Fitch Ratings has affirmed the Long-Term (LT) Local Currency (LC) and Foreign Currency (FC) Issuer Default Ratings (IDRs) of VTR Finance N.V. at 'BB-'and revised the Rating Outlook to Negative from Stable.
Fitch also affirmed VTR Finance N.V.'s senior secured notes of USD550 million due in 2028 at 'BB'/'RR3' and the VTR Comunicaciones SpA revolving credit facilities (RCF), senior secured notes of USD480 million (2028) and senior secured notes for USD410 million (2029) at 'BB+'/'RR2'.
The Negative Outlook is based on the deterioration of the company's credit profile as a result of weaker than anticipated operational performance and increasing leverage metrics, as well as Fitch's expectation that the credit profile will continue to be pressured in the medium term due to the highly competitive environment in Chile. A materialization of the business combination with America Movil (AMX) in Chile could partially offset the negative expectations of Fitch, considering the integration of operations but uncertainty remains around final structure of the transaction.
Key Rating Drivers
Deterioration in Operational Performance Remained: After the disruptive impacts in the middle of the pandemic, the company's revenues continue to show weakness, with reductions of 3.1% in 2020, 6.9% in 2021 and 9.2% YTD as of 1Q22. This was mainly due to declines in its customer base and ARPU. EBITDA margin has declined from pre-pandemic levels close to 40% to 30% during the LTM March 2022. This was due to the loss of customers on the company's mostly fixed cost structure. The company's strategy is focused on service quality improvement, network capacity expansion through fiber, and pricing to reduce the churn. Considering these factors and the strong competitive environment, Fitch expects moderate ability to grow revenues and recover EBITDA margins in the medium term.
Higher Leverage and Limited Reduction is Expected: In 2021 and LTM March 2022, the net leverage of VTR increased to 5.8x and 6.5x, respectively, due to the reduced operational performance. This level is high for the rating level and higher compared with Fitch Previous projections. Fitch expects leverage to increase to 7.0x in 2022 before declining in the medium term considering a gradual recovery of its operational performance amid the highly competitive environment in the industry.
Fitch estimates the combined Claro Chile and VTR JV will have a much lower net leverage at slightly more than 4.0x. The JV will have around CLP1.400 billion of net debt; on pro forma LTM EBITDA of CLP340 billion (25% of revenues). Given the high investment needs for 5G and fiber broadband development and intense competition, deleveraging capacity over the next two-three years will likely depend on attaining merger synergies.
Potential Combination of Operations with Claro Chile: In September 2021, Liberty Latin America (LLA) announced the agreement with AMX, enter into a JV between VTR with and Claro Chile operations. The transaction considers around 3.0 million subscribers of VTR in Internet, Video and Voice service, and around 6.5 million mobile customers of Claro Chile to create a business with greater scale, product diversification and a capital structure what will enable significant investment for fixed fiber footprint expansion and to be a forefront of 5G mobile delivery.
LLA and AMX will contribute to the business net debt of CLP1.095 billion and CLP259 billion, respectively. In addition, LLA will make a balancing payment to AMX of CLP73 billion. The formation of the JV will not result in a change of control event for existing debtholders of VTR. The combined operation seeks to achieve run-rate synergies of over USD180 million, 80% of that amount is expected in the first three years post completion, mostly related with cost savings. The JV's board will be shared in same proportion by both groups, with an alternating the president of the board.
Investments Pressures FCF: Fitch expects VTR's FCF in 2022 to be pressured due to higher capital intensity for VTR of around 23%-25% of the revenues. The higher investments should strengthen the quality of service and network competitiveness. The pressured FCF is compensated by the strong liquidity and extended schedule of maturities.
Strong Market Position: VTR has a strong position in the Chilean Telecom Market. As Subtel based on December 2021, the company reached the first place in Pay TV services with 30% of M/S, and second place in Internet data broadband and fixed services with 28% and 22% of M/S, respectively, following closely the main player of the industry, the incumbent competitor, Telefonica Chile S.A. (BBB+/Stable). Despite the subscriber reductions in 2020 and 2021, VTR should maintain it solid market position based on effective bundling product strategy and improving network quality. In mobile, the company operates as a virtual network operator with a low market share of 0.9%. Fitch does not expect any material cash flow contribution from this segment in the short to medium term.
The pending JV with Claro Chile could imply that the combined business rises to the first place in Fixed Broad Band, and diversifies its participation in Mobile business, as Claro Chile is the third operator in mobile services and fourth operator in fixed broadband services with around 22% and 10% of M/S in terms of subscribers, respectively.
LLA Linkages: VTR is a wholly owned subsidiary of LLA. LLA's financial management involves moderately high amounts of leverage across its operating subsidiaries, each ring-fenced from one another. While the credit pools are legally separate, LLA has a history of moving cash around the group for investments and acquisitions. This approach improves financial flexibility, but it also limits deleveraging prospects. Weak performance in the other credit pools or in the broader group could place more financial burdens on VTR, given LLA's acquisitive nature.
Secured Bond Recovery Prospects: VTR Comunicaciones SpA's 'BB+' secured debt ratings positively incorporate the collateral support, i.e. the pledges over the equity shares of the issuer and guarantor, included in the transaction structure. VTR's debt qualifies as Category 2 first lien, which results in a 'RR2' rating, considering the Recovery Rating's cap defined for Chile in Country-Specific Treatment of Recovery Ratings Rating Criteria. The 'RR3' on the parent company notes reflects its structural subordination and security relative to the secured VTR Comunicaciones instruments resulting in an a one-notch uplift from the IDR.
Derivation Summary
VTR's competitive position and financial profile compare favorably with other speculative-grade telecoms in the region, although the company's relative lack of diversification and LLA's financial management will likely limit it to the 'BB' category.
Compared with sister company Cable & Wireless, VTR benefits from the Chilean operating environment and its status as second player in fixed broadband service and the largest pay TV operator by subscriber share. Cable & Wireless has larger scale, better service and geographical diversification than VTR. Following the AT&T acquisition, LCPR's scale is more than twice that of VTR's, and with greater product diversification.
VTR has a similar fixed-line operating profile to Telefonica Chile (BBB+/Stable), although Telefonica Chile benefits from leverage metrics around 2.0x-2.5x lower than VTR's, and the scale and diversification provided by its parent Telefonica Moviles Chile S.A. (BBB+).
Compared with WOM Mobile S.A. (WOM, BB-/Stable), VTR has better diversification and scale, as well as more stable cash flow generation and a stronger EBITDA margin. WOM's ratings reflect the company's short but solid track record in Chile, taking on much larger competitors WOM's ratings, like VTR's, incorporate Fitch's expectations that the company will be managed to moderately high levels of net leverage.
When compared to Millicom International Cellular S.A.'s (BB+/Stable) subsidiaries, Comcel (CT Trust; BB+/Stable) and Telefonica Celular del Paraguay (Telecel; BB+/Stable), VTR has is less diversified and operates in a more competitive market, but in a stronger operating environment. Comcel and Telecel have more dominant market positions and significantly lower net leverage at around 3x and 2x, respectively. Millicom's consolidated leverage, at about 3x, is lower than LLA's at around 4x. Comcel's and Telecel's ratings reflect a strong linkage with their parent as Millicom heavily relies on these two wholly owned subsidiaries' dividend upstreams to service its debt.
Key Assumptions
Reductions in Revenue of 8% and EBITDA margin of 28% in 2022. Conservative recovery on fixed RGU from 2023.
Completion of JV with Claro Chile modeled from start of 2023: EBITDA margin of around 25% and low single digit of revenue increase in the medium term.
Capex to revenues reducing from 25% in 2022 to 21% in 2025 for VTR Finance in the medium term and around 18% for Claro Chile operations.
No dividends are expected, Neutral to Positive FCF generation expected to 2022-2024 period.
RATING SENSITIVITIES
Factors that could, individually or collectively, lead to positive rating action/upgrade:
Stabilization on the VTR Finance and VTR Comunicaciones SpA's ratings could occur in the case of closing of combined operation's agreement with Claro Chile in 2H22 and a clear evidence of sustained reduced leverage metrics after the transaction.
Longer-term positive rating actions are possible to the extent that debt to EBITDA and net debt to EBITDA sustained below 4.50x and 4.25x, respectively, at both VTR and LLA.
Factors that could, individually or collectively, lead to negative rating action/downgrade:
A Negative outcome regarding the JV with Claro Chile in conjuction with lack of evidence to return to total debt/EBITDA and net debt/EBITDA ratios below 5.25x and 5.00x, respectively, in a sustained basis.
While the three credit pools are legally separate, LLA net debt/EBITDA sustained above 5.0x could result in negative rating actions for one or more rated entities in the group.
Best/Worst Case Rating Scenario
International scale credit ratings of Non-Financial Corporate issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579.
Liquidity and Debt Structure
Sound Liquidity Profile - Pressured Leverage: VTR's liquidity profile is sound as the company does not face any debt maturity until 2028 (senior secured notes of USD550 million and USD480 million). The issuance of USD410 million (due in 2029) was used to refinance CLP174 million (USD240 million) of term loan and prepay 20% (USD120 million) of VTR Comunicaciones SpA's outstanding 2028 notes.
The company's cash balance amounted to CLP78 billion by the end of March 2022, which represent 1.1x the short-term debt of CLP70 million, which represent mainly vendor financing debt. Liquidity is further supported by VTR's access to committed credit facilities, which as of March 2022 are completely undrawn.
Issuer Profile
VTR Finance N.V. is a Netherland-domiciled telecom operator whose operations are based in Chile. The company offers fixed and mobile services to consumers and businesses throughout the country.
Summary of Financial Adjustments
Standard adjustments made; debt amount adjusted by FX hedge; reclassified certain operating expenses and working capital items; added interest payable to total debt.
REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING
The principal sources of information used in the analysis are described in the Applicable Criteria.
ESG Considerations
VTR Finance N.V. has an ESG Relevance Score of '4' for Financial Transparency due to the company's relatively opaque financial disclosure and management strategy, which has a negative impact on the credit profile, and is relevant to the ratings in conjunction with other factors.
Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg.
TELEFÓNICA CHILE S.A. 