MOODY'S CONFIRMS Baa3 FOR SELKIRK COGEN FUNDING CORPORATION
New York, 09-02-98 -- Moody's confirmed the Baa3 rating for Selkirk Cogen Funding Corporation (SCFC). Moody's also changed the outlook of the Series A bonds, which mature in 2007, from negative to stable and maintained the negative outlook on the Series A bonds, which mature in 2012.
The outlook changed to negative for both tranches of bonds in 1995 when Niagara Mohawk, which historically contributed 20% to SCFC's revenues, announced that it might be forced to file for Chapter 11 bankruptcy unless it could lower the costs of its purchased power from Independent Power Producers, including SCFC. Consolidated Edison (Con Ed) contributes the remaining 80% of the revenues, which Moody's considers stable.
Under Niagara Mohawk's Master Restructuring Agreement (MRA), SCFC will receive roughly $8 million (net of expenses already paid) up front, and the Purchase Power Agreement (PPA) on Unit 1 of the generating plant will mature earlier, in 2008 instead of 2012.
The up-front payment is small (roughly 2% of principal), so the sacrifice in this transaction is higher debt service coverage than previously projected in exchange for a shorter contract coverage period. Although the trade-off is not particularly advantageous for bondholders, the amount of debt affected is small enough that Moody's still considers the cash flow protections appropriate for the rating.
It is important to the rating that this negotiated change affects only the contract associated with Phase 1 of the project. Unit 2 of the project is covered by a contract with Con Ed. Moody's believes that the Con Ed contract is protected from renegotiation, providing cash flow stability to SCFC. Any change in Con Ed's ability or willingness to recover purchase power costs through rate increases or other means would have a negative impact on ratings, but Moody's considers this unlikely.
The cash flow promised by the Con Ed contract should cover all debt after the Unit 1 contract expires. Furthermore, Con Ed has a regulatory settlement that provides for recovery of the cost of power purchased at above-market rates as long as it pursues cost reductions. Even if Con Ed does not reduce its costs as proscribed in the regulatory settlement, its exposure to non-recovery is limited to $300 million ($30 million per year for 10 years) – a small amount for a company with over $5 billion in equity.
Consolidated debt service coverage ratios for both tranches of debt averaged 1.78 times prior to the change in the contract and 1.88 times after the change. The minimum, both before and after, was 1.55 times. What the numbers do not show is the increased uncertainty of the cash flows in the years 2008-2012, after the Unit 1 contract expires.
Since SCFC's transactions have a contract revenue period which extends through 2012, its revenues are never exposed to a pure merchant market risk. Moody's also believes that investors should distinguish the source of cash flow between the two tranches of debt issued by SCFC: the debt due in December, 2007 is covered 100% by contracted revenues, while the debt due in June, 2012 is covered by a combination of contracted revenues and market based revenues -- which will be more volatile.
In sum, the renegotiated PPA for Unit 1 changes the risks to investors. Although the project has significant contracted revenues between 2008 and 2012, industry deregulation and divestitures of assets has introduced uncertainty in cash flows, leading Moody's to two different rating outlooks for SCFC's debt.
Selkirk Cogen Funding Corporation is the funding vehicle for Selkirk Cogen Partners, Ltd. which is a single asset independent power producer located in upstate New York.
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