Reuters logo
Fitch Downgrades Ericsson to 'BBB', Outlook Negative
April 28, 2017 / 4:04 PM / 6 months ago

Fitch Downgrades Ericsson to 'BBB', Outlook Negative

(The following statement was released by the rating agency) MOSCOW, April 28 (Fitch) Fitch Ratings has downgraded Telefonaktiebolaget LM Ericsson's Long-Term Issuer Default Rating (IDR) and senior unsecured rating to 'BBB' from 'BBB+'. The Outlook on the IDR is Negative. The downgrade and the Negative Outlook reflect operating and financial challenges facing Ericsson, at least over the next 18-24 months. Significant revenue pressure in the core networks segment and a re-sizing of the media and IT/cloud segments, and continued R&D expenditure are likely to weigh on operating profit. In addition, significant restructuring costs are likely to lead to negative free cash flow in 2017. We continue to see Ericsson as an investment-grade company. However, its efforts to streamline operations and improve profitability involve considerable execution risks and there is limited visibility on its post-restructuring operating profile in a competitive telecoms equipment market. KEY RATING DRIVERS Challenging Market Conditions: We believe difficult conditions in the telecoms equipment market are likely to pose significant challenges to the company's aim to improve profitability. There are no potential drivers, in our view, that may support strong market recovery in the next two years, and there is significant uncertainty on how the market will develop in the long run. Ericsson's core market of mobile radio equipment and services remains weak and highly competitive, as the roll-out of 4G networks coverage is largely complete in the developed world. Ericsson is guiding for a 2% to 6% decline in the global mobile radio networks markets in 2017. A significant deployment of 5G networks is unlikely over the next two to three years, with low visibility on telecoms operators' propensity to spend on new 5G solutions. Revenue Underperformance: We believe Ericsson's revenue is likely to underperform the broader mobile equipment market in 2017. Pressures result from a sharp drop in intellectual property rights revenue, renegotiation of some large service contracts, with a lingering negative impact throughout 2017, and potentially 2018, and weak performance of smaller IT/cloud and media segments. In the medium term, the company guided that optimisation of some low-performing service and network roll-out contracts would shave off up to SEK10 billion of revenues in 2019, equal to 5% of last-12-months revenue to 1Q17. Restructuring Strategy Brings Execution Risks: The company's target of doubling its 2016 operating margin (to an implied 12%) after 2018 faces significant execution risks, in our view. Ericsson is likely to become a leaner and more profitable company if the strategy is successfully implemented, but with a narrower focus on the radio access network market. The size of this market remains significant but it is intrinsically volatile, with limited visibility on longer-term growth prospects and technological risks due to increasing commoditisation of network architecture. This backdrop is more consistent with a low-to-mid 'BBB' rating, at least over the next few years. Ericsson's cost-cutting initiatives entail substantial restructuring costs that are likely to turn its free cash flow negative in 2017, by our estimates. The company guided for SEK6 billion-8 billion of restructuring costs in 2017, while the additional cash impact of provisions related to the revision of some large customer contracts was estimated at SEK5.8 billion spread over a few years (we assume half of these cash costs will be taken in 2017). Strong Industry Positions: Ericsson is well positioned in the mobile telecoms equipment market share, and is likely to remain a key industry player, in our view. The industry has consolidated to three main companies, with a limited threat of new entrants in the network equipment segment over the medium term. Fitch believes many telecoms operators would want to maintain at least two network supplier relationships. With some key regions effectively closed except to selected operators, further industry consolidation is unlikely, which reduces M&A risk. Weak Short-Term Cash Flow: We expect Ericsson to generate negative cash flow in 2017, driven by declining revenues and significant restructuring costs. We believe cost-cutting efforts may allow it to improve profitability and turn FCF positive in 2018. The company is likely to need to maintain strong dividend discipline to put it in a position to start growing its net cash position. DERIVATION SUMMARY Ericsson is an established telecoms equipment manufacturer, with strong positions in mobile networks - a segment with three main companies with comparable market shares. A significant level of R&D expenditure and wide service capabilities protect against new entrants in an industry that is intrinsically volatile and driven by technology upgrade cycles. A substantial net cash position helps the company withstand short-term pressures and adjust the business for rapidly evolving customer demand. Ericsson is less diversified and more focused on the mobile network segment than Huawei and Nokia. It lags behind Nokia in cost-cutting, which started an ambitious restructuring programme following its merger with Alcatel. KEY ASSUMPTIONS Fitch's key assumptions within our rating case for the issuer include: - high-single-digit revenue decline in 2017, followed by a milder low-single-digit decline in 2018, recovering to neutral to 1% growth in 2019 and 2020; - cash restructuring costs of SEK8 billion in 2017; - a SEK3 billion negative cash impact in 2017 from provisions relating to the revision of some customer projects with a further impact of SEK2 billion in 2018 and SEK0.8 billion in 2019; - strong dividend discipline, in view of significant strategic challenges; - maintenance of a healthy net cash position. RATING SENSITIVITIES Future Developments That May, Individually or Collectively, Lead to Positive Rating Action The industry fundamentals imply intrinsically volatile revenues and rapidly changing technology cycles, which makes a potential upgrade to 'BBB+' unlikely in the medium term and dependent on developments such as: - strong market positions in key targeted segments together with improved visibility of revenue and profitability of the global telecoms equipment market; - pre-dividend FCF margin consistently in high single digits; - maintenance of a strong net cash balance sufficient to withstand short- to medium-term revenue pressures. Future Developments That May, Individually or Collectively, Lead to Negative Rating Action - Deteriorating market share and increased industry competition, leading to further pressure on Ericsson's revenue and cash flow generation - Pre-dividend FCF margin expected to be consistently in low single digits - A change in financial policy leading to a balance sheet that is managed close to a net debt basis LIQUIDITY Ericsson's liquidity is strong, with readily available cash of SEK61.4 billion (this excludes an estimated SEK4.2 billion of restricted cash and includes SEK32.6 billion of high-quality, liquid interest-bearing assets) at end-1Q17 comfortably covering SEK9.5 billion of current debt redemptions. Contact: Principal Analyst Joe Howes Analyst +44 20 3530 1382 Supervisory Analyst Nikolai Lukashevich, CFA Senior Director +7 495 956 9968 Fitch Ratings CIS Ltd 26 Valovaya Street Moscow 115054 Committee Chairperson Damien Chew, CFA Senior Director +44 20 3530 1424 Media Relations: Julia Belskaya von Tell, Moscow, Tel: +7 495 956 9908, Email: julia.belskayavontell@fitchratings.com; Peter Fitzpatrick, London, Tel: +44 20 3530 1103, Email: peter.fitzpatrick@fitchratings.com. Additional information is available on www.fitchratings.com. For regulatory purposes in various jurisdictions, the supervisory analyst named above is deemed to be the primary analyst for this issuer; the principal analyst is deemed to be the secondary. Applicable Criteria Criteria for Rating Non-Financial Corporates (pub. 10 Mar 2017) here Additional Disclosures Dodd-Frank Rating Information Disclosure Form here Solicitation Status here#solicitation Endorsement Policy here ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEB SITE AT WWW.FITCHRATINGS.COM. PUBLISHED RATINGS, CRITERIA, AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE, AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE CODE OF CONDUCT SECTION OF THIS SITE. DIRECTORS AND SHAREHOLDERS RELEVANT INTERESTS ARE AVAILABLE here. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE. Copyright © 2017 by Fitch Ratings, Inc., Fitch Ratings Ltd. and its subsidiaries. 33 Whitehall Street, NY, NY 10004. Telephone: 1-800-753-4824, (212) 908-0500. Fax: (212) 480-4435. Reproduction or retransmission in whole or in part is prohibited except by permission. All rights reserved. In issuing and maintaining its ratings and in making other reports (including forecast information), Fitch relies on factual information it receives from issuers and underwriters and from other sources Fitch believes to be credible. Fitch conducts a reasonable investigation of the factual information relied upon by it in accordance with its ratings methodology, and obtains reasonable verification of that information from independent sources, to the extent such sources are available for a given security or in a given jurisdiction. The manner of Fitch’s factual investigation and the scope of the third-party verification it obtains will vary depending on the nature of the rated security and its issuer, the requirements and practices in the jurisdiction in which the rated security is offered and sold and/or the issuer is located, the availability and nature of relevant public information, access to the management of the issuer and its advisers, the availability of pre-existing third-party verifications such as audit reports, agreed-upon procedures letters, appraisals, actuarial reports, engineering reports, legal opinions and other reports provided by third parties, the availability of independent and competent third- party verification sources with respect to the particular security or in the particular jurisdiction of the issuer, and a variety of other factors. Users of Fitch’s ratings and reports should understand that neither an enhanced factual investigation nor any third-party verification can ensure that all of the information Fitch relies on in connection with a rating or a report will be accurate and complete. Ultimately, the issuer and its advisers are responsible for the accuracy of the information they provide to Fitch and to the market in offering documents and other reports. In issuing its ratings and its reports, Fitch must rely on the work of experts, including independent auditors with respect to financial statements and attorneys with respect to legal and tax matters. Further, ratings and forecasts of financial and other information are inherently forward-looking and embody assumptions and predictions about future events that by their nature cannot be verified as facts. As a result, despite any verification of current facts, ratings and forecasts can be affected by future events or conditions that were not anticipated at the time a rating or forecast was issued or affirmed. The information in this report is provided “as is” without any representation or warranty of any kind, and Fitch does not represent or warrant that the report or any of its contents will meet any of the requirements of a recipient of the report. A Fitch rating is an opinion as to the creditworthiness of a security. This opinion and reports made by Fitch are based on established criteria and methodologies that Fitch is continuously evaluating and updating. Therefore, ratings and reports are the collective work product of Fitch and no individual, or group of individuals, is solely responsible for a rating or a report. The rating does not address the risk of loss due to risks other than credit risk, unless such risk is specifically mentioned. Fitch is not engaged in the offer or sale of any security. All Fitch reports have shared authorship. Individuals identified in a Fitch report were involved in, but are not solely responsible for, the opinions stated therein. The individuals are named for contact purposes only. A report providing a Fitch rating is neither a prospectus nor a substitute for the information assembled, verified and presented to investors by the issuer and its agents in connection with the sale of the securities. Ratings may be changed or withdrawn at any time for any reason in the sole discretion of Fitch. Fitch does not provide investment advice of any sort. Ratings are not a recommendation to buy, sell, or hold any security. Ratings do not comment on the adequacy of market price, the suitability of any security for a particular investor, or the tax-exempt nature or taxability of payments made in respect to any security. Fitch receives fees from issuers, insurers, guarantors, other obligors, and underwriters for rating securities. Such fees generally vary from US$1,000 to US$750,000 (or the applicable currency equivalent) per issue. In certain cases, Fitch will rate all or a number of issues issued by a particular issuer, or insured or guaranteed by a particular insurer or guarantor, for a single annual fee. Such fees are expected to vary from US$10,000 to US$1,500,000 (or the applicable currency equivalent). The assignment, publication, or dissemination of a rating by Fitch shall not constitute a consent by Fitch to use its name as an expert in connection with any registration statement filed under the United States securities laws, the Financial Services and Markets Act of 2000 of the United Kingdom, or the securities laws of any particular jurisdiction. Due to the relative efficiency of electronic publishing and distribution, Fitch research may be available to electronic subscribers up to three days earlier than to print subscribers. For Australia, New Zealand, Taiwan and South Korea only: Fitch Australia Pty Ltd holds an Australian financial services license (AFS license no. 337123) which authorizes it to provide credit ratings to wholesale clients only. Credit ratings information published by Fitch is not intended to be used by persons who are retail clients within the meaning of the Corporations Act 2001

Our Standards:The Thomson Reuters Trust Principles.
0 : 0
  • narrow-browser-and-phone
  • medium-browser-and-portrait-tablet
  • landscape-tablet
  • medium-wide-browser
  • wide-browser-and-larger
  • medium-browser-and-landscape-tablet
  • medium-wide-browser-and-larger
  • above-phone
  • portrait-tablet-and-above
  • above-portrait-tablet
  • landscape-tablet-and-above
  • landscape-tablet-and-medium-wide-browser
  • portrait-tablet-and-below
  • landscape-tablet-and-below