DBRS Changes Trends on Yellow Media to Positive from Stable, Upgrades YPG Financing's Senior Secured Notes

DBRS has today confirmed the Issuer Rating of Yellow Media Limited (Yellow Media or the Company) at B (low) and has changed the trend to Positive from Stable. DBRS has also upgraded YPG Financing’s Senior Secured Notes rating to B (low) from CCC (high) based on an improvement in the recovery rating to RR4 from RR5. In addition, DBRS has also confirmed YPG Financing’s Subordinated Exchangeable Debentures rating at CCC with a recovery rating of RR6. The trends on both securities have also been changed to Positive from Stable.

The positive trends reflect DBRS’s increasing confidence in Yellow Media’s digital strategy given the positive trajectory of customer acquisitions and solid digital revenue growth over the past several quarters. The trends also reflect greater-than-expected debt reduction to date and improved visibility regarding the Company’s deleveraging plan. That said, DBRS notes that the ratings continue to incorporate the continuing erosion of print revenue as consumers shift toward alternative forms of advertising and the sizable debt burden that still remains subsequent to the Company’s restructuring.

Yellow Media is establishing itself as the most comprehensive digital marketing solutions provider in Canada, placing a renewed focus on customer acquisitions, service and lead generation. Although consolidated revenues fell 10.6% to $444 million for in H1 2014 over the same period prior due to declines in the print business, digital revenues grew 7.6% to $212 million. Digital growth can largely be attributed to traditional print media advertisers migrating toward online and mobile placements. DBRS notes that new customer acquisitions, the majority of which are digital, increased to 18,400 for the last 12 months period ended Q2 2014 from 15,300 the same period prior. EBITDA margins declined to 39.6% in H1 2014 from 44.9% in H1 2013 due to a shift toward lower-margin digital revenue, as well as business transformation and employee-related expenses. As a result, EBITDA decreased by $47 million in H1 2014 to $176 million.

With regards to the Company’s financial profile, Yellow Media remained focused on directing free cash flow toward debt repayment while simultaneously investing in its digital strategy. Yellow Media directed $74 million of cash on hand and free cash flow toward the repayment of its Senior Secured Notes in H1 2014. As debt reduction roughly offset declines in EBITDA, the Company’s gross debt-to-EBITDA ratio at the end of H1 2014 stood at 1.8 times, in line with the leverage ratio at the end of 2013.

DBRS expects that Yellow Media’s overall revenue will continue to erode going forward, albeit at a softening pace. Yellow Media’s digital revenue growth, average revenue per account declines and near-term subscriber erosion are inherently difficult to predict given the evolving nature of the Company’s strategy and product offerings, combined with a fragmented competitive digital environment. The Company’s print declines are likely to significantly outweigh digital revenue growth in the near term (DBRS notes that print revenue currently represents 51% of total revenue as at Q2 2014). However, consolidated top-line declines should moderate as Yellow Media continues to grow its digital customer base and the number of services per client. As digital revenues continue to grow, EBITDA margins are expected to stabilize at 30% to 35% over the next few years. Should digital customers and revenue continue to grow at a pace similar to recent quarters over the near term, an upgrade could result.

In terms of the Company’s financial profile, DBRS notes that Yellow Media’s focus going forward will be to invest in its digital transformation while continuing to fulfill its mandatory debt payments. In 2014, DBRS forecasts operating cash flow to decline to between $100 million and $130 million based on low double-digit EBITDA declines, higher cash taxes and increased pension contributions. Capital expenditures (capex) is expected to increase to between $85 million and $90 million in order to accelerate the development of IT platforms and tools to support customer acquisitions, improve customer service and growth in digital audiences. Including the acquisition of 411 Search Corp Inc., Yellow Media is expected to generate $5 million to $10 million in free cash flow in 2014.

DBRS expects operating cash flow to rebound significantly next year (given the non-recurring items in 2014) while capex is expected to decline to between $70 and $75 million. Given that 75% of free cash flow must be directed towards paying down the Senior Secured Notes, DBRS expects further meaningful debt deduction (well in excess of the $50 million mandatory redemption payment) in F2015.

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

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

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 Companies in the Publishing Industry, which can be found on our website under Methodologies.

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