14th April 2020

BOUGHT: TalkTalk 3.875% Feb 2025, YTM 4.2%

The credit market has undergone a severe repricing since the coronavirus pandemic led to lockdowns across most of the global economy. The IG market has benefited more immediately from the various stimulus packages announced, which has included additional buying by the ECB of IG debt through the CSPP.

Spreads have bounced back and we have seen a near 25% retrenchment in the high yield market as well. That comes even after Moody’s and S&P have suggested a global default rate, at year-end, of around 10%, from 3.5% currently. Clearly, there has been some forced selling.

Illiquid secondary markets have resulted in a disproportionate widening in spreads and the HY primary market has been closed since February 20, in Europe. Still, though, there are some opportunities.

As a retail investor looking for sub-par paper deemed ‘money good’ with a decent running yield, at creditmarketdaily.com we have decided to take advantage of the distress in the HY market by initiating our entry into the space.  We have done this by adding the TalkTalk issue into a new investment portfolio on the WiseAlpha platform.

Also see: Our bond portfolio

Here’s why we’ve chosen TalkTalk:

Business Description

Founded in 2003 and headquartered in Salford, Manchester TalkTalk is the leading provider of ‘value for money’ fixed line and broadband services for residential and business customers in the UK. As of February 2020, its network services covered ca.96% of UK homes and had ca.12 million customers.

The group commands a 12% market share in the residential broadband market and benefits from a low level of customer churn (~1.20% in the 3 months to Feb 2020). Broadband rivals for the UK market include BT, Sky and Virgin Media.

Ownership

Listed on LSE with a market capitalisation of £997m (as of 13 April 2020) largest shareholders: Charles Dunstone (29.7%), Toscafund Asset Management (26.9%), Ross David Peter John (11.23%).

Capital Structure Summary

  • £640m RCF, maturity 2022 (drawn £380m) * as of Feb 2020
  • £575m of existing notes
  • £62m other Financial Indebtedness
  • £40m Leases

Latest Financials

FY19 revenues were marginally higher year-on-year at £1.609bn. TalkTalk defines on-net revenue as fixed-line connectivity services provided on its own network, whilst off-net is revenue generated by lines leased from BT Wholesale. Corporate segment is B2B customers under the TalkTalk business brand (basic phone and broadband).

TalkTalk Bonds – FY19 Revenue

In the 12 months to Sept 19, an EBITDA margin of 15.8% (increasing from 12.6% FY18) is encouraging, whilst FY2020 capex at £104m is an increase of 6.5% year-on-year. At Sept 2019 net leverage was 3.3x, but has since declined to 2.4x (after refinancing and fibre nation sale) – which is low.

FY19 EBITDA £237m (from £203m for FY18) and strong interest coverage ratio of 5.8x. EV/EBITDA at 8.6x provides a large equity cushion.

Credit Negatives

  • The company always pay a dividend – each year!
  • UK broadband is extremely competitive with strong competition from BT and Sky.
  • Limited FCF generation as there is a potential for higher capex to invest in Fibre.
  • It is the 3rd (out of the 8) most complained about broadband provider according to the UK regulator, OFCOM.

Credit Positives

  • Strong fibre net-additions, month-on-month.
  • Uniquely positioned to benefit from significant growth and demand in UK broadband market. UK Government policy is supportive of full fibre rollout and business strategy.
  • TalkTalk used the £575m notes to pay down RCF.
  • On 1 March 2020, the £200m sale of Fibre Nation was concluded – with the company pledging to use the money to further pay down the RCF and reduce leverage.
  • Net leverage has decreased to 2.4x, at March 2020. This is currently relatively low for a BB- rated entity and there is some potential for a rating upgrade.
  • Management have shown in the past the willingness to use the equity market to fund themselves. 80% of FY19 revenues were generated from their owned network.

Links / References

  1. Our Bond portfolio
  2. TalkTalk prospectus
  3. TalkTalk Website
  4. 2019 TalkTalk Telecom Group PLC Annual Report.

Suki Mann

A 30+ year veteran of the European corporate bond markets and in his role as Credit Strategist, Dr Mann has been ranked number one in the Euromoney Investor Survey eight times in ten years. Previously with Societe Generale and UBS, he now shares views of events in the corporate bond market exclusively here on CreditMarketDaily.com.