Fitch Affirms PJSC Mosenergo at 'BB+'; Outlook Stable
OREANDA-NEWS. Fitch Ratings has affirmed PJSC Mosenergo's Long-term foreign currency Issuer Default Rating (IDR) at 'BB+'. The Outlook is Stable. A full list of rating actions is at the end of this release.
Mosenergo's 'BB+' rating incorporates a one-notch uplift for parental support from its majority shareholder (53.5%), Gazprom Energoholding and ultimately PJSC Gazprom (BBB-/Negative), which solely owns Gazprom Energoholding.
Mosenergo's standalone 'BB' rating reflects its strong market position in electricity and heat sales in Moscow and the Moscow region, the most lucrative region in Russia, and its relatively good quality assets. The company's exposure to market risk and fuel prices growth is mitigated by the relative stability of its cash flow supported by new capacity sales under the capacity supply agreements (CSAs) with attractive economics along with its strong credit metrics. However, high regulatory risk is a key factor that in our view caps Russian utilities' standalone ratings at sub-investment grade.
KEY RATING DRIVERS
Strong Credit Metrics
We forecast that Mosenergo will continue to generate healthy cash flow from operations over 2015-2019, mainly due to the large and increasing contribution of new units operating under the CSAs, which the company plans to commission by 2016. We forecast funds from operations (FFO) net adjusted leverage to slightly increase to 2.3x in 2015 from 2.1x in 2014. Our expectation of capex moderation from 2016 along with good cash flow generation is likely to result in de-leveraging with FFO net adjusted leverage falling below 2.0x by 2016 and FFO gross interest coverage staying at above 6.5x over 2015-2019. However, this is largely reliant on Mosenergo's maintenance of a conservative financial policy and more prudent working capital (WC) management.
CSAs Support Cash Flows
Stable earnings and a guaranteed return for capacity sales under the CSAs are the key factors that mitigate Mosenergo's exposure to market risk, support stability of its cash flow generation and enhance its business profile. The company estimates that the newly commissioned units operating under the CSAs contributed about half of its 2014 EBITDA and expects their share to increase to above 70% of EBITDA by 2016 once all new capacity under the CSA framework is commissioned.
Completion of Assets Swap with MIPC
Following the acquisition of a 90% stake in PJSC Moscow Integrated Power Company (MIPC) by Gazprom Energoholding, Mosenergo and MIPC have completed their heat assets swap in 2014 whereby MIPC transferred 44 of its boiler stations to Mosenergo. Six of MIPC's least efficient boiler stations out of 18 planned, were shut down in 2014, while heat generation was mostly covered by Mosenergo. We expect some operational benefits from this transaction with a limited negative financial impact, mostly through weaker WC management at MIPC. The asset swap slightly increased Mosenergo's heat production in 2014 and simultaneously its market share in heat sales in Moscow and the Moscow region. However, we do not consider it to be margin enhancing as the heating segment is fully regulated with uneconomic residential tariffs. In addition, as Mosenergo has almost completed its capacity expansion capex, it may be prompted to invest in the newly received heat assets without a clear return.
Strong Market Position
Mosenergo's standalone 'BB' rating reflects its strong market position in Moscow and the Moscow region (66% of electricity supplies), favourable geography of operations and fairly good quality asset base, which is arguably an industry benchmark among its domestic peers. The company's geography of operations ensures its dominance in the region, which tends to demonstrate the most dynamic growth in electricity consumption, supported by strong customer purchasing power, as reflected in the higher than average income per capita for Russia. While this does not fully mitigate the company's exposure to electricity demand volatility, it can alleviate the impact if electricity sales decline.
Volume and Price Risk Exposure
Despite its near monopoly position in Moscow and Moscow region, Mosenergo bears market risk, which is a function of volume and price risk. We assess the company's exposure to market risk in conjunction with the regulatory risk that can exacerbate price risk. While market risk adds to cash flow volatility, we believe it is mitigated by the company's strong financial profile that contains sufficient headroom to absorb volume and/or price shocks.
Uncertain Regulatory Framework
Similarly to other Russian utilities, Mosenergo is exposed to high regulatory risk, as reflected in frequent modifications of the regulatory regime and political interventions. This undermines the predictability of the regulatory framework that is necessary for utilities to make long-term investment decisions. The instability builds uncertainty into companies' operations and weighs on their cash flow generation, increasing business and financial risks. The uncertainties surrounding the regulatory regime are the key factor that in our view caps Russian utilities' standalone ratings at sub-investment grade.
One-Notch Uplift for Parental Support
Mosenergo's 'BB+' rating benefits from one notch of uplift reflecting support from its majority shareholder - Gazprom Energoholding and ultimately PJSC Gazprom. In accordance with Fitch's Parent and Subsidiary Rating Linkage methodology, we assess the strategic, operational and to a lesser extent legal ties between Mosenergo and its parent company as moderately strong. The strength of the ties is supported by Mosenergo's integral role in Gazprom's strategy of vertical integration and the fact that it contributed almost half of Gazprom Energoholding's EBITDA in FY2014. It also consumes about 7% of gas sold by Gazprom on the domestic market. Given Mosenergo's strong credit metrics, financial support from its majority shareholder has not been needed in the past. However, Fitch would expect timely financial support to be available if the need arises.
- Domestic GDP decline of 4 % and inflation of 15.5% in 2015
- Electricity consumption to decline more slowly than GDP contraction in 2015, and grow below GDP in 2016-2019 annually
- Electricity tariffs to increase below inflation over 2015-2019
- Gas prices growth in line with Fitch estimated inflation over 2015-2019
- Debt split by FX assumed to be in line with 1H15 breakdown
- Capex in line with management's forecast for 2015 and around RUB9bn Fitch estimated over 2016-2019
- Dividend payments of 20% of IFRS net income over 2016-2019
Positive: Future developments that could lead to positive rating action include:
-Capex moderation and/or higher than expected growth rate for electricity and heat tariffs in comparison with domestic gas prices increase resulting in improvement of the financial profile (e.g. FFO net adjusted leverage below 1.5x and FFO interest coverage above 8x on a sustained basis).
-Stronger parental support.
-Increased predictability of the regulatory framework for utilities in Russia.
Negative: Future developments that could lead to negative rating action include:
-Margin squeeze due to the rise of domestic gas prices not fully compensated by growth in electricity and heat prices, weak working capital management, significant debt-funded acquisitions and/or an intensive capex programme that would lead to a material deterioration of the company's credit metrics of FFO net adjusted leverage above 3x and FFO interest coverage below 5x on a sustained basis.
-Weakening of the parental support may result in a removal of the one-notch uplift to Mosenergo's standalone rating.
-Deterioration of the regulatory and operational environment in Russia.
LIQUIDITY AND DEBT STRUCTURE
Mosenergo's debt repayment schedule is not onerous. Its first significant repayment is RUB21.7bn due in 2017 , including a loan from Sberbank (BBB-/Negative). The company's cash position of RUB11.7bn at 1H15 along with available credit lines of RUB46.3bn from Gazprombank (BB+/Negative) and VTB provide sufficient liquidity to cover its upcoming maturities. Mosenergo also has access to the five-year RUB10bn credit line from PJSC Gazprom. We expect the company to generate negative free cash flow (FCF) in 2015 but be FCF positive from 2016. Most of the cash at 1H15 was held at AB Rossiya Bank. Although AB Rossiya Bank is subject to the US sanctions, we treat cash located at this bank as unrestricted as it is RUB-denominated and we believe the bank should be able to service it.
We do not view Mosenergo's FX risk exposure (28% of debt at end-1H15 was euro-denominated whereas revenue is rouble-denominated) as a significant credit risk due to the group's strong financial profile, which has headroom to absorb FX shocks.
FULL LIST OF RATING ACTIONS
Long-term foreign currency IDR: affirmed at 'BB+'; Outlook Stable
Short-term foreign currency IDR: affirmed at 'B'
Long-term local currency IDR: affirmed at 'BB+'; Outlook Stable
National Long-term Rating: affirmed at 'AA(rus)'; Outlook Stable