DBRS Limited (DBRS Morningstar) confirmed TELUS Corporation’s (TELUS or the Company) Issuer Rating and the rating of the Company’s Notes at BBB (high). DBRS Morningstar also confirmed the rating of TELUS’ Commercial Paper rating of at R-2 (high) and the rating of TELUS Communications Inc.’s Senior Debentures at BBB (high). All trends remained Negative following the Company’s announcement of a definitive agreement to acquire LifeWorks, Inc. (LifeWorks) for approximately $2.3 billion and the assumption of approximately $600 million of debt (the Acquisition). The Acquisition will be funded through a combination of 50% cash and 50% TELUS common shares. TELUS had over $2.6 billion of liquidity at the end of Q1 2022, including $774 million in cash and an additional $1.9 billion committed credit facility from the Canadian Imperial Bank of Commerce (rated AA with a Stable trend by DBRS Morningstar) and the Bank of Nova Scotia (rated AA with a Stable trend by DBRS Morningstar) to fund the cash portion of the Acquisition. The Acquisition is subject to regulatory approval and is expected by the Company to close in Q4 2022.
The confirmations acknowledge TELUS’ higher than initially contemplated leverage at YE2022, after the expected Q4 2022 close of the LifeWorks transaction, but reflect the outlook for continued solid telecommunication operating results, rapid growth in non-telecommunication business exposure, and acknowledge that prior to the announcement of the LifeWorks acquisition the Company was delevering ahead of DBRS Morningstar’s most recent expectations. The ratings continue to be supported by TELUS’ well-entrenched market position and proven track record of profitable growth, while also reflecting intensifying competition, risks associated with regulatory and technological change, as well as the industry’s capital-intensive nature.
The Negative trend acknowledges that despite the industry-leading consolidated revenue and EBITDA growth resulting from both acquisition and organic growth across TELUS’ operating businesses, the possibility of an operating miss and/or impact from an unplanned negative factor (such as spectrum license costs or economic headwinds) exposes the risk the Company is unable to delever through mid-2024 as anticipated.
LifeWorks is a digital provider of employee preventative and mental health service platform covering clients primarily in Canada, the U.S., Australia, and the UK. On a combined basis, TELUS Health is likely to cover nearly 50 million lives worldwide. LifeWorks had 2021 revenue of approximately $1.0 billion and EBITDA of approximately $195 million. Therefore on a combined basis, pro forma TELUS Health revenue is expected to be ~$1.6 billion, with EBITDA of ~$285 million representing a margin of ~18%, which on a consolidated pro forma basis for TELUS would represent 9% and 4% of revenue and EBITDA, respectively. While DBRS Morningstar views the valuation as generous, the transaction is attractive for the following reasons: (1) highly complementary operations that materially accelerate growth in TELUS Health, (2) the expectation of a rapid integration, (3) increased customer and geographic diversification, (4) attractive margin profile, and (5) cross-selling opportunities for TELUS Health and TELUS International.
On August 18, 2021, DBRS Morningstar confirmed TELUS’ Issuer Rating at BBB (high) and changed the trend to Negative from Stable. The rating confirmations reflected TELUS’ well-entrenched position in the Canadian telecom sector, growing diversification, and operating resilience during the Coronavirus Disease (COVID-19) pandemic. The trend changes reflected TELUS’ expected increased debt balance after the 3500 megahertz spectrum auction, a longer period of balance sheet deleveraging than initially contemplated, and that in DBRS Morningstar’s view the Company would have to execute to precision on its business plan in order to achieve industry-leading earnings growth as previously forecast by DBRS Morningstar to ensure key credit metrics achieve a level considered appropriate for the current rating category.
Since that time, TELUS reported 2021 results of revenue and EBITDA of $17.3 billion (+11.6% year over year (YOY)) and $6.3 billion (+14.5% YOY), respectively, and were both materially ahead of DBRS Morningstar’s forecast. EBITDA growth was solid across both TELUS International (+7.3%) and TELUS Technology Solutions (+15.2% YOY), which was driven primarily by net subscriber additions in both mobile and fixed products and services and a blended wireless churn of 0.91%. In terms of financial profile, 2021 cash from operations was $4.5 billion, up 3.9% YOY; DBRS Morningstar free cash flow (after dividends, but before changes in working capital) was $328 million compared with $552 million in the year-ago period, primarily reflecting a 9.7% YOY increase in capex to $3.1 billion related to the two-year accelerated broadband and 5G investment program that began in 2021 and a 12.4% YOY increase in dividend payments to $1.0 billion. Gross debt at YE2021 was approximately $21.0 billion, compared with $20.4 billion at YE2020. As a result, YE2021 leverage was 3.33 times (x) compared to 3.71x at YE2020, and below DBRS Morningstar’s YE2021 estimate of 3.50x.
The solid results in 2021 have carried over into Q1 2022, with TELUS revenue and EBITDA of $4.3 billion (+6.4% YOY) and $1.6 billion (+7.4% YOY), respectively, with strong results in both segments. Q1 2022 EBITDA growth reflected TELUS Technology Solutions EBITDA of $1.4 billion, up 4.8% YOY, and TELUS International EBITDA of $169 million, up 35.1% YOY. TELUS Technology Solutions performance was supported by a first quarter record for net mobile and fixed subscriber additions, 0.6% mobile average revenue per user growth and blended mobile churn of 0.81%. As of Q1 2022, TELUS’ cash from operations was $1.2 billion, up 6.5% YOY, largely tracking net income growth. DBRS Morningstar free cash flow (after dividends, but before changes in working capital) was negative $82 million compared to $148 million in the year-ago period, primarily reflecting a 35.1% YOY increase in capex to $1.0 billion, up from $750 million in the year-ago period related to the Company’s accelerated investment into the 5G network, broadband build, enhanced product development, and digitization to enhance network capacity and reliability as part of the two-year accelerated capex program that began in 2021. Gross debt at Q1 2022 was approximately $21.4 billion, compared with $21.0 billion at YE2021. As a result, the trailing 12-month Q1 2022 gross leverage was 3.35x, essentially flat with YE2021.
DBRS Morningstar views the LifeWorks acquisition as a meaningful way to accelerate the growth of TELUS Health and leverage both the current health business and TELUS International. The caveat is that this will delay DBRS Morningstar’s expectation of TELUS’ deleveraging profile by six to nine months. As a result, assuming the Acquisition closes in early Q4 2022 and correct forecasting of modest operating growth in the acquired company, DBRS Morningstar expects YE2022 gross leverage of ~3.5x, declining to roughly 3.15x to 3.20x by YE2023 based on mid to high single-digit operating EBITDA growth and relatively flat gross debt levels. While DBRS Morningstar acknowledges the slightly longer deleverage period, the Company remains committed to achieving and maintaining leverage in the 2.50x to 2.75x range long term, noting the use of equity to finance a portion of the Acquisition.
Looking ahead, a change in the trend to Stable would reflect the expectation that TELUS will be able to delever in a manner similar to the profile noted above, which primarily depends on EBITDA growth. Conversely, if TELUS were to experience soft operating performance that falls materially below current expectations and/or pursue more aggressive financial management, such that deleveraging is not consistent with the DBRS Morningstar expected delevering profile, a negative rating action may occur.
There were no Environmental/ Social/ Governance factors that had a significant or relevant effect on the credit analysis.
A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/396929/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings.
All figures are in Canadian dollars unless otherwise noted.
The principal methodologies are Rating Companies in the Communications Industry (July 27, 2021; https://www.dbrsmorningstar.com/research/382119), DBRS Morningstar Criteria: Guarantees and Other Forms of Support (April 4, 2022; https://www.dbrsmorningstar.com/research/394683), and DBRS Morningstar Criteria: Commercial Paper Liquidity Support for Nonbank Issuers (March 1, 2022; https://www.dbrsmorningstar.com/research/393065), which can be found on dbrsmorningstar.com under Methodologies & Criteria. Other applicable methodologies include the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (March 17, 2022; https://www.dbrsmorningstar.com/research/396929), which can be found on dbrsmorningstar.com under Methodologies & Criteria.
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