OREANDA-NEWS. August 24, 2010. Fitch Ratings has affirmed OJSC Far East Telecom's (OAO Dalsvyaz) with other five Russian regional incumbent telecoms operators’ (OAO Centertelecom's, OAO North-West Telecom's, OJSC VolgaTelecom's, OAO Sibirtelecom's, OAO Uralsvyazinform's) Long-term foreign currency Issuer Default Ratings (IDRs) at 'BB' respectively. Fitch has revised the rating Outlook on each rating to Positive from Stable.

"The revision of the Outlooks to Positive reflects Fitch's expectation that the pending merger of the six regional incumbent telecom operators and Rostelecom will result in significant operating and financial synergies," says Nikolai Lukashevich, Senior Director in Fitch's Telecoms, Media and Technology team.

The timeline for the corporate reorganisation is likely to be brought slightly forward compared with the initial deadline, which increases the probability that merger synergies may be realised sooner than previously estimated by Fitch. The legal process is likely to be finished before the end of Q111. The buy-out of minority shareholders in conjunction with the merger will require significantly less than the cap of 10% of net asset value, and will not lead to leverage deterioration.

The single enlarged operator will benefit from a streamlined operating strategy across all its geographies and market segments. This will ultimately remove internal competition between the regional incumbents and Rostelecom in the corporate segment, and rule out network overbuild. The new enlarged operator will be able to promote best practices across Russia and develop a uniform network modernisation strategy and technological solutions which will likely deliver a significant economy of scale and create the potential for substantial capex savings.

The merger will help strengthen the operator's product proposition, particularly in the mass residential segment. The new Rostelecom will be able to bundle local and long-distance voice services, but also broadband, and potentially mobile services into one package. The wider bundling opportunities are a strategic operating advantage, and may become a more pronounced differentiating tool in future. Retail subscribers will receive one bill which will also improve the enlarged company's relationships with end-customers.

The new operator will be able to maintain a single brand and likely be more efficient at marketing. This will help the new Rostelecom to reach more parity with large 'branded' players such as 'Big Three' mobile operators in Russia, and make it more competitive with positive implications for churn and its share of new customer additions, particularly in the broadband segment.

On the mobile side, the new Rostelecom is likely to emerge as a stronger player than the individual regional operators now. Consolidation will help to address the long-standing roaming and brand issues and increase economies of scale in this segment.

The corporate reorganisation is also likely to improve treasury/debt management efficiency. As a single company, Rostelecom will find it easier to circulate cash between its new branches, which will help streamline leverage and liquidity across the group. Historically, differences in leverage metrics and liquidity/refinancing calls between Svyazinvest subsidiaries have been quite substantial. As a large player, the new Rostelecom is likely to establish closer ties with key domestic, and, perhaps, international banks.

However, Fitch notes that although the potential synergies are high, uncertainty remains over whether the synergies can be successfully realised as Rostelecom is facing numerous organisational and managerial challenges. After the merger, the new operator is likely to reconsider its network modernisation and mobile strategies which could lead to a more aggressive financial strategy and make free cash flow generation (FCF) negative for a prolonged period of time. Leverage has so far been modest and shown improvement at all six operators. Fitch estimates that on a pro-forma basis group-wide leverage is low and estimated to be in the range of 1x of net debt/EBITDA at end-2010.

The rating actions for the OJSC Far East Telecom are:

OJSC Far East Telecom

Long-term foreign currency IDR: affirmed at 'BB'; Outlook revised to Positive from Stable

Long-term local currency IDR: assigned at 'BB'; Outlook Positive

Foreign currency senior unsecured rating: affirmed at 'BB'

Local currency senior unsecured rating: assigned at 'BB'

Short-term foreign currency IDR: affirmed at 'B'.