Fitch Rates Discovery's Proposed Note Offering 'BBB'
CHICAGO--(BUSINESS WIRE)--Fitch Ratings has assigned a 'BBB' rating to Discovery Communications, LLC's (Discovery) proposed issuance of Euro denominated senior unsecured notes due 2022. The Rating Outlook is Stable.
Proceeds from the offering are expected to be used to fund the purchase of a controlling interest in Eurosport International (Eurosport) and for general corporate purposes. The notes will be guaranteed on a senior unsecured basis by Discovery Communications, Inc. (Guarantor). As of Dec. 31, 2013, Discovery had approximately $6.5 billion of debt outstanding.
KEY RATING DRIVERS:
--Issuance is in line with Fitch's expectations given Discovery's cash requirements related to the pending acquisition Eurosport from Television Francaise 1 SA(TF1);
--The incremental investment in Eurosport is consistent with Discovery's strategy to grow and improve the performance of international operations;
--Strong portfolio of cable networks support the ratings;
--Discovery's leverage was 2.62x as of Dec. 31, 2013. Fitch anticipates the Eurosport acquisition will be neutral to the credit profile and consistent with the current ratings.
--Discovery retains ample flexibility within the ratings for share repurchases and moderate acquisition activity.
Discovery will issue the senior notes under the senior indenture dated August 19, 2009. The notes will rank pari passu with Discovery's existing and future unsecured and unsubordinated indebtedness. Similar to the existing bonds, covenants are limited. There is a limitation on liens of up to 10% of the Guarantor and its subsidiaries' total consolidated assets (in addition to standard carveouts). Additionally, there is a change of control provision that is triggered if any person becomes the beneficial owner of 50% or more of the voting stock of Discovery or the Guarantor and the ratings on the newly issued notes are downgraded below investment grade.
Other change of control triggers include a majority change in the Board of Directors, the dissolution of the Guarantor, and/or if all or substantially all of Discovery's assets are sold, if any of the aforementioned are followed by a downgrade below investment grade. Fitch notes that there are cross default/cross acceleration provisions in regards to debt in excess of $100 million.
Total debt outstanding as of Dec. 31, 2013 equated to $6.5 billion reflecting a 24% increase relative to debt outstanding as of year-end 2012. Absent further debt issuance Fitch expects leverage will trend down to 2.5x by the end of 2014. Discovery generated approximately $1.2 billion of free cash flow (FCF; defined as cash from operations less capital expenditures and dividends) during 2013, modestly higher when compared to FCF generated during 2012. Fitch believes Discovery's high operating margins and the low capital intensity associated with the cable programming business positions the company to generate annual FCF of over $1 billion.
Debt incurrence to fund share repurchase activity is incorporated into ratings up to Fitch's 3.0 times (x) leverage threshold for Discovery's 'BBB' rating. Fitch believes Discovery's credit profile has sufficient flexibility. This is given Discovery's solid free cash flow (FCF), strong credit protection metrics for the ratings category, and a minimal near-term maturity schedule, to accommodate continued share repurchase activity at the current ratings.
In terms of capital allocation, Discovery's priority remains investing in its core business though programming existing networks or through acquisitions. While large-scale M&A activity is not anticipated given the dearth of cable network assets available for sale, Fitch believes there is room at the 'BBB' level to absorb some mid-sized acquisitions, underscored by Fitch's current belief that the company would restore leverage to under 3.0x within a 12-month timeframe.
The share repurchase program is consistent with Fitch's expectation for FCF to be directed towards share repurchase and acquisitions. Discovery's repurchase of common and preferred stock totaled $1.3 billion ($256 million preferred stock repurchase was made outside of Discovery's authorized stock repurchase program) during 2013. As of Feb. 3, 2014, Discoveryhad approximately $2 billion of capacity remaining under its share repurchase authorization, of which $470 million expires on Dec. 11, 2014 and the remainder expires on Feb. 3, 2016. Fitch anticipates that share repurchases during 2014 will be substantially similar to 2013 levels.
Discovery's ratings are supported by the company's strong core brands - in particular the strength of the company's Discovery and TLC brands, both of which reach nearly 100 million subscribers across the U.S. and continue to generate solid ratings. In addition, the ratings incorporate the revenue and growth prospects of Discovery's international business segment, global carriage, leverageable content, robust free cash flow (FCF) and solid credit metrics. Ratings concerns continue to center on the significant contribution of cyclical advertising revenue, a competitive landscape of similar programming on other cable channels, the general volatility associated with hit-driven content and the company's dependence on the Discovery and TLC brands.
Eurosport's flagship network reached 133 million homes across 54 countries in 20 languages. The incremental investment was based on Eurosport's enterprise valuation of approximately $1.2 billion EUR 902 million). The transaction marks an acceleration of the original agreement terms by nearly one year whereby Discovery had the right to purchase a controlling interest in Eurosport beginning December 2014. TF1 retains its right to put its remaining interest in Eurosport to Discovery through June 2015. The acquisition, expected to close during the first half of 2014, increases Discovery's ownership interest in Eurosport to 51% from 20%. Cash requirement related to the investment is expected to be approximately $400 million.
Fitch views Discovery's liquidity profile as solid, particularly given the absence of maturities until $850 million comes due in 2015 and anticipated FCF generation. Discovery's liquidity position is further supported by the $408 million of cash on hand as of Dec. 31, 2013, and $1 billion available under the undrawn revolving credit facility (RCF) maturing October 2017.
--An upgrade is unlikely over the medium term, given the company's stated leverage targets and the limited depth of brands;
--Future upgrades would only be considered from a combination of the following: 1) an explicit commitment from management and a compelling rationale for Discovery to operate at a more conservative leverage metric and 2) material viewership on new channel launches that will drive increased advertising and affiliate fees and enhance revenue diversity.
--Negative ratings pressure could result from a more aggressive financial policy with more tolerance for leverage.
--Rating pressure could also result from meaningful customer defections to free viewing platforms or significant margin and FCF pressure from higher programming costs.
Fitch rates Discovery as follows:
--Senior unsecured bank facility 'BBB';
--Senior unsecured notes 'BBB'.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:
--'Corporate Rating Methodology' (Aug. 5, 2013).
Applicable Criteria and Related Research:
Corporate Rating Methodology: Including Short-Term Ratings and Parent and Subsidiary Linkage