NEW YORK--()--Fitch Ratings has downgraded CE Generation LLC's (CE Gen) $400 million senior notes ($169 million outstanding) due 2018 to 'BB-' from 'BB+.' The downgrade reflects Fitch's long-term expectation for reduced cash flow due to lower energy revenues earned at the portfolio's geothermal projects.
The Rating Outlook has been revised to Negative from Stable due to the potential for worse financial performance if the current low energy pricing environment persists over the next two years.
KEY RATING DRIVERS
--Weakened Financial Profile: The Fitch rating case yields average consolidated DSCRs through 2018 of 1.07 times (x). CE Gen did not have sufficient cash flow from geothermal distributions to service its debt on Dec. 15 and used cash on hand and supplemental distributions from its gas plant projects to meet its obligations. Fitch expects the sponsors to support the project with equity in 2013 if necessary.
--Exposure to Volatile Energy Pricing: The majority of energy revenues earned by CE Gen subsidiaries are exposed to variable Short-Run-Avoided-Cost (SRAC) pricing, which is tied to natural gas prices. Fitch believes natural gas prices, and therefore SRAC energy prices, will remain below prior projections through 2018, reducing expected cash flow from the geothermal projects.
--Subordinated Position: CE Gen's cash flow is reliant on distributions from a portfolio of geothermal projects that have senior project-level debt. The project-level distribution trigger is relatively high (1.50x), which reduces the ability to contribute cash flow to CE Gen during periods of financial pressure.
--Strong Off-Takers: Geothermal output is contracted under nine investment grade agreements -- eight with Southern California Edison (SCE) ('A-'/Stable) and one with Arizona Public Service ('BBB-'/Stable). Production is 100% contracted through 2016 and 84% contracted through 2018. Fitch expects the geothermal projects to re-contract expiring PPAs due to Renewable Portfolio Standards in California.
--Good Operational History: CE Gen's rating benefits from a diverse base of 10, well maintained geothermal projects with strong operating histories, situated on an excellent geothermal resource. While the geothermal projects missed their distribution threshold in November 2012 due to curtailment and market pricing stresses, they continue to operate at high capacity factors.
WHAT COULD TRIGGER A RATING ACTION
--Lack of sponsor support, if needed, to meet debt service in 2013.
--Persistently low natural gas prices, a major input of the SRAC formula, could further depress energy prices, further reducing coverage levels.
--Deterioration of energy generation at the geothermal projects, which typically provide the majority of cash flow for debt service at the project and CE Gen levels.
--Persistent or long duration curtailment similar to what the geothermal plants experienced in 2012 could hamper cash flows.
The senior notes are secured by all assets of CE Gen, including the residual cash flow of its portfolio of 13 energy projects, as well as equity interests in the project companies, and all operational and depository accounts.
Distributions from CE Gen's geothermal subsidiaries in 2013 may not meet the 1.50x debt service coverage ratio (DSCR) threshold to upstream cash to CE Gen. Geothermal cash flow was constrained at the end of 2012 by low energy prices, and an unusual, 30-day transmission curtailment. CE Gen relies on residual cash flow from the geothermal project to pay debt service.
The current low gas price environment has pushed SRAC energy prices lower and eroded the cash flow cushion at CE Gen. As a result, the unexpected transmission curtailment in 2012 had an impact on CE Gen's ability to pay debt service. Similar events will be harder for the Project to weather in the current low gas price environment.
CE Gen's geothermal subsidiary Salton Sea Funding Corporation (SSFC) sustained a 30-day transmission outage on SCE's Mirage-Ramon 220-kv transmission line over October and November 2012. SSFC curtailed six of its 10 projects by a total 80 MWs during the outage period, and will not be compensated for the lost revenue under its transmission contracts or PPAs.
Fitch's discussions with the transmission provider Imperial Irrigation District confirmed that the 30-day outage was highly unusual in length. Typically transmission maintenance spans eight to nine days annually. Typical system curtailment, which applies to all projects in a given curtailment region on a pro-rata basis, occurs a few times a year for three to five days. Therefore, this particular curtailment was extremely unusual. Fitch believes it is unlikely that such a long curtailment will be repeated during the debt term.
The previous financial forecast provided to Fitch by CE Gen included significant dividends from SSFC in 2012. For 2012, SSFC made markedly reduced dividends to CE Generation than previously forecast due to the distribution lock-up that occurred in November. CE Gen had available cash on hand plus additional dividends from the gas plant operations totaling $17 million to meet its debt service in December 2012 without drawing on reserves. Fitch understands that the sponsors are willing to support debt payments at CE Gen in 2013 until funds locked-up at SSFC can be released in late 2013. Fitch has built this support into its rating revision.
Fitch notes that if the stressed gas prices in the rating case materialize in 2013, CE Gen will require additional liquidity to meet its debt repayment obligations. Fitch expects the sponsors to support the project with equity in 2013 if necessary, or the project may draw on its six-month debt service reserve letter of credit.
CE Gen's geothermal projects hold $101 million of debt that is structurally senior to the $180 million outstanding debt at CE Gen. The geothermal project debt requires 1.50x debt service coverage in order to permit upstream residual cash to CE Gen. These projects did not meet the 1.50x distribution trigger for the first time in November 2012, significantly reducing the financial flexibility of CE Gen over the next year and prompting the equity contribution from the sponsors.
CE Gen is a special purpose holding company created solely to issue the senior secured notes and hold the equity interests in 13 generating assets with an aggregate net ownership interest of 770 megawatts. CE Gen's 10 geothermal facilities are located in the Imperial Valley near Calipatria, California, and its three gas fired facilities are located in Plattsburg, New York; Big Springs, Texas; and Yuma, Arizona, respectively. CE Gen is owned 50% by U.S. based MidAmerican Energy Holdings Company ('BBB+' / Stable Outlook) and 50% by Canadian based TransAlta USA Inc.
Additional information is available at 'www.fitchratings.com'. The ratings above were solicited by, or on behalf of, the issuer, and therefore, Fitch has been compensated for the provision of the ratings.
Applicable Criteria and Related Research:
--'California's Latest Energy Push' (Jan. 3, 2012);
--'Rating Criteria for Infrastructure and Project Finance' (July 11, 2012);
--'Rating Criteria for Thermal Power Projects' (June 18, 2012).
Applicable Criteria and Related Research:
California's Latest Clean Energy Push
Rating Criteria for Infrastructure and Project Finance
Rating Criteria for Thermal Power Projects