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

DBRS Limited (DBRS) has today confirmed Manitoba Telecom Services Inc.’s (MTS or the Company) Issuer Rating and Medium-Term Notes rating at BBB and its Commercial Paper rating at R-2 (high), all with Stable trends. The confirmation reflects the relatively strong position of the Company in the Manitoba market and acknowledges the mounting pressure on the profitability of its core businesses. The confirmation also incorporates the effect of the announced change in dividend policy on MTS’s overall credit risk profile. The ratings continue to be supported by the Company’s incumbent position, advanced networks and steady subscriber base in Manitoba. The ratings also reflect an intensifying competitive environment in wireless communications, MTS’s limited scale and future growth prospects as well as the steady erosion of local access lines.

The Company’s earnings profile remains below the current rating category as revenue and earnings growth in the MTS segment are increasingly challenged by the intensely competitive and mature nature of the Manitoba market. Consolidated revenues continued to decrease (-1.2% year over year (YOY) to $1.6 billion) as legacy declines at Allstream Inc. (Allstream) have continued to outweigh modest gains in the Company’s Internet Protocol (IP)-based services; however, DBRS notes that the rate of decline in Allstream revenues and operating income has moderated significantly. Consolidated earnings before interest, taxes, depreciation and amortization (EBITDA; before transaction and restructuring costs) decreased by $20 million YOY to $566 million in 2014 with declines in both the MTS and Allstream segments.

The financial profile of MTS remained relatively stable over the course of 2014 based on stable operating cash flow and a moderately low debt level. Cash flow from operations increased to $419 million in 2014 from $292 million in 2013, primarily because of transaction and restructuring costs associated with the rejected sale of Allstream in 2013, while cash used for capex and net dividend payments was fairly stable. As such, free cash flow was approximately $37 million in 2014 (compared with negative $88 million in 2013), which allowed the Company to reduce its debt balance by approximately $50 million and resulted in adjusted debt-to-EBITDA of 1.78 times (x) compared with 1.93x for 2013.

Going forward, MTS is expected to focus on improving earnings in its core wireless, high-speed internet, IPTV, converged IP and information solutions businesses. In terms of Allstream, the Company will focus on reducing the size of low-margin business and achieving operational efficiency improvements. MTS’s consolidated revenue and EBITDA are forecasted by DBRS to remain flat in 2015, based on modest growth in the MTS segment and marginal declines in the Allstream segment. Any benefits from growth in higher-margin core businesses and cost-cutting initiatives are expected to be offset by declining earnings from legacy businesses and the competitive environment in the wireless voice and internet businesses.

The financial profile of MTS is expected to remain stable over the near to medium term based primarily on the Company’s relatively steady operating cash flow and modest leverage. Cash flow from operations should remain relatively steady in 2015, while capex is expected to decline based primarily on reduced investment in the Allstream segment. In terms of dividend, the Company has announced an approximate 25% reduction in its dividend and the elimination of the discount on the dividend reinvestment program (DRIP). The Company also intends to repurchase shares equal to the amount taken up through the DRIP going forward. The combined effect of such may only have a modestly positive effect on cash flow, but results in greater certainty of cash outflow going forward. As such, MTS’s baseline free cash generation should increase in 2015. That said, the Company’s debt level is expected to increase in 2015 as MTS intends to contribute $120 million toward its pension plan in order to meet its expected solvency funding requirements over the next two to three years. DBRS does not consider debt for this purpose to be negative for the Company’s financial profile.

In its assessment of the Company’s credit risk profile going forward, DBRS will largely focus on the prospects of the MTS segment as Allstream is not considered to be core or complementary to MTS. DBRS notes that a future divestiture of Allstream would likely be neutral to ratings should the potential transaction (including the allocation of consideration received) result in a pro forma gross leverage ratio (debt-to-EBITDA) below 2.0x. As DBRS believes that MTS’s ratings are positioned at the low end of the current rating categories, a meaningful decline in operating profit (particularly at the MTS segment) could result in a negative rating action.

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 methodologies are Rating Companies in the Communications Industry (October 2014) and DBRS Criteria: Commercial Paper Liquidity Support for Non-Bank Issuers (April 2015), which can be found on our website under Methodologies.