Fitch Rates India-Based SB Energy RG1’s Proposed Notes First-Time ‘BB-(EXP)’; Outlook Stable

Fitch Ratings – Hong Kong/Singapore: Fitch has assigned SB Energy Holdings Limited’s (SBEH) Restricted Group 1’s (SBE RG1) proposed notes of up to USD600 million due 2025 an expected rating of ‘BB-(EXP)’. The Outlook is Stable.

The final rating is contingent upon the receipt by Fitch of final documents conforming to information already received as well as the final pricing and financial close on the proposed notes.

RATING RATIONALE

The proposed notes are guaranteed by 10 investment-holding SPVs (guarantors) domiciled in the UK, which own five Indian SPVs. Each Indian SPV owns a solar photovoltaic (PV) asset in India. The combined capacity is 1,050MW. The issuer, guarantors and Indian SPVs jointly form a restricted group.

The expected rating reflects high visibility of long-term stable cash flow generated by solar PV asset portfolio in India and is enhanced by the satisfactory quality of off-takers, solely comprising of the sovereign-backed Solar Energy Corporation of India (SECI) and NTPC Limited (BBB-/Negative), which have relatively sound payment records compared with state-owned distribution companies. However, both SECI and NTPC have stretched receivable positions as their key customers, state-owned distribution companies, are facing falling revenue and cash collections due to lower electricity demand amid the coronavirus pandemic. That said, SECI and NTPC’s payments to power-generation companies have been less affected by the pandemic than payments made by state-owned distribution companies.

The expected rating also takes into account the refinance risk arising from the bullet structure of the proposed notes. The financial profile of SBE RG1 under Fitch’s rating case is commensurate with the proposed rating, according to the coverage ratio guidance for fully contracted PV projects under Fitch’s Renewable Energy Project Rating Criteria.

The pandemic and related government containment measures have created an uncertain global environment for the power sector. SBE RG1’s most recent performance data does not indicate material stress or large changes in revenue or costs in the power sector, but Fitch’s ratings are forward-looking and we will accordingly monitor developments, particularly in relation to the severity and duration of the pandemic, and revise our base- and rating-case qualitative and quantitative inputs based on our expectations for future performance and assessment of key risks.

KEY RATING DRIVERS

Fixed Tariff, Long-Term PPAs – Revenue Risk – Price: Stronger

SBE RG1 contracts 76% of its total capacity with SECI and the remaining capacity with NTPC under 25-year fixed-price power purchase agreements (PPAs); both entities are regarded as central public sector enterprises. The PPAs protect the portfolio from merchant price volatility. Both are ‘Stronger’ features and justify an overall ‘Stronger’ assessment of price risk.

Robust Energy Yield, Geographically Diversified – Revenue Risk – Volume: Midrange

We assess volume risk as ‘Midrange’. The energy-yield forecast, which was produced by a third-party technical advisor (TA) for each project, indicates an overall P50/one-year P90 spread of 7.7%, which is between 6.0%-16.0% and a ‘Midrange’ feature. Coupled with a limited operating history, with nearly half of the restricted group operating for less than six months, the overall assessment is limited to ‘Midrange’. Curtailment risk is minimal, as solar plants are must-run stations and any back down by the grid should be compensated in accordance with the Indian Electricity Grid Code 2010, unless it is due to grid security or emergency events. The curtailment risk is further mitigated by the competitive tariffs of SBE RG1’s assets.

Proven Technology, Strong In-House O&M Capabilities – Operation Risk: Midrange

We assess operation risk as ‘Midrange’. The contracts are fixed-priced with an annual escalation and include comprehensive operate and maintenance (O&M) requirements, including scheduled and unscheduled maintenance implemented by experienced teams. O&M contracts have 10-year terms, which are longer than the debt tenor under the proposed five-year bullet. Fitch does not foresee any issue to find replacement operators upon contract expiry, given the prevalence of solar plants in India.

The cleaning is performed by robots and is outsourced to third-party contractors under a 25-year fixed-price contract. All the plants use proven PV crystalline technology, which has a long operating history. Costs have been verified by a third-party technical adviser and appear to be largely in line with the industry. These are ‘Stronger’ features, but the restricted group entities do not intend to keep maintenance reserve accounts, which is a weakness. Operation risk is also restricted to ‘Midrange’ because each plant is of a large size that and entails higher operational complexity.

Ringfenced Structure, Manageable Refinance Risk – Debt structure: Midrange

We assess the debt structure as ‘Midrange’. Noteholders are protected by a ringfenced structure and project-finance style covenants. The proposed notes pay fixed interest rates and we expect the currency risk arising from US-dollar and Indian-rupee fluctuation to be fully mitigated by currency hedging instruments. Noteholders benefit from a six-month interest reserve account and lock-up test at net debt/last twelve months EBITDA of 5.5x or below. Refinancing risk is mitigated by adequate access to the banking and capital market, with support from the long-term remaining PPA tenors upon note maturity and an established operating track record at the time of refinancing.

Financial Profile

Fitch’s financial analysis is based on synthetic debt service cover ratios (DSCR) over the remaining PPA life, given the proposed notes’ bullet structure, assuming the notes will be refinanced upon maturity by long-term fully amortising debt. Fitch’s base-case synthetic DSCR profile averages 1.31x, with a minimum of 1.17x. The synthetic DSCR averages 1.13x, with a minimum of 1.04x under Fitch’s rating case, which incorporates lower energy production, increased degradation, higher expenses and a reasonably conservative refinance interest rate.

PEER GROUP

SBE RG1’s closet peer is the restricted group of Azure Power Solar Energy Private Limited (APSEPL, senior secured rating BB/Stable), which comprises of 10 entities (Azure RGII). Both restricted groups receive a fixed price-tariff contracted under long-term PPAs and have limited records. SBE RG1 has a stronger counterparty mix, with is restricted to SECI and NTPC, while SECI and sovereign-back entities only account for 22% of Azure RGII’s capacity. Both restricted groups have similar debt features, including a bullet repayment structure and ‘Midrange’ assessment of the debt structure. Azure RGII’s covenant is slightly tighter because cash is fully locked up for the last 2.25 years, while SBE RG1’s tariff is lower, largely mitigating curtailment risk, but resulting in lower coverage ratios. However, SBE RG1’s lower revenue counterparty risk means its rating is determined by contracted thresholds, which are lower than those of Azure RGII, which are blended by contracted and merchant thresholds.

SBE RG1 can be also compared with Adani Green Energy Limited Restricted Group 1 (AGEL RG1; senior secured rating: BB+/Stable) and Adani Green Energy Limited Restricted Group 2 (AGEL RG2; senior secured rating: BBB-/Negative). SBE RG1 has a stronger counterparty profile and benefits from lower thresholds. However, AGEL RG1 and RG2 have a tighter issuance structure, with notes issued directly by operating entities, and more protective covenants. Coupled with higher financial metrics, AGEL RG1 and RG2 are rated higher.

RATING SENSITIVITIES

Factors that could, individually or collectively, lead to positive rating action/upgrade:

Average synthetic annual DSCR in the Fitch rating case rising above 1.13x persistently.

Factors that could, individually or collectively, lead to negative rating action/downgrade:

Average synthetic annual DSCR in the Fitch rating case dropping below 1.10x persistently, which could result from:

energy production underperforming long-term projections due to low solar resources or operational issues; or

working capital issues due to off-takers’ payment delays; or

less favourable refinancing terms and structure than the assumptions made in Fitch’s rating case.

BEST/WORST CASE RATING SCENARIO

International scale credit ratings of Sovereigns, Public Finance and Infrastructure 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 three 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].

TRANSACTION SUMMARY

The transaction is a proposed issuance of up to USD600 million of senior secured notes due 2025 by SB Energy Investments Limited, a wholly-owned subsidiary of SBEH. The net proceeds will be used to subscribe to rupee-denominated debt issued or borrowed by the entities in the restricted group, which will, in turn, use the proceeds and existing cash and cash equivalents to repay debt, create and onshore interest-service reserve account and onlend the balance to SBEH and its subsidiaries outside of the restricted group at an interest rate based on the note coupon.

FINANCIAL ANALYSIS

Fitch Cases

The base case reflects Fitch’s view of long-term sustainable performance. It includes P50 electricity output, a 5% production haircut, and an annual degradation of 0.5%. Fitch focuses on the coverage ratio measured by synthetic DSCR based on the portfolio’s debt servicing capability on a long-term basis as a result of the bullet structure of the proposed notes. Fitch evaluates the synthetic DSCR by incorporating a number of assumptions in relation to the notes’ refinancing upon maturity. The refinancing interest rate is calculated based on the risk-free rate, country-risk premium and asset-risk premium, with each parameter determined according to Fitch’s internal guideline. Under Fitch’s base case, the resulting synthetic DSCR profile averages 1.31x, with a minimum of 1.17x.

The rating case reflects a reasonable combination of uncorrelated stresses that could occur in a given year, but we do not expect to persist every year. On top of base-case stresses, the rating case includes one-year P90 generation, higher average annual degradation of 0.7%, and 10% stress to operating costs owed to third-party contractors, in line with Fitch criteria for projects with operation risk assessed as ‘Midrange’. In addition, Fitch does not assume the repayment of the principle amount lent to SBEH or its subsidiaries outside of the restricted group for conservative purposes and to avoid establishing cash-flow dependence on creditors with unknown credit quality. These assumptions are in line with similar solar projects and the contracted nature of the portfolio’s revenue. The synthetic DSCR profile under Fitch’s rating case averages 1.13x, with a minimum of 1.04x. Fitch’s annual DSCR is calculated each December end, which may differ from the actual covenant testing dates.

The SBE RG1 portfolio demonstrates resilience to underperformance when Fitch applies stress to key components, including break-even degradation, break-even production, and break-even O&M costs.

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.

ESG CONSIDERATIONS

The highest level of ESG credit relevance, if present, is a score of 3. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity(ies), either due to their nature or to the way in which they are being managed by the entity(ies). For more information on Fitch’s ESG Relevance Scores, visit www.fitchratings.com/esg.

Source: fitchratings