OREANDA-NEWS. Fitch Ratings has affirmed EI Towers S. p.A.'s (EIT) Long-Term Issuer Default Rating (IDR) and senior unsecured rating at 'BBB'. The Outlook on the IDR is Stable.

EIT's ratings take into account what Fitch regards as a stable cash flow and long-term visibility of revenues, reflecting the company's position as Italy's leading provider of tower infrastructure to the commercial broadcast TV sector. Limited exposure and growth emphasis on radio and mobile towers add a degree of diversification. In Fitch's view, M&A is likely to be bolt-on rather than transformational in nature, although management show an appetite for more transformational deals.

Leverage, on both a net debt/EBITDA basis (1.1x at YE15) and Fitch's key guideline measure of funds from operations (FFO) adjusted net leverage (3.1x), is low for the rating but our forecasts take into account management's stated intention to progressively increase net debt/EBITDA to 2.5x whether through M&A or shareholder distributions. The company therefore has a relatively high level of leverage headroom at present.

KEY RATING DRIVERS

Stable Broadcast Tower Business

EIT is the leading provider of tower infrastructure to the commercial broadcast TV sector in Italy; with a portfolio of around 2,300 broadcast TV towers. The other main TV infrastructure provider is RaiWay, whose 2,400 sites are dedicated solely to public broadcaster RAI. TV revenues, accounting for around 80% of EIT's 2015 revenues, are based on long-term contracts, typically ranging between 12 and 20 years, with interim break clauses, and in most cases subject to inflation indexation. A portfolio of around 1,000 mobile tower sites provides the majority of the balance of revenues; Fitch considers both revenues streams to be highly visible in the context of our rating horizon.

TV Towers versus Mobile Infrastructure

Fitch regards broadcast TV towers businesses as moderately more exposed to long-term technology risk relative to telecom towers, given the potential for TV audience fragmentation, growing over the top (OTT) content consumption and evolving TV delivery systems. These risks vary depending on specific geographic markets and reflect the degree to which pay-TV has evolved, the existence of cable infrastructure, the deployment of (mainly) incumbent fibre which drives IPTV take-up, and the availability of local language OTT content. Our ratings tend to accommodate higher leverage metrics at a given ratings level in telecom towers businesses, where these or similar type risks are not perceived to exist.

Fitch considers EIT's growth strategy focussed on radio and mobile businesses as offering the potential for growth and revenue diversification. Fitch also views technological risks related to its TV business to be lower than in other markets given the absence of a cable network in Italy, lower level of fibre roll-out and low pay-TV and IPTV penetration rates.

Revenue Concentration

Mediaset is Italy's largest provider of commercial broadcast TV and EIT's anchor tenant, accounting for 74% of 2015 revenues. This leads to a degree of revenue and receivables concentration. However, it is not an overriding constraint for the rating given the other key drivers. Nonetheless long-term trends in Mediaset's free-to-air TV audience share and viewership are important. A more diversified customer base could strengthen the business profile. We would view positively a material shift in the weighting of revenues to mobile.

M&A Ambitions

Management has publicly stated a desire to increase leverage and take advantage of a more efficient capital structure and that M&A is its preferred use of leverage proceeds. A leverage transforming bid to acquire state broadcaster RAI's Raiway broadcast tower subsidiary ran into political obstacles in 2015, but was evidence of EIT's ambition. EIT has also reportedly submitted a proposal to acquire a controlling stake in Telecom's Italia's (TI) mobile tower subsidiary, Inwit. While management changes at TI appear to have stalled this process at present, Inwit's scale with a market cap of around EUR2.5bn (EIT's market cap EUR1.4bn), further underlines EIT management's ambition.

Fitch views EIT's scale to potentially act as a constraint to a successful bid in an Inwit or similar sized transaction; particularly if the owner of the targeted asset were looking to achieve a clean disposal, limited residual ownership and maximum cash proceeds. For these reasons, Fitch expects M&A to more likely be bolt-on in nature, with management seeking to acquire small portfolios of additional towers, where revenues and cash flows are established and some operating synergies can be achieved. Management has a track record of these acquisitions.

Progressive Leverage Target

Management has stated a net debt/EBITDA target of 2.5x, which it feels to be more efficient while expecting to remain an investment grade company. The difference between net debt/EBITDA leverage and Fitch's guideline FFO adjusted net leverage is currently around 2.0x (YE15 FFI net leverage of 3.1x). However, the difference between the two metrics will narrow if the company increases leverage, given the effect of a higher weighting of on-balance sheet versus off-balance sheet debt in the FFO adjusted metric. We forecast it to reduce to around 1.6x if the company achieves its target leverage of 2.5x. At roughly 4.1x FFO adjusted net leverage management's target of 2.5x would provide no headroom compared with a downgrade guideline of 4.0x.

Transponder Costs, Revised Rating Guidelines

Fitch has not traditionally included satellite transponder lease costs in EIT's lease adjusted debt calculations; but will now do so to apply greater consistency across our portfolio of businesses that employ satellite leases within their operating cost base. In 2015, satellite lease costs add an incremental 0.4x of lease adjusted leverage. Our downgrade guidelines have therefore been widened to take account of this more conservative approach. The downgrade guidelines have been revised to include FFO lease adjusted net leverage of more than 4.0x; a threshold previously set at 3.75x. The fixed charge cover ratio guideline has been widened to below 2.0x; previously set at 3.0x, reflecting the same methodology point.

KEY ASSUMPTIONS

Fitch's key assumptions within the rating case for EIT include

- Low single digit core revenue growth driven by small scale M&A, organic development and new contracts including a new network management contract with Cairo Communications.

- Improvement in EBITDA margins driven by further cost efficiencies.

- Cash tax rate of 35%.

- Ordinary capex to remain stable at EUR12m.

- Exceptional capex of EUR5m in 2016 relating to the rollout of the Cairo Communications multiplexer.

- Net debt / EBITDA leverage to increase progressively through a combination of bolt-on M&A and increasing dividends, reflective of higher targeted leverage.

RATING SENSITIVITIES

Negative: Future developments that could lead to negative rating action include:

- Expectations that FFO adjusted net leverage would exceed 4.0x on a sustainable basis; previously set at 3.75x.

- Expectations that FFO fixed charge cover is likely to remain below 2.0x (previously 3.0x) on a consistent basis.

- Any change in regulatory or competitive environment that would jeopardise EIT's strong market position as a quasi-utility.

Positive: Future developments that could lead to positive rating action include:

-An upgrade is considered unlikely given EIT's targeted leverage, M&A ambition, reliance on commercial broadcast TV, exposure to one key tenant (Mediaset; 74% of 2015 revenues) and limited diversification. While the medium-term risk of DTT obsolescence in Italy is considered limited, it is possible that its dominance could erode over the longer term as other forms of TV distribution take hold and content consumption habits fragment.

Despite having received bank offers, the business does not currently have a revolving credit facility in place due to sufficient cash generation and the option to draw from the EUR140m intra-group current account with Mediaset. The group reported cash and equivalents of EUR103.5m as at YE2015, down from EUR134m as at YE2014 due to bolt-on acquisitions. The company's EUR230m bond matures in 2018. While there is maturity concentration, refinancing risk is not considered high.