DBRS Confirms Manitoba Telecom Services Inc. at BBB and R-2 (high), Stable Trends

DBRS has today confirmed Manitoba Telecom Services Inc.’s (MTS or the Company) Issuer Rating and Medium-Term Notes at BBB and its Commercial Paper at R-2 (high). The trends for all remain Stable. The confirmation reflects MTS’s steady operating performance and stable financial profile, while acknowledging the potential for moderate debt financing of the Company’s pension solvency deficit and prospective investment in spectrum at the upcoming auction. The ratings continue to be supported by the Company’s incumbent position and steady subscriber base in Manitoba, as MTS is one of the few operators to offer quadruple-play services of voice, wireless, video and data on its own networks. The ratings also reflect the steady erosion of local access lines and intensifying competition across all segments.

MTS’s earnings profile remained stable as the Company continued to offset legacy declines with IP-based growth. MTS segment revenues remained relatively flat at $737 million for the nine months ended September 30, 2012, over the same period prior as wireless, broadband and converged IP growth offset declines in traditional wireline businesses. On the other hand, Allstream revenues declined 7.5% to $580 million over the same period prior primarily due to declines in local access, long distance and legacy data business segments. However, consolidated EBITDA still increased by $11 million to $459 million due to a consumer shift toward higher-margin IP-based businesses combined with cost cutting at Allstream. MTS’s financial profile remains relatively stable as operating income/cash flow generation and debt levels have remained fairly steady. Gross debt-to-EBITDA decreased slightly to 1.65 times (x) compared to 1.74x the same period prior.

Going forward, DBRS expects MTS’s earnings profile to remain relatively stable as the Company continues to focus on growing revenues and operating income from IP-based services. MTS division revenue is expected to grow by approximately 2% to 3% and approach $1 billion over the next two years, based on market growth, fibre-to-the-home expansion and increased bundling. Allstream revenues are expected to continue to decline to approximately $750 million in 2012 and $725 million in 2013 from $800 million last year, as customers shift away from legacy services. However, DBRS expects MTS’s consolidated EBITDA to grow moderately (2% to 4%) over the next couple of years as operating margins on a consolidated basis improve slightly from the shifting sales mix.

The financial profile of MTS is expected to remain within a range consistent for the current rating category. DBRS forecasts that cash flow from operations should increase in proportion with EBITDA, ranging between $440 million and $460 million in 2012 and 2013. Capital expenditures are expected to increase moderately to the $330 million to $340 million level over the same period, as MTS continues to develop its long-term evolution (LTE) network and transition Allstream’s business model toward IP-based services. Common stock dividends are expected to remain steady at approximately $112–$113 million over the next two years. As a result, DBRS expects that MTS will be roughly free cash flow neutral after dividends in 2012 and 2013.

MTS will likely require moderate external financing to fund its pension solvency deficit. DBRS also accounts for the fact that MTS may bid between $50 million and $70 million for the 700 MHz spectrum auction next year as well. Such spectrum is expected to lower capital intensity associated with the Company’s LTE network roll out and provide for a better customer experience. Lastly, it should be noted that management has publically disclosed that it is exploring strategic alternatives for a potential sale of Allstream. Since DBRS does not view Allstream as core or complimentary to MTS, we believe Allstream’s divestiture could be neutral to ratings, as long as any potential transaction (including the allocation of consideration received) results in a pro forma gross leverage ratio (debt/EBITDA) close to the 2.0 times level.

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

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link to the right under Related Research or by contacting us at info@dbrs.com.

The applicable methodology is Rating the Communications Industry (April 2011), which is available on our website under Methodologies.