Digi Communications : 2018 preview: good results but limited upside

Publication date 10/01/2018 08:50 - Writing date 10/01/2018 08:08 - / - FY 2017 preliminary results 14 February 2018 - - - - - - - - - - - - - - - - - - - - > - We are optimistic regarding operating trends in 2018 - Our positive view of Digi's operating momentum remains unchanged. The slowdown in earnings growth seen in Q3 2017 (sales up 8.5% after +11% in Q2, EBITDA up 9.2% after +14%, +19k mobile net adds in Romania after +76k) was largely due to reduced commercial intensity in Romania during the quarter, which could ramp up again. The positive points are numerous: growth in internet (Romania +5% YoY, Hungary +6%) & cable TV subscriptions (Romania +7%, Hungary +10%), jump in the mobile subscriber base in Spain (+36%) and Italy (+114%) and steady consolidated EBITDA margin (32.1% vs. 32% in Q3 2017), with improved profitability of existing mobile services offsetting the preparation costs for the future mobile offer in Hungary. We forecast sales growth of 9% in 2017 and 15% in 2018 (+7% excluding Invitel) and EBITDA growth of 8% in 2017 and 15% in 2018 (+7% excl. Invitel). - Weak FCF and the ongoing acquisition of Invitel's residential business in Hungary limit scope for deleveraging - Credit metrics are expected to benefit from increased EBITDA, FCF tiptoeing into positive territory (€ 20m forecast in 2017 and € 4m in 2018 vs. -€ 10m in 2016) as well as modest shareholder payouts (expected dividend payout of € 4m in 2018). However, we expect a  virtually steady net leverage ratio (2.7x forecast in 2017 and 2.8x in 2018 vs. 2.9x in 2016) factoring in the planned acquisition of Invitel in Q1 2018 for around € 140m and the absence of significant FCF (substantial capex, representing about 25% of sales). - We are reiterating our Stable credit opinion and are lowering our market recommendation to Reduce vs. Buy - We still believe that the impact on net leverage of the group's expansion in Hungary (new mobile offering, purchase of Invitel's residential business) will be offset by further earnings growth in 2018 and we reiterate our Stable credit opinion. Conversely, we are lowering our market recommendation to Reduce (vs. Buy) given:? Limited upside potential after a strong showing in 2017 (tightening of 138bp vs. only 49bp for the JPM 'BB' index) and a 'BB-' rating assigned by S&P in April 2017. The z-spread of the 2023 bonds (220 bp) is lower than that of other bonds in the cable sector which are callable in 2019 or early 2020 (save the Unitymedia 2025 notes): 305 bp for SFRFP 5.625% 2024 (B1 neg./B +neg), 310 bp for ADRBID 4.375% 2022 (B2/B) and 265 bp for ZIGGO 3.75% 2025 (B1/BB-).? Potential tap of the 2023 notes. In October 2017 Digi secured a € 200m one-year bridge loan (renewable for a further 6 or 12-month period) of which € 140m will be used to finance the Invitel deal. The company would like to refinance this loan with local currency debt, but should funding on this market fall short, Digi may have to issue a tap on the 2023 paper to cover all or part of this amount.? Risk related to the probe into alleged corruption, although the company views this risk as limited (potential fine of up to € 3m according to Digi).