Fitch Downgrades TV Azteca to 'B+'; Outlook Negative

CHICAGO--(BUSINESS WIRE)-- Fitch Ratings has downgraded TV Azteca S.A.B. de C.V.'s (TV Azteca) Foreign and Local currency Issuer Default Ratings (IDR) to 'B+' from 'BB-'. The Rating Outlook for Issuer-Default Ratings (IDRs) has been revised to Negative from Stable. Simultaneously, Fitch has downgraded the debt ratings for the company's USD300 million senior unsecured notes due 2018 and USD500 million senior unsecured notes due 2020 to 'B+(RR4)' from 'BB-'. An RR4 recovery rating has been assigned to the company's senior unsecured notes, which assumes average recovery prospects in case of a default.

The downgrade reflects TV Azteca's ongoing credit profile deterioration, which has notably accelerated during 2015 amid an unfavourable operational environment. The company's EBITDA erosion amid negative revenue growth during the first nine months of 2015 was worse than Fitch's previous expectation and led to a sharp rise in leverage, which was no longer deemed commensurate with the 'BB' category.

The Negative Outlook reflects Fitch's concern that any material recovery in TV Azteca's financial profile, to a level that is in line with its solid historical levels, would prove challenging given the recent weak advertisement industry trend in Mexico. Contributions from its overseas operations remain limited. While downside risk persists, the company's ability to successfully execute its turnaround strategies, including advertising price improvement, production cost control and reduced capex, and meaningful EBITDA contribution from Colombia and Peru, would be key factors for its ratings in the short to medium term.

KEY RATING DRIVERS

Rapid EBITDA Erosion

TV Azteca's EBITDA generation has continued to decline materially during 2015 amid negative revenue growth. Demand for advertising remained suppressed for its main broadcasting business while its cost of content production continued to rise. The company's production cost proportion to its sales increased to 71% during the first nine months of 2015, which was a steep increase from 60% during the same period in 2014. This was partly driven by depreciation of the Mexican peso to U.S. dollars as Fitch estimates that around 25% of TV Azteca's production costs are based in U.S. dollars, mainly for its transmission right purchases. In addition, the company's continued EBITDA loss in Colombia, given the nascent stage of the operation, has negatively weighed on its cost structure as well. TV Azteca's EBITDA generation during the last 12 months as of Sept. 30, 2015 was MXN2.1 billion, which unfavourably compares to MXN3.5 billion in 2013 and MXN4.2 billion in 2012. EBITDA margin fell to 17% during the period from 29% in 2013 and 33% in 2012. Fitch's EBITDA calculation includes other operating income/expenses.

Positively, Fitch believes that some level of EBITDA recovery could be possible in 2016 driven by the company's turnaround initiatives, which mainly include advertising price increases, transmission rights contracts renegotiations, and streamlined labor costs among others. As over-the-air broadcasting still remains the most effective advertising platform given the high penetration of TV in Mexican households, the industry-wide price increase would be achievable to an extent. Also, as Colombia gains operational scale, Fitch expects the EBITDA loss to narrow. While substantial execution risks remain, Fitch forecasts TV Azteca to recover its EBITDA margin to 21% in 2016 based on these measures in the short to medium term.

Negative FCF

TV Azteca's financial profile has quickly deteriorated due to its continued negative free cash flow generation since 2013 amid the aforementioned EBITDA erosion. Given its business expansions into new markets, as well as high-definition (HD) content related investments, the company's capex, including intangible asset investments, remained high at MXN2.1 billion during the last twelve months. This level of capex was in line with the 2014 level of MXN2.2 billion, but much higher than MXN1.2 billion in 2013 and MXN1.1 billion in 2012.

Fitch does not foresee any significant FCF generation in the short to medium term, although a gradual improvement is likely as capex falls in the absence of any major concession payments and material shareholder returns. Fitch forecasts the company's capex to fall to between MXN700 million and 800 million as major investments for its Colombian business and HD production are largely completed. Despite the reduced capex, cash interest expenses and high working capital needs, related with content purchases, would continue to be a burden on its operational cash flow generation.

High Leverage

TV Azteca's leverage is high and its capital structure is negatively exposed to foreign exchange rate movement risk. All of the company's debt is denominated in U.S. dollars while its U.S. dollar revenue generation is slightly over 10%, mainly from its Azteca America operation. The company held MXN14.9 billion of total debt as of Sept. 30, 2015, of which close to 90% was in senior unsecured USD notes. TV Azteca's net leverage has materially increased to 5.3x as of September 2015, which unfavourably compares to 2.5x as of end-2014 and 2.0x as of end-2013 due to weakened EBITDA generation. Although Fitch expects the ratio to improve to around 4.5x given the potential EBITDA recovery over the medium term, it would be difficult for the company to restore its financial profile back to the solid historical levels given ongoing operational challenges.

Negative Reform Impact

The negative impact from media sector reform will be visible from 2016 when Cadena Tres, the winner of the newly auctioned national broadcasting concession, starts operation and attempts to encroach on the existing broadcasters' market shares. Fitch believes that TV Azteca's market share loss will be modest over the medium term as the advertisers would prefer to buy advertisement slots from the company rather than the new entrant given its well-established quality content production. Nevertheless, in Fitch's view the increased competitive pressures that come with an additional competitor, along with the industry maturity, will undermine TV Azteca's growth potential and could lead to pressure on profitability going forward.

Positive Long-Term Diversification

Over the long term, TV Azteca will benefit from cash flow diversification with its fiber optic network projects in Colombia and Peru. The overseas expansion into fixed-line telecom operations can help mitigate the risk stemming from the increasing competitive pressure in its domestic broadcasting operations to a certain extent, although the contribution will remain small for the medium term.

KEY ASSUMPTIONS

--Mid-single-digit annual revenue growth in 2016 driven by advertising price increases and a larger operational scale in Colombia;

--Market share gradually declines to below 30% in the long term due to the new entrant;

--EBITDA margin to recover to 21% level in 2016 from 17% in 2015 due to resumed revenue growth and cost control initiatives;

--No significant FCF generation in the short to medium term due to high working capital, including exhibition rights, and capex;

--Net leverage to remain above 5.0x by end-2015 but to modestly improve to around 4.5x over the medium term, in the absence of any sizable increase in capex or strategic investments.

RATING SENSITIVITIES

A further negative rating action could be considered in case of weaker-than-expected EBITDA recovery and resultant continued negative FCF generation due to TV Azteca's inability to materially raise advertising prices and curb rising production costs, and/or continued loss in its Colombian operation and high level of capex, including intangible asset investments. A lack of any clear indication of deleveraging amid weakening liquidity position could result in a further ratings downgrade.

Conversely, a material EBITDA turnaround is necessary for any positive rating action. Resumed revenues growth with a successful cost control from its main broadcasting operation, positive FCF generation with a meaningful cash flow income from its overseas operations would be among key rating drivers. Also, a reduction in the company's net leverage ratio toward 4.0x on a sustained basis would be positive for the rating Outlook to be revised to Stable.

LIQUIDITY

TV Azteca's liquidity profile is sound in light of its MXN3.6 billion cash balance while the company faces no debt maturity until 2018, which provides some cushion against its negative FCF generation in the short term. Negatively, TV Azteca's financial flexibility to raise additional debt should remain constrained, due to the incurrence covenant for its senior unsecured notes.

Additional information is available on www.fitchratings.com.

Applicable Criteria

Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage (pub. 17 Aug 2015)https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=869362

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View source version on businesswire.com: http://www.businesswire.com/news/home/20151105006807/en/

Fitch Ratings
Primary Analyst:
Alvin Lim, CFA, +1-312-368-3114
Director
Fitch Ratings, Inc.
70 West Madison Street
Chicago, IL 60602
or
Secondary Analyst:
Velia Valdes, +52-81-8399-9100
Analyst
or
Committee Chairperson:
Joe Bormann, CFA, +1-312-368-3349
Managing Director
or
Media Relations:
Alyssa Castelli, +1-212-908-0540
New York
[email protected]

Source: Fitch Ratings

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