DBRS Rates Glentel at BB (low), Stable Trend

DBRS has today assigned an Issuer Rating of BB (low) and a provisional Senior Unsecured Notes rating of BB (low)/RR4 to Glentel Inc. (Glentel or the Company). The trends are Stable. The rating reflects the intense competition in the mobile phone retailing sector, Glentel’s dependence on carrier relationships, and execution risk associated with the Company’s growth. The rating is also based on Glentel’s strong market position in the growing mobile phone retailing industry, its diversified revenue streams and its competitive advantage as an incumbent operator in Canada.

In Canada, Glentel’s stores offer mobile phone plans from a number of carriers, including Bell Canada (Bell) and Rogers Communications Inc. (Rogers), and the Company’s highly trained sales staff advises customers on which plan best suits their needs. There is growth potential in Canada as DBRS estimates approximately 80% of the population currently uses wireless services (compared to roughly 100% in the United States). However, competition in Canada is increasing as incumbent carriers and independent retailers continue to aggressively expand their store bases. In the United States, Glentel operates two of the six National Premium Retailers for Verizon Wireless (Verizon). Store growth in the United States is accelerating as Verizon has increased its dealer distribution.

Glentel’s earnings profile benefits from its longstanding carrier relationships, its premium retail locations and the increased adoption of smartphones. The Company generates revenue from a number of sources, including sales commissions, residual contract-based fees, accessory sales and premium protection plans. Aggressive acquisition and store expansion strategies have resulted in strong top-line growth. Revenue has more than quadrupled since 2009 to $1.37 billion in 2013. However, DBRS notes that same-store sales in Canada have recently decreased substantially (-4% in 2012 and -9% in 2013) as a result of smartphone market maturation, increased retail competition from carriers and lower volumes due to the industry-wide switch from three to two-year contracts.

Consolidated EBITDA margins have consistently contracted since 2009 due to the shift in product mix to higher-cost smartphones, competitive handset and contract pricing and expanding lower-margin U.S. operations. As a result, Glentel’s EBITDA has increased at a much slower pace than revenue, rising to $55 million in 2013 from $31 million in 2009. DBRS notes that return on capital has fallen to 12.4% in 2013 from 18.9% in 2009.

Glentel’s financial profile is strong for the current rating category based on the Company’s positive free cash flow generation, modest capital expenditures (capex) requirements and relatively conservative financial management. Cash flow from operations has tracked operating income and capex has increased with new store openings but remains modest relative to operating income. The Company has consistently increased annual dividends (including special dividends) over the past several years. Since 2010, Glentel has expanded outside of Canada, with three acquisitions financed mainly with debt. As such, the Company’s debt balance has grown to approximately $135 million and lease-adjusted debt-to-EBITDAR and EBITDAR interest coverage has weakened to 3.86 times (x) and 4.73x currently, from 2.08x and 11.37x in 2010, respectively. Free cash flow before changes in working capital as a percentage of debt has also decreased but remains positive at 4.6%.

Glentel’s earnings profile is expected to remain well placed within the current rating category as the Company begins to benefit from its investment in the Target Mobile Canada and BJ’s Wholesale Club, Inc. (BJ’s Wholesale) partnerships and the competitive environment remains intense. DBRS expects mid-single digit revenue growth in 2014 based mainly on new store openings. In Canada, DBRS expects same-store sales growth to remain negative but improved from 2013 levels. DBRS forecasts EBITDA to remain at approximately $55 million in 2014 as gains in Canada and the United States offset weakness in the Australian division, following the loss of the Optus carrier relationship, representing two national brands, as well as the loss of Virgin Mobile managed services.

Glentel is in the process of issuing $200 million of Senior Unsecured notes to repay borrowings under existing credit and for general corporate purposes. DBRS expects that the Company may look to pursue tuck-in acquisitions in the near to medium term. Following completion, DBRS expects Glentel’s financial profile to weaken to a level that is well placed within the current rating category. Cash flow from operations should continue to track operating income while capex is expected to remain relatively stable, with the bulk of spending related to store outfitting in Canada. DBRS also expects cash dividends to remain flat over the near term as the Company uses its cash flow to pursue growth opportunities. As such, Glentel is expected to generate marginally positive free cash flow after working capital in 2014.

The Company’s refinancing will result in a pro forma lease-adjusted debt-to-EBITDAR of approximately 4.7x. That said, ratings could come under pressure if lease-adjusted debt-to-EBITDAR deteriorates to above 5.0x as a result of a greater-than-expected increase in debt and/or a decline in operating income.

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.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

The applicable methodology is Rating Companies in the Merchandising Industry, which can be found on our website under Methodologies.