Moody's Assigns a Prospective (P) A2 Rating to the Senior Unsecured Debt Obligations of the Panama Canal Authority in Conjunction with the Expansion Project. The (P) A2 rating pierces the current Country Ceiling of A3 by one rating notch
Approxmately $2 billion of senior unsecured debt obligations rated
New York, September 10, 2008 -- Moody's Investors Service has assigned a Prospective Rating of (P)
A2 to the senior unsecured debt obligations of the Panama Canal Authority
("ACP") in conjunction with proposed debt financing for partial
funding of the Authority's Expansion Program which includes construction
of a third set of locks. The outlook is stable. The (P)
A2 rating incorporates Moody's assignment of an A1 Government Related
Issuer ("GRI") rating recognizing ACP's status as a
wholly-owned enterprise of the Government of Panama. In
accordance with Moody's GRI rating methodology the GRI rating of
the Authority reflects the combination of Moody's assessment of
ACP's baseline credit risk of 5 on a scale of 1 to 21 where 1 represents
lowest credit risk, the current local currency rating of the Government
of Panama (Ba1) as well as Moody's expectations regarding dependence
and support. For more in-depth discussions of the GRI rating
methodology, refer to Moody's Rating Methodology, "The
Application of Joint Default Analysis to Government Related Issuers",
April, 2005 and Moody's Special Comment, "Government-Related
Issuers: May 23, 2007 Update".
Moody's defines the Baseline Credit Assessment as an opinion of
the intrinsic or stand-alone financial strength of a Government-related
Issuer. The BCA takes into account all aspects of the entity's
existing and/or anticipated business model including the on-going
benefits or drags of the government relationship. Accordingly,
the BCA reflects the fundamental business position of the Panama Canal
Authority from a global perspective.
Prospective Ratings are assigned when it is highly likely that the rating
will become final after all documents are received and reviewed or an
obligation is issued. The (P) A2 rating reflects a wide range of
credit considerations including, but not limited to the following
The Panama Canal is a unique infrastructure asset that is competitive
and unlikely to be replicated. Within its unique market,
the ACP enjoys an exceptionally strong operating position. The
Authority's geographic location and distinction of being the narrowest
land expanse connecting the Pacific and Atlantic Oceans positions the
ACP competitively with respect to trade flows between Asia and the east
coast of the US and points beyond to the east. The ACP is essentially
selling connectivity and time savings for shippers, cruise ships
and other vessels that need to transit from the Pacific Ocean to the Atlantic
Ocean and back. This competitive advantage is evident in the generally
steady growth of transits despite economic downturns, natural disasters
and wars since the opening of the canal in 1914. The favorable
operating position of the canal is also evident in the financial performance
recorded since the handover in 1999. In Moody's view this
unique geographic advantage ensures ACP's long term viability.
The Canal has been operating as an independent asset of the Panamanian
government since 2000 hence there is sufficient operating history against
which to assess the ACP business model and to analyze future projections.
The ACP has successfully navigated the transition from US management to
operation as a wholly-owned enterprise of the Government of Panama.
A key aspect of the transformation from a break-even operation
(under US management) to that of a competitive business enterprise (under
Panamanian management) is the gradual revamping of the tolling structure
since 2002. Under ACP management the tolling system is now differentiated
with respect to vessel type and size. The ACP has also implemented
advance reservation charges to better serve different classes of customers.
ACP's relative pricing inelasticity is reflected in revenue growth
of 13% CAGR over the last seven years.
In terms of future performance, there is considerable growth potential
reflecting improvements overall in global economies and increased demands
for goods shipment. According to a consultant's feasibility
study there is a potential 7% annual growth through 2025 in US-China
containerized goods trade alone. Construction works on the third
lane and the new locks will not interrupt business activities on the existing
two lanes therefore the Authority will continue to generate operating
revenues during the entire multi-year Expansion.
While the Expansion Program presents construction and execution challenges,
the depth of management, contingency planning, contract protection
provisions and risk controls that have been put in place support the likelihood
of project success. All necessary environmental permits have been
issued and the project takes place entirely on property already owned
by the Authority. The five year construction program will be executed
through a series of contracts for excavation, dredging and other
discrete components. The most complex segment of the Expansion
- the construction of the third set of locks -- will be undertaken
through an all-in Design-Build contract which is expected
to be awarded in 2009. The total Expansion Program cost -
estimated at $5.25 billion -- includes contingencies
of almost 30%. Over 50% of project costs is expected
to be funded through operating cash flow with the remainder to be funded
through senior unsecured debt. Project oversight will be managed
by dedicated ACP staff with the assistance of an independent consultant..
Despite the complexity of the project and the normal potential for unforeseen
circumstances during the long construction period, the degree of
in-depth analysis completed to date, the favorable results
of contracts let to date, and the strength of ACP experience in
managing most of the elements of the overall Expansion Program lend support
to Moody's view that the project will likely be completed successfully.
A key credit factor is the relationship of the ACP to the Government of
Panama (currently rated Ba1, Stable Outlook). ACP operates
under broad regulatory powers in accordance with the provisions of the
Panamanian Constitution, the Organic Law of 1997 and the Law No.
28 approved in July, 2006.
The most visible and largest single asset for the national economy,
the ACP operates under intense political and popular scrutiny.
Key strategic decisions are subject to government approvals. However,
the rating assumes that the potential for decisions that are not in the
best interest of the investor should not likely be a concern, as
the Government directly benefits from maintaining the economic viability
of the Authority. ACP management will likely continue to maintain
a working relationship with the Government that is mutually beneficial
and symbiotic. The current senior management of ACP is extremely
well thought of in the Government and business sector. Decisions
to date have recognized the importance of operating the ACP as a business
enterprise, attuned to the needs of the marketplace. The
rating assumes that the ACP and the Government of Panama will continue
to balance the needs of the country with those of its customers and investors.
While the ACP budget is subject to Cabinet Council and Legislative approvals
and any toll increases and debt undertakings must also be subject to approval
by the Cabinet Council, the rating acknowledges that there is a
general political consensus and acknowledgment that support of the ACP
business model ultimately benefits the nation at large. The ACP
budget can only be accepted or rejected in its entirety so the Legislature
cannot "edit" select portions of the budget. Since
the handover, overall, the budgets have been approved without
ACP must make payments to the government from its operating revenues --
both "above the line" and "below the line".
Above the line ACP pays a net per ton fee that reflects transit volumes,
and a relatively minor public service fee. Below the line,
after payment of O&M and debt service and topping up of a number of
reserves as determined by the Board annually, the remaining cashflows
are paid to the Panamanian Treasury. In accordance with the referendum
approving the Expansion Program, the ACP has agreed that the total
amount of annual payments shall not be less than those made in FY 2006
(article 2.3 of the 2006 Law) during the period of Expansion construction.
The potential for increasing government payments to the detriment of investor
interests could be a concern however interviews with government officials
and key business leaders have underscored the general support for the
ACP business model. Furthermore, the ACP maintains a number
of liquidity reserves that provide significant financial cushions.
These reserves are reviewed and included in the budget each year prior
to dividend payments to the government. These considerations indicate
a political awareness of the dynamic tension between protecting ACP's
ability to operate as a business enterprise while at the same time contributing
to the country's budgetary needs.
Counterbalancing these concerns are the evident pride of the average citizen
in the operations and international importance of the Canal and the awareness
that the ACP has the potential to help provide long term funding for the
country's development needs. The passage of the Referendum
authorizing the Expansion Project with a strong majority vote of 78%
is clear evidence of popular support for the ACP. The Baseline
Credit Assessment assumes that the ACP and the government will continue
to balance the business needs of the ACP with the magnitude of payments
to the government coffers through the normal annual budget approval process.
There are a number of additional considerations supporting the A1 GRI
rating. The Authority currently has no long term debt. The
amount of debt contemplated in conjunction with the Expansion Program
(about 43% of the total funding needs) constitutes a manageable
level of leverage. The debt to be issued will not benefit from
any government recourse or guarantee and will not be secured by the Canal
assets. The preliminary financial model indicates an average Debt
Service Coverage Ratio (DSCR) of 16 times and a minimum DSCR of 7.5
times. The loans under negotiation anticipate a 20 year term with
a ten year interest only period and DSCR of at least 2 times.
Some of the rating factors that support the piercing of the Country Ceiling
include the following considerations.
The institutional framework underpinning the Panama Canal Authority's
operations is strong. While there is always a possibility that
the government could change the framework under which the ACP has operated
successfully for the past 8 years, there is nevertheless a proscribed
political and legal process for such changes with numerous hurdles.
In reality the ACP is a source of national pride and a successful business
enterprise providing stable alternative non-tax revenues for the
National Treasury. Changing the Constitutional and legal framework
under which the ACP operates could have the unintended consequences of
ruining the ACP's unique business position. ACP constituencies
are aware of the need to avoid actions that might damage the ACP business
model. The Government acknowledges that ACP payments will likely
drop to about 15% to 17% of the national budget --
as opposed to historic levels of about 20% - due to the
costs of the Expansion Project during the construction period.
The country is willing to defer some revenues temporarily in the best
interests of ACP's long term competitive position.
The ACP's independent Board is designed to protect the business
model. The ACP is managed by an 11 member Board of which 9 members
are appointed for staggered 9 year terms by the National Assembly.
This provides considerable continuity; by having no more than 3 members
up for appointment at any one time, ACP is able to avoid any one
Presidential administration controlling the make-up of the Board.
While there are Government controls over the operations of the ACP,
there are sufficient checks and balances built into the system.
The ACP has enjoyed a high degree of extraneity. There has never
been interference in the operations of the Authority since the handover.
Any interruptions in Canal operations -- including a worst case seizure
of the Canal by the US would result in considerable pressure from US and
global commercial interests. Overall, of Canal traffic,
66% (long tons) originates in or is destined for the US.
This is especially important as containerization continues to dominate
the shipping industry with major consequences for businesses, such
as the major consumer goods industry, which are integral to the
US economy. Similarly, interruptions in Canal operations
would result in global pressures from the largest customers of ACP:
China, Japan, Chile, South Korea, Peru,
Canada etc. The quantities and varieties of commodities and products
that are shipped through the Canal are critical to global economies.
When the Expansion Project is finished, the ACP will be able to
provide service to the newest generation of post-Panamax vessels.
This will further increase the ACP's importance to global trade.
ACP is one of the largest employers in Panama -- there were 9,270
employees as of September 30, 2007. The Constitution prohibits
strikes in order to protect the uninterrupted operation of the Canal.
The Panama Canal Authority is a wholly owned enterprise of the Government
of Panama established under the National Constitution to operate,
manage, and maintain the Panama Canal. In 2007 the Authority
provided service to 14,721 transits and recorded total operating
revenues of $1.76 billion.
Chee Mee Hu
Senior Vice President - Team Leader
Project Finance Group
Moody's Investors Service
Thomas J. Keller
Project Finance Group
Moody's Investors Service