Madrid, January 26, 2017 -- Moody's Investors Service, ("Moody's") has today changed the outlook
on British Telecommunications Plc (BT) and British Telecom Finance B.V
to negative from stable, following the company's recent revision
in performance expectations for the current year-end 2016/17 and
the following year 2017/18. The reductions reflect the conclusion
of the independent review in the Italian business and pressures in UK
public sector and international services.
Concurrently, Moody's has affirmed BT's Baa1 senior unsecured and
issuer ratings, the (P)Baa1 MTN programme and senior unsecured shelf
rating as well as the Prime-2 short-term rating.
Moody's has also changed the outlook to negative on EE Limited (EE)
and EE Finance Plc, both wholly owned subsidiaries of BT,
and affirmed EE's Baa1 issuer rating as well as the Baa1 senior
unsecured debt ratings and (P)Baa1 MTN programme rating of EE Finance
Plc.
A full list of affected ratings can be found at the end of this press
release.
"Changing BT's outlook to negative reflects the company's
weaker expectations for operating performance over the medium term,
which further weighs on BT's financial profile from an already stretched
level for the Baa1 rating, following the surge in the company's
reported pension deficit in the first half of 2016," says
Laura Pérez, Vice President-Senior Analyst and lead
analyst for BT.
"So far, we tolerated a higher pension deficit because it
was balanced against our expectation of BT's improving operating
performance. However, the profit warning will further delay
the deleveraging that we had anticipated in a context of relatively high
leverage ratios for the current Baa1 rating," adds Mrs.
Pérez.
RATINGS RATIONALE
The change in outlook to negative reflects BT's significant revision
in earnings outlook, which will put further pressure on the company's
already high leverage following the hike in the pension deficit reported
last October. Given the recent revision in operating profits,
Moody's expects a slower deleveraging path. BT's recent
announcement also reduces visibility on the company's operating
performance over the medium term.
Moody's estimates that the expected earnings reduction will increase
leverage, as measured by adjusted debt/EBITDA, to 3.5x
in FY2016/17 and to 3.4x in FY2017/18. The leverage ratios
are considerably above the threshold for the Baa1 rating of adjusted debt/EBITDA
not to exceed 2.8x.
In addition, Moody's expects Retained Cash Flow (RCF) to net
debt to deteriorate to below 20% in both years, a level which
is also below the 22% threshold for the Baa1 rating.
BT has meaningfully reduced the performance outlook for the medium term
with a reduction in EBITDA and free cash flow coupled with flat revenue
growth, compared to previous guidance of moderate growth.
BT has revised down its expectation of adjusted EBITDA growth for the
full year by around GBP400 million to GBP7.6 billion for the next
two years, which include GBP175 million related to the ongoing investigation
in Italy and GBP225 million related to pressures in the UK public sector
and international corporate markets.
In addition, the company's reported normalised free cash flow
is now expected to reduce by GBP500 million to GBP2.5 billion in
2016/2017 and to GBP3.0-3.2 billion in 2017/2018
from previous management guidance. The impact on free cash flow
exceeds the reduction in earnings due to negative one-offs arising
from revisions of working capital movements. Furthermore,
the company has maintained the dividend growth guidance at 10%
per year.
The investigation into the Italian business has revealed inadequate accounting
practices and a complex set of improper sales, purchase, factoring
and leasing transactions which led to a meaningful overstatement of the
results over a number of years. Management has indicated that the
revision is largely complete and therefore it should reduce uncertainty
going forward. Although the Italian business is a relatively small
part of BT's group, the recent investigation signals less
than adequate operational controls at BT group level.
The profit warnings comes in a context of a record high pension deficit
(GBP11.5 billion gross of tax reported as of October 2016,
up from GBP 7.6 billion in June), in large part due to falling
corporate bond yields and higher inflation expectations, although
Moody's recognises that this spike in the deficit could be at least
partly cyclical, and is not the key driver of today's rating
action. Nevertheless, the rating agency notes that the next
triennial actuarial valuation should be finalised in the first half of
2018 and it appears increasingly likely that it could lead to an increase
in pension cash contributions.
The affirmation of the Baa1 ratings also reflects the company's strong
business profile as the integrated fixed and mobile telecommunications
operator in the UK following the acquisition of EE and its leading market
share.
RATIONALE FOR NEGATIVE OUTLOOK
The negative outlook reflects the lower visibility in terms of future
operating performance, as well as the expectation of a slower deleveraging
path in light of the recent profit warning. The negative outlook
also reflects the record high pension deficit, which has reduced
the company's headroom under the rating category.
WHAT COULD CHANGE THE RATING UP/DOWN
Downward pressure on the rating could arise if the company fails to successfully
execute its business plan; or the pension deficit increases substantially
from current levels or content costs inflation significantly increases,
constraining financial performance and leading to weaker credit metrics.
Credit metrics that would support a rating downgrade include adjusted
RCF/net debt sustainably falling below 22% and adjusted total debt/EBITDA
exceeding 2.8x on an sustained basis.
The outlook on the rating is negative and therefore upward pressure is
unlikely to materialise over the medium term. However, upward
rating pressure could develop over the medium term if the execution of
the company's business plan is better than initially expected following
the acquisition of EE. The rating would come under positive pressure
if the company were to achieve sustainable improvements in its debt protection
ratios, such as adjusted retained cash flow (RCF)/net debt of at
least 30% and adjusted total debt/EBITDA comfortably below 2.2x
on sustained basis, coupled with strong free cash flow generation.
LIST OF AFFECTED RATINGS
Affirmations:
..Issuer: British Telecom Finance B.V.
....Backed LT Issuer Rating, Affirmed
Baa1
....Backed Commercial Paper, Affirmed
P-2
..Issuer: British Telecommunications Plc
....LT Issuer Rating, Affirmed Baa1
....Commercial Paper, Affirmed P-2
....Senior Unsecured Medium-Term Note
Program, Affirmed (P)Baa1
....Senior Unsecured Regular Bond/Debenture,
Affirmed Baa1
....Senior Unsecured Shelf, Affirmed
(P)Baa1
..Issuer: EE Finance Plc
....Backed Senior Unsecured Medium-Term
Note Program, Affirmed (P)Baa1
....Backed Senior Unsecured Regular Bond/Debenture,
Affirmed Baa1
..Issuer: EE Limited
....LT Issuer Rating, Affirmed Baa1
Outlook Actions:
..Issuer: British Telecom Finance B.V.
....Outlook, Changed To Negative From
Stable
..Issuer: British Telecommunications Plc
....Outlook, Changed To Negative From
Stable
..Issuer: EE Finance Plc
....Outlook, Changed To Negative From
Stable
..Issuer: EE Limited
....Outlook, Changed To Negative From
Stable
PRINCIPAL METHODOLOGY
The principal methodology used in these ratings was Global Telecommunications
Industry published in December 2010. Please see the Rating Methodologies
page on www.moodys.com for a copy of this methodology.
BT Group Plc, which operates principally through its 100%-owned
subsidiary British Telecommunications Plc, is the leading provider
of local, long-distance and international telecommunications
services in the UK and one of the world's leading providers of communication
solutions and services, operating in more than 170 countries.
Following the completion of its GBP12.5 billion acquisition of
EE Limited in January 2016, BT is also one of the largest mobile
network operators in the UK.
REGULATORY DISCLOSURES
For ratings issued on a program, series or category/class of debt,
this announcement provides certain regulatory disclosures in relation
to each rating of a subsequently issued bond or note of the same series
or category/class of debt or pursuant to a program for which the ratings
are derived exclusively from existing ratings in accordance with Moody's
rating practices. For ratings issued on a support provider,
this announcement provides certain regulatory disclosures in relation
to the credit rating action on the support provider and in relation to
each particular credit rating action for securities that derive their
credit ratings from the support provider's credit rating.
For provisional ratings, this announcement provides certain regulatory
disclosures in relation to the provisional rating assigned, and
in relation to a definitive rating that may be assigned subsequent to
the final issuance of the debt, in each case where the transaction
structure and terms have not changed prior to the assignment of the definitive
rating in a manner that would have affected the rating. For further
information please see the ratings tab on the issuer/entity page for the
respective issuer on www.moodys.com.
For any affected securities or rated entities receiving direct credit
support from the primary entity(ies) of this credit rating action,
and whose ratings may change as a result of this credit rating action,
the associated regulatory disclosures will be those of the guarantor entity.
Exceptions to this approach exist for the following disclosures,
if applicable to jurisdiction: Ancillary Services, Disclosure
to rated entity, Disclosure from rated entity.
Regulatory disclosures contained in this press release apply to the credit
rating and, if applicable, the related rating outlook or rating
review.
Please see www.moodys.com for any updates on changes to
the lead rating analyst and to the Moody's legal entity that has issued
the rating.
Please see the ratings tab on the issuer/entity page on www.moodys.com
for additional regulatory disclosures for each credit rating.
Laura Perez Martinez
Vice President - Senior Analyst
Corporate Finance Group
Moody's Investors Service Espana, S.A.
Calle Principe de Vergara, 131, 6 Planta
Madrid 28002
Spain
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454
Ivan Palacios
Associate Managing Director
Corporate Finance Group
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454
Releasing Office:
Moody's Investors Service Espana, S.A.
Calle Principe de Vergara, 131, 6 Planta
Madrid 28002
Spain
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454
