OREANDA-NEWS. Fitch Ratings has assigned KT Corporation's (KT, A-/ Stable) proposed US dollar bond an expected rating of 'A-(EXP)'. KT will use the net proceeds from the bond to refinance existing debt and for general corporate purposes.

The notes are rated at the same level as KT's senior unsecured rating as they represent direct, unconditional, unsecured and unsubordinated obligations of the company. The final rating is contingent upon the receipt of final documents conforming to information already received.

KEY RATING DRIVERS

Stabilising Margin: Fitch expects KT's margins continue to benefit from lower marketing and selling, general and administrative costs after restructuring in the short term. Contraction in fixed-line voice revenue is likely to be offset by solid growth in internet protocol television (IPTV) and media business. Fitch expects KT to report solid margins in 2016 similar to the 2015 level. The company reported 2015 core-telecom EBITDAR margin (as a percentage of service revenue) of 28%, a substantial improvement from 2014, when the margin was affected by intense competition and one-off labour costs.

Strengthened Balance Sheet: Fitch expects KT's leverage to remain at a healthy level in 2016 with higher operating cash flows and moderate capex. Repayment of debt using proceeds from the sale of its stakes in financial subsidiaries, KT Rental and KT Capital, helped to strengthen its balance sheet in 2015. We expect core-telecom leverage to remain below 2.0x in 2016 (2015:1.8x).

Slowing Mobile ARPU Growth: Fitch forecasts KT's mobile average revenue per user (ARPU) to continue to rise but at a slower pace as the company's long-term evolution (LTE) subscriber base is already high at 73% of total mobile subscribers in 1Q16. ARPU inched up year-on-year to KRW36,128/month in 1Q16 (1Q15: KRW35,451/month). Fitch expects KT's LTE penetration rate to rise to near 80% by end-2016, which will limit upside for wireless ARPU over the long term.

Fixed-Line Revenue to Decline: Fitch expects KT's broadband and fixed-line voice revenue and ARPU to continue declining over the medium term. This is because subscriber growth will remain marginal as the market becomes increasingly saturated amid intense competition. In addition, price discounts from bundling and migration to a cheaper voice-over-internet-protocol (VoIP) service will erode profitability; this trend is unlikely to reverse.

Vulnerable to Regulatory Change: KT's credit profile will remain vulnerable to any changes in the regulatory environment, although we expect it to remain stable in the next 12 months. However, uncertainty is rising over regulatory issues, especially when the Handset Distribution Bill, which took effect in October 2014, expires in October 2017. Removal of the cap on overall subsidies may affect KT's long-term profitability because competition among wireless telecom operators may reignite as they try to expand their subscriber bases.

KEY ASSUMPTIONS

Fitch's key assumptions within our rating case for the issuer include:

- Core-telecom revenue to increase slightly in 2016

- Core-telecom EBIT margin in 2016 to be similar to the 2015 level with low marketing costs

- Capex to fall to around KRW3.3trn (cash basis) in 2016

- Free cash flow to remain slightly positive in 2016

RATING SENSITIVITIES

Negative: Future developments that may, individually or collectively, lead to negative rating action include

- Core-telecom net debt/operating EBITDAR above 2x;

- Core-telecom net debt/operating EBITDAR (including handset receivables securitisation) above 3.0x;

- Core-telecom operating EBITDAR margin below 25%; and

- Sustained negative pre-dividend free cash flow.

Positive:

Given the company's difficult market environment, positive rating actions are unlikely in the medium term.