-- U.S. rural local exchange carrier Consolidated Communications Holdings
Inc. is raising a new $515 million term loan B due 2018 at its operating
subsidiary, Consolidated Communications Inc., to refinance existing secured
-- We are assigning our 'BB-' issue-level and '2' recovery rating to the
proposed term loan; our 'B+' corporate credit rating on the parent company is
-- We are revising our liquidity assessment to "adequate" from "less than
adequate" due to an increase in headroom under financial maintenance covenants.
-- The stable rating outlook reflects the relative predictability of the
company's overall base of business over the next 12 months.
On Nov. 13, 2012, Standard & Poor's Ratings Services assigned its 'BB-'
issue-level rating and '2' recovery rating to rural local exchange carrier
(RLEC) Consolidated Communications Inc.'s proposed $515 million senior secured
term loan due 2018. The '2' recovery rating indicates our expectation for
substantial (70% to 90%) recovery for lenders in the event of payment default.
Our 'B+' corporate credit rating on the parent company, Consolidated
Communications Holdings Inc., is unchanged. The outlook is stable.
The proposed refinancing extends debt maturities and modestly benefits
liquidity, which we now view as "adequate." We expect the company to use
proceeds from the new term loan to refinance its existing $467 million term
loan B due 2014, and repay $35 million of outstanding borrowings under its $50
million revolving credit facility due 2016. Because there is only a minimal
effect on debt leverage, our financial risk assessment remains "aggressive."
Our business risk assessment on Consolidated is "weak". Similar to industry
peers, the company faces competition from wireless substitution and cable
operators, which are bundling telephone with high-speed data (HSD) and video
services and increasingly targeting smaller business customers. Other business
risks include likely declining revenue from federal and state subsidies over
the next few years. Tempering factors include increased revenue from HSD and
video subscribers following the acquisition of SureWest, relatively strong
EBITDA margins, and stable distributions from its wireless partnerships.
Consolidated Communications is a midsize RLEC providing a wide range of
communications services to residential and business customers in Illinois,
Texas, and Pennsylvania. On July 2, 2012, the company completed the
acquisition of cable overbuilder and incumbent operator SureWest, which serves
markets in California and Kansas. As of Sept. 30, 2012, the combined company
had about 105,000 video subscribers, 402,000 voice access lines, and 247,000
With the acquisition of SureWest, Consolidated reduced its reliance on state
and federal Universal Service Fund (USF) sources. This funding represented 12%
of revenues for 2011, which we estimate will drop to about 8% of revenues on a
pro forma basis. Given the FCC's October 2011 order on USF, we expect these
revenues will continue to decline for several years. While the company will
also continue to lose access revenues due to the FCC intercarrier compensation
rules adopted in the same order, we expect Consolidated to obtain some cost
savings from lower access fees to other carriers.
Under our base-case scenario, we expect relatively flat to very low
single-digit percent pro forma revenue growth over the next 12 months, as
mid-single-digit percent voice access line losses are somewhat offset by
modest growth in video and data revenue. To mitigate the effect of line
losses, over the past few years the company has upgraded its network to expand
its digital subscriber-line (DSL) and Internet protocol (IP) TV services. We
believe the company will continue to deploy fiber in its region, as well as
expanding facilities in the SureWest footprint. Residential video services
have some growth potential in our view, despite an overall stagnant market for
pay TV services, given Consolidated's relatively low penetration of
addressable homes of 20.2% as of Sept. 30, 2012. However, we also believe
video growth will be accompanied by relatively high customer provisioning and
The company's EBITDA margin (treating stock compensation as an expense) was
healthy at about 46.5% for the 12 months ended Sept. 30, 2012. The company is
targeting $25 million of operating synergies over the next 2 years, through
headcount reductions, systems integration, and greater operational
efficiencies. We believe that heightened costs of aggressively marketing and
provisioning video and broadband services, especially in the SureWest
territories, coupled with lower USF funds and access revenues, will at least
partially offset achieved operating synergies. As a result, we are not
projecting material margin improvement over the longer term.
Debt (adjusted for operating leases and pensions) to EBITDA (including
wireless partnership distributions) was about 6.1x as of Sept. 30, 2012. Pro
forma for a full year's contribution from SureWest, adjusted leverage is
closer to 5.0x. We expect leverage to remain in this area over the next few
years, given our relatively flat revenue outlook and margin assumptions.
Moreover, we expect only modestly positive discretionary cash flow over the
next 12 months due to higher interest expense, elevated capital expenditures,
and the company's targeted dividend payout for the pro forma company of about
$60 million annually.
We have revised our liquidity assessment to "adequate" under our criteria,
from "less than adequate," due to the company's increased covenant headroom
following the SureWest acquisition.
Pro forma for the proposed transaction, sources of liquidity consist of about
$27 million in cash balances and full availability under its $50 million
revolving credit facility due 2016. We expect pro forma funds from operations
(FFO) to be in the $150 million to $180 million range. The company has guided
toward pro forma capital expenditures of $110 million to $115 million for
2012, and we expect capital expenditures to average about 15% to 20% of
revenues over the next few years as the company aggressively targets growth in
its IPTV customers, as well as growing fiber homes, and expanding its IP
capability to serve business customers. While Consolidated's pro forma
dividend will be sizable, at about $60 million, it has some discretion to
curtail dividends to bolster liquidity. However, we do not expect the company
to use this flexibility unless it is under financial stress. If net debt
leverage exceeds 5.1x, the dividend must be suspended according to the terms
of the credit facility.
As of Sept. 30, 2012, the company had about an 18% cushion against its 5.25x
leverage covenant. We expect the company to maintain adequate headroom over
the intermediate term.
The issue-level rating on the $515 million senior secured term loan B due 2018
is 'BB-' (one notch above the 'B+' corporate credit rating on the parent
company). The '2' recovery rating indicates our expectation for substantial
(70% to 90%) recovery for lenders in the event of payment default.
The rating outlook is stable. The relative predictability of the company's
business, as well as growth potential in data and video services, provides
stability for the rating over the next 12 months. However, if the combined
company's access line losses materially accelerate from current levels, we
could lower the rating, particularly if this results in leverage rising above
the low-5x area. In addition, lower dividend distributions from the wireless
partnerships could lead to leverage exceeding the low-5x area, which could
prompt a downgrade.
While we consider it unlikely in the near term, if Consolidated's IPTV
efforts, including deployments in the SureWest markets, contribute to
significantly lower access-line losses despite economic and competitive
pressures, we could raise the rating. Such a scenario would also require
meaningful leverage reduction to the 3x area.
Related Criteria And Research
-- Business Risk/Financial Risk Matrix Expanded, Sept. 18, 2012
-- Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011
-- Use Of CreditWatch And Outlooks, Sept. 14, 2009
-- Criteria Guidelines For Recovery Ratings, Aug. 10, 2009
-- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008
-- 2008 Corporate Criteria: Rating Each Issue, April 15, 2008
-- 2008 Corporate Criteria: Ratios And Adjustments, April 15, 2008
Consolidated Communications Holdings Inc.
Corporate Credit Rating B+/Stable/--
Consolidated Communications Inc.
US$515 mil incremental term B bank BB-
ln due 2018
Recovery Rating 2