Moody’s Investors Service today placed the Ba3 rating of InterGen N.V. (InterGen) senior secured credit facility and notes under review for possible downgrade.
The rating action reflects the company’s exposure to weak merchant power markets in multiple markets, including the UK and Australia. The review also factors in the transforming risk characteristics occurring across the company as the portfolio appears to be changing from one that had historically been highly dependent upon contracted cash flows to one that will be far more reliant on merchant margins. This phenomenon is expected to become more pronounced beginning in 2013 when firm contracts at certain portfolio assets begin to expire, if they are not extended beforehand.
InterGen’s Q1 2012 financial performance declined materially from 2011 due to a material decline in distributable cash flow from its UK operations, the most important market for InterGen, where most of its major ‘Tier I’ assets are located. Specifically, the day-ahead spark spreads in the UK were nearly 50% lower during the first quarter 2012 than the same 3-month period in 2011, primarily driven by weak power prices caused by the combination of a very tepid economy, mild weather, new capacity additions coming on-line and declining coal prices, which have pushed natural gas-fired generations further out on the dispatch curve. To that end, InterGen’s three UK plants saw generation fall by a combined 1,151 GWh in Q1 2012 compared with Q1 2011, even though availability was higher. This represents a 33.8% decline in generation in the UK from 3,410 GWh in 1Q2011 to 2,259 GWh in 1Q2012. All of these factors resulted in the UK assets generating $6 million in distributions to InterGen in Q1 2012, compared with $47 million in the same period in 2011.We believe that many of the market factors affecting the merchant power market in the UK will persist over the foreseeable future, which is a primary driver in the decision to review InterGen’s ratings.
In addition to InterGen’s UK challenges, the company ‘s Australian assets, all of which are coal-fired generation assets, did not distribute any cash flow to InterGen in 2011 or Q1 2012, and remain in a cash trap situation at each of the plant levels. Also, InterGen’s Rijnmond project in the Netherlands entered a cash trap situation in Q3 2011, which continued during Q1 2012.
On the positive side, from 2007-11, InterGen’s financial performance generally exceeded management’s forecasts, primarily due to better than anticipated merchant energy margins, and the cash flow benefit from the acquisition of three contracted operating assets in Mexico. As a result, InterGen’s rolling 12-month debt service coverage ratio (DSCR), as calculated per the Credit Agreement, has on average measured between 1.60-1.80 times. DSCR for the full-year 2011 measured 1.73 times, while DSCR for the last twelve months ended March 31, 2012 measured 1.62 times.
However, management indicates a range of outcomes for debt service coverage between 1.60-1.65 times in 2012, and a wider range of outcomes in 2013, depending on how merchant power markets in the UK develop for the next eighteen months.
We note that InterGen’s sale of its 45.875% equity interest in the Quezon facility in the Philippines to the plant’s joint-owner EGCO has been used to substantially reduce outstandings under the company’s Term Loan B, a credit positive. While Quezon had been a positive cash flow contributor to the portfolio, and its sale will increase the concentration risk in the UK assets, the debt reduction will improve InterGen’s overall leverage profile, and mitigate, to some extent, the large refinancing risk facing InterGen in 2017.
Over the course of the review period, Moody’s intends to gain greater visibility into the forward spark spreads in the UK and the Netherlands, and forward dark spreads in Australia to assess their potential impact on InterGen’s 2012 and 2013 debt service coverage ratios and overall credit profile. The review will also attempt to gain greater clarity around the company strategy to execute replacement and additional contracts given the shifting risk spectrum we see occurring beginning in 2013. The review will factor in the anticipated role and involvement of InterGen’s owners during these challenging market conditions, and will attempt to gain a better understanding of the company’s plans for refinancing the very large debt maturity in 2017.