Fitch sees Tribune default a “real possibility”


You can bet that Tribune CEO Sam Zell will get some questions in his quarterly conference call today with lenders and bond analysts about a move by Fitch Ratings to cut the company’s debt ratings and warn of a “real possibility” that Tribune could default on its $13.4 billion in debt.

Tribune reported its Q2 results nearly two weeks ago. Zell has made a practice of waiting to do his quarterly conference call, which gives people time to go over the numbers. In this case, it gave Fitch time to review the numbers as well – and it found reason to worry.

Here’s some of what the ratings agency had to say.

Fitch Ratings has downgraded the following ratings on Tribune Company (TRB):

–Issuer Default Rating (IDR) to ‘CCC’ from ‘B-‘;

–Senior guaranteed revolving credit facility to ‘CCC/RR4’ from ‘B/RR3’;

–Senior guaranteed term loan to ‘CCC/RR4’ from ‘B/RR3’;

–Senior unsecured bridge loan to ‘CC/RR6’ from ‘CCC/RR6’;

–Senior unsecured notes to ‘CC/RR6’ from ‘CCC/RR6’;

–Subordinated exchangeable debentures due 2029 to ‘CC/RR6’ from ‘CCC-/RR6’.

Approximately $13.4 billion of debt is affected by this action. The Rating Outlook is Negative.

The downgrade and Negative Outlook reflect the following considerations:

–Given the acceleration of declines in newspaper advertising revenue and cash flow at Tribune and no evidence from any participants in the industry regarding the prospects for current pressure relenting, Fitch believes Tribune’s credit profile is consistent with a ‘CCC’ rating. For issuers in the ‘CCC’ rating category, default is a real possibility and the capacity to meet financial commitments is vulnerable to deterioration in business and economic conditions. Fitch notes business and economic conditions have been rapidly deteriorating for newspaper companies over the past 12 months.

–On August 13, TRB announced continued weak operating and financial results. On a comparable basis, in the second quarter of 2008, publishing revenue was down 11%, costs were down 4% and operating EBITDA was off 38%, reflecting the significant operating leverage in the business as cost cuts have not been able to compensate for the revenue deterioration. Advertising revenue has been under pressure across advertising categories with classifieds continuing to post double-digit declines (over 40% for real estate classifieds). Interactive revenue was also down 4%. On the broadcasting side, revenue has been up modestly while costs were also up (7.5%) and operating EBITDA decreased 3%.

–Fitch is aware that there is limited visibility regarding the likelihood, timeframe and magnitude of a potential reversal of these negative trends.

–Over the longer term Fitch continues to anticipate that the company will be challenged to generate meaningful and consistent revenue growth, and remains cautious regarding newspaper companies’ prospects for capturing and monetizing the significant volume of advertising dollars that are migrating toward the internet. While the second half of 2008 should be favorable for the broadcasting division, Fitch expects 2009 to be a weak year for TV broadcasting stations, particularly those affiliated with lower rated networks (e.g. The CW Network).

–Cost cuts announced and implemented in the first half of 2008 should help in the intermediate term, but Fitch notes that even more action may be necessary to offset the rapid erosion of advertising dollars. Newsprint prices have been escalating but have largely been offset by reduced consumption through web width reductions, fewer pages (lower advertising, less editorial, and actions such as elimination of stock charts) and discontinuation of low-value circulation.

–Fitch expects TRB to continue to pursue asset sales (namely the sale of the Chicago Cubs franchise and the company’s 25% stake in Comcast SportsNet Chicago) to enable it to address principal amortization ($593 million) on the tranche X of its term loan facility in June of 2009. However, further asset monetization may be necessary. In the long run, Fitch is concerned about the company’s ability to generate cash to meet its interest payments, principal amortization and maturities under its debt obligations in a timely manner. In the near term, Fitch believes the company can meet its obligations for several quarters, but has grown more concerned regarding the room the company has around its covenants given the pressured EBITDA generation.

–TRB has limited flexibility around its 9 times (x) guaranteed leverage covenant. Fitch calculates the ratio to be in the low-to-mid 8x range at June 30, 2008. If the company were to experience similar declines in the second half of the year as experienced in the first half, and sells the Cubs and SportsNet stakes before year-end for net proceeds of more than $675 million (which appears realistic), it could be under the 9x leverage covenant.

However, if negative trends accelerate or if the Cubs/SportsNet deal is not completed the company could be at risk of breaching the threshold. Also, Fitch recognizes that even with the Cubs sale, the company faces a material risk of breaching the covenant threshold when it steps down in first-quarter 2009 to 8.75x. While the company could receive an amendment or waiver from the banks if it breaches a covenant, in this credit environment Fitch is uncertain and cautious regarding the terms of such a potential negotiation for such a highly leveraged entity with deteriorating prospects. In this scenario, the receipt of a waiver or amendment without an upturn in business prospects is not likely to have a positive impact on the rating. However, failure to receive covenant relief could result in a restructuring (not necessarily bankruptcy) that would likely further pressure ratings.

RBR/TVBR observation: The big concern is not how much debt you have, but whether you have cash coming in to stay current on payments. Zell has said Tribune will be able to handle its scheduled debt payments for the next seven years, including the remaining $593 million balance of a $1.5 billion bank loan that is due next June. Before then Zell expects to have sold the Chicago Cubs and Wrigley Field, which will leave the company rolling in dough, at least for a while. What Fitch worries about, though, is the continuing decline in ad revenues for both the newspaper and television operations of Tribune. Will those negative trends be reversed? If so, when?