Telus Incorporation

Topics: Finance, Corporate finance, Working capital Pages: 8 (2177 words) Published: September 22, 2011
The chief financial officer (CEO) of TELUS Corporation (Telus) has just been informed that Moody's, a bond rating service, has downgraded the firm's credit rating to one notch below investment grade. The CFO's challenge is to determine what specific actions, if any, to recommend to the firm's audit committee. In solving this problem, the members of this group decided to divide the work into four main parts. The first part will contain the major problem that led Moody to downgrade TELUS’ bond. The second part will look into the impact of the downgrade on TELUS Corporation, the third part looks at TELUS’ performance analysis with ratio and graph and finally, the fourth part, takes care of the proposed CFO's recommendation to the audit committee. 2.1 MAJOR PROBLEMS THAT LED TO MOODY'S DOWNGRADE

Moody’s decision to downgrade TELUS bond might have been influenced by a lot of factors which: 1. Increment in debt to total capital ratio to 58.6% in June 2002. This was a total deviation from TELUS forecasted debt to capital ratio of 50%, within three years of purchasing Clearnet. Even though Clearnet was purchased in 2000 and the three years is not yet up, increment in debt to equity ratio after one and half years, was not a good indication. 2. The fall in TELUS' stock price from $16.67 to $10.40 from April 2002 to July 2002 and the drop in dividend reinvestment program (DRIP) from 47% to 10%. This was as a result of Verizon (25% owner of TELUS) and others (13% owners of TELUS) declining to participate in the DRIP. 3. TELUS experienced negative free cash flow for the first and second quarters 2002. This resulted in TELUS' cutting down its dividends from $0.35 to $0.15 in January 2002. This represents 57.14% reduction in dividends. 4. Reduction in credit facility to TELUS as a result of industry's reaction to Teleglobe's bankruptcy. TELUS' ability to go for credit facility was also reduced. 5. Canadian Radio-television and Telecommunication Commission’s (CRTC) decision to modify subsidies or contributions incumbents could receive for providing basic residential service at below-cost rates in high-cost service areas. This regulation led to a reduction in TELUS’ EBITDA by $300 million commencing in 2002. 6. TELUS' inability to repay its debts.

7. Finally, it can be noticed that TELUS Corporation made so many acquisition between 2000 and 2001. Much of their investments were in fixed cost rather than variable cost-operating leverage. When fixed cost forms the major part of the capital structure, a slight decline in revenue will lead to a drastic reduction in profit which will in the end affect free cash flow. This could also be the reason why TELUS experienced negative free cash flow in 2002. Although the above reasons might have led specifically to TELUS’ bond being downgraded by Moody, the entire telecommunication industry was not without problems. Prominent among these was the financial crisis which led to some companies going bankrupt and others being rated low whilst others reported losses

Moody's downgrading brought a lot of negative impacts on TELUS Corporation. Among some of these negative impacts are: • First of all, when Moody publicly announced the downgrading of TELUS’ bond, market value fell from $96 to $66. This was the steepest decline in pricing in the history of the Canada's debt capital market. • Not only did the TELUS' debt fall but also their stock price reduced drastically by 37.6% from $16.67 to $10.40. • Aside this, TELUS experienced an unfavorable credit facility terms. TELUS' cost of borrowing cost increased by 25 basis points which represented $3.7 million a year including standby fees. • TELUS shares were also affected by Moody's downgrading. Investors did not even wait for the second quarter to withdraw. TELUS shares traded under $7.0 when the market opened on July 25 from a...

References: 1. Brigham F. and Ehrhardt C., (2002), "Financial Management: Theory and Practice", 10th edition, Ohio, Thomson, South-Western.
1. Mishkin, F., 1997, "The Economics of Money, Banking, and Financial Market", 5th edition, United States of America, Addison Wesley Longman, Inc
2. Saunders, A. and Cornett, M., (2006), "Financial Institutions Management: a Risk Management Approach", 5th edition, New York, McGraw-Hall.
3. Brealey, et al, 2008, “Principles of Corporate Finance”, 9th Edition, McGrwa-Hill/ Irwin, New York.
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