DBRS Morningstar Confirms Corus Entertainment Inc.’s Ratings

DBRS Limited (DBRS Morningstar) confirmed Corus Entertainment Inc.’s (Corus or the Company) Issuer Rating at BB and Senior Unsecured Notes at BB with a recovery rating of RR4. All trends are Stable. The confirmations are supported by Corus’s allocation of free cash flow (FCF) toward material debt reduction amid a challenging operating environment. The confirmations and Stable trends also reflect a continued measured recovery in financial performance in F2021, which has continued into the first half of F2022 (H1 F2022), and the expectation of a continued recovery in advertising, albeit one that is more skewed to television and digital rather than radio. Corus’s ratings reflect the Company’s stable market position in its TV business, strong cash-generating capacity, and continued commitment to deleveraging. The ratings also continue to consider the structural shift in advertising spending to digital and online channels from traditional media, partially offset by subscription revenue to digital channels, the persistent annual cord-cutting and/or shaving by Canadian households, and, to a lesser degree, the uncertainty associated with the Canadian Radio-television and Telecommunications Commission’s pending regulatory changes.

After a challenging F2020, as expected Corus’s earnings profile strengthened in F2021 and was in line with DBRS Morningstar’s expectation of an improving operating environment benefitting from an ease in restrictions and a return to a more normal advertising environment and steady growth in television subscriber revenue. As forecast, F2021 consolidated revenue growth returned to positive territory, and H1 F2022 has seen this trend continue. EBITDA growth for F2021 outpaced revenue growth; however, EBITDA has declined year over year (YOY) in H1 F2022, primarily reflecting higher programming costs, inflationary pressure on compensation, a catch-up in Canadian content spending, and the absence of wage subsidies and regulatory fee relief.

In F2021, consolidated revenue increased 2.1% YOY to $1,543 million as revenue performance strengthened through the year and peaked at 13% YOY growth in Q4 F2021. The recovery in revenue was driven by television advertising, which was up 2% for the year, but surged 21% in the fourth quarter as advertising spending by companies accelerated with the economic reopening. EBITDA in F2021 was $525 million, an increase of 3.7% YOY and above DBRS Morningstar’s expectation of about $500 million, driven by 8% YOY growth in television that fully offset the continued weakness in radio, which declined 12% YOY.

Operating results continued to improve in H1 F2022 with revenue of $826 million, up 5.9% YOY, despite the impact of the Winter Olympics in Beijing and the imposition of pandemic-related restrictions during the period. Revenue growth year to date continues to be driven by a recovery in television advertising (+8.7% YOY) and 5.0% subscriber revenue growth, which was more than enough to offset weakness in merchandising, distribution, and other (-12.5% YOY). Despite the mid-single digit revenue growth performance, H1 F2022 EBITDA of $264 million was down 9.4% YOY, primarily reflecting higher program rights costs, an increase in employee costs given the absence of wage subsidies and regulatory fee relief, salary inflation, and an increase in Canadian content cost, which DBRS Morningstar expects to remain a headwind through the year. As a result, the H1 F2022 EBITDA margin was 31.9% compared with 37.4% in H1 F2021.

The improving trend in operating results was also reflected in the Company’s financial profile. In F2021, FCF after dividends and before changes in working capital increased 17.3% YOY to $238 million from $202 million, primarily reflecting higher net income, lower spend on film investments, and lower depreciation, despite an increase in F2021 capital expenditures (capex) of $20 million compared with $15 million spent in the prior fiscal year. Total dividend payments were down modestly in F2021. Importantly, the Company continued to prioritize debt reduction, paying down $167 million of term debt and thus ending the year with $1.49 billion of debt. As a result of the increase in EBITDA and lower debt balance, gross debt-to-EBITDA decreased to 2.85 times (x) in F2021 compared with 3.30x in F2020 and performed better than DBRS Morningstar’s expectation. In H1 F2022, Corus continued to repay debt, as balance sheet debt declined to $1.44 billion; however, as a result of the softness in EBITDA, last-12-month gross debt-to-EBITDA as of Q2 F2022 ticked up modestly to 2.90x compared with 2.85x at YE F2021.

DBRS Morningstar believes that the ongoing return to normal for both consumers and enterprises across Canada will support improving operating performance in the near to medium term. Combined with a strong slate of programs, DBRS Morningstar expects television advertising to continue to improve in F2022 and also expects local radio to experience a modestly improving advertising environment as commuting recovers, albeit not to pre-pandemic levels for the foreseeable future. Corus’s long-term focus on content creation (Nelvana and Corus Studios), growing traction in its digital platforms (STACKTV and Nick+), and positive momentum in content licensing sales should also support revenue growth. As a result, DBRS Morningstar expects F2022 revenue to increase in the mid-single digits and then in the low single digits through the balance of the forecast horizon until F2025. DBRS Morningstar expects the EBITDA pressure witnessed in H1 F2022 to persist through the year, primarily reflecting higher programming costs, inflationary pressure on wages and compensation, the absence of any wage subsidies, and the continued catch-up investment in Canadian content creation. As a result, DBRS Morningstar expects EBITDA to decline in the mid-single digits in F2022 and F2023, before stepping up in F2024 in part related to catch-up Canadian content costs rolling off.

DBRS Morningstar forecasts FCF after dividends and before changes in working capital to be $150 million to $160 million in F2022 and F2023 reflecting the lower level of net income, a modest decline in capex, and a modest increase in dividend payments. DBRS Morningstar expects the Company to continue to prioritize using internally generated cash flow toward reducing the balance of its term facility for the foreseeable future. DBRS Morningstar also anticipates that F2022 and F2023 gross leverage will be approximately 2.85x, as lower debt is essentially offset by near-term EBITDA pressure.

Should leverage move in a sustainable manner to between 2.0x and 2.5x, combined with the Company’s ability to diversify operating income toward its current and/or future digital platforms and non-advertising revenue streams (thus reducing the impact of volatility inherent in the advertising market), DBRS Morningstar may take a positive rating action. Conversely, if key credit metrics are pressured and/or leverage is maintained at a structurally higher level as a result of weaker-than-expected operating performance and/or more aggressive financial management, the rating may be pressured.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/373262.

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

The principal methodologies are Rating Companies in the Broadcasting Industry (March 14, 2022; https://www.dbrsmorningstar.com/research/393669), DBRS Morningstar Criteria: Recovery Ratings for Non-Investment-Grade Corporate Issuers (August 19, 2021; https://www.dbrsmorningstar.com/research/383238), and DBRS Morningstar Criteria: Guarantees and Other Forms of Support (April 4, 2022; https://www.dbrsmorningstar.com/research/394683), which can be found on dbrsmorningstar.com under Methodologies & Criteria. Other applicable methodologies include the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (February 3, 2021; https://www.dbrsmorningstar.com/research/373262).

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 under Related Documents or by contacting us at [email protected].

The rated entity or its related entities did participate in the rating process for this rating action. DBRS Morningstar had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

Generally, the conditions that lead to the assignment of a Negative or Positive trend are resolved within a 12-month period. DBRS Morningstar trends and ratings are under regular surveillance.

For more information on this credit or on this industry, visit www.dbrsmorningstar.com or contact us at [email protected].

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