November 13, 2017 / 2:58 PM / a year ago

Fitch: GTH Buy-Out May Increase Leverage for VEON

(The following statement was released by the rating agency) MOSCOW/LONDON, November 13 (Fitch) Fitch Ratings says the proposed buy-out of Global Telecom Holding S.A.E (GTH) shares not owned by VEON Ltd. may significantly increase the latter's leverage above the downgrade threshold level. Deleveraging may be slow due to limited free cash flow growth resulting from progressive future dividend payments and likely spectrum investments in the near term, including in Bangladesh and Ukraine. The positive impact of deeper integration of GTH into the VEON group, the expected completion of the tower sale in Pakistan and any potential improved access to cash in Uzbekistan may not be enough to offset the higher leverage from the GTH minority buyout. There is still considerable uncertainty about the size and timing of the impact on VEON's leverage from the GTH transaction. VEON has targeted a net debt/EBITDA ratio (as defined by the company) of around 2x over the medium to long term. We will monitor the situation as it develops, as well as any plans the company may have to reduce leverage after the GTH transaction. VEON is proposing to buy out GTH's minority shareholders (42.31% of GTH's total shares) at EGP7.90 per share. A 100% take-up of VEON's mandatory tender offer (MTO) would cost an equivalent of about USD895 million at current exchange rates. We expect the transaction may require regulatory approval before it can proceed. Under Egyptian law, MTOs are open between 20 and 30 Egyptian business days, which implies shareholders could have four to six weeks to participate in the process. The proposed buy-out of GTH's minority shareholders may lead to an increase in Fitch-defined net debt/EBITDA leverage to 2.8x at end-2017 (with Algerian operations deconsolidated and excluding restricted cash in Uzbekistan), above the current 2.2x downgrade threshold. This estimate is based on the most conservative assumption of 100% buy-out offer take-up and takes into account expected proceeds from the tower sale in Pakistan. Our initial scenario analysis shows that VEON's leverage may remain at or above 2.6x at end-2018 assuming no divestments and no significant changes to the company's operating profile. VEON reported leverage of 2.3x net debt/EBITDA under its definition at end-3Q17 (on a last-12-months basis). The company's policy of paying progressive dividends is in our view likely to consume more than 50% of pre-dividend free cash flow, with Fitch-estimated capacity for leverage reduction from internally generated cash flow at around 0.1x on average over 2018-2020. VEON announced its new dividend policy in February 2017. The company has paid USD518 million so far in 2017, including interim dividends announced in August 2017. The Pakistan tower sale is positive for VEON's credit metrics, but Fitch is unlikely to give the full benefit for cash received from it as it treats the service contract as a sale-and-lease-back transaction. Fitch typically capitalises leases for the calculation of lease-adjusted leverage metrics. Although the leverage triggers for VEON are set in terms of adjusted net debt to EBITDA, this is primarily driven by difficulties with deconsolidating Algerian operations for the calculation of FFO. Fitch may therefore add back a certain amount of lease-equivalent debt, adjusted for estimated efficiencies from the transaction, for consistency reasons. We expect the announced USD940 million tower sale to take place before end-2017. Of the PKR79,800 million (USD760 million) cash consideration, PKR69,930 million (USD666 million) is likely to be received at closing, while the rest will be paid within 12 months thereafter. The remaining USD180 million will be in the form of a vendor loan note payable to Jazz at or before three years from closing. Proceeds from the transaction will be used for general corporate purposes, funding recently awarded spectrum and a repayment of outstanding debt, with the remaining amount to be distributed to GTH and Dhabi Group during 2018. Progress with currency liberalisation in Uzbekistan has been slow, and due to the significant size of these cash balances (USD372 million at end-3Q17), VEON's subsidiary Unitel has not yet been able to take advantage of the liberalisation of the currency exchange rules. Fitch will continue to treat cash in Uzbekistan as restricted until there is more clarity that cash can be taken out of the country. The impact of local currency devaluation in Uzbekistan will therefore primarily be from lower US dollar-equivalent EBITDA in this country, with the management-estimated annualised decline of USD175 million-225 million. 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