Fitch Revises TDS Outlook - Analyst Blog

Fitch Ratings has revised the rating outlook for Telephone and Data Systems (TDS) and its wireless subsidiary US Cellular (USM) to Negative from Stable. The international rating agency has affirmed its BBB+ rating for both the entities with respect to issuer default, senior secured debt and revolving credit facility.

This revision in rating outlook reflects TDS’s weak performance in the last quarter across both wireless and wireline segments, which prompted the management to revise the financial guidance for 2009. The company has reported tepid revenue growth in the last quarter, which was accompanied by 21% year over year decline in net profit.

US Cellular was hit by a weak economy and intense competition as it lost 88,000 customers during the second quarter. The company reported decline in ARPU (average revenue per user) as growth in data was offset by the declines in voice and roaming revenue. This declining trend is expected to sustain at least through the second half of 2009.

Post-paid churn increased both sequentially and year over year as US Cellular is being challenged by the increasingly competitive domestic wireless market. Competition has increased due to the roll out of exclusive premium wireless handsets by Tier-1 carriers such as AT&T (T), which markets iPhone 3GS. Based on uncertain economic conditions, US Cellular has withdrawn its net subscriber addition target for the year.

The combined entity has a sound financial profile with over $800 million in consolidated cash and short-term investments supported by healthy free cash flow ($129 million for the first-half 2009). The current consolidated debt level is approximately $1.6 billion (low leverage of 0.4) with no significant near-term maturities.

However, future free cash flow levels are expected to be pressured due to incremental investment in business operations including network expansion and technology upgrades. Moreover, declining roaming revenues and subscriber losses may strain financials moving forward.

Both TDS and US Cellular are pursuing several initiatives to reinvigorate growth. US Cellular continues to expand coverage of its 3G wireless network with a target of achieving 70% penetration of its subscriber population by the end of 2009. On the wireline front, aggressive deployment of “Triple-Play” (bundles voice, high-speed Internet and Dish Network TV) continues to effectively compete with cable TV operators.

Although the ongoing business initiatives look promising, it remains unclear if and when TDS will return to sustainable growth track as the company remains challenged by a volatile economic environment, which may continue to impact subscriber retention moving forward.