Standard & Poors downgrades Telkom

By Paul Vecchiatto, ITWeb Cape Town correspondent

Johannesburg, 18 Dec 2008

The downgrading of Telkom`s outlook by international ratings agency Standard & Poors has confirmed what the equity market has suspected about the telecommunications utility, says an equity trader.

Yesterday, Standard & Poors issued a statement saying it has lowered its outlook for Telkom from "positive" to "stable", on concerns about it implementing its new business strategy following its sale of network operator Vodacom.

"We knew that Vodacom was always Telkom`s cash cow and now Telkom has to play catch-up in many other areas to make up for that future loss of revenue and profit," the equity trader says.

In mid-morning trade, Telkom was trading at R109.57, a loss of 1.1% on the day, which was described by equity traders as "insignificant", as there was little activity on the market.

"Ratings agencies tend to be market followers, rather than market leaders in terms of their statements, but they are important from an international investors` point of view," another trader says.

Outlook revision

Standard & Poors` credit analyst Guillaume Trentin says: "The outlook revision reflects the reduction of Telkom`s business portfolio and uncertainties in implementing the company`s future mobile business strategy following the planned disposal of its 50% stake in leading mobile operator Vodacom Group in mid-2009."

Trentin also said Standard & Poors anticipates a deterioration in Telkom`s free cash-flow generation in the coming years, diminishing the likelihood of an upgrade in the near-term.

"Given Telkom`s planned increase in capital expenditures and potential acquisitive strategy, we will closely monitor the company`s future financial policies, although we expect them to remain prudent. In our view, the company`s operating cash-flow generation and financial profile should remain adequate for the ratings," he says.

Telkom is the dominant South African fixed-line telecom services provider - with 4.5 million fixed-access lines.

Standard & Poors says the increasing growth in data mitigates the downward trend in voice traffic, enabling low-single-digit revenue growth in the fixed-line segment. The company`s reported profit margins remain adequate.

"Telkom will face the challenge of developing a profitable mobile business in an intensely competitive market over the coming years, while preserving the performance of its fixed-line business," Trentin says.

Prudent finances

Standard & Poors says the ratings on Telkom continue to incorporate the company`s leading position in the South African fixed-line telecoms market, good cash-flow generation, and expected maintenance of a prudent financial profile. The ratings are constrained, however, by Telkom`s narrowing business portfolio, mounting competitive and regulatory pressures, and exposure to the hurdles of operating in SA, the ratings agency says.

As of 30 September, Telkom reported gross consolidated financial debt of about R19.3 billion, of which R1.7 billion was foreign debt.

"The stable outlook reflects our expectations that Telkom`s fixed-line operations will continue to perform well under a somewhat supportive market structure, and generate solid cash-flow from operations as needed to cover increasing network investments," Trentin says.

Standard & Poors also expects the company to maintain good profitability and conservative capitalisation measures after selling its Vodacom stake, in line with management`s historical financial policy, he says.

"Conversely, a pronounced deterioration in Telkom`s fixed-line business growth and profitability, and/or a markedly more aggressive combination of capital expenditures and shareholder distributions, could lead us to revise the outlook to negative and/or put downward pressure on the ratings.

"We believe that rating`s upside is remote at this stage given the expected narrowing of the business portfolio in 2009 and the uncertainties concerning Telkom`s future business performance and rate of investment in mobile activities," Trentin says.