May 30, 2012 / 3:57 PM / 6 years ago

TEXT-Fitch affirms Tele2 Russia Holding AB

(The following statement was released by the rating agency)

May 30 - Fitch Ratings has affirmed Tele2 Russia Holding AB’s (Tele2R) Long-term Issuer Default Rating (IDR) at ‘BB+’ with a Stable Outlook and National Long-term rating at ‘AA(rus)’ with a Stable Outlook. The agency has also affirmed Tele2R’s senior unsecured debt at ‘BB+’ and domestic senior unsecured debt has at ‘AA(rus)'. A total RUB26bn of bonds have been affirmed at ‘BB+’ and ‘AA(rus)'. The affirmation reflects Tele2R’s successful niche mobile player market position, efficient business model both in operational and capital expenditures, which results in a strong financial profile, as well as low leverage with a well-spread maturity profile. However, Tele2R is disadvantaged compared with its Russian peers in terms of 4G/LTE options. Free cash flow (FCF) generation in Fitch’s current rating case makes no provision for a wide-scale 4G/LTE roll out given that the forthcoming 12 July 2012 tender for LTE spectrum in Russia only favours the existing large four incumbents who are likely to emerge as the dominant LTE providers in the medium term. The agency continues to view Tele2 Russia’s ratings on a standalone basis without any support from the parent Tele2 AB. The Stable Outlook reflects Fitch’s expectations that over the next 18 months, the company’s market position and financial performance in unlikely to be materially impaired by its inability to provide mobile broadband services (the company only has 2G licences). Penetration of smartphones, which make use of 3G networks, is estimated at only 12%-15% in Russia and it will take several years to reach the current European level of penetration. Tele2R is therefore expected to remain reasonably competitive in its regions where there are a greater proportion of price-sensitive mobile users using its value-for-money proposition for traditional voice and messaging services. Fitch’s rating case expects that Tele2R will only be able to provide 2G services, and that its revenue will stop growing in 2013-14. In addition, EBITDA margin will remain around the mid-30s in the mid term, and given the very limited capital expenditures necessary on the 2G network, the company’s pre-dividend FCF margin after 2012 will be strong and above the average FCF margin in 2010-11 of 12.5% (when Tele2R was expanding 2G networks in new regions). Under these assumptions, Fitch expects Tele2R will have a strong de-leveraging capacity from 1.2x net debt/EBITDA at end-2011. Assuming there is no excessive dividend payout to parent Tele2 AB, Tele2R will ultimately be able to repay existing debt from internally generated cash flow. Negative rating action will likely occur if the competitive operating conditions prove to be more disruptive than Fitch’s assumptions or there are excessive dividend payouts to shareholders which impede Tele2R’s ability to repay existing debt from internal cash flow. Fitch believes that in the medium term, owning an LTE network is important to compete effectively in the Russian market, provided the cost of roll-out can be managed within the company’s leverage targets. By end-2012 Tele2R’s leverage is expected to be in the range of 1.25x-1.75x net debt/EBITDA, in line with the leverage guidance of its parent. The company is expected to be FCF generative in the mid-term. The company’s subsidiary, OJSC Saint-Petersburg Telecom, issued bonds totalling RUB26bn in 2011-12, with a first effective maturity date in 2014 (RUB7bn). Tele2R does not have any external maturating debt until then (by end-Q112 Tele2R had SEK2,715 interesting-bearing liabilities to Tele2 Group). Bondholders benefit from an irrevocable undertaking by Tele2 Russia Holding AB and Tele2 Financial Services AB, a treasury company for Tele2R, which makes this instrument effectively recourse to the Tele2R. The mechanism of irrevocable undertakings (essentially an offer to purchase bonds if the issuer is in default) would expose bondholders to the same probability of default and expected recoveries as senior unsecured creditors to Tele2R. The bond does not have any change of control provision attached, which, along with Tele2R’s strategic disadvantage with regards to its 4G/LTE options, makes parent-subsidiary linkage between Tele2 and Tele2R weak to moderate despite Tele2’s 100% shareholding of Tele2R. (Caryn Trokie, New York Ratings Unit)

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