlier restructuring measures are balanced by Telekom Slovenije's revenue mix gradually shifting from high-margin telecom service revenues to lower-margin revenue sources. This also leads to slight deterioration of EBITDA margins to 27%-28% in 2017 and 26%-28% in 2018.
- Capex as a percentage of sales, excluding spectrum costs, of 18%-21% in 2016 and 19%-21% in 2017, as Telekom Slovenije makes substantial investments particularly to extend fiber coverage, gradually receding to 16%-18% in 2018.
- We also assume moderate spectrum spending for frequencies in Kosovo in 2017 and for the auction of the 700 Mhz spectrum in Slovenia, which is planned for 2018.
- Dividend payments possibly rising back to historical levels of €60 million-€70 million from 2017, after €32.5 million in 2016.
- Receipt of significant proceeds for the disposal of the 45% minority stake in ONE Macedonia, which we expect for late 2017.
- Very low cash taxes due to significant tax loss carry forwards.
- Some spending on small, bolt-on acquisitions.
Based on these assumptions, we arrive at the following credit measures:
- Adjusted debt to EBITDA of 2.5x-2.6x at the end of 2016, after 2.3x in 2015, and 2.2x-2.3x in 2017, temporarily lower due to the cash inflow from the sale of the stake in ONE Macedonia, before reverting to 2.4x-2.7x in 2018 as a result of negative discretionary cash flow coupled with broadly flat adjusted EBITDA.
- Adjusted FFO to debt of about 35% in 2016, about 40% in 2017 (thanks to the cash inflow from the ONE Macedonia transaction), and 35%-37% in 2018.
- Adjusted FOCF to debt of about 9%-10% in 2016 and 2017, and 8%-12% in 2018, compared with 17% in 2015.
- Unadjusted discretionary cash flow between positive €10 million and negative €10 million in 2016, declining to below negative €10 million in 2017 and 2018.
We regard Telekom Slovenije as a government-related entity, as the Republic of Slovenia directly and indirectly holds about 74% of the company. Our 'BB+' rating on Telekom Slovenije does not include any uplift for potential government support, as we see a low likelihood of timely and sufficient extraordinary support from the Republic of Slovenia in the event of financial distress. This is because we think that, although the most recent attempt to privatize Telekom Slovenije in mid-2015 was terminated unsuccessfully, the sale process may resume over the near to medium term. We also take into account our perception that there is no explicit commitment by the Slovenian government to support Telekom Slovenije in the event of financial distress.
The stable outlook on Telekom Slovenije reflects our expectation that the company will successfully defend its leading domestic market position in mobile and fixed broadband, supported also by the successful implementation of its network investment plans, and that new revenue streams will enable the company to avert significant declines of revenue and EBITDA from current levels. We also expect that shareholder remuneration will remain high, but will not materially exceed our forecasts. We think this will enable Telekom Slovenije to maintain adjusted debt to EBITDA between 2x and 3x and generate FOCF of 7%-12% of adjusted debt in 2017.
We could lower the rating if we observed a material deterioration of Telekom Slovenije's position in the domestic market as a result of intense competition or a worsening regulatory environment. We could also lower the rating if excessive shareholder remuneration, operating underperformance, debt-funded acquisitions, or material litigation-related payments caused adjusted debt to EBITDA to exceed 3x or FOCF to fall to less than 7% of adjusted debt on a sustainable basis. Furthermore, a downgrade could result from a weakening of Telekom Slovenije's liquidity situation.
We currently consider an upgrade in the next 12 months as unlikely given competitive conditions, Telekom Slovenije's small scale, and a track record of high shareholder distributions under the influence of the Slovenian government. We could, however, raise the rating if competitive conditions in the Slovenian telecoms market improved materially, allowing the company to return to sustainable revenue growth and stronger adjusted EBITDA margins of about 35%. Alternatively, an upgrade could be supported by adjusted debt to EBITDA of less than 2x and FOCF to debt of at least 15% on a sustainable basis, accompanied by a credible financial policy that commits to maintain leverage at this level."