(The following statement was released by the rating agency)
-- Italy-based classified directories publisher SEAT PagineGialle SpA
(SEAT) has improved its financial metrics by significantly reducing its debt as part of its recent financial restructuring.
-- We are therefore raising our long-term corporate credit rating on the group to 'B-' from 'CCC' and removing it from CreditWatch positive.
-- The negative outlook reflects our view of a possible downgrade in the next 12 months if economic conditions continue to deteriorate, and management fails to stabilize operating performance, resulting in tightening covenant headroom.
Rating Action On Oct. 12, 2012, Standard & Poor's Ratings Services raised to 'B-' from 'CCC' its long-term corporate credit rating on Italy-based classified directories publisher SEAT PagineGialle SpA (SEAT). The outlook is negative.
We also raised to 'B' from 'CCC+' our issue rating on SEAT's EUR750 million senior secured notes. The recovery rating on these notes is '2', indicating our expectation of substantial (70%-90%) recovery prospects in the event of a payment default.
At the same time, we removed the above corporate credit and issue ratings from CreditWatch, where they were placed with positive implications on Sept. 12, 2012.
In addition, we assigned our 'B' issue rating to SEAT's new EUR65 million senior secured notes and EUR686 million senior secured facilities (including a new EUR90 million revolving credit facility
). We have assigned a recovery rating of '2' to these notes and facilities, indicating our expectation of substantial (70%-90%) recovery prospects for creditors in the event of a payment default.
The upgrade reflects our assessment of SEAT's improved financial metrics after the completion of its financial restructuring. The group has reduced its debt burden by approximately EUR1.3 billion (including accrued interest) through a debt-to-equity swap on its existing subordinated notes as part of the restructuring. We now project Standard & Poor's-adjusted leverage of approximately 5x on Dec. 31, 2012 (after adjusting EBITDA for the nonrecurring positive impact of two counts of litigation with Deutsche Telekom AG), compared with 9x the prior year. As a result, we anticipate that the cost of debt will likely be reduced by approximately EUR85 million-EUR90 million per year. In addition, as part of the debt restructuring, covenant tests on SEAT's debt have also been reset to reflect the group's business plan, which it laid out in early 2012.
However, we think that SEAT's business will remain under pressure. We consider that secular declines in the print directories sector still present a significant business risk, and players face increasing competition as small business advertising expands across a greater number of online marketing channels.
We see increased business risk as the group strives to contain the pressure on its profit margin that will likely result from operating in a highly fragmented, competitive, and rapidly evolving market. In particular, over the medium term, SEAT's strategy is to generate about 80% of its sales from its online business. In this industry, we believe SEAT will have significantly less pricing power compared with its former leading position in the traditional classified directories business.
That said, our assessment of SEAT's business risk profile as "weak" is somewhat supported by its No. 1 position in the classified directories market in Italy, and by what we see as its good profit margin and still-high cash flow generation. Our business risk assessment assumes that the group's business strategy remains broadly unchanged, even after a new board and CEO are appointed in late October.
Despite the significant debt reduction, we continue to assess SEAT's financial risk profile as "highly leveraged" because the group's gross indebtedness is still high at approximately EUR1.5 billion. Our financial risk assessment also reflects our uncertainty surrounding the timing and level of an inflection point in SEAT's revenues and earnings. If there is not a turnaround, covenant compliance could be an issue as early as the first half of 2014, according to our projections.
Under our base-case credit scenario, we anticipate a decline in SEAT's revenues of about 10% in the financial year ending Dec. 31, 2012, with EBITDA of approximately EUR340 million including the positive impact related to two counts of litigation recently won by the group's subsidiary Telegate AG versus Deutsche Telekom AG (BBB+/Stable/A-2). We also anticipate a mid-single-digit decline in revenues in 2013, with EBITDA (post operating restructuring costs) in the EUR280 million-EUR290 million range. Thanks to a lower interest burden--we estimate interest costs at about EUR120 million-EUR130 million per year--and our projection of investments broadly in line with previous years at about EUR50 million, we estimate that SEAT's free operating cash flow will improve to about EUR80 million in financial 2013, allowing the group to fund its debt amortization requirement of EUR70 million in 2013. We project that adjusted funds from operations to debt will remain in the low-single-digit area in 2012 and 2013.
We assess SEAT's liquidity profile as "less than adequate" under our criteria. This is despite the fact that we assess the group's liquidity sources to exceed uses by 1.2x or more over the next 12 months.
We note that there is significant uncertainty and limited visibility surrounding the timing and level of the inflection point in SEAT's revenues and earnings, owing to the group's current weak operating performance and declining print directories business. These risks led to a capital restructuring that was completed in early September with more than EUR1.3 billion debt written off. Furthermore, we believe these risks could lead to further substantial volatility in the group's sources of liquidity, and could possibly jeopardize covenant headroom as early as 2014.
In our opinion, SEAT's EBITDA will benefit from the impact of Telegate's successful litigations with Deutsche Telekom, which will hold off tightening headroom in the next 12 months. Some further covenant relief could be provided by a carve-out option, which allows SEAT to remove some costs incurred for research and development expenses (up to EUR30 million in 2013, EUR25 million in 2014) from EBITDA for covenant calculation purposes. However, an inability to turn around operating performance would significantly reduce covenant headroom and result in possible covenant compliance issues as early as the first half of 2014. This could hinder SEAT's ability to refinance its 2015-2017 debt maturities.
That said, in our view, SEAT's liquidity is supported by our forecast that net sources of cash will remain positive, even if EBITDA declines by 20%. It also includes our projection of adequate (more than 15%) headroom under the maintenance financial covenants in the bank facilities documentation until at least September 2013. These covenants were reset as part of the restructuring, and in our view their somewhat loose definition allows some flexibility to cope with possible operating underperformance in the short term. In fact, in the next 12 months, we understand that the covenant test will not exclude any extraordinary profit above the EBITDA reported by Telegate due to successful litigations with Deutsche Telekom. The group expects to resolve a further, third bout of litigation with Deutsche Telekom in the fourth quarter of 2012 (although this is not part of our base-case scenario). In addition, SEAT could potentially remove up to EUR30 million of costs incurred for research and development in 2013 from EBITDA for covenant calculation purposes.
SEAT's liquidity is further supported by its manageable debt amortization requirements before the 2015-2016 debt maturities, and our projection of cash flow generation capacity thanks to SEAT's limited maintenance capital expenditures (capex) and reduced interest burden.
We assume that, under the scenario outlined above, SEAT's liquidity sources in the 12 months to Dec. 31, 2013, include:
-- Access to cash balances of about EUR160 million projected on Dec. 31, 2012 (including a fully drawn RCF and approximately EUR75 million-EUR80 million at subsidiaries Telegate and TDL Infomedia Ltd.); and
-- Positive operating cash flow generation. We estimate that this could reach about EUR130 million in financial 2013.
In our opinion, liquidity sources and cash flow generation are sufficient to cover liquidity uses comprising:
-- Capex of up to about EUR50 million; and
-- Debt amortization of EUR70 million in 2013.
We do not include in our liquidity assessment any possible further proceeds from the pending (third) litigation between Telegate and Deutsche Telekom.
Recovery analysis We rate at 'B' SEAT's EUR750 million senior secured notes, EUR65 million new senior secured notes, and EUR686 million new senior secured facilities (including a new EUR90 million RCF). The recovery rating on these debt instruments is '2', indicating our expectation of substantial (70%-90%) recovery in the event of a payment default.
In order to determine recoveries, we simulate a hypothetical default scenario. In our hypothetical scenario, we assume continuing pressures on SEAT's revenues, earnings, and cash flow generation capacity resulting from a combination of a weak economic climate and continuing secular declines in the print directories business. Our recovery analysis is based on a valuation of the group on a going-concern basis, given the size of the group, its established brand, well-diversified customer base, and decent cash conversion.
Key factors underpinning our recovery ratings are the secured nature of the debt instruments, numerical coverage in a going-concern valuation, and our assessment of the most likely legal framework under which a restructuring would be implemented.
In our view, all of the secured debt instruments benefit from quite a comprehensive security package, including share pledges over operating companies and a pledge on material intellectual property. At our hypothetical point of default in 2015, we value the business at about EUR1.2 billion (representing a multiple of 5x on our estimated stressed EBITDA at approximately EUR240 million). Based on limited prior-ranking liabilities and assuming that senior secured bank facilities rank pari passu with the senior secured notes, we project numerical coverage in the low end of the 70%-90% range.
SEAT is mostly an Italian group (90% of EBITDA is generated in Italy), with an Italian domicile and Italian management. However, the recent restructuring has been implemented under the U.K. scheme of arrangement. In our opinion, any possible second round of restructuring is likely to be implemented under similar conditions. SEAT is a sizable cross-border entity with a fairly complex capital structure as a listed entity with both senior secured bank facilities and senior secured notes. In our view, in a distressed situation, SEAT is likely to seek a consensual restructuring and benefit from using the U.K. scheme of arrangement, which allows the implementation of a financial restructuring with a lower creditor approval threshold (75%) than under the Italian framework. This could avoid a lengthy process that, given the hurdles to reach a unanimous consensus, could possibly lead to a liquidation scenario. In such scenario, which is not our base case, recovery prospects for creditors would be materially lower.
Given that we assess SEAT's centre of main interests (COMI) for restructuring purposes as the U.K., estimated recovery prospects of more than 70% trigger one notch of uplift to the issue rating from the corporate credit rating. If SEAT's COMI for a financial restructuring were Italy, which we consider provides relatively weak protection for creditors, an equivalent one-notch uplift would require numerical coverage of more than 90%.
We note that our choice of COMI is heavily influenced by the fact that SEAT has already completed a financial restructuring using the U.K. scheme of arrangement.
The negative outlook reflects our view of the ongoing pressure on SEAT's operating performance. In particular, we believe that the structural decline in SEAT's business could affect covenant compliance and hinder its refinancing of 2015-2017 debt maturities.
We could lower the rating if it appears likely that the declines in advertising sales will continue and, consequently, that the group's profits will not at least stabilize above our EUR280 million-EUR290 million forecast range for 2013. This would negatively affect covenant compliance and further hamper the group's ability to refinance its 2015-2017 debt prior to maturity.
We could revise the outlook to stable if SEAT returned to marked nominal EBITDA growth, and maintained an "adequate" liquidity profile (including at least 15% headroom under its maintenance financial covenants). We believe this scenario would entail an increase in digital revenues, as we anticipate that trends in print advertising sales at small to midsize publishers will remain under significant structural pressure.
Related Criteria And Research All articles listed below are available on RatingsDirect on the Global Credit Portal, unless otherwise stated.
-- Criteria For Assigning 'CCC+', 'CCC', 'CCC-', And 'CC' Ratings, Oct. 1, 2012
-- Methodology And Assumptions: Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011
-- Principles Of Credit Ratings, Feb. 16, 2011
-- Criteria Guidelines For Recovery Ratings On Global Industrial Issuers' Speculative-Grade Debt, Aug. 10, 2009
-- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008
-- 2008 Corporate Criteria: Ratios And Adjustments, April 15, 2008
Upgraded; CreditWatch/Outlook Action
To From SEAT PagineGialle SpA Corporate Credit Rating B-/Negative/-- CCC/Watch Pos/-- Senior Secured Debt B CCC+/Watch Pos Recovery Rating 2 2 New Rating SEAT PagineGialle SpA SEAT PagineGialle Italia SpA Senior Secured Debt* B Recovery Rating 2
*Guaranteed by SEAT PagineGialle SpA
(Caryn Trokie, New York Ratings Unit)