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Dec 20 (Reuters) - (The following statement was released by the rating agency)
Fitch Ratings has revised UAB Bite Lietuva’s (Bite) Outlook to Stable from Positive and affirmed Bite’s Long-term Issuer Default Rating (IDR) at ‘B-'. At the same time Fitch has affirmed Bite Finance International BV’s (BFI) bonds at ‘B-'. BFI’s senior secured revolving credit facility (RCF) has also been affirmed at ‘B’/RR3.
The Outlook revision reflects Fitch’s view that the business is no longer likely to deleverage as quickly as we previously thought. Guidelines previously set for an upgrade including funds from operations (FFO) net adjusted leverage approaching 3.7x - 3.8x are not expected to be achieved in 2014. The company’s operating performance and financial metrics, including the generation of positive free cash flow mean that leverage is now expected to remain flat at around 4.3x through 2014 and into 2015.
Challenging Operating Conditions
Bite operates in two mature, relatively small markets where economic conditions are challenging. In both markets Bite competes against larger and more financially secure operators with experience and the benefit of operations in multiple countries. In both, Tele2 is the most disruptive, consistently setting a price floor. While Bite has proven successful at positioning its brand somewhere between the value proposition and the most expensive offer in both markets, conditions in Lithuania through 2013 have proven more challenging than expected, while termination rate cuts in April in both have had a significant impact on revenues.
Lithuanian Momentum Stalled
Lithuania is by far Bite’s largest market with the business generating revenues and EBITDA of EUR135m and EUR39.7m respectively in 2012. Competitive pressures and termination rate cuts have seen subscriber evolution stall and significant top-line pressure through the second and third quarters of 2013. Net subscriber losses, and revenues in the range of EUR120m - EUR122m are now expected by Fitch for 2013. The commercial success of its product repositioning, including the 4Q13 launch of a separately branded low-end offer to compete more directly with Tele2, will be important if revenues are to stabilise and subscriber growth resume.
Stable Metrics, No Deleveraging
The change in the operating environment combined with margin pressures associated with the increased commercial activity intended to drive subscriber additions over the next several quarters, suggest that EBITDA is unlikely to improve materially in 2014 and that unadjusted leverage (net debt / EBITDA) will remain at around 4.0x. The company is generating positive free cash flow which will improve the overall net debt profile. An unexpected tax ruling affecting the deductibility of interest is being challenged in the courts. Assuming the ruling is upheld however adds approximately 0.3x of leverage to forecast 2014 FFO net adjusted leverage resulting in a Fitch forecast metric of 4.3x, a level that is not consistent with a higher rating.
Covenant Step-down, Low Headroom
The company’s secured bank RCF includes a leverage covenant that steps down over time, with the rate at which the test tightens through 2014 and 2015 anticipating progressively improving financial metrics. The slowdown in the business in 2013 and the margin pressure associated with the commercial activity (described above) expected over the next several quarters, are likely to put pressure on covenant headroom. 2014 will be an important year in terms of regaining operating momentum, with a further step-down in the covenant in 2015 making it important that commercial momentum feeds through to improving financial performance in that year. Bite is generating positive free cash flow and funded through 2018. Utilisation of the RCF is therefore not expected.
Fitch will continue to monitor covenant headroom closely, including potential management efforts to loosen the test or otherwise ensure a breach under an undrawn liquidity line should not undermine the integrity of the bonds (i.e. trigger cross default).
Metrics Consistent with Rating Level
With the business generating positive free cash flow (when 2013 is adjusted for the exceptional costs relating to its refinancing), the metrics outlined above, along with forecast fixed charge cover in the region of 2.6x - 2.7x, support the current rating level. The company’s size and operating environment are constraints on the rating with the degree to which a heightened competitive environment, weaker than planned performance and factors like an unexpected tax ruling, underlining the need for caution in the rating.
Negative: Future developments that could lead to negative rating action include:
- A failure to generate a positive free cash flow margin - our rating case assumes this to be in the low to mid-single digit range
- Failure to stabilise and improve the subscriber profile in Lithuania
- Failure to address covenant headroom - through a renegotiation of the metric step-down or otherwise.
- Persistently weakening leverage trend. A forecast FFO net adjusted metric of 4.3x provides headroom at the ‘B-’ level. A materially weaker metric and no sign of the negative trend being addressed would be a concern.
Positive: Future developments that could lead to positive rating actions include:
- A difficult operating environment and the constraining factors described above suggest an improvement in the rating is unlikely in the near to medium term.
- Solid improvement in operating performance in Lithuania, ongoing traction in Latvia and an FFO net adjusted leverage of 3.8x or below could potentially support a higher rating - this kind of leverage performance is not currently envisaged in our rating case.