DBRS Confirms SaskTel’s Issuer Rating at AA, Stable Trend

DBRS has today confirmed the AA Issuer Rating of Saskatchewan Telecommunications Holding Corporation (SaskTel or the Company), reflecting the long-term rating of the Province of Saskatchewan (the Province). Please see DBRS’s report on the Province of Saskatchewan dated October 23, 2009, for further details. The ratings on the Province and SaskTel were recently upgraded to AA from AA (low) given the Province’s debt reduction, fiscal prudence and sound economic fundamentals that have led to a much-improved credit profile.

The confirmation of SaskTel represents a reflection of the Province’s rating, as SaskTel is an agent of the provincial government of Saskatchewan that ultimately provides creditors recourse to the provincial government. Hence, the provincial rating has been assigned to the Company. SaskTel receives the majority of its funding from the Province and does not currently issue debt in the capital markets, other than some small credit facilities.

From an operational perspective, SaskTel continues to face many of the same pressures that are affecting other Canadian telecommunications companies (telcos), notably, the shift in its revenue base from higher-margin voice services to lower-margin and more competitive growth services such as wireless, high-speed Internet and video. Despite this challenge, SaskTel has managed to continue to drive revenue growth from these new services, which has more than offset pressure on legacy wireline revenue services as a result of competition and technology substitution. Despite this industry trend, SaskTel continues to demonstrate strong market share for its services and to gain efficiency through productivity improvements.

All of these factors have led to relatively stable EBITDA and EBITDA margins of around 30%. The Company has experienced some near-term pressure on EBITDA and EBITDA margins due to the changing mix of revenue and subscriber acquisition costs associated with signing customers up for new services. This, and the impact from competition, should be able to be mitigated with growth in new services and efficiency measures.

This business risk profile, and a strong balance sheet with healthy credit metrics relative to its peers, allows SaskTel to typically generate sufficient cash flow from operations to cover its capex and dividends. However, DBRS notes that SaskTel has embarked on a multi-year network investment program and has returned its dividend payout to normal levels (in the 80% to 90% range of net income).

While the Province has committed to support a portion of certain investment programs, DBRS expects that SaskTel will likely require additional borrowings in 2010 and 2011 to cover deficits in these years. DBRS expects this to be manageable given the Company’s debt reduction initiatives in 2009, its strong balance sheet and the expectation of total borrowings to increase no more than $50 million through the peak of this investment cycle. (DBRS notes this expectation could be lower with SaskTel announcing 3G+ wireless network deployment and sharing agreements (using UMTS/HSPA technologies) with Bell Canada and TELUS Corporation.) As such, DBRS expects SaskTel’s credit metrics to remain strong with debt in the capital structure below 30%, EBITDA interest coverage to remain above 13 times and debt-to-EBITDA to remain at or below 1.0 times.

DBRS notes that currently any changes in SaskTel’s business or financial risk profiles have no impact on its credit rating, as it is based on the Province’s rating. The Province’s rating applies to SaskTel as it is a Crown corporation and an agent of the provincial government. Without the recourse of the Province, SaskTel’s ratings would likely be investment grade and similar to those of the smaller regional Canadian incumbent telcos. On its own, despite strong market share, SaskTel faces size and scale limitations and generates lower-than-average EBITDA margins. This is offset by a good balance sheet, healthy free cash flow and sufficient liquidity.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The applicable methodology is Rating Telecommunications, which can be found on our website under Methodologies.

This is a Corporate (Telecom/Media/Technology) rating.