Korea Telecom's Debt Ratings Downgraded on Weak Financials and Competitive Market
Published on: 4th Feb 2014
By: Ian Mansfield
The debt ratings agency Moody's has downgraded Korea Telecom's (KT) debt ratings bu8t says that the outlook is now stable.
"The rating action reflects our view that KT's ability to restore its profitability at the operating level to a standard commensurate with an A3 rating will be challenged over the near term, given intense competition in the mobile market, declines in fixed-line revenue, as well as its high cost structure," says Yoshio Takahashi, a Moody's Assistant Vice President and Analyst.
"As a result, it will be challenging for the company to improve its leverage significantly over the next 1-2 years, in the absence of major asset sales," adds Takahashi, also Moody's Lead Analyst for KT.
On 28 January, KT announced its 4Q 2013 results. Based on these, Moody's estimates that KT's adjusted EBITDA margin and adjusted debt/EBITDA in 2013 -- excluding its financial subsidiaries -- were approximately 20%-21% and 2.4x-2.5x, respectively, which are weak for the company's rating level and higher than our expectations.
Moody's expects KT's consolidated revenue to remain almost flat or even decrease slightly in the coming two years, given declining revenue from the fixed-line business, the expected slowdown in revenue growth in the mobile, media and content businesses, as well as declines in handset sales.
Very strong competition in the sector for LTE subscribers is likely to continue, despite regulatory interventions, while competition over pay-TV subscribers is intensifying.
At the same time, KT's high cost structure will continue to pressure its profitability. Its reported operating margin had declined to about 4% in 2013 from about 8% in 2011, because of increased marketing and depreciation costs, and larger labor and general expenses, in spite of flat revenue from its core services, excluding financial subsidies and handset sales. KT even incurred an operating loss in 4Q2013, although it was in part a reflection of seasonality and some non-recurring expenses.
At the same time, adjusted consolidated debt, excluding its financial subsidiaries, had declined as of December 2013, but only moderately (low-single-digit percentage), compared with that in 2012, due to weak earnings, as well as slow progress in KT's sale of non-core assets.
Without any major assets sales, Moody's believes that KT will find it difficult to reduce its debt significantly and quickly. However, the quantum and timing of non-core asset sales in the future remain uncertain.
Nonetheless, the rating outlook is stable. While significant improvements in earnings will be challenging, Moody's expects that KT will maintain its current level of earnings, given its strong market positions across all four segments of the quad-play strategy and the efforts of its new management to improve the company's operating efficiency. In addition, KT's plan to reduce capex and dividends will help decrease debt, thereby gradually improving leverage.
Upward rating pressure could emerge if: (1) KT maintains revenue growth and improves margins by keeping its competitive position, and improving ARPU and operating efficiency in its core telecom business; (2) KT implements measures to reduce debt in a timely manner; and (3) KT maintains its prudent investment and financial policies.
Specific indicators that Moody's would consider include: adjusted EBITDA margins and adjusted debt/EBITDA -- excluding its financial subsidiaries -- of over 25% and below 1.9x respectively on a sustained basis. Moody's also assumes that KT will continue with its handset receivables securitization program as currently structured.
On the other hand, further downward pressure could emerge if: (1) KT's revenue and earnings decline significantly in its core telecom business; (2) KT's market position erodes significantly; (3) competitive and regulatory pressures in Korea's telecoms market rise significantly, or (4) KT fails to reduce debt in a timely manner.
Specific indicators that Moody's would consider include: adjusted EBITDA margins and adjusted debt/EBITDA -- excluding its financial subsidiaries -- below 15%-20% and over 2.5x-2.75x respectively on a sustained basis.
Furthermore, if KT's ability to continue with its handset receivables securitization program -- as currently structured -- becomes limited, it could negatively affect its rating, as associated borrowings would be brought back on its balance sheet, adversely impacting leverage.