OREANDA-NEWS. Fitch Ratings has assigned VimpelCom Ltd. (VimpelCom) a Long-term Issuer Default Rating (IDR) of 'BB+' with a Stable Outlook. Fitch has also assigned its senior unsecured debt a 'BB+' rating, including debt issued and guaranteed by intermediary holding companies VimpelCom Amsterdam B.V and VimpelCom Holdings B.V.

VimpelCom is a geographically diversified mobile-focused telecoms operator controlling the seventh-largest global subscriber base of approximately 217 million. Russian/CIS operations are a core cash generating unit for the group, with less significant cash flows from Global Telecom Holding S.A.E. (GTH), a 52% owned subsidiary with operations in Pakistan, Bangladesh and Algeria, and Wind Telecomunicazioni SpA (Wind; B+/Stable), which is highly leveraged but ring-fenced and Italy's third-largest mobile company. VimpelCom's leverage is moderate and we expect this to reduce in the next three years, but there is a significant currency mismatch as around 71% of its debt is in US dollars.

KEY RATING DRIVERS
Strong Russian Operations
VimpelCom is the third-largest mobile telecoms operator in Russia with 22% service revenue and a high 24% subscriber market share. We expect that the company will remain a strong mobile player in the country. Although its market share has been on a steady decline over the three years to 2014, a catch-up in capex should allow it to compete on a more level playing field with its larger peers. In the past three years to December 2014, VimpelCom invested 15% more capex in Russia than Megafon (BB+/Stable), a key rival.

VimpelCom launched a wide-scale transformational programme in Russia aiming to increase efficiency and improve its customer perception, which should help it stabilise its market share. The programme seems to have started bearing fruit, as demonstrated by its improving net promoter score, including in the key mobile internet segment. As a result of these efforts, the company's subscriber base started growing yoy in absolute terms, reversing the negative trend that persisted for most of 2014.

Rational Competition In Russia To Continue
The Russian market is strongly competitive, with four national facilities-based mobile operators. However, the 2014 merger of Rostelecom's and Tele2 Russia's mobile assets into new company, LLC T2 RTK Holding (B+/Stable), reduced disruptive pressures in many regions. While the new operator is targeting a higher market share, the market focus is likely to be on service quality with contained price competition in key areas, including Moscow.

Russia To Remain Core Cash Flow Contributor
VimpelCom's Russian operations are likely to remain highly profitable, with improving contribution to free cash flow, driven by the end of the catch-up investments and future capex synergies on the back of a network sharing agreement with MTS (BB+/Stable), the largest mobile operator in Russia. The large absolute size of the Russian franchise with 59 million subscribers is sufficient to maintain stable and strong EBITDA margins in the range of up to 40%, in our view.

Russia is the core cash generating unit for the group accounting for 49% of revenue and 48% of EBITDA in the last 12 months (LTM) to September 2015, and 50% of operating cash flow (defined by the company as EBITDA less capex excluding licenses) in the group's total, with Wind deconsolidated and exceptional items treated as one-offs (USD916m of Uzbekistan provision and legal costs and USD50m of Cevital settlement).

Low Cash Flows From GTH
We believe GTH, VimpelCom's 52%-owned holding company controlling fully-owned mobile operating subsidiaries in Pakistan and Bangladesh and a 46%-owned subsidiary in Algeria, will retain strong strategic ties with the parent. Cash flows from GTH to VimpelCom are likely to remain insignificant in absolute terms as GTH is investing to support growth of its operations and deleveraging.

Algerian Operations Deconsolidated
VimpelCom's access to cash flows of its Algerian subsidiary is limited due to below 50% ownership and a shareholder agreement requiring consent of the two largest shareholders on dividends above 42.5% of net income. The longer-term ownership of this asset, in our view, is uncertain, which makes the strategic ties with this subsidiary weak. In line with Fitch's approach, we deconsolidate the results of Algerian operations from the group's total, with only regular dividends treated as sustainable cash flows to the group.

Modest Diversification Benefits
Operations outside Russia provide a degree of diversification for the group. However, the positive impact is modest as all these operations are based in emerging markets. In many of these countries the operating and the regulatory environment is difficult, reflected in these countries' low sovereign ratings.

Besides GTH, VimpelCom is a strong number one or two player in Ukraine, Kazakhstan, Uzbekistan and Kyrgystan, and the third or fourth largest operator in Tajikistan, Armenia, and Georgia. These operations accounted for 31% of the group's total EBITDA without Wind LTM to September 2015.

Wind Is Ring-Fenced
Wind, VimpelCom's 100%-owned third-largest mobile operator in Italy, is highly leveraged (its FFO adjusted net leverage was 6.8x at end-2014) but is ring-fenced. Wind's debt is non-recourse to VimpelCom and Wind's default on its obligations will not trigger a cross-default on VimpelCom's debt. Fitch therefore deconsolidates this subsidiary from VimpelCom group results and leverage metrics.

Fitch currently factors one notch for parental support into Wind's ratings. However, any financial support is unlikely to be high in absolute terms and, we believe the propensity for support may diminish if Wind's leverage continues rising. Wind and 3 Italia have agreed to merge their Italian operations, the proposed deal is currently under a regulatory review. If the merger goes through, Fitch is likely to remove a notch of parental support in Wind's ratings as VimpelCom's ownership in the enlarged entity will be significantly diluted, reducing control and incentives for support.

In our view, VimpelCom cannot reasonably expect any cash flows from this subsidiary in the short to medium term as Wind will remain focused on deleveraging. Any dividend distributions are currently restricted under the terms of its loan and bond documentation until leverage significantly abates.

Positive FCF Generation
We expect VimpelCom to maintain positive FCF generation. EBITDA margins in Russia may come under modest pressure due to increasing competition, but stronger margins are likely at GTH. Capex will start declining from 2016 as the major phase of 4G/3G roll-out will be largely completed. Cash flows will be supported by low dividends. VimpelCom guided that its shareholder pay-outs would remain low until the group's leverage drops to below 2x net debt/EBITDA. Although this goal looks achievable if the Wind/3i merger goes through, completion may take longer than a year.

Moderate Leverage, Sufficient Liquidity
We expect VimpelCom's leverage to remain moderate, at below 2.25x net debt/EBITDA. This leverage metric is calculated with Wind and the Algerian subsidiary deconsolidated but including regular dividends from these entities into group EBITDA.

With a majority of debt in US dollars, there is an FX mismatch. VimpelCom's leverage is exposed to FX movements and has been under heavy pressure from the devaluation in the Russian rouble and other emerging currencies in 2014 and so far in 2015. The company reported leverage at a modest 1.3x net debt/EBITDA pro-forma for Wind deconsolidation (LTM to September 2015). This corresponds to 1.8x under Fitch's approach with Wind and Djezzy deconsolidated and assuming USD750m of restricted cash in Uzbekistan. Management expects VimpelCom's reported leverage to rise to 1.6x by the end of 2015 with the continuing FX headwinds. This would likely map to around 2.0x under Fitch's definition.

Further significant FX pressure, although not out of the question, looks less likely now as we believe that the brunt of depreciation has already taken place. However, FX risks remain significant, with the proportion of dollar-denominated debt at 71% of the group's total (excluding Wind). This is somewhat mitigated by a sizeable cash position of USD4.3bn (without Wind) at end-3Q15, a substantial portion of which is held in USD.

Liquidity is further supported by access to USD3.3bn of revolving credit lines and vendor financing across the group at end-3Q15.

Corporate Governance Is A Drag
Fitch applies a two-notch discount for corporate governance, which it views as average for large Russian private-owned companies. This discount reflects both Russian governance weaknesses and the issuer-specific situation, driven by major shareholder risk. LetterOne, VimpelCom's largest shareholder with a 56% economic interest stake and a 48% voting stake, is a non-transparent investment company reported to be ultimately owned by a few Russian individuals. Its influence on the company is likely to increase after the other large shareholder, Telenor, took a strategic decision to divest of its 33% economic stake in VimpelCom.

VimpelCom's predominant exposure to emerging markets makes corporate governance risks part of the company's risk profile. The company made a USD900m provision in relation to an ongoing investigation of corruption allegations in Uzbekistan in its 3Q15 results. If paid in full, it would likely push the company's leverage to the verge of a downgrade guideline at end-2015. Any additional fines will be treated as event risk, with their impact assessed in conjunction with VimpelCom's financial flexibility to absorb shocks including through the maintenance of low dividend distributions.

No Subordination for PJSC-guaranteed Debt
We rate VimpelCom's parent company debt at the same level as debt issued by Vimpel-Communications PJSC (PJSC). This is because the amount of prior-ranking debt at PJSC, the strongest operating entity within the group, is below 2x of group's EBITDA and VimpelCom intends to discontinue relying on PJSC's guarantees for issuing holdco debt. We expect that the amount of prior-ranking debt guaranteed or directly issued by PJSC will keep declining. PJSC consolidates Russian operations and some other Eurasian assets including in Kazakhstan, Uzbekistan, Kyrgizstan, Georgia and Armenia, and is the core cash generating unit within the VimpelCom group.

KEY ASSUMPTIONS
Fitch's key assumptions within the rating case for VimpelCom include the following:
- No significant dividends until leverage sustainably drops to below 2x net debt/EBITDA as reported by VimpelCom, which is likely after the Wind merger is completed.
- No significant distributions from GTH and Wind in the medium term.
- Stable revenue with modest EBITDA margin pressure in Russia due to mildly increasing competition.
- Capex of above 20% of revenue in 2015, declining to below 20% in 2016 and to mid-teens in the medium term as the 3G/4G roll-out cycle comes to an end.
- Declining interest payments reflective of lower debt levels and substantial re-financing efforts across the group.
- No major mergers or acquisitions other than at Wind.

RATING SENSITIVITIES
Positive: Future developments that may, individually or collectively, lead to positive rating action include:
- Improvements in corporate governance, likely driven by a higher ring-fence protecting from potential negative influence of the dominant shareholder.
- Stronger diversification leading to sustainably more robust free cash flow generation.

Negative: Future developments that may, individually or collectively, lead to negative rating action include:
- Hindrances to cash flow circulation across the key subsidiaries, most importantly in Russia.
- Significant operating pressures leading to lower cash flow generation.
- A sustained rise in Fitch-defined net debt/EBITDA to above 2.25x, with Wind and the Algerian operations deconsolidated but reflecting regular dividends from these entities in EBITDA.