S&P Global Ratings lowered the debt ratings of Qurate Retail, Inc., the parent of QVC. The rating agency said Qurate’s operating performance weakened further in the fourth quarter of 2022 as profitability was worse than anticipated, driving leverage up amid steadily declining customer demand.

S&P said, “We view Qurate’s capital structure as potentially unsustainable given the execution risks associated with returning to meaningfully positive cash flow and significant debt load.”

Qurate’s brands include QVC, HSN, Zulily, Ballard Designs, Frontgate, Garnet Hill, and Grandin Road.

S&P lowered its issuer credit rating on Qurate to ‘CCC+’ from ‘B-‘. It also lowered its issue-level rating on subsidiary QVC, Inc.’s secured debt two notches to ‘B-‘ from ‘B+’. The recovery ratings were revised to ‘2’ from ‘1’, reflecting the expectation for substantial (70 percent to 90 percent; rounded estimate: 70 percent) recovery in the event of a payment default.

The negative outlook reflects the risk of a downgrade if the company cannot stabilize performance and improve cash flow in light of upcoming maturities.

S&P said in its analysis, “Declining customer counts and cost control challenges continue to weigh on Qurate’s earnings and cash flow. In fiscal 2022, S&P Global Ratings-adjusted leverage rose sharply to 7.4x from 3.8x in 2021 due to both higher debt and lower EBITDA. Reported free operating cash flow was negative $119 million versus positive $794 million by our calculations in fiscal 2021. QxH segment customer count declined 14 percent to 8.9 million, largely because of the continued impact of cord-cutting and shipping and product availability, which was slowed by a fire at a fulfillment center. In the fourth quarter that ended December 31, 2022, the S&P Global Ratings-adjusted EBITDA margin dipped 840 basis points to 5.7 percent from 14.1 percent in the year-ago period. Higher fixed expenses, continued supply chain inefficiencies, and a 10 percent sales decline all contributed. While its inventory position improved sequentially during the last quarter, we expect continued margin pressure through at least the first half of 2023 as easing supply chain costs are partially offset by investments in turnaround initiatives and a weak demand environment.

“We view the company’s capital structure as potentially unsustainable in a rising interest rate environment. We expect Qurate’s adjusted leverage to remain high, above the 6x area in 2023. The company is burdened by more than $7 billion of funded debt. Among its staggered debt maturities, $600 million are due in March 2024, with about $1 billion outstanding as of year-end under its revolving credit facility due in 2026. To the extent the company will need to refinance debt, we expect a much higher interest burden. Our calculation of Qurate’s leverage reflects its debt, excluding cash on hand and our adjustments, including operating lease liabilities, outstanding principal of debt and nearly $1.3 billion of preferred stock issued in 2020 that we treat as debt. The company has a publicly stated financial policy of maintaining leverage of less than 2.5x at QVC by its calculations. That figure was 2.8x for the fourth quarter of Qurate’s 2022 calculations. Our assessment of financial risk considers the debt at QVC and Qurate as well.

“We continue to assess the company’s liquidity as adequate, given the cash balances and availability under its $3.25 billion revolver. The QVC revolving credit agreement requires QVC (together with Zulily, Cornerstone, and their restricted subsidiaries) to maintain consolidated total net leverage of no more than 4.5x. The notes do not have any significant maintenance financial covenants. To preserve profit, Qurate is focusing on managing costs and stabilizing revenue over the next two years, including through cost savings in fulfillment and other margin initiatives. Further, it recently announced the elimination of over 400 positions in 2023, primarily at QVC U.S. and HSN. This reduced the corporate headcount 12 percent. In our view, Qurate has had limited ability to effectively adjust its merchandising strategy as part of its wide-reaching turnaround.

“Qurate generates a significant portion of revenue from TV viewership, which is in secular decline because of cord-cutting and other factors. Amid this and continued weak execution, we have an incrementally worse view of the company’s ability to track, adjust, and control the execution of strategy. As a result, we revised our ESG indicators to E-2, S-2, and G-4 from E-2, S-2 and G-3.

“The negative outlook reflects our expectation that Qurate’s operating performance will remain pressured despite cost-cutting efforts, as weak cash flow will make it difficult to comfortably service and refinance the high debt burden across the group.”