In the wake of the $6.8 billion Verizon purchase of MCI, Chicago-based Fitch Ratings has placed the “A+” rating on Verizon Global Funding's outstanding long-term debt securities on Rating Watch Negative, and the “B” senior unsecured debt rating of MCI, Inc. on Rating Watch Positive.
Verizon Communications will acquire MCI for approximately $4.8 billion in common stock and $488 million in cash.
Including MCI’s estimated net debt of approximately $4 billion at the time of the close of the transaction, the total value of the transaction is approximately $9.3 billion. MCI, prior to the close of the transaction, will pay out quarterly and special dividends of $4.50 per share, or $1.463 billion, to its existing shareholders.
The Rating Watch Negative also applies to the existing long-term debt of other Verizon subsidiaries. The “F1” ratings assigned to Verizon Global Funding and Verizon Network Funding are not on Rating Watch Negative and have been affirmed.
Fitch Ratings is a global rating agency providing credit opinions. Dual-headquartered in New York and London Fitch Ratings is a wholly owned subsidiary of Fimalac, S.A., an international business support services group headquartered in Paris.
Verizon Global Funding primarily funds the nonregulated operations of Verizon. Verizon Global Funding is a subsidiary of Verizon, and benefits from a support agreement with Verizon. Verizon Communications' implied senior unsecured rating is also “A+.”
Fitch officials say the rating action reflects the need to evaluate the moderately higher business risk profile of Verizon following its acquisition of MCI. In addition the ratings agency considered the potential synergies to be achieved, the outcome of the regulatory approval process and the potential for other bids to arise for MCI when assigning the ratings.
Taking into account the remaining cash on MCI's balance sheet, the transaction is not expected to have a material effect on Verizon's credit protection measures. Verizon's debt-to-EBITDA in 2004 was 1.4 times (x) and on a stand-alone basis is expected to improve slightly in 2005, even allowing for a 10% increase in capital spending and spending on spectrum acquisitions totaling $3.5 billion or more.
MCI's EBITDA is expected to continue to decline in 2005, although its financial flexibility remains adequate given its estimated year-end cash balance of $5.5 billion.
Fitch cautioned that business risk elements surrounding the transaction include the weak fundamentals of the long distance industry, the risk that anticipated synergies are materially less than originally contemplated, and the impact of the integration costs on the combined companies' cash flow. As with other long distance carriers, MCI's revenues have declined in recent years due to extreme pricing pressure for its products and services. MCI also has suffered from a lack of growth opportunities in its core business.
The rating firm also noted that at this time it has not been disclosed if Verizon will guarantee or legally assume MCI's outstanding debt. Without a guarantee, MCI's debt would likely be upgraded to two notches below Verizon's rating, but the notching could be more or less depending on an evaluation of the integration of MCI's assets into Verizon's operations.
A critical consideration in Fitch’s rating of Verizon is that Verizon's revenue mix is becoming increasingly oriented toward growth areas, with 39% of its total revenues derived from rapidly growing Verizon Wireless, and an additional 14% of its revenues coming from wireline growth areas such as long distance service, high-speed data services, and initiatives in the business market. The proportion of these revenues in the mix is expected to continue to grow, primarily as a result of the strong performance of Verizon Wireless.
Verizon's liquidity is strong, as it has an undrawn $5 billion credit facility to back its commercial paper. The facility expires in June 2005, and has a two-year term-out option.
David Sims is contributing editor and CRM Alert columnist for TMCnet.
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