Fitch Places Cogeco Cable on Watch Negative on Proposed Transaction
Dec 31, 2012 (Close-Up Media via COMTEX) --
Fitch Ratings has placed the following Cogeco Cable Inc. (Cogeco) ratings on Rating Watch Negative:
--Issuer Default Rating at 'BBB-';
--Senior secured notes at 'BBB-'.
The actions reflect the agreement reached by Cogeco to acquire PEER 1 Network Enterprises, Inc. (PEER 1) for approximately CAD634 million. The financing for the transaction will include a new CAD250 million revolving facility and CAD375 million term loan. The transaction is subject to Hart-Scott-Rodino Act Clearance in the U.S. and is not reviewable under the Competition Act or regulator in Canada. The offer is conditional on the tendering of at least two thirds of the issued and outstanding PEER 1 shares to the offer. Sixty two percent of PEER 1's shareholders have entered into lock-up agreements supporting the transaction. The transaction, if approved, is expected to close in early February 2013.
The rating action reflects Fitch's need to assess the effect of the transaction on Cogeco's credit profile and longer-term capital structure. Current leverage pro forma at the November closing for the Atlantic Broadband (ABB) acquisition is 2.7 times (x) at Cogeco (3.1x on a consolidated basis) which is outside of Fitch's expectations for Cogeco's rating. On a pro forma basis, considering the PEER 1 acquisition, Cogeco's leverage would increase to 3.7x.
In order to maintain its current rating, Cogeco management would need to articulate an additional deleveraging plan that will accelerate current debt reduction efforts. Fitch believes, pending final review of the transaction, that a downgrade, if necessary would be limited to one notch. Fitch's longer-term considerations for Cogeco's 'BBB-' ratings included leverage that would approximate the mid-2.5x range.
Fitch believes the PEER 1 acquisition while offering a diversified faster growing revenue stream has some elevated execution risk as Cogeco pursues growth and investment opportunities outside of their traditional cable footprint. This strategic change is a result of the maturing of cable services and the competitive intensity that has lowered growth prospects for the cable operations. The competitive intensity in Canada is expected to increase with additional IPTV footprint expansion through fiber-to-the-home overbuilds in a material portion of Cogeco's regions. This will increase the pressure on primary service unit additions which have been decreasing due to factors mentioned above along with the tightening of credit controls.
The increased financial risk due to higher debt levels reduces the tolerance for potential operational shortfalls associated with greater than expected competitive impacts. Operating trends that fall below expectations, thus pressuring cash flows and slowing the deleveraging process, would warrant changes in the ratings.
Cogeco used a material portion of its liquidity position to close the ABB acquisition. Cogeco's main sources of liquidity are through its credit facilities, cash position, and free cash flow (FCF). As of Aug. 31, Cogeco Cable had no outstandings on its CAD750 million credit facility due 2017 and CAD215 million of cash. Cogeco Cable used proceeds from the $660 million first lien term loan at ABB, a substantial drawdown on its revolver and funded the remaining portion of the ABB acquisition with cash on hand. Going forward, Fitch expects Cogeco will restore at least a portion of its liquidity position on the revolver. FCF after dividend payment for the fiscal year 2012 was CAD42 million. Fitch believes Cogeco will generate a moderately higher level of FCF in fiscal year 2013.
Cogeco's conservative financial policies have supported its current ratings. The company does not have an active share program. Additionally, the most recent dividend increase of 4 percent is much lower than in the past reflecting in part the increased leverage resulting from the ABB acquisition and Cogeco's desire to use discretionary cash flow to delever the balance sheet.
WHAT COULD TRIGGER A RATING ACTION
Negative: Future developments that may, individually or collectively, lead to negative rating include:
--Cogeco does not make progress on deleveraging Cogeco Cable below the mid 2.5x range in next 12-15 months.
--An additional material leveraging transaction.
--Greater than expected IPTV competition in Cogeco Cable territory that adversely affects operating trends.
--Negative operating trends in the Atlantic Broadband operations that requires Cogeco Cable to infuse additional funding.
--Reduced FCF prospects.
Positive: Fitch believes that the current leverage, smaller operational scale of operations relative to its peers and increased competitive factors constrain upward movement in the ratings. As a result, Fitch's sensitivities do not currently anticipate developments with a material likelihood, individually or collectively, of leading to a rating upgrade.
Additional information is available at 'fitchratings.com'. The ratings above were solicited by, or on behalf of, the issuer, and therefore, Fitch has been compensated for the provision of the ratings.
Applicable Criteria and Related Research:
--'Corporate Rating Methodology' (Aug. 8,);
--'Rating Telecom Companies' (Aug. 9,).
Applicable Criteria and Related Research:
Corporate Rating Methodologyfitchratings.com/creditdesk/reports/report_frame.cfm rpt_id=684460
Rating Telecom Companiesfitchratings.com/creditdesk/reports/report_frame.cfm rpt_id=682323
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