) on CreditWatch with negative implications, based on Standard & Poor's postponed expectations for credit measures returning to A- levels. Standard & Poor's believes the downgrade potential is limited to one notch, to the BBB+ level, says analyst Heather Goodchild.
At the same time, the A-2 short-term corporate credit rating was affirmed and was not placed on CreditWatch.
Burbank, Calif.-based Walt Disney is a broad-based entertainment company with theme parks and resorts, cable and free TV broadcasting, character licensing and studio store retailing. Disney had $13.1 billion in net debt as of June 30, 2002, based on the company's preliminary disclosures.
Disney's earnings trends do not suggest that restoring total debt to EBITDA of 2.5 times (x) by the end of its fiscal year (ending Sept. 30, 2003) will be possible under prevailing trends. Standard & Poor's had earlier identified 2.5x as a target for retaining an A- rating with a negative outlook. Operations remain under pressure from the weak U.S. economy, and parks and resorts are affected by the global economy. In addition, the broadcasting and theme park businesses (key incremental cash flow generators) also are suffering from non-economic pressures. Travel-related businesses will need increased confidence in security, and the ABC Television Network faces a major task to rebuild its prime time ratings.
Disney's nine months revenue was down 6% and EBITDA fell about 36%, pro forma for the acquisition of Fox Family Worldwide Inc. (now ABC Family Worldwide) and the GO.com portal closure. The EBITDA drop was fueled by the media network segment, which is under pressure from an advertising slowdown and weak ratings at the ABC Television Network and owned and operated TV stations. Additional factors included slower business in the park and resort segment, with lower attendance and in-park spending; weaker performance of films in release and higher marketing expenses for unreleased films; and lower licensing and interactive game revenue.
Based on preliminary June 30, 2002, results, pro forma net debt to EBITDA is about 3.6x. Despite lower capital spending trends in the current fiscal year, free cash flow is expected to be lower for the full year and could be consumed by the common dividend, limiting debt reduction for the year. Even assuming a domestic economic recovery takes hold in park and resort operations, and that advertising continues to rebound, challenges remain for Disney in rebuilding earnings. ABC Network audience losses will be difficult to reverse while at the same time achieving meaningful programming cost reductions. Also, a rebound in international attendance at U.S. parks and resorts may take longer to materialize, depending on key Asian, European, and Latin American economies as well as security concerns.
Positive considerations include good ad revenue pacing at the TV and radio stations, the undercurrent of growth in DVD sales, operating cost reductions and careful cash flow management, and good liquidity. Moreover, the company has benefited considerably from lower interest rates, which have helped maintain strong EBITDA to interest coverage and compliance with a 3.0x interest coverage covenant. The company has about $4.2 billion in available credit lines. It also has improved its maturity profile with refinancings, and has a range of options with regard to asset sales.
In resolving the CreditWatch, Standard & Poor's will assess the fiscal 2003 earnings outlook, including potential cost reductions; intermediate-term debt repayment; and any asset disposal or financial strategy options the company may undertake. A resolution of the CreditWatch is expected in October. From Standard & Poor's RatingsDirect