Fitch Rates NBN Co's AUD10 Billion MTN Programme and Proposed Bonds at 'AA'

(The following statement was released by the rating agency) Fitch Ratings-Sydney/Singapore-25 November 2020: Fitch Ratings has assigned NBN Co Limited's (AA/Negative) AUD10 billion medium-term note (MTN) programme a rating of 'AA'. The agency has also assigned NBN Co a senior unsecured rating of 'AA' and a rating of 'AA' to the proposed Australian-dollar senior unsecured notes issued under the MTN programme. The programme and instrument ratings are aligned with NBN Co's Long-Term Issuer Default Rating (IDR), as the bonds issued under the programme will constitute its unconditional, unsecured and unsubordinated liabilities, ranking equally with its other unsubordinated obligations. NBN Co is rated using a top-down approach under Fitch's Government-Related Entities (GRE) Rating Criteria; two notches below the Australian sovereign (AAA/Negative), the company's 100% owner. We assess NBN Co's GRE score at 30 out of 60 in light of its strong ties with the sovereign and the incentive for the government to provide support. NBN Co's Standalone Credit Profile (SCP), which excludes government support, is 'bb'. NBN Co benefits from a strong market position as the owner and operator of Australia's national broadband network, its growing revenue base and the completion of its initial targeted roll-out. However, its SCP is constrained by high leverage. Key Rating Drivers Full Sovereign Ownership: We assess NBN Co's status, ownership and control as 'Very Strong' due to the high degree of government oversight of its operation, investments and financing strategies, as well as the full government ownership. NBN Co regularly reports to its shareholder ministries and the government appoints its board of directors. We expect the government to maintain control in the near- to medium-term, but firm plans for full or partial privatisation would see Fitch reassess the GRE factors. Sovereign Support Forthcoming: We deem the government's record of support and expectation of support as 'Strong', as we believe support would be available, if needed. Government support includes AUD49 billion in equity and government loans, a three-year debt maturity extension to 2024 and a supportive regulatory framework. NBN Co does not score at 'Very Strong', as we do not expect ongoing government cash injections after it completes its build out and do not think it will require government support to maintain a sustainable financial structure. The government's equity funding in NBN Co is capped at AUD29.5 billion by an equity funding agreement. The government has guaranteed some of NBN Co's lease obligations, but the guarantee will fall away once it achieves an acceptable investment-grade credit risk. We believe government support would be available through the guarantee of debt or other obligations, injection of subordinated debt or other mechanisms, should it be required, and regard this support as substantial relative to GREs with 'Moderate' support levels due to irregular or a smaller scale of support. 'Strong' Socio-Political Implications of Default: We believe NBN Co could maintain its services in the event of a default, most likely via emergency capital prior to a corporate restructuring. However, a failure of the decade-long project, which has broad support across the political spectrum, would have significant political repercussions. NBN Co was established as a key policy vehicle, with a mandate to implement the government's objectives of providing peak downloads speeds of at least 25Mbps to all premises and 50Mbps to 90% of fixed-line premises, on a wholesale basis. 'Moderate' Financial Implications of Default: We believe that there will be only 'Moderate' knock-on effects on the availability and cost of funding for the government and its eight other business enterprises should NBN Co default. Australia's GRE sector is a smaller part of the economy than in countries with 'Strong' or 'Very Strong' assessments, meaning that investors are less likely to see a default by NBN Co as raising the risk of government or GRE debt. A financial failure of NBN Co is only probable if threatened by competing technology, which we believe investors would see as company-specific rather than symptomatic of the government's willingness or ability to meet its obligations. We assess this factor assuming that the company refinances government debt with private debt. National Infrastructure, Wholesale Model: NBN Co benefits from its position as Australia's dominant wholesale local access broadband provider, with 11.7 million premises ready to connect at the financial year ending June 2020 (FY20) and 7.3 million active subscribers. NBN utilises a multi-technology mix, including fibre to the premise (FTTP), hybrid fibre coaxial (HFC), fibre to the node and fibre to the curb. NBN Co is regulated by the Australian Competition and Consumer Commission, but NBN Co charges below the maximum pricing and instead negotiates prices on a commercial basis. Increasing Uptake, ARPU Drive Revenue: Fitch expects NBN Co to achieve more than 8.9 million active connections by 2024, with 75% of customers historically switching to NBN Co within two years of being ready to connect. Fitch also expects average revenue per user (ARPU) to increase, as new subscribers typically take up higher-speed plans and existing customers continue to upgrade. We expect NBN Co to achieve revenue of over AUD6.1 billion by FY24 (FY20: AUD3.8 billion), with an EBITDA margin, including lease expenses, of above 50%. NBN Co recently introduced super-fast plans of up to 1Gb per second, which should lift ARPU uplift, in addition to plans to expand the FTTP network to two million additional homes by FY23 and upgrade its HFC network to allow for higher speeds. NBN Co has also begun to offer wholesale enterprise ethernet, which should improve retail competition for end-business customers and increase customer numbers and ARPU. Weaker SCP: NBN Co's 'bb' SCP is weaker than its rating due to high leverage, even though it benefits from a strong market position, expanding revenue base and the completion of its targeted roll-out. However, we expect NBN Co to cut FFO net leverage over the next five years, as it reduces capital expenditure and subscriber numbers and ARPU increase. We forecast FFO net leverage to peak at 31.4x in FY20, then fall to 8.6x by FY24. We are likely to assess NBN Co's SCP at investment grade once we can foresee FFO net leverage falling sustainably below 6.0x. Derivation Summary NBN Co is rated on a top-down basis at two notches below the government's rating under Fitch's GRE Rating Criteria. It would be downgraded should linkages with the sovereign weaken. Our 'Very Strong' assessment of NBN Co's status, ownership and control is in line with that of China Three Gorges Corporation (CTG, A+/Stable), PT Perusahaan Listrik Negara (Persero) (PLN, BBB/Stable) and PT Pertamina (Persero) (BBB/Stable), reflecting a high degree of government oversight of the company's operation, investments and financing strategies, and full government ownership. NBN Co's 'Strong' record and expectation of support assessment reflects Fitch's view that support would be available if needed. GREs that score at 'Very Strong', such as PLN and Pertamina, tend to demonstrate higher levels of consistent and substantial support through capital injections and subsidies. Our 'Strong' assessment of NBN Co's socio-political implications of default is similar to that of CTG, reflecting the significant political repercussions should these GREs be allowed to fail in light of their status as key policy vehicles and broad political support. However, the assessment is weaker than GREs scored as 'Very Strong', such as Korea Electric Power Corporation (KEPCO, AA-/Stable), PLN and Pertamina, whose financial distress could affect the procurement of feedstock or product supplies, resulting in immediate and significant disruption to their local economies. The 'Moderate' financial implications of default for NBN Co are weaker than for Telekom Malaysia Berhad (A-/Negative), whose default would have stronger knock-on effects on the availability and cost of funding and possibly damage the government's borrowing capacity. NBN Co's SCP is supported by a strong market position with limited substitutes and a supportive regulatory framework, although it charges below regulatory caps. This allows the company to support higher leverage thresholds at a given rating than other wholesale telecom infrastructure companies, such as CETIN a.s. (BBB/Stable) and fully integrated telecom operators, such as BT Group (LON:BT) plc (BBB/Stable). However, NBN Co's SCP is lower than that of other Australian regulated utilities, such as AusNet Services Limited (BBB+/Stable), which have greater revenue visibility and few long-term competitive threats. In its relative infancy, we believe that NBN Co also has a higher operating risk than mobile tower operators, such as Cellnex Telecom S.A. (BBB-/Stable), which benefit from higher cash-flow visibility and stability from long-term contracts, minimal technology obsolescence risk, greater visibility of capex returns, higher price indexation and, in many cases, energy cost pass-through. However, as NBN Co's business matures, revenue uncertainty over take-up rates, pricing and the competitive threat from 5G technology may diminish and the cash-flow risk differential with these peers. Key Assumptions - Revenue to increase to AUD5.3 billion in FY22 and AUD6.2 billion by FY24 (FY20: AUD3.8 billion) - EBITDA margin, including lease expenses, to improve to 51.1% by FY24 (FY20: 12.5%) - Subscriber acquisition costs of AUD1.1 billion in FY21, falling to AUD100 million by FY23 - Capex of AUD11.8 billion over FY21-FY24, lower thereafter - No dividend payments or M&A RATING SENSITIVITIES Factors that could, individually or collectively, lead to positive rating action/upgrade: - A revision of the Outlook to the sovereign's ratings to Stable would lead to a corresponding revision of our Outlook on NBN Co. - Strengthening linkages between NBN Co and the government, leading to GRE score of above 35. Factors that could, individually or collectively, lead to negative rating action/downgrade: - Weakening linkages with the sovereign, such as firm plans for full or partial privatisation, leading to a GRE score of below 25. - Downgrade of the sovereign's ratings. For the Sovereign rating of Australia, the following sensitivities were outlined by Fitch in a Rating Action Commentary on 21 May 2020 Factors that could, individually or collectively, lead to negative rating action/downgrade: - Failure to put general government debt/GDP on a downward trajectory over the medium term, for instance from an absence of a sufficient post-coronavirus fiscal consolidation strategy. - Economic or financial sector distress resulting from impaired household debt-servicing ability, for instance from a structural deterioration in the labour market or substantial decline in housing prices. Factors that could, individually or collectively, lead to positive rating action: - Confidence that debt/GDP will be placed on a downward trend over the medium term. - Evidence that policy measures have made economic performance more resilient than we forecast through the global coronavirus shock or that medium-term growth potential is relatively unchanged following the shock. Best/Worst Case Rating Scenario International scale credit ratings of Non-Financial Corporate issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579. Liquidity and Debt Structure Sufficient Liquidity: NBN Co has a sufficient liquidity position, with AUD344 million of cash and AUD6.1 billion in committed available undrawn bank facilities as at end-June 2020, sufficient to refinance its AUD1.0 billion in maturing short-term debt. NBN Co has no other major debt maturities until the maturity of its loan from its 100% parent, the Australian government, in FY24. REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING The principal sources of information used in the analysis are described in the Applicable Criteria. Public Ratings with Credit Linkage to other ratings NBN Co's ratings are directly linked to the credit quality of its parent, the Australian sovereign. A change in Fitch's assessment of the parent's credit quality would automatically result in a change in the rating on NBN Co. ESG CONSIDERATIONS Fitch does not provide separate ESG scores for NBN Co as its ratings and ESG scores are derived from its parent. ESG relevance scores and commentary for the parent entity - Australia - can be found here www.fitchratings.com/entity/australia-80442187 NBN Co Limited ----senior unsecured; Long Term Rating; New Rating; AA Contacts: Primary Rating Analyst James Hollamby, Associate Director +61 2 8256 0347 Fitch Australia Pty Ltd Suite 15.01, Level 15 135 King Street Sydney 2000 Secondary Rating Analyst Janice Chong, CPA Director +65 6796 7241 Committee Chairperson Steve Durose, Managing Director +61 2 8256 0307 Media Relations: Peter Hoflich, Singapore, Tel: +65 6796 7229, Email: peter.hoflich@thefitchgroup.com Leslie Tan, Singapore, Tel: +65 6796 7234, Email: leslie.tan@thefitchgroup.com Additional information is available on www.fitchratings.com Applicable Model Numbers in parentheses accompanying applicable model(s) contain hyperlinks to criteria providing description of model(s). Corporate Monitoring & Forecasting Model (COMFORT Model), v7.9.0 (1 (https://www.fitchratings.com/site/re/973270)) Additional Disclosures Dodd-Frank Rating Information Disclosure Form (https://www.fitchratings.com/site/dodd-frank-disclosure/10144827) Solicitation Status (https://www.fitchratings.com/site/pr/10144827#solicitation) Endorsement Status (https://www.fitchratings.com/site/pr/10144827#endorsement_status) Endorsement Policy (https://www.fitchratings.com/site/pr/10144827#endorsement-policy) ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTPS://WWW.FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS (HTTPS://WWW.FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS). IN ADDITION, THE FOLLOWING HTTPS://WWW.FITCHRATINGS.COM/RATING-DEFINITIONS-DOCUMENT (https://www.fitchratings.com/rating-definitions-document) DETAILS FITCH'S RATING DEFINITIONS FOR EACH RATING SCALE AND RATING CATEGORIES, INCLUDING DEFINITIONS RELATING TO DEFAULT. PUBLISHED RATINGS, CRITERIA, AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE, AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE CODE OF CONDUCT SECTION OF THIS SITE. DIRECTORS AND SHAREHOLDERS RELEVANT INTERESTS ARE AVAILABLE AT HTTPS://WWW.FITCHRATINGS.COM/SITE/REGULATORY (https://www.fitchratings.com/site/regulatory). FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH RATINGS WEBSITE. Copyright © 2020 by Fitch Ratings, Inc., Fitch Ratings Ltd. and its subsidiaries. 33 Whitehall Street, NY, NY 10004. Telephone: 1-800-753-4824, (212) 908-0500. Fax: (212) 480-4435. Reproduction or retransmission in whole or in part is prohibited except by permission. All rights reserved. In issuing and maintaining its ratings and in making other reports (including forecast information), Fitch relies on factual information it receives from issuers and underwriters and from other sources Fitch believes to be credible. Fitch conducts a reasonable investigation of the factual information relied upon by it in accordance with its ratings methodology, and obtains reasonable verification of that information from independent sources, to the extent such sources are available for a given security or in a given jurisdiction. The manner of Fitch's factual investigation and the scope of the third-party verification it obtains will vary depending on the nature of the rated security and its issuer, the requirements and practices in the jurisdiction in which the rated security is offered and sold and/or the issuer is located, the availability and nature of relevant public information, access to the management of the issuer and its advisers, the availability of pre-existing third-party verifications such as audit reports, agreed-upon procedures letters, appraisals, actuarial reports, engineering reports, legal opinions and other reports provided by third parties, the availability of independent and competent third- party verification sources with respect to the particular security or in the particular jurisdiction of the issuer, and a variety of other factors. Users of Fitch's ratings and reports should understand that neither an enhanced factual investigation nor any third-party verification can ensure that all of the information Fitch relies on in connection with a rating or a report will be accurate and complete. Ultimately, the issuer and its advisers are responsible for the accuracy of the information they provide to Fitch and to the market in offering documents and other reports. In issuing its ratings and its reports, Fitch must rely on the work of experts, including independent auditors with respect to financial statements and attorneys with respect to legal and tax matters. Further, ratings and forecasts of financial and other information are inherently forward-looking and embody assumptions and predictions about future events that by their nature cannot be verified as facts. As a result, despite any verification of current facts, ratings and forecasts can be affected by future events or conditions that were not anticipated at the time a rating or forecast was issued or affirmed. The information in this report is provided "as is" without any representation or warranty of any kind, and Fitch does not represent or warrant that the report or any of its contents will meet any of the requirements of a recipient of the report. A Fitch rating is an opinion as to the creditworthiness of a security. This opinion and reports made by Fitch are based on established criteria and methodologies that Fitch is continuously evaluating and updating. Therefore, ratings and reports are the collective work product of Fitch and no individual, or group of individuals, is solely responsible for a rating or a report. The rating does not address the risk of loss due to risks other than credit risk, unless such risk is specifically mentioned. Fitch is not engaged in the offer or sale of any security. All Fitch reports have shared authorship. Individuals identified in a Fitch report were involved in, but are not solely responsible for, the opinions stated therein. The individuals are named for contact purposes only. A report providing a Fitch rating is neither a prospectus nor a substitute for the information assembled, verified and presented to investors by the issuer and its agents in connection with the sale of the securities. Ratings may be changed or withdrawn at any time for any reason in the sole discretion of Fitch. Fitch does not provide investment advice of any sort. Ratings are not a recommendation to buy, sell, or hold any security. Ratings do not comment on the adequacy of market price, the suitability of any security for a particular investor, or the tax-exempt nature or taxability of payments made in respect to any security. Fitch receives fees from issuers, insurers, guarantors, other obligors, and underwriters for rating securities. Such fees generally vary from US$1,000 to US$750,000 (or the applicable currency equivalent) per issue. In certain cases, Fitch will rate all or a number of issues issued by a particular issuer, or insured or guaranteed by a particular insurer or guarantor, for a single annual fee. Such fees are expected to vary from US$10,000 to US$1,500,000 (or the applicable currency equivalent). The assignment, publication, or dissemination of a rating by Fitch shall not constitute a consent by Fitch to use its name as an expert in connection with any registration statement filed under the United States securities laws, the Financial Services and Markets Act of 2000 of the United Kingdom, or the securities laws of any particular jurisdiction. Due to the relative efficiency of electronic publishing and distribution, Fitch research may be available to electronic subscribers up to three days earlier than to print subscribers. For Australia, New Zealand, Taiwan and South Korea only: Fitch Australia Pty Ltd holds an Australian financial services license (AFS license no. 337123) which authorizes it to provide credit ratings to wholesale clients only. Credit ratings information published by Fitch is not intended to be used by persons who are retail clients within the meaning of the Corporations Act 2001 Fitch Ratings, Inc. is registered with the U.S. Securities and Exchange Commission as a Nationally Recognized Statistical Rating Organization (the "NRSRO"). While certain of the NRSRO's credit rating subsidiaries are listed on Item 3 of Form NRSRO and as such are authorized to issue credit ratings on behalf of the NRSRO (see https://www.fitchratings.com/site/regulatory), other credit rating subsidiaries are not listed on Form NRSRO (the "non-NRSROs") and therefore credit ratings issued by those subsidiaries are not issued on behalf of the NRSRO. However, non-NRSRO personnel may participate in determining credit ratings issued by or on behalf of the NRSRO.