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Fitch Upgrades Virgin Media to 'BB-'; Outlook Stable
June 8, 2015 / 4:52 PM / in 2 years

Fitch Upgrades Virgin Media to 'BB-'; Outlook Stable

(The following statement was released by the rating agency) LONDON, June 08 (Fitch) Fitch Ratings has upgraded Virgin Media Inc’s (VMED) Long-term Issuer Default Rating (IDR) to ‘BB-’ from ‘B+'. The Outlook is Stable. At the same time, the agency has upgraded the instrument rating of the unsecured notes issued by Virgin Media Finance Plc to ‘B’ from ‘B-'. A full list of rating actions is at the end of this comment. The upgrade reflects Fitch’s view of VMED’s ability to generate free cash flow (FCF) and support a leveraged balance sheet. VMED has a strong operating profile as the country’s leading alternative telecoms infrastructure, with well-established levels of customer penetration, service per customer metrics and high average revenues per user (ARPU). These metrics provide visibility over the project economics of Project Lightning, VMED’s plan to cable an additional 4 million UK homes. While Lightning is expected to supress FCF for three to four years from 2016, underlying FCF generation is expected to remain strong. VMED’s ownership by Liberty Global means a leverage policy that in Fitch’s view is likely to keep funds from operations (FFO) net leverage towards the higher end of the 4.5x-5.0x range. However, it also provides procurement and financing synergies and could be expected to provide financial resources in the event of company specific or capital market stress. The strength of underlying cash flows and the scalability of Lightning capex, suggest an ability to deleverage in times of capital markets stress. Fitch considers this a differentiating factor relative to businesses with similar leverage but no underlying cash flow or organic ability to deleverage. KEY RATING DRIVERS Strongly Performing Cable Business VMED’s cable operations have the strong operational profile of a number of European cable businesses, where cable’s technological advantage, targeted network build and rational approach to pricing and content aggregation, position the sector and company to continue to deliver top-line growth and healthy cash flows. Increased network investment will suppress cash flow through to 2018 or 2019; while the medium-term visibility of project returns and the scalability of Project Lightning moderate capex risk. VMED benefits from being part of the Liberty Global group, which in Fitch’s view allows procurement and financing synergies as well as product strategy and technology advantages.

Leading UK Alternative Infrastructure VMED is the leading alternative telecoms infrastructure in the country, currently passing approximately 45% of UK homes and premises with a high capacity DOCSIS 3.0 upgraded fibre network. Customer penetration of 41% and consistently strong ARPUs underpin what Fitch considers a visible cash flow. Commercially negotiated, wholesale access to key UK content such as Sky and BT sports channels, along with key studio relationships, allow VMED to position itself as a communications distribution platform; led by the speed of its broadband offering and the widest availability to the country's pay TV content. Speed not Content Lead Pay-TV is important to its service offering, but VMED's leading business strength is the technical advantage of the cable network. Offering speeds of up to 152Mb, and capable of over 350Mb, its commercial offer is twice the speed available over BT's VDSL network. As at 1Q15, 36% of its broadband customers were taking a 100Mb service confirming a good level of demand for high data speeds. In Fitch's view, this is a function of the increase in multiple device (tablets, WiFi connected smartphones, smart TVs) households. DOCSIS 3.1, which is expected to be commercially available in 2016, will allow VMED to offer initial speeds to 1.0Gb or above. Project Lightning and Cash flow Project Lightning is VMED's plan to cable a further 4 million UK homes and premises over the next four years at a total cost of GBP3.0bn - roughly GBP2.4bn of which are the fixed costs of passing targeted premises, the variable balance being customer equipment and line drops. Management has stated a year five target of incremental annual revenues of GBP1.0bn and a margin contribution of 60%. Targeting penetration rates of roughly 40% by year three and initial ARPUs of GBP45, initial trials are reported to show penetration already 20% within months. Fitch believes management will take a rational approach to the programme and scale investment to meet demand. Free cash will be constrained over the initial three years as the project takes time to build incremental scale and build costs are front-end loaded. However, the project's economics appear rational, visible and scalable. Consolidating but Rational Market Changes in the UK telecoms market include the planned acquisition of leading mobile operator EE by BT. Of less direct impact to VMED is Three's acquisition of O2 UK. Mobile market consolidation should support a stabilising mobile market. The BT/EE transaction will boost the incumbent's competitive position materially, although this is perhaps more a threat to Sky in terms of its retail offer and Vodafone in the enterprise segment. However, it will give BT a strong position from which to develop quad-play, which is a more direct threat to VMED given its ability to offer quad-play at present. Fitch considers that although the UK has always been a competitive market, competitive behaviour has tended to be rational. BT's investment in sports has added increased competition for key content rights and expanded choice in a highly penetrated pay TV market. VMED's secular approach to content, acting as a distribution platform rather than rights acquirer and broadband-led strategy, provide a degree of insulation from these tensions. Liberty Global Leverage Policy While Project Lightning will supress cash flow generation for three to four years from 2016, VMED displays solid underlying cash flow. Including Lightning, Fitch expects FCF as a percentage of sales (FCF margin) to fall to mid-to-high single digit levels over this period. While at this level an acceptable performance - underlying FCF margin (stripping out the capex effect of Lightning) is forecast in the mid-teens. In this context, VMED's leverage is more a function of how management chooses to capitalise the balance sheet, with cash flow generation otherwise allowing for organic deleveraging. Ownership by Liberty Global, where management typically targets net debt/EBITDA at up to 5.0x, is therefore the underlying driver to capital structure. With limited operating leases Fitch expects FFO net leverage to trend in a range of 4.75x and 5.0x and to possibly exceed 5.0x in 2016 given the peak effect on cash flows of Lightning. Liberty Global is committed to total buybacks of USD4.0bn between 2015 and 2016, which will drive cash repatriation from its major cable assets. In 2014 VMED accounted for roughly one-third of Liberty Global's consolidated EBITDA and is therefore a core contributor to group cash flow. Notching of Secured and Unsecured Debt The upgrade of VMED's IDR leads to a transitional approach to notching the company's debt, moving from a bespoke to generic approach to recoveries. In line with Fitch's notching criteria, the company's secured debt remains rated 'BB+', with a rating of 'BBB-' for this asset class generally considered unlikely unless the IDR is 'BB+'. Notching of the unsecured bonds is maintained at two notches down and the bonds have therefore been upgraded to 'B.' Compression of the notching for the unsecured notes has not been applied given the high level of prior ranking debt (equivalent to roughly 4.0x Fitch forecast 2015 EBITDA) in the capital structure. KEY ASSUMPTIONS Fitch's key assumptions within the rating case for VMED include: - Modest revenue growth and stable margins in established UK and Irish operations. - Project Lightning financials to grow broadly in line with management targets; generating meaningful incremental negative EBITDA by 2017 and positive EBITDA less capex by 2019. - Capital intensity forecast at the higher end of guided 25%-28% from 2016 through 2020. - FFO net leverage to be maintained at the higher end of a range of 4.5x-5.0x through cash repatriation/repayment of parent company loan. RATING SENSITIVITIES Future developments that may, individually or collectively, lead to negative rating action include: - FFO adjusted net leverage that was expected to remain above 5.25x on a sustained basis. - FFO fixed charge cover that was expected to remain below 2.5x on a sustained basis. - Material decline in operational metrics, as evidenced by declining KPIs such as customer penetration, revenue generating units per subscriber and ARPUs. Evidence that investment in Project Lightning is being scaled to proven demand will be an important operating driver. Future developments that may, individually or collectively, lead to negative rating action include: -A firm commitment by Virgin Media that the company is adopting a more conservative financial policy (for example, FFO adjusted net leverage of 4.5x) could lead to positive rating action. - Continued sound operational performance, as evidenced by KPI trends and progress in both investment and consumer take-up with respect to Project Lightning. LIQUIDITY Fitch considers liquidity sound with unrestricted cash and cash equivalents of GBP34m and availability under its revolving credit facility of GBP660m as at YE14. Year-end cash has been materially higher in prior years (YE13: GBP341m) and the company generates healthy levels of pre-distribution FCF. FULL LIST OF RATING ACTIONS Virgin Media Inc. --Long-term IDR upgraded to 'BB-' from 'B+'; Stable Outlook --Short-term IDR affirmed at 'B' Virgin Media Investment Holdings Limited --Senior secured debt rating affirmed at 'BB+', 'RR1' Virgin Media Secured Finance Plc --Senior secured debt rating affirmed at 'BB+', 'RR1' Virgin Media Finance PLC --Unsecured debt rating upgraded to 'B' from 'B-', 'RR6' Contact: Principal Analyst Jonathan Levy Analyst +44 20 3530 1701 Supervisory Analyst Stuart Reid Senior Director +44 20 3530 1085 Fitch Ratings Limited 30 North Colonnade London E14 5GN Committee Chairperson Nikolai Lukashevich Senior Director +7 495 956 9968 Media Relations: Peter Fitzpatrick, London, Tel: +44 20 3530 1103, Email: Additional information is available on 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 Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage (pub. 28 May 2014) here Recovery Ratings and Notching Criteria for Non-Financial Corporate Issuers (pub. 18 Nov 2014) here Additional Disclosures Solicitation Status here <a href=" =2&detail=31">Endorsement Policy 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 WEBSITE '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. 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.

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