Moody's Changes AT&T's Outlook to Negative on Acquisition of Verizon Wireless Assets

Moody's Investors Service has downgraded the outlook for AT&T to negative following its announcement that it will acquire certain former Alltel assets from Verizon Wireless for roughly US$2.35 billion in cash.

The change in outlook reflects Moody's concern that given the increase in debt over the last two years (including debt likely to be incurred for pending acquisitions), weak economic conditions and the likelihood of slower growth and increased competition in the wireless business, the company may be more challenged over the next twelve months to restore its financial leverage to levels consistent with its ratings.

The assets the company plans to acquire from Verizon will represent the wireless network along the 850 MHz spectrum in 79 markets, covering over 2 million pops and having 1.5 million subscribers. As part of the transaction, Verizon agreed to acquire certain properties in the Centennial markets for about $240 million.

The affirmation of AT&T's A2 senior unsecured rating reflects the company's position as the largest telecommunications company in the US and its strong and well-diversified cash flow. At the same time, the rating also reflects strong competition across all AT&T's businesses, accelerating wireline access line losses and the risk that wireless margins will be pressured over the intermediate term.

Moody's believes that the acquisitions that AT&T has made over the past two years were strategically appropriate, and the simplified 100%-owned asset base has built the foundation for the company to effectively compete in every aspect of multi-platform delivery of communications services across the entire spectrum of customers from consumers to multi-national enterprises. In particular, over the past 18 months AT&T has been enhancing its wireless business through business acquisitions and spectrum purchases, which have aggregated over $19 billion, encompassing Dobson, Aloha, 700 MHz spectrum auctions, Centennial and now the divested Alltel assets by Verizon. However, to date, the wireless purchases have all been financed with debt. In addition, AT&T has bought back about $16.5 billion of its stock since the beginning of 2007.

An important driver of AT&T's rating and the stable outlook has been the company's ability to manage to its stated target Debt/EBITDA leverage of between 1.3x-1.5x. Moody's standard adjustments add about 0.4x to the leverage calculations. Under Moody's adjustments, the company's total Debt/EBITDA leverage stood at 2.1x, at the end of March. Moody's is concerned that the incremental debt escalation on each purchase has caused the company's leverage metric to remain elevated beyond Moody's stated downgrade triggers (under 2.0x for Debt/EBITDA).

At the same time, Moody's notes the potential for negative forces to pressure AT&T's fundamental operating profile, largely stemming from secular declines of the company's core wireline operations and the maturation of the wireless business in the US. Competitive and macroeconomic factors that limit the company's ability to generate the expected free cash flow necessary to achieve its leverage targets, or the company's deviation from debt reduction, could be the likely drivers of further downward rating pressure.

Applying Moody's standard adjustments for pensions and capitalizing operating leases, AT&T's total debt stood at US$93 billion at the end of March, up from about US$77 billion at the end of 2007. The increase in debt is primarily a consequence of the company's acquisitions, along with $4 billion in pension underfunding at year end 2008. (Note, Moody's does not include non-pension post retirement benefit obligations in its debt calculations.) If the company further finances the pending Centennial and VZW/Alltel acquisitions with debt, proforma debt balances will increase by up to $5 billion.

Moody's most recent rating action for AT&T was on November 12, 2008. At that time Moody's assigned an A2 Senior Unsecured rating to the company's new senior unsecured notes, due in 2013.

Posted to the site on 12th May 2009