Wind Italy's Debt Ratings Downgraded
Published on: 25th Jun 2014
Italy's Wind Telecomunicazioni has seen its debt ratings lowered to 'B ' from 'BB ' by the Fitch ratings agency due to the ongoing competitive Italian market and the company's own high levels of debt.
The rating action comes as the company seeks to extend the maturity date on just over EUR4 billion of debt.
The transaction will improve Wind's liquidity profile by extending its debt maturity profile, and cash flows through lower interest payments. However, the significant amount of one-off costs related to the refinancing transactions combined with weak EBITDA performance mean that leverage is likely to trend above Fitch's net debt/EBITDA threshold of 5.5x by end-2014, with limited de-leveraging over the medium-term.
The ratings agency said that this risk is reflected in the downgrade decision.
On a standalone basis WIND's rating corresponds to a 'B' level with a Stable Outlook; this is uplifted by one notch for potential parental support. WIND is the number-three mobile operator in Italy having a strong operating track record of consistently outperforming its larger peers. Wind held an approximately 24% subscriber mobile market share and was the second-largest alternative fixed-line/broadband provider with an approximately 16% subscriber market share at end-1Q14.
Challenging Operating Environment, Intense Competition
The Italian mobile market remains under heavy pressure, with all large mobile operators reporting significant telecoms service revenue declines in yoy terms. Fitch believes that further pressures are likely to continue, driven by the impact of a price war, intense competition and a weak economic environment.
Although the price war unleashed in 2Q13 has ended with key players refraining from launching new aggressive tariff plans, the negative impact may linger as customers continue to migrate from legacy pricey tariff plans. However, the negative impact of mobile termination rate (MTR) cuts should abate from 2H14 as the last cut was made in July 2013 and its yoy impact would disappear from July 2014. However, because the brunt of these cuts was primarily felt in 2012-2013, with the latest cut in July 2013 being fairly modest, the expected respite will therefore be small.
Wind's MTR rate was cut by only EUR0.72 per minute, compared with EUR1.80 in January 2013 and EUR2.80 in July 2012.
Customers remain cost-sensitive in Italy's challenging economy. Unemployment remains high above 12%, and Fitch expects it to peak in 2014, before moderately declining to 12.2% in 2015.
The ratings agency believes Wind will continue to outperform its key competitors in subscriber figures; however, this is unlikely to translate into stronger revenue and EBITDA trends. To a large extent, Wind's outperformance was driven by its price advantage over peers, which has now waned. Its reported average revenue per user (ARPU) was only 5% lower than its closest peer Telecom Italia in 1Q14, compared with 8% at end-2012, 15% at end-2010 and 23% at end-2006. In absolute terms, ARPU difference with Telecom Italia is only equal to EUR0.60, and while customers are still cost-conscious price is becoming less of a differentiator among telecom service providers. In future, Wind may have to increasingly rely on other factors such as advertising and customer service to maintain customer satisfaction, but may also have to make significant network investments to keep parity with peers.
Network quality and bundling flexibility are likely to be become stronger competitive factors in the medium term, and Wind is weaker-positioned than its peers on this front. Italy has, so far, been spared from aggressive bundled competition. However, Telecom Italia's strategy suggests a wider use of quad-offers, which, in our view, may lead to a renewed round of price competition on a wider range of services and potential subscriber defections from providers that are unable to offer a competitive quad package as evidenced in Spain and France.
Wind is currently lagging its key peers in terms of LTE coverage.
Although LTE has not yet become a key competitive factor in Italy, providing Wind with some timing flexibility, the operator can hardly sustain a long lag behind peers without a negative impact on its competitiveness. With both Telecom Italia and Vodafone making substantial investments in LTE roll-out, Wind may be forced to catch up on capex, in turn putting pressure on its cash flows.
High Leverage, Limited Deleveraging Capacity
Fitch expects Wind's net debt/EBITDA to exceed 5.5x by end-2014 and remain at above this level for the next two to three years. This is driven by continuing EBITDA erosion and one-off refinancing costs in 2014, including call premiums. Wind's refinancing so far in 2014 has resulted in significant interest savings albeit at a cost of substantial one-off expenses. Fitch estimates that it would take more than three years of incremental interest savings to pay off the additional debt from refinancing, diluting the immediate positive impact of lower interest payments on leverage.
Deleveraging is likely to be slow. At above 5.5x net debt/EBITDA, Wind's leverage is sensitive to even minor EBITDA pressures. We expect the company's free cash flow (FCF) to remain positive in the medium-term but modest in absolute terms on average with less than EUR250m per annum available for debt reduction in 2015-2017.
A planned tower sale is likely to be largely neutral for leverage.
Tower sale proceeds would be positive for net debt but would also lead to higher lease payments. Under Fitch's methodology, long-term leases are typically capitalised at 8x, increasing adjusted debt and leverage. As a result, unadjusted leverage metrics would slightly improve while lease-adjusted metrics are likely to worsen.
Shareholder Support Positive but Limited
Wind's ratings benefit from potential support from its sole ultimate shareholder, Vimpelcom, whose credit profile remains significantly stronger than Wind's. However, we believe that a further rise in Wind's leverage may diminish Vimpelcom's propensity to provide support for Wind. An increase in leverage to above 6x net debt/EBITDA will no longer likely be consistent with expectations of any parental support.
So far Vimpelcom's support has been modest. A EUR500m cash contribution in conjunction with PIK-notes refinancing in 1H14 has been insufficient to materially reduce Wind's leverage, given its limited size relative to Wind's total debt of approximately EUR10bn. Vimpelcom has not committed itself to any additional support.
No Short-Term Refinancing Risks
Wind does not face any material refinancing risks until 2017 when the un-extended portion of a term loan becomes due. Post-refinancing, the maturity profile is expected to improve as no significant debt repayment will be due before 2019.