(The following statement was released by the rating agency)
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-- Italy-based classified directories publisher SEAT PagineGialle SpA
(SEAT) has improved its financial metrics by significantly reducingits debt as part of its recent financial restructuring.
-- We are therefore raising our long-term corporate credit rating on thegroup to 'B-' from 'CCC' and removing it from CreditWatch positive.
-- The negative outlook reflects our view of a possible downgrade in thenext 12 months if economic conditions continue to deteriorate, and managementfails to stabilize operating performance, resulting in tightening covenantheadroom.
Rating ActionOn Oct. 12, 2012, Standard & Poor's Ratings Services raised to 'B-' from 'CCC'its long-term corporate credit rating on Italy-based classified directoriespublisher SEAT PagineGialle SpA (SEAT). The outlook is negative.
We also raised to 'B' from 'CCC+' our issue rating on SEAT's EUR750 millionsenior secured notes. The recovery rating on these notes is '2', indicatingour expectation of substantial (70%-90%) recovery prospects in the event of apayment default.
At the same time, we removed the above corporate credit and issue ratings fromCreditWatch, 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 seniorsecured notes and EUR686 million senior secured facilities (including a newEUR90million revolving credit facility
). We have assigned a recovery ratingof '2' to these notes and facilities, indicating our expectation ofsubstantial (70%-90%) recovery prospects for creditors in the event of apayment default.
The upgrade reflects our assessment of SEAT's improved financial metrics afterthe completion of its financial restructuring. The group has reduced its debtburden by approximately EUR1.3 billion (including accrued interest) through adebt-to-equity swap on its existing subordinated notes as part of therestructuring. We now project Standard & Poor's-adjusted leverage ofapproximately 5x on Dec. 31, 2012 (after adjusting EBITDA for the nonrecurringpositive impact of two counts of litigation with Deutsche Telekom AG),compared with 9x the prior year. As a result, we anticipate that the cost ofdebt will likely be reduced by approximately EUR85 million-EUR90 million peryear.In addition, as part of the debt restructuring, covenant tests on SEAT's debthave also been reset to reflect the group's business plan, which it laid outin early 2012.
However, we think that SEAT's business will remain under pressure. We considerthat secular declines in the print directories sector still present asignificant business risk, and players face increasing competition as smallbusiness advertising expands across a greater number of online marketingchannels.
We see increased business risk as the group strives to contain the pressure onits profit margin that will likely result from operating in a highlyfragmented, competitive, and rapidly evolving market. In particular, over themedium term, SEAT's strategy is to generate about 80% of its sales from itsonline business. In this industry, we believe SEAT will have significantlyless pricing power compared with its former leading position in thetraditional classified directories business.
That said, our assessment of SEAT's business risk profile as "weak" issomewhat supported by its No. 1 position in the classified directories marketin Italy, and by what we see as its good profit margin and still-high cashflow generation. Our business risk assessment assumes that the group'sbusiness strategy remains broadly unchanged, even after a new board and CEOare appointed in late October.
Despite the significant debt reduction, we continue to assess SEAT's financialrisk profile as "highly leveraged" because the group's gross indebtedness isstill high at approximately EUR1.5 billion. Our financial risk assessment alsoreflects our uncertainty surrounding the timing and level of an inflectionpoint in SEAT's revenues and earnings. If there is not a turnaround, covenantcompliance could be an issue as early as the first half of 2014, according toour projections.
Under our base-case credit scenario, we anticipate a decline in SEAT'srevenues of about 10% in the financial year ending Dec. 31, 2012, with EBITDAof approximately EUR340 million including the positive impact related to twocounts of litigation recently won by the group's subsidiary Telegate AG versusDeutsche Telekom AG (BBB+/Stable/A-2). We also anticipate a mid-single-digitdecline in revenues in 2013, with EBITDA (post operating restructuring costs)in the EUR280 million-EUR290 million range. Thanks to a lower interestburden--weestimate interest costs at about EUR120 million-EUR130 million per year--and ourprojection of investments broadly in line with previous years at about EUR50million, we estimate that SEAT's free operating cash flow will improve toabout EUR80 million in financial 2013, allowing the group to fund its debtamortization requirement of EUR70 million in 2013. We project that adjustedfunds from operations to debt will remain in the low-single-digit area in 2012and 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 toexceed uses by 1.2x or more over the next 12 months.
We note that there is significant uncertainty and limited visibilitysurrounding the timing and level of the inflection point in SEAT's revenuesand earnings, owing to the group's current weak operating performance anddeclining print directories business. These risks led to a capitalrestructuring that was completed in early September with more than EUR1.3billion debt written off. Furthermore, we believe these risks could lead tofurther substantial volatility in the group's sources of liquidity, and couldpossibly jeopardize covenant headroom as early as 2014.
In our opinion, SEAT's EBITDA will benefit from the impact of Telegate'ssuccessful litigations with Deutsche Telekom, which will hold off tighteningheadroom in the next 12 months. Some further covenant relief could be providedby a carve-out option, which allows SEAT to remove some costs incurred forresearch and development expenses (up to EUR30 million in 2013, EUR25 million in2014) from EBITDA for covenant calculation purposes. However, an inability toturn around operating performance would significantly reduce covenant headroomand result in possible covenant compliance issues as early as the first halfof 2014. This could hinder SEAT's ability to refinance its 2015-2017 debtmaturities.
That said, in our view, SEAT's liquidity is supported by our forecast that netsources of cash will remain positive, even if EBITDA declines by 20%. It alsoincludes our projection of adequate (more than 15%) headroom under themaintenance financial covenants in the bank facilities documentation until atleast September 2013. These covenants were reset as part of the restructuring,and in our view their somewhat loose definition allows some flexibility tocope with possible operating underperformance in the short term. In fact, inthe next 12 months, we understand that the covenant test will not exclude anyextraordinary profit above the EBITDA reported by Telegate due to successfullitigations 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 couldpotentially remove up to EUR30 million of costs incurred for research anddevelopment in 2013 from EBITDA for covenant calculation purposes.
SEAT's liquidity is further supported by its manageable debt amortizationrequirements before the 2015-2016 debt maturities, and our projection of cashflow generation capacity thanks to SEAT's limited maintenance capitalexpenditures (capex) and reduced interest burden.
We assume that, under the scenario outlined above, SEAT's liquidity sources inthe 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 millionatsubsidiaries Telegate and TDL Infomedia Ltd.); and
-- Positive operating cash flow generation. We estimate that this couldreach about EUR130 million in financial 2013.
In our opinion, liquidity sources and cash flow generation are sufficient tocover 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 proceedsfrom the pending (third) litigation between Telegate and Deutsche Telekom.
Recovery analysisWe rate at 'B' SEAT's EUR750 million senior secured notes, EUR65 million newsenior secured notes, and EUR686 million new senior secured facilities(including a new EUR90 million RCF). The recovery rating on these debtinstruments 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'srevenues, earnings, and cash flow generation capacity resulting from acombination of a weak economic climate and continuing secular declines in theprint directories business. Our recovery analysis is based on a valuation ofthe group on a going-concern basis, given the size of the group, itsestablished brand, well-diversified customer base, and decent cash conversion.
Key factors underpinning our recovery ratings are the secured nature of thedebt instruments, numerical coverage in a going-concern valuation, and ourassessment of the most likely legal framework under which a restructuringwould be implemented.
In our view, all of the secured debt instruments benefit from quite acomprehensive security package, including share pledges over operatingcompanies and a pledge on material intellectual property. At our hypotheticalpoint of default in 2015, we value the business at about EUR1.2 billion(representing a multiple of 5x on our estimated stressed EBITDA atapproximately EUR240 million). Based on limited prior-ranking liabilities andassuming that senior secured bank facilities rank pari passu with the seniorsecured 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 anItalian domicile and Italian management. However, the recent restructuring hasbeen implemented under the U.K. scheme of arrangement. In our opinion, anypossible second round of restructuring is likely to be implemented undersimilar conditions. SEAT is a sizable cross-border entity with a fairlycomplex capital structure as a listed entity with both senior secured bankfacilities and senior secured notes. In our view, in a distressed situation,SEAT is likely to seek a consensual restructuring and benefit from using theU.K. scheme of arrangement, which allows the implementation of a financialrestructuring with a lower creditor approval threshold (75%) than under theItalian framework. This could avoid a lengthy process that, given the hurdlesto reach a unanimous consensus, could possibly lead to a liquidation scenario.In such scenario, which is not our base case, recovery prospects for creditorswould be materially lower.
Given that we assess SEAT's centre of main interests (COMI) for restructuringpurposes as the U.K., estimated recovery prospects of more than 70% triggerone notch of uplift to the issue rating from the corporate credit rating. IfSEAT's COMI for a financial restructuring were Italy, which we considerprovides relatively weak protection for creditors, an equivalent one-notchuplift would require numerical coverage of more than 90%.
We note that our choice of COMI is heavily influenced by the fact that SEAThas already completed a financial restructuring using the U.K. scheme ofarrangement.
The negative outlook reflects our view of the ongoing pressure on SEAT'soperating performance. In particular, we believe that the structural declinein SEAT's business could affect covenant compliance and hinder its refinancingof 2015-2017 debt maturities.
We could lower the rating if it appears likely that the declines inadvertising sales will continue and, consequently, that the group's profitswill not at least stabilize above our EUR280 million-EUR290 million forecastrangefor 2013. This would negatively affect covenant compliance and further hamperthe group's ability to refinance its 2015-2017 debt prior to maturity.
We could revise the outlook to stable if SEAT returned to marked nominalEBITDA growth, and maintained an "adequate" liquidity profile (including atleast 15% headroom under its maintenance financial covenants). We believe thisscenario would entail an increase in digital revenues, as we anticipate thattrends in print advertising sales at small to midsize publishers will remainunder significant structural pressure.
Related Criteria And ResearchAll articles listed below are available on RatingsDirect on the Global CreditPortal, unless otherwise stated.
-- Criteria For Assigning 'CCC+', 'CCC', 'CCC-', And 'CC' Ratings, Oct.1, 2012
-- Methodology And Assumptions: Liquidity Descriptors For GlobalCorporate 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 FromSEAT PagineGialle SpACorporate Credit Rating B-/Negative/-- CCC/Watch Pos/--Senior Secured Debt B CCC+/Watch PosRecovery Rating 2 2New RatingSEAT PagineGialle SpASEAT PagineGialle Italia SpASenior Secured Debt* BRecovery Rating 2
*Guaranteed by SEAT PagineGialle SpA
(Caryn Trokie, New York Ratings Unit)