Fitch Affirms Catchment Tay Limited's Notes at 'BBB-'; Outlook Stable
The affirmation reflects the project's stable financial and operational performance. The ratings are supported by a stable revenue profile, low exposure to volume risk and straightforward debt structure.
Wastewater volumes treated by Catchment Tay in 2015 were below Fitch's base case expectation, but without any significant impact on revenue. 2016 shows a better trend, in line with our base case forecast. Catchment Tay continues to operate in line with its qualitative performance standards and so has not incurred any performance deductions.
The repairs of the five sludge tanks affected by corrosion have been finalised and were in budget of GBP2.2m, with a partial recovery from the construction contract under defect warranty. The latest debt service coverage ratios (DSCR) reflect the stable performance and were 1.37x for June 2016 and 1.36x for December 2015.
KEY RATING DRIVERS
Operation Risk: Midrange
Catchment Tay's operations and maintenance (O&M) contractor is Veolia Water Operational Services, a subsidiary of Veolia Water UK, a seasoned and strong operator and one of the project's sponsors. It operates the project with relatively simple and commonly used techniques and has performed in line with the qualitative standards set in the concession agreement so far. It has incurred zero non-compliant days.
Revenue Risk: Midrange
The Authority is a creditworthy counterparty and pays the unitary charge to Catchment Tay. The payment depends on the volume of wastewater treated. However, the revised tariff framework substantially reduces revenue volatility through altered tariffs and water volume thresholds. The first volume band of 30 million cubic metres, or 80% of base case volumes, generated sufficient revenue to cover debt service. This is robust as over the past 13 years, the historical low volume was 33.5 million cubic metres. The technical advisor has observed a slight deterioration in volumes over time, but it is consistent with initial expectations.
The revised tariff framework has been in place since 2009, but there has been a delay of over six years in formalising the framework in the project's documentation. Fitch recognises the risk around the ability and willingness of the parties to agree upon a formal implementation. If the project were to switch back to the initial tariff framework, this would trigger increased sensitivity to wastewater volumes, but similar financial performance when meeting our base case volume expectations. However, the 'BBB-' rating factors in this risk.
Infrastructure Renewal: Midrange
Veolia bears most of the risk of costs overruns associated with the O&M and lifecycle responsibilities. For the risk borne by the project company, there is a maintenance reserve account in place and Catchment Tay can also recover part of its contingent costs from insurance.
Debt Structure: Stronger
The rated debt ranks senior, is fully amortising and matures in 2028, one year before the maturity of the concession. The interest rate is fixed. It benefits from a standard 6-month DSRA.
The latest DSCRs are robust, at 1.37x as of June 2016 and 1.36x as of December 2015. Our base case volume assumption is 37.5 million cubic metres, leading to an average DSCR of 1.55x and a minimum of 1.17x. Under Fitch's rating case, the average DSCR is 1.53x and the minimum 1.15x, reflecting a more conservative volume assumption of 35 million cubic metres. The sensitivities and break-evens highlight the metrics' resiliency. In particular, the volume break-even stands at 27.9 million cubic metres while the historical low is 33.5 million cubic metres.
In the scenario of the project switching back to the former tariff mechanism, Fitch expects higher revenue volatility and less robust volume break-even. This constrains the rating at 'BBB-'.
Positive: An upgrade could be triggered by a formal approval of the revised tariff mechanism, coupled with a stable operational and financial performance.
Negative: a downgrade could be triggered by the average DSCR falling below 1.30x due to:
- A reduction in the volumes of treated wastewater, over the long-term, and below levels assumed under Fitch's rating case
- Weak operational performance
- Higher than projected operating or lifecycle costs
A downgrade could also be triggered by an adverse change in the credit risk profile of the revenue counterparty.
SUMMARY OF CREDIT
Catchment Tay operates a wastewater treatment system in the area of Dundee in eastern Scotland. The project is set up under a private finance initiative contract with Scottish Water, which expires in December 2029. The project has been operating since November 2001.