Fitch downgrades Inversiones Latin America Power Limitada's notes

By Fitch Ratings
April 26, 2023

Fitch Ratings - Mexico City - 26 Apr 2023: Fitch Ratings has downgraded Inversiones Latin America Power Limitada's (ILAP) USD403.9 million senior secured notes to 'CC' from 'B-'. In addition, Fitch has removed the Negative Watch on the ratings. The notes are supported by cash flows from two windfarms in Chile, San Juan, S.A. (San Juan) and Norvind, S.A. (Totoral).

The downgrade follows the deterioration of ILAP's financial profile resulting from spot price volatility, the extension of the electricity tariff stabilization mechanism, and the continued delay in the implementation of a monetization facility that would allow the project to receive short-term liquidity and reduce working capital pressure.

The rating reflects the project's increased reliance on the monetization of the PEC I and PEC II receivables in the next two months to comply with its obligations. Fitch views a default as probable given the timeframe to complete the envisioned transactions.

RATING RATIONALE

The rating for ILAP's portfolio of two windfarms in Chile, San Juan (81% of total generation capacity) and Totoral (19%), reflects its deeply deteriorated liquidity position. Although around 73% of its revenues are contracted with distribution companies (DisCos) through regulated, fixed-priced, long-term power purchase agreements (PPAs) and short-term bilateral PPAs through 2033, the transaction is exposed to profitability erosion risk due to varying prices between the energy injection node and the DisCo withdrawal node, which is expected to be mitigated over the medium term due to transmission network expansions.

The rating is not limited by counterparty risk, as the projects' most relevant counterparties are either investment-grade or DisCos under regulated PPAs, which benefit from protective regulatory step-in provisions. The transaction will also have a mostly merchant tail once the regulated PPAs expire in 2033, although this is somewhat mitigated by the long remaining useful life of the larger plant, San Juan, which Fitch assumes will end in 2042 (25 years total). Together, both farms have a P90/P50 differential of 13%, indicating moderate wind resource variability. The windfarms have some curtailment risk, which is expected to persist going forward.

Both farms have presented an adequate operating track record and benefit from long-term, fixed-price service and availability agreements with Vestas Chile, guaranteed by Vestas Wind Systems A/S, which is considered an experienced O&M contractor. The overall debt structure is solid, with a mandatory amortization schedule complemented by a partial cash sweep up to a target debt balance. Refinancing risk exists by way of a balloon payment that is expected to be equal to roughly 20% of the original value of the notes under Fitch's cases.

Under Fitch's rating case, the debt service coverage ratio (DSCRs) is 0.5x for the first half of 2023. The next debt payment should occur in July, and as the debt service reserve account was already partially used, there is an increased probability of default.

KEY RATING DRIVERS

Robust O&M Agreement Provides Comfort (Operation Risk - Midrange): Vestas Chile, which is supported by a guarantee of its parent company, Vestas Wind Systems A/S, is a provider of equipment and O&M contracts and has a long and proven track record with the plants' technology. The plants benefit from a comprehensive service and availability agreement (SAA) with fixed and defined costs, including scheduled and unscheduled maintenance covering the majority of the life of the debt.

The SAAs also provide minimum availability guarantees of 97% for both windfarms in 2021 and of 98% for San Juan starting in 2022. However, the transaction will be exposed to re-contracting risk once these agreements expire, in 2037 for San Juan and 2029 for Totoral, which could lead to increases in costs or lower availability guarantees. Life extension programs are planned for both farms to add to their useful life, bringing them up to 30 years, although Fitch has assumed a maximum of 25 years for conservatism per applicable criteria. A three-month O&M maintenance reserve account (OMRA) supports the structure.

Evolving Track Record (Revenue Risk - Volume: Midrange): Both farms benefit from a resource forecast that considers operating history, with a longer track record considered for the smaller windfarm, Totoral, having started operations on 2010. Both farms have P90/P50 differentials of 13%, indicating moderate wind resource variability. San Juan has a shorter operating track record and has been exposed to wake effect since 2020 due to the construction of neighboring windfarms.

Although wake effect remains a risk for this plant, losses have been conservatively estimated by the project's independent engineer (IE) and included in the resource forecast utilized by Fitch. Both plants are also exposed to some curtailment risk, which is expected to continue as additional renewables incorporate themselves into the system.

Adverse Market Dynamics Overwhelm Project (Revenue Risk - Price: Midrange): The plants have some merchant exposure during the life of the notes given that the majority of revenues (around 70%) are contracted through long-term, inflation-linked, fixed-priced PPAs. Price exposure mainly originates from the differential between injection node and withdrawal node. This is because the company earns the injection price where the plants are located, north of Santiago, and pays the withdrawal price for most of its PPAs in Central Chile, where the majority of the energy demand is located. The withdrawal price is generally higher due to the concentration of energy demand.

The transaction will have a merchant tail post-2033 to retire the remaining debt after the balloon payment is refinanced. Spot prices are expected to be capped in the long term through the entry of more renewable energy projects and newer technologies, such as batteries, that would lower the marginal cost of energy production.

Solid Structure, Some Refinancing Risk (Debt Structure - Midrange): The debt is amortizing with manageable refinancing risk. The plants will benefit from a legal amortization schedule complemented by a partial cash sweep up to a target debt balance. Failure to meet the target debt balance is not an event of default, therein providing flexibility to the transaction in the event that certain years perform below original expectations.

Under Fitch's base case, the balloon payment would be equivalent to 20% of the original amount of the notes, which is considered a moderate refinancing risk exposure. The transaction benefits from an adequate covenant and security package, including a 1.2x backward- and forward-looking dividend distribution test. The project's six-month debt service reserve account (DSRA) also provides some comfort to the structure.

Financial Profile

DSCRs have an average of 1.3x with a minimum of 1.2x under Fitch's base case, and an average of 1.2x with a minimum of 1.0x (in 2026) under Fitch's rating case. These ratios include the collection of PEC I receivables in Q2 for Fitch's base case and Q3 for Fitch's rating case and the collection of PEC II receivables in Q3 2023 for both agency cases. It is important to note that if this cash inflow does not happen in the first half of 2023, the DSCR would be 0.7x in Fitch's base case and 0.5x in Fitch's rating case, which would deplete the remaining reserve.

Refinancing risk is mitigated by a project life coverage ratio (PLCR) of 2.4x and 1.2x, for our base and rating cases, respectively, at the time of the notes' maturity in 2033; this is considered adequate versus applicable criteria to offset potential merchant volatility after 2033.

PEER GROUP

ILAP's ratings reflects that a default is probable, worse than that of 'CCC' rated entities where the risk of default is more a possibility. Adverse market conditions and working capital investments weaken its financial flexibility compared with higher-rated peers.

RATING SENSITIVITIES

 

Factors that Could, Individually or Collectively, Lead to Negative Rating Action/Downgrade

--Monetization of PEC I or PEC II receivables does not happen before the end of May 2023;

--Net spot losses exceeding USD19 million during 2023 driven by adverse operating performance or market dynamics.

Factors that Could, Individually or Collectively, Lead to Positive Rating Action/Upgrade

--Project liquidity improves, with the monetization of the PEC I and PEC II receivables, leading to operational cash generation above debt service;

--The decoupling costs remain below or equivalent to USD15 per MWh, yielding an average forecast DSCR above 1x.

Best/Worst Case Rating Scenario

International scale credit ratings of Sovereigns, Public Finance and Infrastructure issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of three notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579.