Overview -- Bermuda-registered TV broadcaster Central European Media Enterprises Ltd. (CME) has recently launched tender offers for its notes due 2013, 2014, and 2016. For some of the offers, the tender price is below face value. -- In the light of the public characteristics of the tender offers for the 2014 and 2016 notes, we would, under our criteria, consider such buybacks as distressed exchange offers and therefore tantamount to a default if completed. -- We are lowering our long-term corporate credit rating on CME to 'CC' from 'B-'. -- The negative outlook reflects our view that we will likely lower the long-term rating on CME to 'SD' (selective default) upon completion of the group's sub-par tender offers for its notes due 2014 and 2016. Rating Action On May 18, 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 'CC' from 'B-'. The outlook is negative. We also lowered to 'CC' from 'B-' our issue rating on the EUR170 million senior secured notes due 2017 issued by CME's subsidiary CET 21 spol.s.r.o. (CET 21; not rated), in line with the corporate credit rating on CME. At the same time, we lowered to 'C' from 'CCC+' the issue ratings on CME's $130 million senior secured convertible notes due 2013, EUR375 million notes due 2016, and EUR148 million notes due 2014. Rationale The downgrades follow CME's announcement of a tender offer of up to $170 million in aggregate principal amount of its outstanding notes due 2014 and 2016. The offer for the 2014 notes amounts to a subpar debt repurchase, and this could also be true of the offer for the 2016 notes. Under our exchange offer criteria, and taking into consideration our assessment of CME's "weak" business risk and "highly leveraged" financial risk profiles, we view such sub-par debt buybacks as distressed exchange offers and therefore as tantamount to a default if completed (see "Rating Implications Of Exchange Offers And Similar Restructurings, Update," published May 12, 2009, on RatingsDirect on the Global Credit Portal). We also understand that, as part of the refinancing plan, CME could consider taking additional actions on some of its other debt instruments, although details on such plans are not publicly available. We are therefore unable to assess whether we would classify these offers as distressed. Conversely, we believe the tender offer for the 2013 notes doesn't qualify as a distressed offer, because the $130 million outstanding amount of convertible notes (including accrued interest) is tendered at par. According to CME's press release the tender price for the 2014 notes ranges between 86% and 92%, and between 97% and 100% for the 2016 notes. The deadline for the tender offers is May 25, 2012, subject to further extension by CME. The debt repurchase will initially be funded with a bridge loan of up to $300 million granted by Time Warner Inc. (BBB/Stable/A-2). For the first six months following the completion of the tender offers the loan will have the same maturities and interest rate as the repurchased debt. We understand that the bridge loan will be partially repaid with approximately $86 million of proceeds from a committed equity increase provided by CME's founder, Ronald Lauder, and Time Warner. If the bridge loan is still outstanding after six months, a put-and-call mechanism will enable Time Warner to increase its equity stake in CME to 49.9% (the maximum allowed under the Investor Rights Agreement between CME's main shareholders) from 40% upon completion of the first equity increase. We estimate that this would generate about $150 million of related proceeds for CME that would be used to repay the outstanding portion of the bridge loan. Importantly, while we view positively Time Warner's financial contribution to CME's debt reduction effort, we believe that it could result in subpar debt buyback offers, which would indicate the group's unwillingness or ability to repay all of its outstanding debt obligations in full, as originally promised under the related indentures. The current rating reflects our view of CME's "weak" business risk profile and "highly leveraged" financial risk profile. Under our base-case scenario, we assume flat- to low-single-digit revenue growth on a like-for-like basis and an EBITDA margin in the low 20s, owing to revenue growth and cost discipline. We anticipate neutral free operating cash flow (FOCF) for 2012. That said, CME is exposed to volatile advertising spending in the countries where it operates and to currency swings that could cause earnings to substantially weaken and FOCF to turn negative. Upon completion of the tender offers, if successful, we will review our assessment of CME's financial risk profile. In particular, we will likely take into consideration the potentially lower amount of debt, CME's liquidity position with a new debt maturity profile, and its cash flow generation that should benefit from a lower amount of cash interest. Liquidity We view CME's liquidity as "less than adequate" under our criteria. Although we currently estimate that CME's sources of liquidity should cover its liquidity uses by about 1.2x over the next 12 months, we note that this ratio could be volatile and potentially fall below 1.2x over the coming months. In particular, the group remains exposed to adverse exchange rate movements in its local currencies--in which it collects revenues--against the U.S. dollar, since its debt is not hedged against such movements. Other factors on which we base our liquidity assessment are: -- Our opinion that CME needs to permanently maintain significant minimum cash balances to fund working capital and other potential business needs. -- Poor FOCF generation. We expect CME to generate neutral free cash flow over 2012. That said, depending on the future development of advertising markets and foreign exchange, there is a significant risk that cash flow could turn negative in 2012. We therefore believe CME's current liquidity position offers limited protection against difficult operating conditions. -- Full use of the Czech koruna (CZK) 1.5 billion (approximately $80 million) revolving credit facility (RCF) to extend short-term debt maturities. -- CME's limited access to capital markets, in our view, given its high leverage, and poor prospects for positive free cash flow generation. Recovery analysis The issue rating on the EUR170 million senior secured notes due 2017, issued by CET 21, is 'CC', in line with the corporate credit rating on CME. The rating on the remaining $130 million senior secured convertible notes due 2013, EUR375 million notes due 2016, and EUR148 million notes due 2014, issued by CME, is 'C', one notch below the corporate credit rating. Outlook The negative outlook reflects our view that we will likely lower our long-term rating on CME to 'SD' (selective default), and the issue ratings on the related debt instruments to 'D' (default). Upon completion of the planned transactions, we will reassess our long-term rating on CME based our view of its business and financial risk profiles at that time. In particular, we will review CME's overall debt reduction and liquidity position following the implementation of the restructuring plan. Related Criteria And Research -- 2008 Corporate Criteria: Rating Each Issue, April 15, 2008 -- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008 -- Methodology And Assumptions: Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011 -- Criteria Methodology: Business Risk/Financial Risk Matrix Expanded, May 27, 2009 -- Rating Implications Of Exchange Offers And Similar Restructurings, Update, May 12, 2009 Ratings List Downgraded To From Central European Media Enterprises Ltd. Corporate Credit Rating CC/Negative/-- B-/Negative/-- Senior Secured C CCC+ CET 21 spol.s.r.o. Senior Secured* CC B- *Guaranteed by Central European Media Enterprises Ltd.