S&P Downgrades Oi S.A. (OIBR) to 'CCC-'; Sees Average Recovery Default

Standard & Poor's Ratings Services lowered its corporate credit and issue-level global scale ratings on Oi S.A. (NYSE: OIBR) to 'CCC-' from 'CCC' and its national scale ratings to 'brCCC-' from 'brCCC'. The recovery ratings on the company's rated debt remain unchanged at '4', indicating our expectation for average (30%-50%; in the lower half of the range) recovery following a default. The outlook on the corporate credit ratings remains negative.

Oi announced yesterday that it signed an agreement with Moelis & Company that the latter will act as advisor for a group of Oi's bondholders to facilitate and expedite the discussions regarding the terms of a potential restructuring. As the company advances in these discussions and debt maturities approach, we believe that there is a high likelihood of a debt restructuring and/or an exchange offer that we would view as distressed (and therefore tantamount to default) occurring over the next six months.

The company still carries an important amount of cash and some credit lines that we estimate totaled around R$11 billion as of the end of first quarter 2016. But it also has meaningful debt maturities over the next few quarters and a very high leverage, which have been the main reasons behind company's recent conversations about a potential debt restructuring.

The negative outlook indicates the potential for a further downgrade to 'CC' over the next six months if Oi announces an exchange offer or similar restructuring that we would most likely assess as distressed or equivalent to a default.

Although unlikely, if the company receives capital to reduce its leverage and the cost of debt, we could raise the ratings, provided that we no longer expect a debt restructuring or debt exchange that we would view as distressed.

• We have lowered our issue-level ratings on Oi's senior unsecured notes and debentures to 'CCC-' and to 'brCCC-' from 'CCC' and 'brCCC', respectively. The recovery rating is unchanged at '4', indicating our expectation of average recovery (30%-50%; in the lower half of the range) in a hypothetical default scenario.
• We value Oi as a going-concern, given its significant position in the Brazilian telecom sector, with the potential to generate consistent cash flow if it is able to reduce leverage.
• Our simulated default scenario assumes a payment default in the second half of 2016 that could occur if the company does not reach an agreement with bondholders for a debt restructuring.
• Three bonds from Oi have a guarantee from its subsidiary, Telemar Norte Leste. We don't treat those as having a priority over Oi's bonds because we believe there could be a risk of revocation under Brazilian bankruptcy law, as the guarantee was constituted to secure an obligation that was not originally guaranteed.

• Year of default: 2016
• EBITDA at emergence: R$6.9 billion
• Implied enterprise value (EV) multiple: 5x
• Estimated gross EV at emergence: R$34.5 billion
• Estimated net enterprise value after 5% administrative expenses: R$32.8 billion
• Priority claims: R$660 million (labor obligations)
• Debt and other liabilities at operating subsidiaries level: R$13.3 billion
• Senior secured obligations at the parent level: R$540 million (tax obligations)
• Senior unsecured debt and other liabilities at the parent level: R$47.2 billion
• Recovery expectation for senior unsecured debt: 30%-50%; in the lower half of the range

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