Fitch Rates AES Panama's USD375 million Notes 'BB+(EXP)'

MONTERREY, Mexico--()--Fitch Ratings has assigned a 'BB+(EXP)' rating to AES Panama S.R.L.'s (AES Panama) proposed up to USD375 million senior unsecured notes due up to seven years.

Concurrently, Fitch has assigned a national scale rating of 'AA-(pan)' to USD375 million senior unsecured notes due up to seven years.

AES Panama's ratings are based on the company's strong portfolio of assets with a competitive dispatch position, its multiple power purchase agreements (PPAs) and its adequate historical financial profile. The ratings also consider the company's exposure to hydrology risk given its elevated contracted capacity, increased volatility in cash flows evidenced during recent years and weakening operating environment due to energy transmission problems in the country. The Negative Outlook reflects weak financial performance during the past year and increasing liquidity pressures from the 2016 bond maturity. In addition, the expected compensations from the government related to restrictions in the transmission lines are under review by the country's Supreme Court, which final result is uncertain.

Fitch expects the company's credit metrics will stabilize in the short to medium term as a result of the start of operations of the power barge in the first quarter of 2015 (1Q'15). The lower spot prices and moderate improvements in hydrological conditions observed since the second half of 2014 (2H'14) should lessen the cash outflows for purchases of energy in the coming quarters.

KEY RATING DRIVERS

Weakened Credit Metrics:

AES Panama's credit metrics deteriorated as a result of non-planned purchases of energy in the spot market during 2014 and 2013 to fulfill obligations derived from its PPAs. The net impact (monetary spot sales minus spot purchases) of these transactions on AES Panama's operating cash was approximately -USD110 million in 2014 and -USD117 million in 2013. EBITDA declined to USD12.0 million in 2014 (2013: USD56.7 million) from 77.2 million in 2012.

The company is exposed to spot prices volatility due to its high contracted level. The pressure on credit metrics derived from high spot prices as the country faced a severe drought period during 2014 and 2013. The company's spot energy purchases were 673GWh during year 2014, above previous year purchases of 599GWh, and well above the 2012 spot purchases of 397GWh. The annual average spot price during year 2014 and 2013 was 217.05 (USD/MWh) and 211.43 respectively. This situation highlights the company's cash flow volatility when hydrology lowers coupled with high contracted levels.

Hydrology conditions for 2015 will remain lower than historical annual average, caused by 'El Nino' effect, however, the dry season (January to April 2015) reported a better hydrology than 2014, which could diminished the overall spot energy purchases effect during the year. Last twelve months (LTM) EBITDA for the period ended in March 31, 2015 reached USD56.9 million, showing a positive impact of lower spot energy purchases since 4Q14 due to lower oil prices. In addition, spot energy purchases during the dry season accounted for 93.99GWh during January to March 2015, which favorably compares to 267.80GWh purchases during January to March 2014. The net impact on operating cash of these purchases was -USD7.0 million during 1Q15, and -USD74.6 million during 1Q14. Spot prices average for 1Q15 was 99.9 (USD/MWh).

Fitch expects company's cash flows will stabilize in the short to medium term as a result of the company's margin recovery due to lower spot purchases expenses benefited from low spot prices, and the start of commercial operation of the power barge since the second quarter of 2015. The power barge, Estrella del Mar, initiated commercial operation on April 24, 2015. The power barge will have a stable and predictable cash generation profile given its fully contracted capacity, ability to transfer changes in fuel prices and adequate margins. The barge will generate a cumulative incremental EBITDA of approximately USD95.9 million in the next five years, considering capacity payments only and operating maintenance expenses. Revenues derived from energy dispatches will depend on future market conditions, including spot prices. Fitch considers this asset will improve the company's cash flows, diversify its assets portfolio and slightly mitigate the impact of ongoing adverse hydrology conditions.

Elevated Exposure to Hydrological Risk:

AES Panama maintains PPAs that represent approximately 92% of the combined firm capacities of AESP and AES Changuinola for 2015 (93% during 2014 and 2013), and 90% through 2016-2018 period. This elevated level exposes AES Panama to changes in hydrological conditions and spot market prices such as those observed during 2014 and 2013. The acquisition of the barge is part of the actions being taken by the company to reduce its exposure to hydrology risk.

Panama spot energy prices increased in 2014 and 2013 as a result of a combination of a robust demand, adverse hydrological conditions and congestion in the transmission lines, reaching a peak spot price of US$291.9 MWh during summer season 2014. Since 2H14 spot prices have significantly decreased given the decline in oil prices and somehow better year over year hydrological conditions. Although the latter have improved during the three months ended March 31, 2015 particularly in the west of the country, they still remain below the historical average. Prices considered in PPAs with Distribution companies, the company's largest clients, are below USD100/MWh. Cash flows could deteriorate should hydrology remain abnormally low.

AES Panama's operations are being pressured by delays in the expansion of country's transmission infrastructure. This has further exposed the company to the spot market and triggered the government to compensate the affected generation companies. Last year the Panamanian government agreed to compensate the issuer for purchases in the spot market during 2014 through 2016, by the spread between the spot and the contract price associated to 70MW.

The compensations have a cap of USD40 million in 2014, USD30 million in 2015 and USD30 million in 2016. AES Panama was compensated for the spot purchases by USD39.5 million during 2014 (USD23.2million collected during 2014, USD13.4 million collected as of March 2015). Future government compensations during 2015 and 2016 will continue subject to resolution from the Supreme Court of Panama to determine if the Cabinet Resolution, which approved the compensation, was granted as per Constitution of the Republic of Panama. The Comptroller General of Panama filed the consultation for the Supreme Court. Due to current low spot prices, the issuer's annual compensation amount estimated for 2015 and 2016 will be below USD10 million per year.

Cash Flow Supported by Contractual Position:

AES Panama's ratings reflect company's contractual position with low counterparty risk. Generation companies in Panama are permitted to enter into PPAs for up to their firm capacity allocation. According to the local regulator, firm capacity is calculated based on a 30-year historical average. The regulations promote the use of PPAs by requiring distribution companies to secure 100% of their peak regulated demand for the following year. AES Panama maintains PPAs for approximately 91%, on average, of available capacity through 2018. The commercial strategy of AES Panama aims to release committed capacity in the short-to-medium term to reduce its exposure to the spot market.

The company sells electricity under separate PPAs with the country's three distribution companies, Empresa de Distribucion Electrica Metro-Oeste S.A. (Edemet), Elektra Noreste (Fitch IDR of 'BBB'), and Empresa de Distribucion Electrica Chiriqui (Edechi), with various maturities. Panamanian distribution companies appear to have the sufficient credit quality and financial ability to support their respective obligations under the PPAs with AES Panama.

AES Panama is the largest generation company in the country based on installed capacity accounting for 18.4% market share (without considering AES Changuinola installed capacity of 223MW). AES Panama benefits from a competitive portfolio of low-cost hydroelectric generating assets, including dam-based reservoirs and run of the river units. The company is composed of four hydroelectric plants throughout the country with a total installed capacity of approximately 482 MW and different dispatch priorities. The thermal plant, Estrella del Mar, has an installed capacity of 72MW.

The diverse location of the company's assets somewhat mitigates its exposure to hydrology risk as the plants are located in different hydrology regions. The Esti, La Estrella and Los Valles facilities are run of river plants in the western part of the country, and together accounted for approximately 65% of total AES Panama's generation during 2014 (2013: 57%). Bayano contributed with 35% of total 2014 generation (2013: 43%). The overall generation of AES Plants during 1Q15 was 13.4% approximately higher than 1Q14.

Weakening Liquidity and No Foreign Exchange Risk:

The company's liquidity position has been affected during recent years as a result of weaker cash flow generation from operation and the company's continued dividend payment policy in 2013. Currently, the amortization schedule is concentrated in 18 months due to the USD300 million senior unsecured notes maturing in December 2016, which exposes the company to refinancing risk. Cash on hand as of March. 31, 2015 was approximately USD47.3 million; additionally the issuer maintained restricted cash for approximately USD10 million in the Debt Service Reserve Account.

AES Panama's debt as of March 2015 is composed of USD300 million senior unsecured notes, the USD57.3 million bank debt which funded the acquisition of the 72MW power barge, and USD35 million in working capital lines. LTM Leverage ratio, as measured by total debt to EBITDA, was 6.9 times (x) as of March 2015. The company's financial policy is to maintain a minimum cash balance of USD20 million and future dividend payments may follow this policy.

Historically, AES Panama has been able to access bank and debt capital markets. The company plans to refinance in advance the 2016 bond maturity. The long-term debt maturity is expected to be extended up to seven years through a senior notes issuance that could range between USD300 - USD375 million. The rating Outlook could be revised to Stable as company's liquidity position strengthens, in conjunction with a stable and sustained cash flow generation measured by EBITDA in the medium term.

Exposure to Regulatory Risk:

The company's ratings also reflect its exposure to regulatory risk. Historically, generation companies in Panama were competitive unregulated businesses free to implement their own commercial strategies. In the past years, the increase in electricity prices has resulted in increased government intervention in the sector in order to curb the impact of high energy prices for end-users.

RATING SENSITIVITIES

A downgrade could result from a combination of the following factors: leverage above 4.0x on a sustained basis, increased government intervention in the sector coupled with weakening regulatory framework, inability to reduce exposure to the spot market, and/or payment of dividends coupled with high leverage levels.

Factors that could trigger a positive rating action include: a sustained decrease in leverage below 3.0x coupled with an effective diversification of revenues among different energy sources, and reduced exposure to the spot market.

KEY ASSUMPTIONS

Key assumptions within Fitch's rating case for the issuer include:

--The company will continue to be exposed to spot market prices volatility until contract level decline in 2019;

--Low spot prices will contribute to margin recovery during 2015. There is no expectation of strong rebound of international oil prices that could pressure spot prices during 2016;

--Transmission line constraints will remain until 2016;

--2016 bond maturity is refinanced in advance.

Fitch currently rates AES Panama as follows:

--Long Term Issuer Default Rating (IDR) 'BB+'; Rating Outlook Negative

--Local Currency IDR 'BB+'; Rating Outlook Negative

--National Long Term Rating 'AA-(pan)'; Rating Outlook Stable

Date of Relevant Rating Committee: 12 June 2015

Additional information is available on www.fitchratings.com

Applicable Criteria

Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage (pub. 28 May 2014)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=749393

Additional Disclosures

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https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=986508

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Contacts

Fitch Ratings
Primary Analyst
Alberto Moreno
Senior Director
+52 81 8399 9100
Fitch Mexico S.A. de C.V., Prol. Alfonso Reyes 2612
Monterrey, N.L. Mexico
or
Secondary Analyst
Vanessa Villalobos
Associate Director
+506-2296-9182
or
Committee Chairperson
Lucas Aristizabal
Senior Director
+1-312-368-3260
or
Media Relations:
Alyssa Castelli, +1 212-908-0540
alyssa.castelli@fitchratings.com

Contacts

Fitch Ratings
Primary Analyst
Alberto Moreno
Senior Director
+52 81 8399 9100
Fitch Mexico S.A. de C.V., Prol. Alfonso Reyes 2612
Monterrey, N.L. Mexico
or
Secondary Analyst
Vanessa Villalobos
Associate Director
+506-2296-9182
or
Committee Chairperson
Lucas Aristizabal
Senior Director
+1-312-368-3260
or
Media Relations:
Alyssa Castelli, +1 212-908-0540
alyssa.castelli@fitchratings.com