Fitch Ratings has assigned Saudi Electricity Global SUKUK Company 3′s (SEGSC3) upcoming international Sukuk issue a ‘AA-(EXP)’ expected rating. The rating is in line with Saudi Electricity Company’s (SEC) ‘AA-’/Stable Long-term Issuer Default Rating (IDR) and senior unsecured rating. The rating is also in line with outstanding Sukuk issues, including issues under Saudi Electricity Global Sukuk Company and Saudi Electricity Global Sukuk Company 2.
The final rating is contingent upon the receipt of final documentation conforming materially to information already received and details regarding the Sukuk amount.
The certificates’ expected rating is driven solely by SEC’s IDR and senior unsecured rating due to the Sukuk’s structure, which Fitch understands includes the following features:
- The transaction involves the sale by SEC of a portfolio of assets to SEGSC3, a wholly-owned subsidiary of SEC.
- SEC’s undertaking to purchase the Sukuk assets on the scheduled or any earlier dissolution dates from SEGSC3.
- As the lessee, SEC will pay the periodical rental under the Ijara Agreement.
- Among other aspects, the transaction documentation contains typical negative pledge and default provisions, including a cross default provision, as well as a put option for investors in the event of a change of control affecting SEC.
The Sukuk will be issued on an unsecured and unsubordinated basis. SEGSC3 is a special purpose vehicle incorporated in the Cayman Islands solely to act as the issuer of the certificates and the trustee for the holders of the certificates.
The declaration of trust and the certificates, including any non-contractual obligations arising out of or in connection with, the declaration of trust and the certificates, will be governed by, and construed in accordance with, English law. The purchase, sale and substitution transfer agreements, which will be entered into on the closing date will be governed by Saudi law.
By assigning ratings to the programme and certificates issued under it, Fitch does not express an opinion on the programme structure’s compliance with Shariah principles or whether the relevant transaction documents are enforceable under any applicable law, including, without limitation, Saudi law.
KEY RATING DRIVERS
Sovereign Support Critical
SEC’s current ratings are one notch below Saudi Arabia’s ratings of ‘AA’, based on their strong legal, operational, and strategic links, in accordance with Fitch’s Parent and Subsidiary Rating Linkage methodology. This is because SEC is currently among the highest-rated entities in the broader global electric utility peer group; the residual risks and opportunities inherent within the sector; and the scale of its current investment programme, which will weigh on SEC’s balance sheet over the next five years. However, we do not perceive links with the government to be weaker or to weaken in the future.
Historically, state financial support has been strong. SEC is drawing down SAR51bn (USD14bn) of interest free loans from the government to partially finance its capital projects. The government also provided an additional SAR49.5bn loan to SEC in March 2014. Since its inception in 1999, SEC has not paid for fuel provided by Saudi Aramco. SEC transferred a total of SAR57bn in 2007, 2011 and in 2012 of Aramco payables to the Ministry of Finance, converting them to long-term government payables. The government has deferred all dividend payments from SEC since inception, with the latest 10-year deferral running through till 2020. The government appoints five of SEC’s nine board members, including the Chairman.
Integrated Business Profile
SEC is a monopolistic, vertically integrated utility in Saudi Arabia. The utility regulator, Electricity and Cogeneration Regulatory Authority (ECRA), has licensed SEC to generate, transmit, and distribute electricity in its designated service territory. The company remains dominant in the Kingdom’s electricity generation sector despite the emergence of independent power producers (IPPs), which held 80% of the Kingdom’s of total generation capacity at FYE12. SEC retains up to 50% equity positions in five IPPs, sources fuel on their behalf and purchases all electricity produced. Utilising generating capacity at IPPs ahead of its own plants is expected to result in some EBITDA margin compression in coming years, particularly in light of seasonal swings in electricity demand in the Kingdom.
Commitment to Growth
SEC is instrumental in meeting the country’s growing electricity demand and executing the state policy on providing subsidised electricity within Saudi Arabia, along with developing a robust, reliable, and stable electricity infrastructure. SEC’s current capital spending plan of about SAR157bn (USD42bn) over the next three years (2014-2016) includes investment in electricity generation capacity, transmission infrastructure, and distribution assets.
Historically, the maximum annual capital investment by SEC has been around SAR41bn. Delivery of an even larger capex programme than the one executed previously, on time and on budget, while simultaneously managing other construction-related risks could be challenging.
Subsidised Electricity Tariff
The Council of Ministers, responsible for setting electricity tariffs, has authorised ECRA to set electricity tariffs for commercial, government, and industrial customers. The Council of Ministers has set the maximum electricity tariff that ECRA can approve at 26 halala per unit of electricity. However, the tariff charged to residential consumers is solely determined by the Council of Ministers, as it remains heavily subsidised.
Weakening Standalone Credit Metrics
Fitch-calculated leverage, measured by funds from operations (FFO) adjusted net leverage, is expected to rise to 5x by 2014 from 2.1x at end-2012. These ratios take into account the SAR51bn of governmental support for the new capital projects. Fitch assumes that the company will supplement cash from operations with debt to fund its capital programme and that it will continue to defer fuel costs payable to Saudi Aramco. Nonetheless, SEC’s standalone credit profile under a cost-plus tariff regime is significantly lower than the current state support- driven rating.
Liquidity at SEC is adequate with approximately SAR23.8bn in total liquidity at end-December 2013, including SAR4bn in cash, with the remainder mostly comprising available committed government facility, export credit agency (ECA) and commercial facilities. In addition, SEC issued SAR4.5bn Sukuk notes in January 2014. This compares with around SAR8.8bn of maturities due in 2014, and significantly negative free cash flow expectations until FY16.
Positive: Future developments that may, individually or collectively, lead to positive rating action include:
- Explicit guarantees from the KSA in favour of SEC, which would likely result in positive rating action on SEC’s IDR, providing that the remaining elements of the parent-subsidiary linkage do not weaken.
Negative: Future developments that may, individually or collectively, lead to negative rating action include:
- Diminished government support or a negative rating action on KSA’s sovereign rating, which would likely result in negative rating action on SEC.
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