Fitch Ratings has affirmed Telefonica Brasil S.A.'s Long-Term National Scale Rating at 'AAA(bra)'.
The Rating Outlook is Stable.
The rating reflects Telefonica Brasil's solid business model, supported by its leading position in the Brazilian telecommunications industry and its conservative financial profile, with robust liquidity and conservative capital structure. The company is expected to continue to report strong operating performance over the next three years, supported by growth of its post-paid base and fiber-to-the home (FTTH) broadband services. The competitive and regulated telecommunication industry, which is capital-intensive and exposed to rapid technological changes, also is incorporated.
The Stable Outlook incorporates Fitch's expectation that Telefonica Brasil's credit profile will remain strong, with resilient cash flow in spite of the strong dividend distributions and the investments in the 5G technology roll out with limited impact on leverage.
Key Rating Drivers
Intense Competition: With three major operators, competition in the Brazilian telecom sector remains intense, limiting companies' pricing power. Under the Vivo brand, Telefonica Brasil has 39% mobile market share, followed by Claro, from America Movil S.A.B. de C.V. (A-/Outlook Positive) with 33%, and TIM S.A. ('AAA(bra)' / Outlook Stable) with near 25%. The sector is regulated by the Agencia Nacional de Telecomunicacoes (ANATEL) and requires massive investments to expand network capacity, which work as major entry barriers. Market dynamics will continue to demand lean operating structures to offer competitive data packages. Mobile SIM cards and wired fixed broadband accesses are expected to increase 3% annually, while fixed-line and pay-TV users should decrease 7% and 3%, respectively.
Strong Business Profile: Telefonica Brasil is the country's largest carrier, with 98 million mobile SIM cards, which enables it to adequately dilute fixed-costs. The company reports the highest average revenue per user (ARPU), of BRL27, thanks to its 43% post-paid loyal base, with the mobile segment representing 69% of consolidated revenues. Nearly 40% of the company's 14 million wired revenue generating units (RGU) are the growing FTTH broadband accesses, while the remaining pay-TV and fixed line subscribers shall continue experiencing secular disconnections. Others initiatives such as financial services, e-health, e-education, marketplace, cloud, data-center and cybersecurity are expected to increase contribution to consolidated results and increase the long-term value of clients by reducing churn.
Low Pressure from 5G Disbursements: Fitch expects no material pressure on Telefonica Brasil's cash flow and capital structure from the payment schedule for 5G licenses and rollout obligations. The total amount for the spectrum reached BRL4.4 billion, of which 60% was paid in 2022, 15% will be disbursed in 2023 and 7.5% in 2024. The remaining BRL790 million will be paid in annual instalments in 2025-2040. Consolidated annual capex is expected to reach BRL9 billion in 2023 and 2024, in line with average of the past five years, aided by the deconsolidation of FiBrasil fiber-optic asset and the slowdown of investments in 4G and 4.5G by the time 5G demand increases.
Strong Operating Cash Flows: Telefonica Brasil large client base and cost discipline shall continue supporting the company to generate robust and growing operating cash flows and FCF before dividends. Fitch projects EBITDA of around BRL17 billion and cash flow from operations (CFFO) of BRL16 billion in 2023, expanding to BRL18 billion and BRL16 billion, respectively, in 2024. FCF is expected to be BRL2.2 billion in 2023 and BRL1.3 billion in 2024, after an average annual capex and dividend s of BRL9 billion and BRL5 billion, respectively. With the pay-out rate at around 100% of the net profit and cash flows surpassing the net profit, Fitch anticipates annual share buybacks of BRL400 million over the next three years, compared to BRL600 million in 2022.
Conservative Capital Structure: Fitch expects Telefonica Brasil to maintain net leverage below 0.5x over the next three years, aiming to maximize net profit and distributable dividends. The company's strong FCF forecasts should enable it to amortize debt as they mature with no refinancing needs. Gross and net EBITDA leverage were 0.5x and 0.1x, respectively, in the last 12 months ended in March 2023. Fitch projects net debt of around BRL3.2 billion by the end of 2023, reducing to BRL2.3 billion in 2024.
Credit Linkage to Telefonica SA: Telefonica Brasil's rating considers the similar credit risk profile of its parent, Telefonica SA (BBB/Stable), as per Fitch's 'Parent and Subsidiary Linkage Rating Criteria.' Telefonica controls 74.8% of Telefonica Brasil. Legal and operational incentives are low due to a lack of debt guarantees and cross-default clauses as well as no common management structures. Strategic incentives are medium, as Brazil, with around 22% of Telefonica's sales and 28% of EBITDA in 2022, contributes to the overall reduction in Telefonica's consolidated net leverage.
Derivation Summary
Telefonica Brasil's rating is commensurate with TIM S.A.'s ['AAA(bra)'/Stable] credit profile, which benefits from a strong business position as the nation's third-largest mobile carrier, with a 24.6% estimated market share; both companies show a robust business and finance credit profile, supported resilient cash flows; and low adequate leverage and strong financial flexibility . The rating is several notches above that of Oi ['D' / 'D(bra)'], which filed for bankruptcy protection in March 2023.
Telefonica Brasil's rating is equivalent to Localiza Rent a Car S.A. (AAA[bra]/Stable), which operates as the lead player in the competitive Brazilian fleet and car rental sector. As in telecommunications, the car rental sector is capital intensive to maintain an updated fleet. Localiza, like Telefonica Brasil and TIM, has reduced leverage and maintains robust liquidity. Despite its smaller scale compared with Telefonica Brasil, Ache Laboratorios Farmaceuticos S.A.'s rating (AAA[bra]/Stable) reflects its lower business risk in the defensive nature of the pharmaceutical industry. Ache's operational cash flow is robust and resilient, and its capital structure is conservative.
Key Assumptions
Fitch's Key Assumptions Within Our Rating Case for the Issuer
Number of SIM Cards of 100.6 million and 102.8 million in 2023 and 2024, respectively;
Post-paid represents 56.1% of the total mobile base in 2023 and 56.6% in 2024;
Mobile ARPU stable at BRL27.6 in 2023 and BRL27.7 in 2024;
RGUs of 14.1 million in 2023 and 14.3 million in 2024;
Annual capex of BRL9 billion in 2023 and BRL9.3 billion in 2024.
RATING SENSITIVITIES
Factors that Could, Individually or Collectively, Lead to Positive Rating Action/Upgrade
Not applicable, as Telefonica Brasil's National Long-Term Rating is 'AAA(bra)'.
Factors that Could, Individually or Collectively, Lead to Negative Rating Action/Downgrade
Net leverage sustained above 3.0x, combined with deteriorating liquidity;
Adverse regulatory changes that limit margins;
A downgrade of several notches in Telefonica SA's rating.
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
Robust Liquidity: Telefonica Brasil has ample leverage headroom to bear 5G investments, the debt service and distribute high pay out rates without materially changing its robust liquidity and high financial flexibility. Cash and marketable securities totaled BRL5.2 billion and short-term debt was BRL1.9 billion in March 2023. The company also shows a sounds debt profile with total debt maturing until 2025 is BRL4.5 billion.
The retained value of the Oi Mobile acquisition, amounting BRL533 million in 1Q23, has been allocated in the long term due to the ongoing legal discussions regarding compensations for the acquired asset. Total debt of BRL7.3 billion at the end of March 2023 consisted of BRL3.6 billion in debentures (50%), BRL1.9 billion in 5G licenses and obligations (26%), BRL1.1 billion (15%), and BRL630 million (9%) of withheld value to be paid to Oi and other acquisitions. Telefonica Brasil's debt is denominated in reais.
Issuer Profile
Telefonica Brasil S.A. is the largest telecom carrier in Brazil with 112 million revenue generating units (RGU), with 98 million mobile SIM cards under the Vivo brand (39% mobile market share), and 14 million users of Lines in Service (LIS), fixed-broadband, and pay-TV in 21 states.
