Nov 30 -
-- We have significantly revised upwards our expectations of cash burn in 2012 and 2013 for TV broadcaster Central European Media Enterprises Ltd. (CME) following its third-quarter results.
-- We now view CME’s capital structure as unsustainable over the next few years and have revised our liquidity assessment to weak since we think sources of liquidity could prove insufficient to fund the normal course of business over the next six to twelve months.
-- We are lowering our long-term corporate credit rating on CME and the issue rating on the 2017 notes to ‘CCC+’ from ‘B-'. We are lowering the issue rating on the other outstanding notes to ‘CCC’ from ‘CCC+'.
-- The negative outlook reflects our view that risks of a distressed exchange offer over the next 12 months have significantly increased in light of our revised expectations of substantially negative free cash flow over the next few quarters and materially weaker-than-expected liquidity throughout 2013.
On Nov. 30, 2012, Standard & Poor’s Ratings Services lowered its long-term corporate credit rating on Bermuda-registered emerging markets TV broadcaster Central European Media Enterprises Ltd. (CME) to ‘CCC+’ from ‘B-'. The outlook is negative.
We also lowered to ‘CCC+’ from ‘B-’ the issue ratings on the EUR240 million (EUR170 million before the EUR70 million of tap issue) senior secured notes due 2017 issued by CME’s subsidiary CET 21 spol.s.r.o. (CET21; not rated). We lowered to ‘CCC’ from ‘CCC+’ the issue rating on the $21 million senior secured convertible notes still outstanding due 2013, and the EUR479 million (EUR375 million before the EUR104 million tap issue) notes due 2016 issued by CME. At the same time we withdrew the rating on the EUR87.5 million notes due 2014, which were repaid using the proceeds from the EUR104 million add-on notes.
The rating action reflects our revised assessment that CME’s capital structure may be unsustainable over the next two years owing to our opinion of the group’s significant debt burden and persistent weakness of advertising spending and absence of growth potential in CME’s main markets. It also reflects our view that risks of a distressed exchange offer--that we deem tantamount to a default, according to our criteria--over the next 12 months have materially increased following our revised expectations of substantially greater than expected negative free cash flow over the next few quarters. In addition, we think that sources of liquidity may fall short of funding the normal course of business in 2013. Finally, the rating action incorporates our opinion that the current 49.9% ownership of the group by Time Warner does not provide sufficient comfort to offset the increasing above-mentioned liquidity and default risks at this point.
Following weak operating performance in the first nine months of 2012, with revenues and operating income before depreciation and amortization (OIBDA) down by 12% and 25% respectively, the company has revised its guidance and now expects negative cash flow generation of $70 million-$90 million in 2012 and significant cash burn in 2013 as well. Incorporating this into our base-case scenario we believe that CME’s liquidity, which exclusively hinges on approximately $130 million of cash on balance sheet as of September 2012, might not be adequate to cope with the company’s recurring needs arising from ongoing operations. Therefore we expect liquidity to be stretched in the first part of next year when the company generally reports the highest cash burn owing to its business seasonality. In addition, we believe that there is a significant risk that the potential shortfall in liquidity could materialize earlier than expected, depending on the future evolution of advertising spending and currency swings.
We view CME’s adjusted leverage to be persistently high, at around 9.0x at the end of September 2012, despite a debt reduction effort. Under our revised assumptions of low-double-digit revenue decline and an EBITDA margin in the high teens, we anticipate that CME’s adjusted leverage will remain at around 8.5x in 2012. Assuming a low-single-digit decline of advertising spending in 2013, we anticipate CME’s revenues will remain flat and its EBITDA margin will somewhat improve, resulting in adjusted leverage slightly below 8x. However, visibility on 2013 performance is very limited and we cannot exclude that a more adverse economic scenario could cause earnings and credit metrics to further weaken. We believe that the lack of visibility on the timing of any improvement in earnings and cash flow generation represents a key concern that could materially affect liquidity and, potentially, make the current capital structure unsustainable over the long term.
Finally, while we would likely consider as credit supportive any initiative CME takes to materially bolster liquidity, such as raising new equity with Time Warner or with market participants and disposing of non-core assets, we cannot exclude the risk of implementation of debt restructuring measures that would trigger a default under our criteria.
We view CME’s liquidity as “weak” under our criteria. Despite CME’s improved debt maturity profile, with no debt due before 2015, we believe the company’s liquidity might be insufficient to cope with ongoing operating needs over the next 12 months.
We base our liquidity assessment on the following:
-- CME’s liquidity hinges primarily on cash and cash equivalents of about $130 million at the beginning of October 2012 that dropped from the $187 million reported at the end of 2011. We believe that CME needs to permanently maintain significant minimum cash balances to fund working capital and other potential business needs.
-- A track record of negative free operating cash flow (FOCF) generation. We expect CME to generate approximately $80 million of negative FOCF in 2012 and around $40 million in 2013. That said, depending on the future development of advertising markets and foreign exchange, there is a significant risk that 2013 FOCF could be substantially weaker than we currently anticipate. We therefore believe CME’s current liquidity position offers limited protection against a more severe deterioration in operating conditions. In addition, cash flow generation is uneven during the course of the year with the first half generally reporting the highest cash burn. As a consequence, we anticipate that the group may not be able to fund its business, including working capital movements, over the next 12 months.
-- CME’s inability to sign a new revolving credit facility (RCF), owing to a limitation to additional indebtedness included under the bond indentures.
-- At this stage we do not factor into our liquidity assessment any additional financial support coming from Time Warner.
-- The liquidity position is currently supported by the favorable debt maturity profile. Following the recent refinancing activities CME has no debt maturities before 2015.
The issue rating on the EUR240 million senior secured notes due 2017, issued by CET21, is ‘CCC+', the same level as the corporate credit rating (CCR) on CME. Since we do not undertake any analysis of the legal jurisdiction in the Czech Republic, as in many other Eastern European countries, the ‘CCC+’ issue rating is capped by the CCR and is therefore the highest we can assign to the senior secured notes.
The senior secured notes benefit from a strong security package that includes a first-priority lien over CET21’s shares and assets, and senior guarantees from CET21’s material subsidiaries that generated more than 84% of CME’s OIBDA in 2011. In addition, the senior secured notes and the existing notes have a pari passu share in the collateral pool excluding CET21. The indenture on the senior secured notes includes an additional debt incurrence test.
The rating on the remaining $21 million senior secured convertible notes due 2013, and the EUR479 million notes due 2016, is ‘CCC’, reflecting a 30% priority liability. Although the value of this ratio would otherwise lead to a two-notch difference between the rating on the existing debt and the CCR, we believe that some mitigating factors limit the difference to only one notch. These factors include the concentration of priority liabilities in only one subsidiary, and the pari passu share in CME’s collateral of the existing notes and CET21’s debt.
The negative outlook mainly reflects our view that CME may contemplate a distressed exchange offer over the next 12 months, and that its liquidity position could prove insufficient to meet its funding needs over the period unless the group’s operating performance materially improves. Our opinion is based on our expectation of $80 million of negative FOCF in 2012 and around $40 million in 2013, and of insufficient liquidity to absorb the operational requirements the company will face in the first half of 2013 or to offer adequate protection in case of more prolonged challenging trading conditions.
We could lower the ratings if CME were to consider debt-restructuring measures that we would deem tantamount to a default under our criteria. We could also downgrade CME if we perceive a faster-than-anticipated deterioration in CME’s liquidity over the coming months mainly resulting from higher-than-expected cash burn. A negative rating action is also likely over the coming months if CME is not able to take action to allow it to restore an adequate liquidity position, such as an equity increase, public or private, or asset disposal.
We could raise the ratings if CME managed to stabilize liquidity at a level significantly above our expectations over the next few quarters. We might also consider a positive rating action if Time Warner were to provide timely and sufficient financial support to materially strengthen CME’s liquidity position.
Related Criteria And Research
-- Criteria For Assigning ‘CCC+', ‘CCC’, ‘CCC-', And ‘CC’ Ratings, Oct. 1, 2012
-- Methodology: Business Risk/Financial Risk Matrix Expanded, Sept. 18, 2012
-- Methodology And Assumptions: Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011
-- Key Credit Factors: Criteria For Rating The Television And Radio Broadcasting Industry, Dec. 11, 2009
-- 2008 Corporate Criteria: Ratios And Adjustments, April 15, 2008
-- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008
-- 2008 Corporate Criteria: Rating Each Issue, April 15, 2008
Downgraded; CreditWatch/Outlook Action
Central European Media Enterprises Ltd.
Corporate Credit Rating CCC+/Negative/-- B-/Stable/--
Senior Secured CCC CCC+
CET 21 spol.s.r.o.
Senior Secured* CCC+ B-
Not Rated Action
Central European Media Enterprises Ltd.
Senior Secured NR CCC+
*Guaranteed by Central European Media Enterprises Ltd.