Fitch Affirms Colombia Telecomunicaciones' IDRs at 'BB'; Outlook Stable
KEY RATING DRIVERS
Coltel's ratings reflect its fully integrated operation with nation-wide network coverage and diversified service offerings, and its established business position as the second-largest mobile and third-largest fixed-line operator in Colombia. They also reflect the company's recently improved capital structure and liquidity profile through the issuance of the perpetual subordinated notes during March 2015. The implied support from the parent, Telefonica SA (rated 'BBB+' by Fitch), which owns 67.5% of the company, is also incorporated in the ratings given its strategic/operational importance to the parent's Latin American operation. The ratings are tempered by the intense competitive landscape which pressures the company's profitability and the burden on cash flow generation due to the annual amortization of Parapat-related liability and high capex for network improvement.
ARPU Contraction:
Coltel's ARPU continued its downward trend despite efforts to improve revenue contributions from mobile data, broadband and Pay TV segments in order to help mitigate the slowdown in the traditional voice revenue contribution. Fierce price-based competition has led to continued ARPU erosion for broadband and mobile services of 12.9% and 4.8% by the end of June 2015 yoy, respectively, while interconnection rates have also contracted during this period. The company's revenue, as a result, contracted by 0.7% during the first quarter 2015. Positively, the company's Pay TV ARPU grew by 8%. Although the revenue contribution from the segment has yet to be significant, the company expects to increase the Pay TV revenue contribution to 10% of total revenues in coming years from the current 5%.
Despite the modest revenue contraction, Coltel managed to show meaningful EBITDA improvement yoy, mainly due to the significantly lower handset subsidy and sales commissions from the regulatory abolition of the permanence clause that mandated time-bound contracts for subscribers, lower interconnection costs and the company's cost-saving efforts. As a result, Coltel's EBITDA grew by 8.5% during the period.
High Capex; Negative FCF
Coltel's negative free cash flow (FCF) is expected to continue at least for the short term due to capex. The company has embarked on a sizable capex program for its mobile/fixed network upgrades, including 4G and broadband services. Coltel expects to invest approximately COP3.7 billion during 2015-2018, with about 30% of this budget expected to be used during the first year. As capex gradually declines from 2016 on, Fitch forecasts the company's FCF to turn positive over the medium term. Given the significant capex plan, shareholder distributions are not likely during 2015-2018.
Competition Pressures Margins
Coltel's profitability is likely to decline in 2015 from the 2014 IFRS adjusted level of 38.9% due to the ongoing ARPU erosion. The competitive landscape remains intense amid the trend of convergent service offerings, with the recent merger of Tigo Colombia and UNE EPM Telecomunicaciones S.A. The company was able to reduce operational costs by 5%, driving the EBITDAR margin to 41.4% by the end of June 2015. Fitch expects that additional cost savings will not be sufficient to contain further margin erosion. As a result, Coltel's EBITDAR margin is projected to gradually fall from 38.9% in 2014 to 37.7% by December 2015 and then continue to contract to approximately 35% in the following years.
Improved Financial Profile
Coltel's financial profile has improved since the issuance of the USD500 million perpetual notes in March 2015, to which Fitch has assigned a 50% equity credit. The company has used the notes proceeds to refinance its short-term debt to improve the liquidity profile by extending the average life of its financial obligations from 4.4 years in 2014 to 6.2 years as of March 2015. Following the refinancing, Coltel's total financial debt, excluding Parapat-related liability, was reduced to COP3.9 trillion as of June 2015 from COP4.1 trillion at end-2014 (without including valuation of hedge derivative). Reflecting Fitch's adjustment for the company's network lease expenses, adjusted net debt-to-EBITDAR excluding Parapat liability was 2.8x, a modest improvement from 2.9x as of end-2014. Coltel hedges all of its foreign-currency denominated debt in the local currency. Reflecting the net valuation of its hedge derivatives, its net leverage was 2.6x during the same period.
Fitch considers Coltel's Parapat liability as a softer debt in its leverage calculation reflecting some flexibility with the payment obligation as evidenced by the restructuring of the terms and the reduced liability amount in 2012. Nevertheless, the annual amortization of the liability adds pressures to the company's cash flow generation. Reflecting the Parapat liability, the book value of which was COP3.9 trillion as of June 2015, the company's adjusted net leverage ratio was 4.7x. Fitch projects this ratio to gradually improve to below 4.5x over the medium term backed by positive FCF generation from 2016 onwards.
Manageable Liquidity
Coltel's cash flow has and will continue to be pressured by Parapat debt amortizations, which in 2015 will amount to COP59 billion, making its total short-term obligations approximately COP260 billion, above its cash balance of COP243 billion as of June 2015. Positively, Fitch expects Coltel's cash flow from operations (CFFO) to remain stable at COP1.2 billion on average during 2015 - 2018, which should help the company manage its short-term debt service. As of June 2015, the cash-to-short-term debt ratio was 0.9x. The company also maintains available credit facilities of approximately COP2 billion with local and international banks, which further bolsters its liquidity position.
KEY ASSUMPTIONS
--Annual average revenue growth of 4% from 2015-2018;
--EBITDAR margins declining to around 38% in 2015, and toward 35 % over the medium- to long-term due to competitive pressures and ARPU erosion;
--Capex to be funded primarily from internally generated funds. Fitch expects capex to represent 18% of revenues on average during 2015-2018.
RATING SENSITIVITIES
Considerations that could lead to a negative rating action (rating or Outlook):
--In the case of persistent negative FCF generation and continued profitability deterioration due to competitive pressures and higher-than-expected capex resulting in the company's net leverage, excluding Parapat liability, to increase to above 3x on a sustained basis. Also, adjusted net leverage, including the Parapat liability, increasing to above 4.5x - 5x would pressure the ratings, as would failure to improve its liquidity.
Considerations that could lead to a positive rating action (rating or Outlook):
Positive rating action is unlikely in the short- to medium-term given the high leverage. Factors that could lead to a positive rating action include consistent positive FCF generation which results in a material net leverage reduction and sound liquidity position on a sustained basis.
LIQUIDITY
Coltel's CFFO is expected to average COP1.2 billion on average during 2015 - 2018, which should help manage its short-term debt service. Parapat debt amortizations will amount to COP59 billion in 2015. The company maintains available credit facilities of approximately COP2 billion with local and international banks, which further bolsters its liquidity condition. As of June 2015, the cash-to-short-term debt was 0.9x.
FULL LIST OF RATING ACTIONS
Fitch has affirmed the following ratings:
Colombia Telecomunicaciones S.A. ESP
--Foreign currency IDR at 'BB'; Stable Outlook
--Local currency IDR at 'BB'; Stable Outlook;
--USD750 million senior notes due 2022 at 'BB';
--USD500 million subordinated perpetual bond at 'B+'.
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