KEY RATING DRIVERS
High Risk Investment Strategy:
The downgrade follows Oi's announcement on
Despite this event, Fitch believes that the proposed merger between Oi and PT will proceed given Oi and PT signed a new agreement to slightly adjust the economics of the merger agreement by which PT will transfer Oi's shares to Oi in the amount equivalent to the face value of the CP. In return, Oi will transfer the CP to PT, with an option for PT to purchase back the shares. Further, the merger process is substantially complete with Oi already completing its capital increase, PT's operating assets have been transferred to Oi, Oi has guaranteed for PT's debt, and approvals by the shareholders and the regulatory bodies for the merger have been received.
Weak Financial Profile:
The downgrade primarily reflects the financial profile of the post-merger entity between Oi and PT that is not able to initially support an investment grade rating given the operational challenges faced in both
Domestic Pressure Ongoing:
For Oi, profitability erosion was evident in 2013 due to the competitive pressure in the
While PT's domestic businesses performed in line with Fitch's 2013 expectations, financial pressures remain - Portuguese EBITDA was down by 9.1%. The company's residential fixed-line operations perform more strongly than most European incumbent businesses, benefiting from an early investment in fibre, and TV and bundled services that have proven attractive and popular with consumers. Its mobile and enterprise divisions nonetheless remain under pressure and further negative trends are expected.
Given the different operational geographies, operational integration that could lead to an immediate improvement of the competitive positions of Oi and PT in their respective markets will prove challenging. Positively, the merged entity's credit profile should benefit from increased scale with an over-100 million subscriber base and geographic diversification of cash flows, as well as some merger synergies in terms of cost savings and sharing of best practices over the medium to long term. In addition, the rights issue in
The merger will also substantially improve the new company's corporate governance structure by eliminating Oi's current complex shareholding structure and restructuring it with one class of shares of one listed entity,
The company has disclosed that it expects to achieve
Fitch expects the merged entity to be able to generate positive FCF and improve leverage during 2016 and onward. A further downgrade of the ratings could occur if the net leverage ratio remains above 4.0x over the medium to long term and in the absence of any meaningful improvement in key operating metrics.
While any positive rating action is unlikely at this time, Fitch would consider a positive rating action should the company's net leverage improve to below 3.5x along with improvements in key operating metrics on a sustained basis.
Additional information is available at 'www.fitchratings.com'.
--'Corporate Rating Methodology',
Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage
Source: Fitch Ratings
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