Our view of TVN's financial risk profile takes into account the group's high leverage and its need to make dividend payments large enough to allow parent company Polish Television Holding B.V. (PTH; B-/Stable/--) to service its own debt. Following the deconsolidation of the pay-TV operations "n" and its Internet portal, Onet, we believe that the group's credit metrics should remain largely unchanged and should continue to be commensurate with TVN's ratings over the next 12 months, despite challenging advertising market in Poland. The group's financial risk profile also reflects its "adequate" liquidity supported by sizable cash on balance sheet and long-dated debt maturities.
TVN's high exposure to cyclical advertising revenue and its concentration of earnings in Poland continue to constrain the group's business risk profile. Our view of TVN's business risk profile remains broadly unchanged despite the loss of diversification that will result from disposals of Onet and "n". In our view, "n" is barely profitable and its long-term viability is uncertain. Positive factors that support the business risk profile include TVN's leading position in free-to-air TV in the Polish market, where the group's market share exceeds 30%; its solid profitability; and its good record in programming cost control through its in-house and commissioned content production.
S&P base-case operating scenario
On the back of weak advertising spending in Poland in the first nine months of 2012, our base-case assumes a mid-single-digit decline in revenues and a declining EBITDA margin of about 30% in 2012. Our assumptions are based on a high single-digit decline in advertising revenues, in line with the company's guidance, and our expectation of a 34% EBITDA margin of broadcasting operations. This is factored into our 'fair' business risk profile, however.
We expect the outlook on advertising spending to remain challenging in 2013 as well, especially in the first part of the year. Based on a mid to high single-digit decline in the advertising market in 2013, we anticipate flat to slightly declining revenues at TVN, coupled with some margin increase provided by cost savings initiatives.
S&P base-case cash flow and capital-structure scenario
We estimate that TVN's free operating cash flow (FOCF) from continuing operations will remain negative in 2012 at about Polish zloty (PLN) 230 million. This is mainly due to around PLN300 million of capital expenditure of which PLN212 million are related to real estate investments. However, we expect free operating cash flow to turn positive for approximately PLN80 million starting in 2013 owing to the deconsolidation of the capital-intensive "n"-unit.
Under our base-case scenario, we anticipate that in 2012 the group's Standard & Poor's-adjusted ratio of gross debt to EBITDA (pro forma for the Onet transaction) will remain at 5.3x and will only decline to 5.0x in 2013. Due to the current weakness of the Polish advertising market, leverage continues to remain high despite the company's effort to reduce its debt burden through the proceeds from Onet disposal. We are mindful that credit metrics could materially improve depending on the future evolution of advertising spending over the coming quarters increasing the current rating headroom.
We assess TVN's liquidity as "adequate," according to our criteria. We expect the group's liquidity sources--including cash and funds from operations (FFO)--to exceed uses by more than 1.2x over the next 12 months, even in the event of a 15% decline in EBITDA.
Our liquidity assessment is based on the following factors and assumptions:
-- Liquidity sources for 2012 mainly include TVN's fully accessible PLN490 million cash balance on Sept. 31, 2012. We include in our liquidity sources the PLN956 million of proceeds from the Onet disposal that will be used to debt reduction.
-- We also anticipate that TVN will generate about PLN140 million and PLN180 million of FFO in 2012 and 2013 respectively.
-- Liquidity uses in 2012 and 2013 mainly include our assumptions of average working capital needs of about PLN50 million a year. Capex will be about PLN300 million in 2012, impacted by real estate investments, and afterward will drop significantly to the historical level for the TV operations.
Including the PLN700 million of revaluation gain and PLN350 million impairment loss pretax on the back of the completion of the "n" and Onet transactions, we forecast a dividend payment of about PLN150 million-PLN200 million in 2013.
Importantly, TVN's bonds do not have any maintenance covenants. The existing EUR593 million of notes and EUR175 million of notes have debt incurrence tests.
Furthermore, TVN does not have significant debt maturities before 2017. TVN's short-term debt of PLN119 million, as reported on Sept 31, 2012, essentially comprises accrued interest on the existing notes.
The stable outlook primarily reflects our view that TVN's cash flow generation should improve over the next 12 months as a result of the "n" transaction. The outlook also assumes that TVN will maintain its adequate liquidity position, supported by a prudent acquisition and dividend policy, over the next 12 to 18 months, when the company could be in a position to upstream sizable dividends. We view adjusted gross debt to EBITDA of close to 5x as commensurate with the 'B+' rating.
We could consider a upgrade if TVN reported sustainable and positive cash flow, resulting in adjusted FFO to debt of above 15% and adjusted gross debt to EBITDA below 4.5x on a sustainable basis, and we perceive that it consistently maintains a well-defined and moderate financial policy.
We could consider a negative rating action if TVN's liquidity significantly weakens in the next few quarters. We could also take a negative rating action if the group's operating performance declines beyond our expectations in the wake of a sharper decline in advertising spend than we expect, causing our adjusted debt to EBITDA ratio to exceed current levels and FOCF to remain negative. A financial policy that is more aggressive than we anticipate, especially in terms of shareholder remuneration, could also result in negative rating pressure.