-- Anchorage-based diversified telecommunications provider GCI Inc.'s
adjusted leverage could rise to over 5x by the end of 2013 from about 4.6x as
of Sept. 30, 2012.
-- We are revising our outlook to negative from stable and affirming our
'BB-' corporate credit rating on the company.
-- At the same time, we are lowering the issue-level rating on GCI's
senior unsecured debt to 'B+' from 'BB-'.
-- The negative outlook is based on our view that we could lower the
ratings if GCI experiences execution missteps at the wireless partnership or
if revenue and EBITDA decline in other segments such that leverage rises above
5x on a sustained basis.
On Nov. 16, 2012, Standard & Poor's Ratings Services revised its outlook on
Anchorage-based diversified telecommunications provider GCI Inc. to negative
from stable. At the same time, we affirmed the 'BB-' corporate credit rating
and most other ratings on the company.
In addition, we are lowering the issue-level rating on GCI's senior unsecured
debt to 'B+' from 'BB-' and revising the recovery rating to '5', which
indicates expectations for modest (10% to 30%) recovery in the event of
payment default, from '4', which represented expectations for average (30% to
50%) recovery. We revised the recovery rating based on our expectation that
GCI will raise at least $100 million of incremental senior secured debt to
fund its payment to Alaska Communications Systems Group (ACS) as part of their
joint venture wireless agreement, which will dilute recovery prospects for
senior unsecured debt holders.
The outlook revision reflects the possibility that adjusted leverage could
rise to over 5x by the end of 2013 from about 4.6x as of Sept. 30, 2012. This
could prompt us to revise out assessment of GCI's financial risk profile to
"highly leveraged," from the current ""aggressive," which could result in a
downgrade. Our adjusted leverage calculation includes the EBITDA from GCI's
businesses outside of the proposed wireless joint venture with ACS as well as
the EBITDA contribution from the wireless partnership less the preferential
cash distribution to ACS, which will be about $50 million per year for the
first two years of operations and $45 million in the next two years, subject
to certain penalties based on customer losses.
The negative outlook also incorporates the added risk that the joint venture
partnership contributes in terms of GCI's future cash flow generation, based
on our expectation for declining roaming revenue from ACS's wireless business,
fewer high-margin lifeline wireless customers in GCI's retail business,
declining subsidy revenue, and the priority of distributions in the first few
years of the joint venture.
Our base-case scenario also includes the following assumptions:
-- Revenue increases about 2% in 2013 and 2014, excluding the wireless
joint venture, due to growth in data services and managed broadband, partially
offset by declining voice and cable video revenue.
-- Revenue from the wireless joint venture declines about 6% in 2014 (the
first full year of the partnership) due to declining roaming and subsidy
-- The EBITDA margin improves to the mid-30% area from around 33% as of
the third quarter of 2012, because of synergies from the wireless joint
-- Leverage rises to about 5x in 2013 and 2014 before improving in the
The ratings on GCI continue reflect a "fair" business risk profile and an
"aggressive" financial risk profile. Business risk factors include a
well-positioned, although maturing, incumbent cable-TV business and limited
competition from satellite video providers; modest growth in wireless and
broadband; significant exposure to the highly competitive Alaskan telecom
market; risks related to the wireless partnership; and declining regulatory
subsidies. Operating lease-adjusted debt to EBITDA was about 4.6x as of Sept.
30, 2012, although Standard & Poor's Ratings Services believes that key credit
measures are likely to weaken through at least 2013 due to increased debt to
fund GCI's $100 million payment to ACS for the wireless joint venture.
GCI primarily offers telecommunications and cable-TV services in Alaska. The
local telecom business has shown solid growth, including attaining a wireline
phone penetration almost equal to that of the incumbent local exchange carrier
(ILEC) ACS in a number of major Alaskan markets. Still, GCI faces highly
competitive conditions and is losing customers to wireless substitution as
that product matures. The network access (long-distance and carrier services)
business has a leading market share and is bolstered by long-term contracts.
However, weaker pricing trends, increased competition, and the migration of
AT&T Mobility's traffic from GCI's network have eroded financial performance
of this business segment over the past few years, though the company has
demonstrated some stabilization recently.
GCI's cable segment has favorable business characteristics, and we consider it
to have a satisfactory business risk profile, similar to that of other midsize
cable TV operators. The cable business is the dominant provider of video and
broadband services in Alaska. It also benefits from below-industry-average DTH
satellite penetration, given the physical limitations placed on DTH by
Alaska's geography and volatile climate. However, basic subscriber video
subscribers have declined over the past few quarters, which is comparable with
industry trends. Growth in the cable segment has primarily reflected increased
penetration of high-speed data, where GCI has a dominant market share, and
enhanced video services.
The wireless joint venture offers GCI some business benefits, including
greater spectrum depth, access to ACS's Long Term Evolution (LTE) network, and
synergies. Still, the Alaska wireless industry is mature and subject to
increased competitive pressures when Verizon Wireless enters the market, most
likely in mid-2013. As a result, we consider the business risk profile of the
wireless segment to be "fair". Moreover, by combining its assets into the
wireless partnership, GCI is taking on the risk of declining roaming revenue
for ACS, most of which comes from Verizon Wireless. While GCI recently
obtained the popular iPhone as part of its device portfolio, higher handset
subsidy costs and declining subsidy revenue could hurt wireless profitability
measures over the next few years.
In the third quarter of 2012, GCI's total revenue was flat, though EBITDA fell
6% from the prior-year period. Weaker financial performance is primarily due
to declining cable-TV and telephony customers in the residential segment,
partially offset by growth in high-speed data services and managed broadband.
The EBITDA margin declined to 33.3% from 35.5% in the year-ago period but is
still solid relative to its peers. We expect some margin improvement from
synergies from the wireless partnership over the next few years.
GCI's liquidity is "adequate". Sources of liquidity include $28 million of
cash and almost full availability under the $75 million senior secured
revolver as of Sept. 30, 2012, as well as funds from operations (FFO), which
we expect will be at least $200 million in 2013, assuming a full year of the
wireless joint venture. We expect cash uses to include at least $150 million
of capital expenditures, $10 million of debt maturities in 2013, and a $50
million preferred distribution to ACS as part of the joint venture agreement.
We expect sources of liquidity to exceed uses by about 1.5x over the next 12
months and for net sources to remain positive, even with a 15% decline in
The bank facility includes a 5.25x total leverage covenant, a 3.0x senior
leverage covenant, and a 2.5x interest coverage covenant. We believe that
cushion under the total leverage covenant could decline to below 15% in 2013
especially if EBITDA declines from current levels, including adjustments in
the bank agreement, which subtract payments to ACS. If this would occur, we
would consider revising our liquidity assessment to "less than adequate" from
The issue-level rating on the senior unsecured debt is 'B+'. The recovery
rating is '5', which indicates expectations for modest (10% to 30%) recovery
in the event of payment default. An updated recovery report will be published
on RatingsDirect following release of this report.
The outlook is negative. We could lower the ratings if GCI experiences
execution missteps at the wireless partnership or if revenue and EBITDA
decline in other segments such that leverage rises above 5x on a sustained
basis. Although we consider it unlikely in the near term, if GCI is successful
in growing free operating cash flow at the wireless joint venture and its
revenue growth from cable and the managed broadband businesses can offset
declines in other segments, such that leverage remains below 5x, we could
revise the outlook to stable.
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
Ratings Affirmed; Outlook Action
Corporate Credit Rating BB-/Negative/-- BB-/Stable/--
Downgraded; Recovery Ratings Revised
Senior Unsecured B+ BB-
Recovery Rating 5 4