Telekom Slovenije d.d. -- Moody's confirms Telekom Slovenije's Baa3 ratings; outlook negative

This concludes the review process initiated by Moody's on 6 August 2012.RATINGS RATIONALE

"The rating confirmation reflects that we do not expect Telekom Slovenije's credit standing to materially deteriorate compared with our assumptions for the current rating," says Iván Palacios, a Moody's Vice President - Senior Credit Officer and lead analyst for Telekom Slovenije.

"In particular, the rating confirmation reflects our assessment that Telekom Slovenije has adequate liquidity in the current environment," explains Mr. Palacios. "The company has no capital market debt redemptions until December 2016, when its EUR300 million bond has to be repaid, and as of June 2012 benefited from a large cash and short-term deposits balance of EUR118 million."

Telekom Slovenije's liquidity will further strengthen following the company's successful signing of long-term committed bank facilities amounting to EUR70 million with Slovenian banks, some of which are backed by international banks. This represents a material improvement in Telekom Slovenije's liquidity profile, which has historically been relatively weak for an investment-grade credit because of the reliance on short-term bank facilities, which would expose the company to the risk of non-renewal upon maturity. However, the concentration on domestic banks could prove problematic should the banking sector's financial condition materially deteriorate.

In the absence of a more significant deterioration in operating conditions than currently expected, the company's credit metrics are likely to remain adequately positioned for the Baa3 rating over the medium term, with adjusted debt/EBITDA at around 2.0x and adjusted retained cash flow (RCF)/debt above 35%. However, in light of the Government of Slovenia's decision to increase Telekom Slovenije's dividend distributions, the adjusted RCF/debt ratio may become under more pressure if the company's operating performance weakens beyond Moody's expectations.

Telekom Slovenije's Baa3 rating reflects the company's position as a leading integrated telecom provider in the Slovenian market as well as its presence in the South East Europe (SEE) region, particularly in Kosovo and Macedonia. The rating also reflects the company's sluggish operating performance as a consequence of enhanced competitive and regulatory pressures and an adverse macroeconomic backdrop, which are affecting its growth prospects and operating margins.

Telekom Slovenije is a government-related issuer (GRI), and Moody's overlays the company's underlying credit strength (baseline credit assessment, or BCA, of baa3) with its joint default analysis for GRIs. The final rating of Baa3 currently reflects the high default dependence between Telekom Slovenije and the Slovenian government and Moody's expectation of moderate extraordinary government support being made available if required, on account of the Republic of Slovenia's 72.4% ownership of the company. The final rating does not benefit from any support uplift, as Moody's believes that following its recent downgrade to Baa2 (negative outlook), the Government of Slovenia's ability to support Telekom Slovenije if required has reduced. This partly reflects that the potential need for support from various stakeholders may be increasing, in light of the problems facing the domestic banking sector.

RATIONALE FOR NEGATIVE OUTLOOK

The negative outlook on Telekom Slovenije's ratings reflects the challenging macroeconomic environment affecting Slovenia, where the company is domiciled. In the first half of 2012, Telekom Slovenije generated around 86% of its consolidated EBITDA in Slovenia. Therefore, its ability to decouple from a weak economy and banking sector is very limited. The company's operating performance in Slovenia is likely to continue suffering not only from the adverse economic environment, but also from fierce competition and tough regulation. In Moody's view, these pressures, combined with higher dividends and higher capital expenditure (capex) than in the past, are likely to result in limited free cash flow generation on an annual basis.

The negative outlook also reflects the uncertainties regarding the company's shareholding structure. Moody's notes that over the short to medium term, the government may consider lowering its 72.4% stake in Telekom Slovenije as part of a broader effort to (1) increase the presence of private investors in the shareholding structure of government-related entities, and (2) raise proceeds from its portfolio of state-owned companies.

In addition, the outlook reflects the potential pressures on Telekom Slovenije's liquidity profile if access to capital markets and bank lending becomes constrained as a result of diminished investor or lender confidence in the country. This is relevant for the company because as a result of the expected limited free cash flow generation, it will have to rely on accessing capital and/or bank markets for refinancing its 2016 bond upon maturity.

WHAT COULD CHANGE THE RATING DOWN/UP

Telekom Slovenije's ratings could come under downward pressure if (1) the company's underlying operating performance were to weaken beyond current expectations as a result of macroeconomic or other considerations; or (2) the company were to incur restructuring costs, or make additional material debt-financed acquisitions, investments or cash calls as a result of litigation such that its credit metrics deteriorated (including adjusted RCF/debt sustainably below 35% and adjusted debt/EBITDA trending towards 2.25x). The rating could also come under pressure if Telekom Slovenije's liquidity profile deteriorates significantly, if refinancing risk for the 2016 bond maturity increases or the company's financial flexibility otherwise weakens. Finally, a downgrade of the sovereign rating could have an impact on the rating of Telekom Slovenije.

Moody's does not currently anticipate upward rating pressure in light of the negative outlook, and the weak macroeconomic conditions in Slovenia. The development of positive pressure on Telekom Slovenije's rating will require (1) the macroeconomic and operating environment to stabilise; and (2) the company to sustain credit metrics above current levels, including adjusted debt/EBITDA trending towards 1.5x, and generation of substantial positive free cash flow on a sustainable basis. In addition, upward rating pressure would also require higher visibility with regard to Telekom Slovenije's refinancing plans for the 2016 bond maturity and a greater likelihood of a favourable outcome of the company's ongoing litigation processes.

PRINCIPAL METHODOLOGY

The principal methodology used in rating Telekom Slovenije d.d. was the Global Telecommunications Industry Methodology published in December 2010. Other methodologies used include the Government-Related Issuers: Methodology Update published in July 2010. Please see the Credit Policy page on www.moodys.com for a copy of these methodologies.

Domiciled in Ljubljana, Slovenia, Telekom Slovenije is an integrated telecommunications provider in Slovenia, with a presence in Kosovo, Albania, Macedonia, Bosnia and Herzegovina, Croatia and Gibraltar. In 2011, Telekom Slovenije reported operating revenues of EUR825 million and EBITDA of EUR256 million. The Republic of Slovenia directly and indirectly owns 72.4% of the company.

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Ivan Palacios VP - Senior Credit Officer Corporate Finance Group Moody's Investors Service Espana, S.A. Calle Principe de Vergara, 131, 6 Planta Madrid 28002 Spain JOURNALISTS: 44 20 7772 5456 SUBSCRIBERS: 44 20 7772 5454 Paloma San Valentin MD - Corporate Finance Corporate Finance Group JOURNALISTS: 44 20 7772 5456 SUBSCRIBERS: 44 20 7772 5454 Releasing Office: Moody's Investors Service Espana, S.A. Calle Principe de Vergara, 131, 6 Planta Madrid 28002 Spain JOURNALISTS: 44 20 7772 5456 SUBSCRIBERS: 44 20 7772 5454 (C) 2012 Moody's Investors Service, Inc. and/or its licensors and affiliates (collectively, "MOODY'S"). All rights reserved.

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