Credit Opinion:
Indosat Tbk. (P.T.)
Global Credit Research - 13 Feb 2015Jakarta, Indonesia
Ratings
Category Moody's Rating
Outlook Stable
Corporate Family Rating -Dom Curr Ba1 Issuer Rating -Dom Curr Ba1
Indosat Palapa Company B.V.
Outlook Stable
Bkd Senior Unsecured Ba1
Contacts
Analyst Phone
Nidhi Dhruv/Singapore 65.6398.8315 Annalisa Di Chiara/Hong Kong 852.3758.1537 Laura Acres/Hong Kong 852.3758.1310
Key Indicators
[1]Indosat Tbk. (P.T.)
9/30/2014(L) 12/31/2013 12/31/2012 12/31/2011 12/31/2010
Scale (USD Billion) $2.0 $2.3 $2.4 $2.3 $2.2
EBITDA Margin 48.2% 49.5% 52.9% 52.6% 54.5%
Debt / EBITDA 2.8x 2.9x 2.6x 2.7x 2.7x
FCF / Debt 0.1% -3.2% 2.4% 3.1% -1.5%
RCF / Debt 23.6% 24.3% 26.2% 26.4% 24.7%
(FFO + Interest Expense) / Interest Expense 4.3x 5.0x 5.1x 5.0x 4.3x
(EBITDA - Capex) / Interest Expense 1.8x 0.7x 2.5x 2.0x 1.5x
[1] All ratios are based on 'Adjusted' financial data and incorporate Moody's Global Standard Adjustments for Non-Financial Corporations. Source: Moody's Non-Financial Metrics
Note: For definitions of Moody's most common ratio terms please see the accompanying User's Guide.
Opinion Rating Drivers
- One of the leading mobile operators in Indonesia - Operating environment remains competitive
- Strong shareholder provides rating uplift
Corporate Profile
Headquartered in Jakarta, Indonesia, PT Indosat Tbk is a fully-integrated telecommunications network and services provider. It provides multimedia, data communications and internet services and is also a leading
provider of international call services. With gross revenues of IDR23.8 trillion (approximately US$2.0 billion) for the last 12 months ended September 2014, Indosat is the country's third largest cellular operator by revenue.
Indosat is 65% owned by Ooredoo Q.S.C. (previously known as Qatar Telecom) ("Ooredoo", A2 negative) which is, in turn, 55%-owned by the Qatar Government (Aa2 stable).
SUMMARY RATING RATIONALE
Indosat's Ba1 corporate family rating combines:
1. The company's standalone credit strength which reflects Indosat's established market position, the expectation of moderate growth in the cellular market and an improving macro-environment. However, ongoing competition, especially in the 3G and data space, will continue to exert pressure on Indosat's margins, although we expect margins to remain high for the rating level. Furthermore, exposure to regulatory uncertainties and emerging market risks constrain the rating.
2. The credit support that Moody's believes Ooredoo is likely to provide in a situation of distress.
Moody's considers Indosat as a strategic investment for Ooredoo as (1) Indosat is majority owned by Ooredoo, (2) Indosat is Ooredoo's largest non-domestic business, representing approximately 22% of gross revenue and 24% of reported EBITDA for the nine months ended September 2014 and (3) the existence of cross-default provisions between Ooredoo's debt and Indosat's debt.
Indosat's final rating of Ba1 benefits from a one-notch uplift due to such expected support from Ooredoo.
DETAILED RATING CONSIDERATIONS
ESTABLISHED POSITION IN A GROWING MARKET AND INTEGRATED BUSINESS MODEL UNDERPIN RATING
Indosat is the third largest cellular operator in Indonesia in terms of revenue and subscribers. As of September 2014, Indosat had 21% revenue market share and 21% subscriber market share with 54.2 million subscribers . In comparison, its peer, PT Telekomunikasi Selular Tbk (Telkomsel, Baa1 stable) dominates the market with 139.4 million subscribers while XL Axiata (Ba1 stable) had 58.3 million subscribers over the same period.
As measured by base transceiver stations ("BTS"), Indosat has the third largest mobile network in Indonesia (after Telkomsel and XL), with 37,382 BTS as of September 2014. Approximately, one-third of Indosat's BTS are outside Java which should allow it to capitalize on growth opportunities in these under-penetrated markets.
Currently, Indosat has the largest allocation of 10MHz of the 900MHz spectrum; however its allocation of 3G spectrum (2100 MHz) of 10MHz is lower than XL and Telkomsel, both of which have 15MHz in this bandwidth. In September 2012, Indosat reallocated part of its existing 10MHz of 900 MHz spectrum for 3G services, thus adopting a different strategy for its 3G network expansion.
Indosat has lagged its peers on 3G network coverage owing to its late start. However, we expect the company to continue to invest heavily in its 3G capacity and coverage over the next one to two years, which should enable it to remain competitive against its closest competitor, XL, which finds itself in a position of strength post acquisition of Axis.
At the same time, Indosat continues to execute on its network modernization strategy enhancing service quality and coverage.
Indosat provides a full range of services across fixed-line and cellular networks, however, as of September 2014, its cellular business generated 80.7% of revenues, data and fixed-broadband 14.6%, and fixed-voice services 5.3%. Cellular and fixed voice revenues declined 1.3% and 6.0% year-on-year. This was partially offset by fixed data revenues increasing by 6.6%.
Going forward, we expect revenue growth in the saturated voice and SMS segment to slow to about 5%-6%, but which should be partially compensated by growth in data services revenues of 10%-15%.
RECENT WEAKNESS IN OPERATING AND FINANCIAL PERFORMANCE CAN BE ACCOMODATED For the nine months ended September 2014, Indosat's results were weaker than expected but can be accommodated within its Ba1 rating with a stable outlook.
Reported revenue declined slightly by 0.5% year-on-year (YoY) to IDR17.8 trillion, with declines in voice, SMS and interconnection fees offsetting strong revenue growth in data and value added services. Indosat also recorded a modest 0.8% YoY growth in mobile subscribers. However, blended average revenue per user declined to IDR26,900 from 27,500. Revenue growth and ARPUs should benefit from the data services and 3G revenues. Additionally, Indosat reported a decline of 67% YoY in operating profit, mainly on account of a one-off legal provision relating to fine from the government. At the same time, Indosat's reported EBITDA and EBITDA margin declined to IDR7.6 trillion and 42.9% from IDR8.0 trillion and 44.8% YoY, respectively.
We expect a gradual contraction in EBITDA margins as the industry matures, and mobile penetration deepens, leading to intensified competition. Margin contraction will be further intensified by increasing data revenues, however, we note that Indosat's adjusted EBITDA margin (about 48% for the last twelve months ended September 2014) remains strong for its rating category and compares favorably on a global basis.
As of 30 September 2014, Indosat's leverage - in terms of adjusted gross debt/EBITDA - declined slightly to 2.8x from 2.9x as of December 2013, with approximately 49% of Indosat's total debt denominated in US dollars. While Indosat has about USD490 million of principal and interest hedges in place as of September, we note that these hedges have short tenors, and are reliant on the company's ability to roll-over contracts in a timely manner. Nonetheless, the cash impact of any currency exposure is still some time off as approximately 74% of this is the USD650 million bond which only matures in 2020. Hence, the company has time at hand to rebalance its debt mix or resort to hedging more foreign currency debt.
Management has lowered its capex guidance for 2014 to IDR7-8 trillion from its earlier IDR8-9 trillion guidance, as the company has now completed a majority of its network modernization program, and rolled out 3G in the major cities in Indonesia. Capex for the nine months ended September 2014 was IDR4.8 trillion.
We expect capex to remain elevated to support further network modernization and spectrum refarming. This will continue to pressure cash flow metrics over the next 1-2 years, and we expect the company to remain negative free cash flow over the next 12-18 months. Nonetheless, these investments are imperative to make Indosat's networks 3G-ready and remain competitive. We expect 2015 to a be a continuation of the transformation process that Indosat is going through in order to build out its 3G network, and the company should also start seeing early benefits of these investment on its topline and EBITDA. Material improvement in metrics, however, is only expected beyond FY2015.
THE INDONESIAN WIRELESS MARKET REMAINS COMPETITIVE
With effective penetration, excluding dual SIM cards, in the 80-85% range, we believe that market conditions remain conducive for organic revenue growth, although at a more moderate rate than before, and that the industry will remain competitive as operators vie for subscribers.
Despite the competitive operating environment, we expect large GSM operators such as Indosat, Telkomsel and XL to remain rational with regard to pricing strategies and limit the subsidizing of starter-pack SIMs, which have been unprofitable in the past. Indonesia's price war of 2007/2008 and the brief price war in 2010 showed that any gains in subscribers resulting from aggressive price cuts did not provide accretive gains in earnings; rather, they required operators to accelerate capex at the expense of margins and financial metrics.
We expect revenues for Indonesian cellular operators to grow 6%-8% in 2015, driven by double digit growth in data revenues and higher smartphone penetration rates. Revenue growth will be flat-lining for the saturated voice and SMS segment. As data revenues rapidly substitute voice and SMS revenues, we expect Indonesian cellular operators to become more competitive on data services. However, despite some price competition for data services in the latter half of 2012, our expectation is that the key operators will remain prudent in their pricing plans.
Indosat has maintained an adequate liquidity and financial position for its rating category, with adjusted debt/ EBITDA of about 2.8x for the 12 months ended September 2014.
Indosat neared its maintenance covenant limits in 2009, but since then it has demonstrated a track record of maintaining adequate headroom which we believe to be sustainable. Our expectation is for Indosat to pursue prudent liquidity and covenant management.
Indosat's cash balance of IDR2.3 trillion as of September 2014, along with our expectation of operating cash flow of around IDR8.5-9.5 trillion in the next 12 months, will be sufficient to cover IDR7-8 trillion in capex. Our
expectation is for Indosat to refinance the majority of its scheduled debt maturities of about IDR4.6 trillion in the next 12 months through additional IDR bonds or bank loans. The company also used part of the proceed of its IDR1.39 billion proceeds received in March 2014 from the sale of its 5% stake in TBI for debt repayment.
In this regard, we draw comfort from Indosat's demonstrated ability to secure financing in both IDR and USD, even during volatile periods in the credit markets, which has helped to substantially reduce refinancing risk in the recent past.
STRONG SHAREHOLDER PROVIDES RATING UPLIFT
Moody's considers Ooredoo's majority stake in Indosat as an important strategic investment that provides Indosat with strong financial resources and industry expertise. It is Ooredoo's largest non-domestic subsidiary,
representing approximately 22% of its gross revenue and 24% of reported EBITDA for the nine months ended September 2014.
Ooredoo, a larger and more geographically diversified telecom operator, enjoys a relatively strong standalone operating and financial profile; it also benefits from strong support from the Government of Qatar, its 55% shareholder.
We view the potential support from Ooredoo positively which results in the one-notch uplift to Ba1 from Indosat's standalone credit strength of Ba2. Further supporting our view is the inclusion of cross-default provisions between Ooredoo's debt and Indosat's debt.
In addition, following covenant amendments in 2009, Ooredoo has a backdoor mechanism to provide Indosat with a subordinate shareholder loan, whose principal value will be excluded from total debt in covenant calculations. Given the existence of a cross-default at Ooredoo, it is in the parent's interest to ensure covenant compliance at Indosat. Moody's considers this cross-default provision to be an important factor in determining Ooredoo's willingness to support Indosat. We note that Ooredoo has the financial flexibility to accommodate any potential capital needs from Indosat; however, in light of Indosat's adequate liquidity and covenant profile, we don't anticipate the need for such support from Ooredoo over the near-term.
Rating Outlook
The stable outlook reflects Moody's expectation that Indosat will maintain its position as a leading mobile operator in Indonesia amid increasing competition for data services, and leverage, in terms of adjusted debt/EBITDA will remain in the 2.5x -3.0x range for the next 12 - 15 months as Indosat continues its high capex for network modernization.
What Could Change the Rating - Up
Further upward rating pressure is limited, given the degree of competition in the Indonesian cellular market and the capex requirements at Indosat to improve its 3G networks. Moody's is also cognizant of emerging market risks which need to be incorporated into the rating.
What Could Change the Rating - Down
Downward pressure on the rating could result from a deterioration in Indosat's standalone credit assessment, such that (FFO + interest expense)/interest expense drops below 3.5x and debt/EBITDA increases above 3.0x on a consistent basis.
Other Considerations
Litigation: In January 2013, Indonesia's Attorney General's Office pressed a corruption case against Indosat and its wholly owned subsidiary, PT Indosat Mega Media ("IM2"), in connection with the use of a 3G operating license. Given the network operator and service provider relationship between Indosat and IM2, the latter leases the cellular network owned by Indosat. The alleged offences are against IM2 not paying upfront fees and frequency right fees for such network utilization. As per representations by Indosat, these views differ from that of the telecommunications regulator, the Minister of Communications and Informatics, who has confirmed that IM2 has not utilized the frequency and is not required to pay the frequency right fees.
In January 2014, the Appellate Court annulled the High Court's decision in July 2013 to fine the company IDR1.35 trillion (US$135 million) and pressed charges against the concerned individual only. However, Indosat remains exposed to some uncertainty and regulatory overhang as the Attorney General's Office has the right to file a fresh case against IM2 reinstating the fine.
As of September 2014, Indosat has fully provided for the disputed fine amount IDR1.35 trillion calculated on a retrospective basis.
Grid-implied rating: In accordance with Moody's global rating methodology for telecommunications companies (refer to Rating Methodology Global Telecommunications Industry, December 2010), Indosat's overall performance measurements and underlying fundamentals (as of September 2014) -- relative to the rating methodology -- indicate a Ba rating category, which is in line with the final rating assigned.
Rating Factors Indosat Tbk. (P.T.)
Global Telecommunications Industry Grid [1][2] Aaa Aa A Baa Ba B Caa Ca Factor 1: Scale And Business Model, Competitive
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