July 04 - Fitch Ratings has assigned Moceir Holdings (Ireland) Ltd (eircom) a Long-term Issuer Default Rating (IDR) of 'B-' with a Negative Outlook. Fitch has also assigned instrument and Recovery Ratings to the company's senior secured bank debt of 'B/RR3'.
The IDR takes into account the substantially reduced debt that eircom exited Examinership with, in early June 2012, the company's position as the country's incumbent telecom operator, sizeable but declining market share and negative free cash flow generation.
The Negative Outlook reflects the considerable operating challenges the company faces in turning around the fixed line business. Its weak competitive position relative to the cable operator UPC may lead to further line losses beyond management's expectations. This could potentially lead to further covenant breaches and if not reversed, further restructuring. A stabilisation in fixed line KPIs (key performance indicators) would be necessary in order for Fitch to consider stabilising the Outlook.
In a country with 1.6m homes, eircom currently enjoys an approximate 56% share of fixed line revenues (at Q112 according to Irish telecoms regulator, ComReg), a share that has fallen by just over 10 percentage points in two years. While this remains a strong incumbent position, the pace at which eircom has been losing fixed accesses and more notably broadband customers, is a concern.
Fitch views the business to be most challenged in the urban or metropolitan residential market. UPC has built out a total of 720,000 (two way enabled) homes there and is enjoying considerable success developing its triple-play subscriber base. Its broadband customer base has been growing at an annual rate of more than 30%, and the company has been signing up telephony customers at more than twice that rate. With cable having upgraded its network to DOCSIS 3.0, a compression technology enabling broadband speeds of more than 100MB, and not being subject to the regulatory imposed constraints of universal service, UPC has been able to focus investment and commercial activity in the most obviously profitable parts of the market.
Against this background Fitch considers eircom's decision to invest approximately EUR400m in building out fibre access, over the next two years, to be necessary in the face of UPC's commercial momentum. The investment will cause eircom's free cash flow to remain negative over this period, will increase financial leverage, and comes with considerable execution risk. While the company enjoys an established challenger position in the mobile market with just under 20% share of mobile customers, mobile contribution is relatively small. Ireland is an increasingly crowded market, dominated by two well-funded incumbents, Vodafone and O2. Competitive pressures are likely to remain, while 4G spectrum acquisition and investment will impact cash flows in the mobile business at least through calendar 2013.
Fitch's rating case envisages the business releveraging to a peak of around 5.3x in FY14 on a net debt to EBITDA basis (equivalent to 6.6x FFO net adjusted leverage). Metrics that were trending by more than 0.5x - 1.0x outside these levels would put considerable downward pressure on the rating. Operationally it will be important that eircom slows the pace of fixed access losses and regains momentum in its residential broadband base. It is likely, however, to take 18 months to two years, at a minimum, to show that the fibre investment is working. While the absence of any meaningful debt maturity over this period is helpful, material divergence to planned performance is likely to lead to a downgrade.
The 'B/RR3' ratings assigned to the secured facility (term loan B) reflect the above average recoveries envisaged in the event of a default and take into account the secured nature of the facility. However, Fitch notes the absence of other creditor classes, who might otherwise absorb losses, while the loan agreement provides for the existence of additional liabilities (an RCF and hedging liabilities) on a super senior basis. Fitch believes the emergence of such liabilities is likely and will introduce a layer of debt which is contractually more senior than the term loan B. This may in turn affect prospective recoveries and lead to a pressure on the instrument rating.
