Fitch Places AT&T's 'A-' IDR on Negative Watch on Proposed Time Warner Inc. Acquisition

Fitch Ratings has placed the 'A-' Long-Term Issuer Default Ratings (IDRs) and outstanding debt of AT&T Inc. (AT&T) (NYSE: T) and its subsidiaries on Rating Watch Negative. The company's 'F2' Short-Term IDR and commercial paper rating are affirmed based on the expectation that a downgrade, if it occurs, will be limited to one notch.

Fitch has affirmed the Long-Term IDRs of Time Warner Inc. and its subsidiaries at 'BBB+'. The Rating Outlook remains Stable. The rating action affects approximately $24.5 billion of debt outstanding as of June 30, 2016.

See the full list of rating actions at the end of this release.

KEY RATING DRIVERS

Acquisition of Time Warner: Fitch believes AT&T's acquisition of Time Warner Inc. provides AT&T a strong foothold in the evolving communications and media landscape. The acquisition, combined with AT&T's 2015 acquisition of DIRECTV, offers the potential to capitalize on emerging trends for mobile video and over-the-top (OTT) video delivery. Other benefits include the diversification of AT&T's revenue stream, and additional financial flexibility owing to Time Warner's strong free cash flows.

The Negative Watch for AT&T reflects the increase in leverage for AT&T, pro forma for the transaction. AT&T currently operates with gross leverage at the upper end of Fitch's expectations for the current 'A-' rating. At the end of 2018, approximately one year after the expected close of the transaction, Fitch estimates AT&T's gross leverage will be 2.7x. As currently proposed, the transaction would potentially lead to a one-notch downgrade for AT&T to 'BBB+'/Stable Outlook. However, the final rating would depend on Fitch's further analysis of the transaction, an assessment of AT&T's post-acquisition financial policies, the effect of any additional conditions placed on the transaction by the regulatory approval process, and an updated view of AT&T's potential spectrum spending in the Federal Communications Commission's (FCC) ongoing 600 MHz broadcast spectrum auction.

The affirmation of Time Warner reflects its capital allocation strategy, which includes continued investment in its businesses to strengthen its product portfolio and maintaining a strong balance sheet (net leverage target of around 2.75x). Under the merger agreement, Time Warner is expected to cease stock repurchases, with excess cash generation becoming available to reduce net debt at the time of the transaction close.

Additionally, Time Warner's operating profile benefits from the stability, recurring dual-stream revenue profile, high operating margin and FCF generation characteristics attributable to its cable networks businesses. Fitch expects these businesses will continue to generate a significant amount of Time Warner's earnings and cash flow.

Fitch believes AT&T's acquisition of Time Warner would provide the combined company with a strong position to address the threats and opportunities present in the evolving media landscape, including the growing prominence of alternative distribution platforms and audience fragmentation within the context of a stagnant multichannel video subscriber base. Fitch also believes demand for high-quality content remains strong across all major end markets (broadcast networks, cable networks and subscription video on demand) and that large, well-capitalized content providers, such as Time Warner, will remain crucial to the industry.

Deleveraging Expected: On the announcement of the Time Warner transaction, AT&T affirmed its commitment to delever to a net leverage target of 1.8x four years after the close of the transaction as FCF is used to reduce debt. In addition to the incremental FCF from Time Warner in 2018 and beyond, Fitch's base case for AT&T on a stand-alone basis incorporates moderate revenue and EBITDA growth, with additional benefits to EBITDA stemming from the remaining cost synergies from DirecTV and cost reduction initiatives. In addition, Fitch expects a slight reduction in capital intensity over time via AT&T's network initiatives.

Broadcast TV Spectrum Auction: Potential spending in the FCC's 600 MHz TV broadcast auction, which started in March 2016, or participation in the Request for Proposals (RFP) process for the FirstNet nationwide public safety broadband network, is not included in Fitch's assumptions and will be an event-driven consideration.

KEY ASSUMPTIONS

For AT&T, Fitch's key assumptions within our rating case include:

--Consolidated revenues rise in the low- to mid-teens in 2016 primarily due to the full-year effect of DIRECTV's results in operations. Thereafter, Fitch estimates AT&T's revenue on a stand-alone basis grows in the low-single digits approximating Fitch's estimates for GDP growth. EBITDA margins are forecast to be in the low 30% range during the forecast period.

--Fitch has assumed there are no stock repurchases through the next several years given the company's near-term focus on debt reduction.

--In 2016, Fitch expects consolidated capital spending to be in line with company guidance of $22 billion. Included in the $22 billion forecast is approximately $1 billion of capitalized interest. Fitch's assumptions reflect flat capital spending for AT&T after 2016 on a stand-alone basis, with incremental capital spending for Time Warner following the merger close.

--Fitch's assumptions do not include potential spending in the FCC's 600 MHz TV broadcast auction or potential spending on the FirstNet nationwide public safety broadband network, should AT&T be successful in winning the contract.

For Time Warner, Fitch's key assumptions within our rating case include:

--Fitch assumes that Turner cable networks businesses' revenues continue to grow by mid-single digits, driven by higher affiliate fees and stable advertising revenues.

--HBO revenues grow in the mid-single digits driven in large part by an acceleration of subscription revenue growth.

--The film and television studios grow by low- to mid-single digits during the forecasted periods. This segment benefits from continued demand for television content, international expansion, and digital delivery, offset by ongoing declines in DVDs.

--Stable operating margins due to positive operating leverage of its businesses and higher-margin profile of digital versus physical delivery are offset somewhat by higher overall investment in programming and production.

RATING SENSITIVITIES

Positive Rating Action: Should the acquisition of Time Warner be terminated, Fitch would likely affirm AT&T's ratings with a Stable Outlook under the base case.

Negative Rating Action: The transaction, as proposed, is likely to lead to a one-notch downgrade of AT&T. A further downgrade from 'BBB+' would result if AT&T adopted a more aggressive financial strategy or event-driven M&A activity that drives leverage beyond Fitch's 3.5x threshold in the absence of a creditable de-leveraging plan. Negative rating actions could also result should Fitch begin to observe a weakening of AT&T's competitive position in its multiple lines of business.

LIQUIDITY

Strong Liquidity Profile: At Sept. 30, 2016 AT&T did not have any drawings on its revolving credit facility (RCF). AT&T has a five-year $12 billion RCF in place through December 2020. The principal financial covenant for the RCF requires net debt-to-consolidated EBITDA, as defined, to be no more than 3.5x. At Sept.30, 2016, the company's reported cash and cash equivalents totalled $5.9 billion (at June 30, 2016, $600 million resided in foreign jurisdictions).

At Sept. 30, 2016, reported total debt outstanding was approximately $125.2 billion

Debt Maturities: Relative to the company's cash, RCF availability, and modest expected FCF, Fitch believes upcoming debt maturities are manageable. There are no material debt maturities in the remainder of 2016. In 2017, approximately $9.5 billion of long-term debt matures, including $1.8 billion of put-able debt.

FULL LIST OF RATING ACTIONS

Fitch has affirmed the following ratings:

AT&T, Inc.

--Short-term IDR at 'F2';

--Commercial paper at 'F2'.

In addition, Fitch has placed the following ratings on Negative Rating Watch:

AT&T, Inc.

--Long-Term IDR at 'A-';

--Senior unsecured debt at 'A-';

--$12 billion revolving credit facility due December 2020 at 'A-';

--$2.286 billion Tranche A three-year term loan facility due 2018 at 'A-';

--$1.869 billion Tranche B five-year term loan facility due 2020 at 'A-'.

AT&T Corp.

--Long-Term IDR at 'A-';

--Senior unsecured at 'A-'.

DIRECTV Holdings LLC

--Long-Term IDR 'A-';

--Senior unsecured notes 'A-'.

BellSouth Corp.

--Long-Term IDR at 'A-';

--Senior unsecured at 'A-'.

BellSouth Capital Funding Corp.

--Senior unsecured at 'A-'.

BellSouth Telecommunications, Inc.

--Long-Term IDR at 'A-';

--Senior unsecured at 'A-'.

AT&T Mobility LLC (formerly Cingular Wireless, LLC)

--Long-Term IDR at 'A-';

--Senior unsecured at 'A-'.

New Cingular Wireless Services, LLC (formerly AT&T Wireless Services, Inc.)

--Long-Term IDR at 'A-';

--Senior unsecured at 'A-'.

Ameritech Capital Funding Corp.

--Long-Term IDR at 'A-';

--Senior unsecured at 'A-'.

Indiana Bell Telephone Company

--Long-Term IDR at 'A-';

--Senior unsecured at 'A-'.

Michigan Bell Telephone Company

--Long-Term IDR at 'A-';

--Senior unsecured at 'A-'.

Pacific Bell Telephone Company

--Long-Term IDR at 'A-';

--Senior unsecured at 'A-'.

Wisconsin Bell Telephone Company

--Long-Term IDR at 'A-';

--Senior unsecured at 'A-'.

Southwestern Bell Telephone Company

--Long-Term IDR at 'A-';

--Senior unsecured at 'A-'.

Fitch affirms Time Warner's ratings with a Stable Outlook as follows:

Time Warner Inc.

--Long-Term IDR at 'BBB+';

--Short-Term IDR at 'F2';

--Senior unsecured revolving credit facility at 'BBB+';

--Senior unsecured notes and debentures at 'BBB+';

--Commercial Paper at 'F2'.

Time Warner International Finance Limited

--Long-Term IDR at 'BBB+';

--Short-Term IDR at 'F2';

--Commercial Paper at 'F2'.

Summary of Financial Statement Adjustments - Financial statement adjustments that depart materially from those contained in the published financial statements of the relevant rated entity or obligor are disclosed below:

--For AT&T, securitized equipment installment receivables are not included in core telecom leverage and are included in off-balance-sheet debt.

--For Time Warner, no material adjustments have been made that have not been disclosed in public filings of this issuer.

Additional information is available on www.fitchratings.com .

Applicable Criteria

Criteria for Rating Non-Financial Corporates (pub. 27 Sep 2016)

https://www.fitchratings.com/site/re/885629

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https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1013644

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https://www.fitchratings.com/regulatory

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