Unitymedia : Relentless growth for Unitymedia

We are confident that operating results will remain positively oriented in coming quarters (we forecast a mid-single digit growth in revenues and EBITDA this year), since ARPU growth (price increases in 1Q17, rising triple-play penetration) and better customer numbers (focus on B2B services, cable network extension) should more than offset the loss of analogue carriage fees from 2H17 onwards. Nevertheless, the net leverage should stay close to 5.0x (5.4x on a reported basis, 4.8x as per covenant definition) owing to heavy payouts to Unitymedia’s shareholder Liberty Global. - We stick to our Neutral recommendation on the secured notes, whose tight spread already factors in the sound operating performance. We also maintain our Buy recommendation on the 2027 senior notes (B3/B, Ytw of 3.5%, Z+301 bp) given their higher exposure to M&A optionality in the mid-term (compared with other Liberty credit groups) and higher upside potential (compared with the secured notes, whose terms include a 10% early redemption clause at a price of 103%). - - >Supporting factors - • Sound operating performance (revenues and EBITDA up +5% in 2016) attributable to higher ARPU and the company’s strong operating leverage. Unitymedia generates best-in-class EBITDA margins (63% in 2016).• Multiple growth drivers should support Unitymedia’s top line, in particular 1/ the up-sell of TV-only customers with bundled offers (triple-play penetration reached 33.7% in 1Q17), 2/ price increases, 3/ untapped mobile (1% of revenues) and B2B (2% of revenues including SoHo customers) markets, and 4/ the cable network extension.• Modern cable network (99% upgraded to Docsis 3.0) that provides a speed advantage over DSL technologies.• Healthy FCF generation (EUR 402m in 2016, down from EUR 493m in 2015).• A potential tie-up between Unitymedia (or its parent company Liberty Global) and Vodafone (Baa1/BBB+) would be positive from a credit perspective. However, a deal is rather unlikely in the near term.Points to watch - • Aggressive financial policy: We expect Unitymedia’s net leverage to remain in the upper end of Liberty Global’s leverage target (4.0x to 5.0x as per covenant definition) as a result of shareholder distributions.• Intense competition, albeit not irrational.• Heavy capex investments (28-30% of sales in 2017, up from 26% in 2015) to support volume growth and expand the cable footprint.• 10% redemption clause at a price 103% on the secured notes. Unitymedia exercised this option in 2015 (2022 & 23 secured notes in EUR) and in 2017 (2023 secured notes).