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S&P: WBD outlook remains positive

August 10, 2022

Credit ratings agency S&P Global Ratings has confirmed its positive outlook on Warner Bros Discovery (WBD; BBB-/positive/A-3) is unchanged after the company reported its first quarterly results post-merger and lowered its 2022 and 2023 EBITDA guidance.

“A positive outlook implies a 33 per cent chance we will raise the ratings, but also up to a 67 per cent chance of revising the outlook to stable,” says the firm.

“We anticipated the second-quarter 2022 results and expect the third and potentially fourth quarters to be similarly noisy,” adds S&P. “A few factors complicate WBD’s 2022 performance, such as the complexity of the integration, especially as WBD got a late start on the detailed planning; a worsening economy already slowing advertising spending; and AT&T’s management of Warner Media, especially over the last year. AT&T made several strategic decisions that ran counter to Discovery’s own, including the aggressive new market launches of HBO Max in 2021, the greenlighting of numerous film and TV projects, and the launch of CNN+ just eight days before the merger closed on April 8th, 2022. Unwinding these initiatives will require additional costs and lose the revenues included in AT&T’s plans but will also support WBD’s search for $3 billion (€2.94bn) in cost synergies.”

The greater risk to S&P’s positive outlook and potential to raise its rating on WBD is the deteriorating macroeconomic environment. “The decline in advertising spending impedes WBD’s ability to grow revenues and EBITDA. As a result, we believe WBD’s ability to reduce leverage will increasingly depend on identifying and realizing synergies above the $3 billion in the company’s guidance,” it says.

S&P estimates the company’s pro forma S&P Global Ratings’-adjusted leverage as of June 30th, 2022, to be about 5.6x. Its adjustments to debt include the following:

• The $5.7 billion accounts receivable facility (legacy from AT&T);
• $3.3 billion in reported operating and finance lease liabilities;
• $355 million in tax effected pension and other post-retirement obligations;
• $3.9 billion in accessible cash (including $1.3 billion in restricted cash which was released and used to pay down debt in July); and
• $328 million in put rights for redeemable noncontrolling interests.

S&P’s adjustments to pro forma last-12-month EBITDA include the following:

• $464 million in operating lease rent;
• $402 in share-based compensation expense;
• $52 million in dividends received from equity investments; and
• $910 million in transaction and integration costs.

The firm’s positive outlook remains focused on WBD’s 2023 and 2024 operating performance and financial metrics, especially the pace of leverage improvement. “We believe WBD can still achieve the deleveraging targets we laid out in our March 2022 rating action, in which we expected WBD’s S&P Global Ratings-adjusted leverage to decline from over 5x when the transaction closes to 4x in 2023 and to 3x in 2024.” S&P Global it says it is confident because it believes:

• WBD will achieve more than $3 billion in synergies;
• Its focus on profitable growth for its direct-to-consumer segment will result in lower segment subscriptions and revenues but also lower EBITDA losses and lead to an earlier path to profitability, and
• The company’s guidance incorporates a more conservative macroeconomic forecast than it is currently assuming.

S&P could change its view on the positive outlook and revise it to stable if its get greater clarity on 2023 and 2024 expectations and they are weaker than it currently expect, resulting in a change in the pace of deleveraging. This could occur if:

• The macroeconomic environment materially weakens;
• WBD changes its strategy, integration is more challenging, or synergies are more difficult to identify and achieve; or
• The company revises its financial policy or desire to reduce leverage (by its definition) to 2.5x-3x

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