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Fitch Revises KPN's Outlook to Positive

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Fitch Ratings has revised the Outlook on Royal KPN's debt ratings to Positive from Stable. Fitch has affirmed KPN's IDR and senior unsecured rating at 'BBB '.

­The revision in Outlook to Positive reflects Fitch's view that leverage over the next 12 to 18 months is likely to improve, following the sale of the company's Belgian mobile subsidiary BASE and growing cashflows from the company's domestic operations. Funds from operations (FFO) adjusted net leverage is expected to fall below 3.5x by 2016, from 3.8x in 2014, a level that in conjunction with stabilising EBITDA trends would be compatible with a rating of 'BBB'.

Fitch expects the Dutch telecoms market to remain highly competitive; however, the incremental impact of competition on the group's financial performance should be manageable.

Improving Operational Trends

Following the sale of KPN's international mobile operations, the company's operational profile is predominantly driven by its domestic operations in the Netherlands. Adjusted EBITDA in the Netherlands has been declining by 11% to 13% per year over the past three years. We expect the rate of decline to slow to below 4% over the course of 2015 before stabilising in 2016. First quarter results indicate that 2015 performance is trending better than our expectations.

The stabilisation will be driven by a mix of factors which include: lower incremental impact from regulation; the loss of revenue from legacy products such as voice and tariff decreases; off-set by stabilising market share in mobile; cost reduction; and growth in fibre-related broadband and convergent products.

Growing Free Cash Flow (FCF)

Fitch expects KPN's pre-dividend FCF to turn positive in 2015 and to grow progressively thereafter. The growth in cashflow will be driven by stabilising EBITDA, minimal cash tax payments, capex reductions and reduced interest charges. The reduced cash tax and interest charges result from the sale of E-Plus in 2014. KPN sold the asset to Telefonica Deutschland for EUR4.9bn plus a 20.5% stake in the German telecom group. The sale created a nine-year deferred tax asset of EUR 1.2bn with a proportion of the cash proceeds used to reduce debt.

Capex Likely to be Cut

KPN has rolled out a significant proportion of its LTE and fibre network, which will enable it to reduce capex in the next two years. KPN is guiding capex reduction of approximately EUR200m in 2015 to EUR1.4bn (including BASE Company), from EUR1.6bn in 2014. The reduction includes the impact from the consolidation of Reggefiber.

Asset Sales Provide Flexibility

KPN recently announced the sale of its Belgian mobile subsidiary BASE Company to Telenet (B+/Stable) for EUR1.325bn. The proceeds from the sale, combined with lower operational leases, have the potential to reduce KPN's FFO adjusted net leverage by up to 0.3x if all of the proceeds are used to reduce debt. We have not assumed the sale of KPN's 20.5% stake in Telefonica Deutschland in our rating case but have factored in dividends from the German mobile company of approximately EUR140m per annum which KPN expects to pass onto its shareholders in 2015. It is likely that KPN will sell down the stake over time. The impact of the sale would have the potential to further reduce FFO adjusted net leverage by up to 0.9x.

Fitch expects KPN to use some of the proceeds from the sale of assets to reduce leverage. The company may also use sales proceeds for M&A and shareholder remuneration. We also expect the company to maintain a measured shareholder remuneration policy, reflecting some risks to achieving EBITDA stabilisation and a desire to maintain an investment grade rating.

Dutch Market to Remain Competitive

Fitch expects the Dutch market to remain competitive but it is unlikely that market conditions will deteriorate considerably from current levels. The consolidation of cable operators Ziggo and UPC will create a stronger competitor for KPN in residential triple play that will look to grow into other segments such as SME and mobile. The launch of Tele2's mobile network also remains a risk in the event Tele2 takes a very aggressive approach to its pricing policy driven by a potentially short-term need to fill network capacity. However, KPN already has elevated mobile subscriber acquisition and retention costs, which we believe will continue to be the case, and its move to deploy mobile tariffs with greater data bundles along with attractive fixed-mobile bundles will provide a degree of defence.

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Tags: kpn  Netherlands