“It is our view that Rcom’s plans to demerge its wireless business into a 50:50 joint-venture and sell 51% of its tower business, Reliance Infratel Ltd (Infratel), will be negative for Rcom’s creditors, even if receipts from the tower transaction are used to pay down debt,” it said.
“Without ownership control, Rcom would not have access to cash flows from either the wireless JV or the tower business, other than through dividends, and we anticipate neither would be in a position to pay a dividend for some time,” it added.
It also kept the rating on negative rating watch. “The Watch will be resolved when the new business and financial structure are practically certain. Should the transactions proceed as the company plans, we are likely to downgrade by a single notch, unless other funds have been raised to pay down Rcom’s debt,” it added.
Among the key reasons for the downgrade is the reduced control that RCom will have over its wireless business after merger.
Wireless Demerger is Credit Negative: Fitch said Rcom’s plan to hive off its wireless segment along with spectrum and infrastructure assets and merge those with Aircel Limited is credit negative.
RCom + MTS shareholders will have a combined share of 50%, while Aircel shareholders will alone have 50%.
“The demerger of the wireless business and sale of the Infratel stake, if completed, will leave Rcom’s debt servicing dependent on cash flow from its business-to-business (B2B) enterprise, optical fibre and pay-TV business,” Fitch said.
“Rcom would lose about half of its EBITDA without any meaningful improvement in leverage. The wireless demerger would reduce Rcom’s debt and EBITDA by INR140bn and INR35bn, respectively.”
The transaction is subject to approvals from holders of the USD300m bonds, competition authorities and Indian courts, which Rcom expects to receive by end-March 2017.
Additionally, Global Cloud Xchange (GCX) – Rcom’s 100% owned sub-sea cable business – has covenants restricting upstreaming of cash to Rcom.
“At current and forecast levels of gearing, we do not believe GCX to be able to provide cash to support Rcom’s creditors. Consequently, our analysis would deconsolidate GCX, the wireless JV and Infratel as they can provide no operating cash support to Rcom creditors,” Fitch added.
However, it said the businesses will no require further capital from Rcom and do not constrain Rcom’s credit profile.
Fitch has also downgraded the rating on Rcom’s USD300m 6.5% senior secured notes due 2020 to ‘B+’ from ‘BB-‘ and assigned a Recovery Rating of ‘RR4’ to the notes. Simultaneously, the IDRs and the notes have been placed on Rating Watch Negative (RWN)
On a positive note, Rcom’s pro forma net debt will fall to around USD 1.5bn-1.6bn excluding its global cloud exchange business, while its EBITDA would be around USD240m-250m in the financial year to end-March 2018 (FY18) after the wireless demerger and 51% stake sale in Infratel, Fitch said.
Further Non-core Asset Sale: Fitch said it acknowledged that Rcom could raise further capital to pay down holding company debt through the sale of its pay-TV business, dilution of some of its stake in GCX and selling surplus real estate. However, Fitch has only assumed that real estate worth USD70m is sold in our analysis; we will only include such transactions when Rcom and potential buyers commit to a price.
Planned Tower Sale: Rcom’s plan to sell 51% of Infratel for USD1.6bn and use the proceeds to pay down debt will not reduce financial leverage sufficiently to retain a ‘BB-‘ rating, Fitch added.
“Rcom would not have USD200m-USD220m in potential EBITDA from Infratel and, given that Rcom is left with only 49% economic interest, we would deconsolidate Infratel in our analysis and only give credit for any dividends received. However, we do not expect Infratel to distribute any meaningful dividends during FY18-19.”
Business Risk Profile to Weaken: Rcom would transform into a B2B company once the transactions are completed. The optical fibre business, which would account about 53% of pro forma EBITDA, is exposed to annual changes in the sale of its fibre capacity to Reliance Jio, part of Reliance Industries Ltd. However, we expect these cash flows to remain stable in the short term given the large capacity needs of Reliance Jio due to its data-centric telco business model. Rcom’s enterprise segment, which would contribute about USD110m-USD120m in EBITDA, benefits from recurring revenue, long-term contracts and lower capex requirements, it added.
Improvement in FCF Generation: Fitch said Rcom would generate around USD50m-75m in FCF after the transactions, mainly due to lower capex requirements of its enterprise and fibre segments. It forecast capex/revenue to be around 11%-13%, mainly to maintain its enterprise and Indian fibre assets.
Weak Liquidity: Rcom’s liquidity would improve following the wireless demerger and Infratel sale, which in total would reduce Rcom’s debt by USD3.6bn. “However, liquidity would still be dependent on its ability to refinance maturing debt because we believe its cash generation and unrestricted cash of around USD200m would be insufficient to pay its short-term debt of around USD600m-650m.”
Indian banks have been willing to lend on a secured basis with immovable assets as collateral. Rcom has breached some debt covenants, but has received waiver consents from its lenders.