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Rating Action:

Moody's affirms EPM's rating; outlook changed to positive

11 Aug 2014

Moody's Investors Service affirmed today the Baa3 Issuer and senior unsecured ratings of Empresas Publicas de Medellin S.A. E.S.P. (EPM) and changed the rating outlook to positive from stable

New York, August 11, 2014 -- Moody's Investors Service affirmed today the Baa3 Issuer and senior unsecured ratings of Empresas Publicas de Medellin S.A. E.S.P. (EPM) and changed the rating outlook to positive from stable.

RATINGS RATIONALE

Today's rating action acknowledges the positive progress in EPM's material 2,400MW hydro-electric Ituango project following the successful deviation of the Cauca river, a significant milestone in the project development achieved in February. "Although the project currently is considered 5% behind schedule when compared to EPM's updated construction plans, Moody's understands that the company has been able to satisfactorily address the key drivers responsible for the delay, including advances in the acquisition of the required pieces of land and gaining a better understanding regarding the geology of the rock which usually poses some of the major challenges in the development of hydro-projects" said Natividad Martel, a Moody's Vice President. Furthermore, Moody's believes that EPM is considering the implementation of an accelerated construction strategy to ensure that the first unit starts operations as planned in December 2018. Importantly, the rating action further assumes that the contingency amounts built into the project's budget will be sufficient to cover any increased construction costs associated with an accelerated strategy.

Today's rating action acknowledges the positive progress in EPM's material 2,400MW hydro-electric Ituango project following the successful deviation of the Cauca river, a significant milestone in the project development achieved in February. "Although the project currently is considered 5% behind schedule when compared to EPM's updated construction plans, Moody's understands that the company has been able to satisfactorily address the key drivers responsible for the delay, including advances in the acquisition of the required pieces of land and gaining a better understanding regarding the geology of the rock which usually poses some of the major challenges in the development of hydro-projects" said Natividad Martel, a Moody's Vice President. Furthermore, Moody's believes that EPM is considering the implementation of an accelerated construction strategy to ensure that the first unit starts operations as planned in December 2018. Importantly, the rating action further assumes that the contingency amounts built into the project's budget will be sufficient to cover any increased construction costs associated with an accelerated strategy.

EPM's ratings and positive outlook are further supported by our expectation that EPM's key credit metrics despite some expected deterioration will remain commensurate with the lower-end of the Baa-rating category according to the guidelines provided under our Unregulated Power Companies ratings methodology. Specifically, EPM's 3-year average CFO pre-W/C to debt and Retained Cash Flowf (RCF) to debt will remain above 20% and 15%, respectively. This assumption considers the anticipated increase in leverage that will be incurred to aid in funding the Ituango project although the company fully funded last year's capital outlays of around US$850 million with internally generated cash flow. Contributions to EPM's EBITDA will only start in 2019 (four units including the one becoming operational in December 2018). This assumption further considers that EPM's financial documentation limits consolidated debt to EBITDA at 3.5x and that there will be no material changes in the dividend payout ratio that has hovered around 55%. It further assumes the prudent implementation in terms of financing of any new organic (greenfield) or external (acquisitions) expansion opportunities under EPM's Mega 2022 Strategic Plan while also acknowledging the company's increased focus on the enhancement of the group's profitability.

EPM's ratings reflect the ownership structure and linkages with the Municipality of Medellin. Given it is fully owned by this Municipality, it falls under the scope of Moody's rating methodology for government-related issuers (GRIs). Its application underpins EPM's Baa3 senior unsecured rating which results from the following four input factors (i) our estimates of a high level of dependence, (ii) a strong-level probability of extraordinary support from the Municipality in the case of financial distress, (iii) the sub-sovereign rating of the City of Medellin recently upgraded to Baa2 and (iv) EPM's Baseline Credit Assessment (BCA) of ba1. The BCA is a representation of the group's intrinsic creditworthiness before taking into account possible extraordinary support from the sub-sovereign.

EPM's BCA considers that the parent company has incurred most of the group's outstanding indebtedness and has operating assets that generate the majority of the cash flows. As a result, no structural subordination considerations apply. The BCA is further underpinned by EPM's diversified and leading business position as a major power and utility service provider in Colombia. It also captures EPM's significant exposure to unregulated power operations that is expected to increase upon the completion of the Ituango hydro-facility; however, it further acknowledges that the visibility of its cash flows are underpinned by the overall prudent commercial policy of its power generation segment and of the regulated businesses which operate under the relatively transparent and stable Colombian regulatory framework. EPM's BCA also incorporates the Governance Framework Agreement that somewhat limits the risk of potential political interference by the Municipality of Medellin and provides visibility with respect to its dividend distribution policy. The BCA further factors EPM's reliance on the capital markets in the absence of committed credit facilities to meet unexpected cash flow shortfalls along with some exposure to foreign exchange risk.

For more details refer to the Credit Opinion published in our website.

EPM's rating will be upgraded following new evidence that EPM's construction works at the Ituango project is progressing smoothly such that it meets on time critical milestones in the project development schedule during 2015 and early 2016. Importantly, the rating would be upgraded if the organic and external growth initiatives under its Mega 2022 expansion strategy are financed in a prudent manner; particularly in terms of cash flows, leverage as well as liquidity coupled with evidence that planned construction advances are according to schedule and budget. Quantitatively, an upgrade could be triggered if EPM is able to report CFO pre-W/C debt higher than 20% and CFO pre-W/C interest coverage higher than 4.5x, both on a sustainable basis. Apart from a change in the standalone fundamental credit quality of EPM, the unsecured debt rating could be upgraded if the rating of the City of Medellin is upgraded.

The BCA rating could be downgraded as a result of a perceived deterioration in the credit supportiveness of the Colombian regulatory framework or EPM's inability to recover costs in a timely manner. A rating action could be also triggered if the Ituango hydro-project and/or any new expansion targets are poorly executed or result in the implementation of financial policies, such that the indebtedness increases significantly above anticipated levels resulting in a material deterioration of its credit metrics. Quantitatively, a negative rating action would be triggered if the interest coverage falls below 3.0x and the RCF to Debt declines below the mid-teens level. Apart from a change in the standalone fundamental credit quality of the issuer, the ratings of the notes could be downgraded if EPM decided to incur a material amount of secured debt as a proportion of total debt (currently all debt is unsecured). Moreover, a significant deterioration of the financial strength of the City of Medellin or a downgrade in Colombia's foreign currency ceiling could negatively affect EPM's ratings as well.

The methodologies used in this rating were Unregulated Utilities and Power Generation Companies published in August 2009 and Government Related Issuers: Methodology Update published in July 2010. Please see the Credit Policy page on www.moodys.com for a copy of these methodologies.

Headquartered in Medellin, Colombia (Baa2 stable), Empresas Publicas de Medellin, E.S.P. (EPM) is a multi-utility vertically integrated public service group with 3,513MW installed capacity (hydro: 85.6%).EPM provides directly or indirectly via its subsidiaries natural gas and electric distribution, generation, transmission, and commercialization services (energy business unit) to over three million customers, as well as water and sewage services (water business unit) to around one million customers. Last year it also started providing waste management services in the Antioquia region via its wholly-owned subsidiary, Emvarias.

EPM's regulated operations in the Colombian natural gas and electricity sector are subject to the purview of the Comision de Regulacion de Energia y Gas (CREG), while its water and sewage activities are under the jurisdiction of the Comision de Regulacion de Agua Potable y Saneamiento Basico (CRA).

EPM holds also ownership stakes in regulated utilities in Guatemala, El Salvador and Panama while it further extended its international footprint last year to Chile (110MW Cururus wind-farm) and Mexico (with the acquisition of a 80%-interest in Tecnologia Intercontinental S.A. de C.V., an engineering and operator of water treatment plants). The strategic merger of EPM Telecomunicaciones S.A. E.S.P. (UNE; EPM 99.99%) and Colombia Movil (a Millicom subsidiary) is expected to close this month after attaining all the required authorizations in Colombia. It further completed this year a 31.3MW hydro-plant in Panama (via its 97.09% owned subsidiary Hidroecologica del Teribe S.A.). EPM's 2022 Mega Strategic Plan strives to increase between 2012 and 2022 the consolidated revenues to US$16 billion (2013: US$6.9 billion) and EBITDA of US$5.5 billion (2013: US$2 billion). As of March 31, 2014, EPM reported assets of approximately US$16 billion (around 84% of the consolidated assets), and cash flows from operations for the last twelve months ended March 2014 that approximated US$660 million (about 77% of the consolidated FFO).

REGULATORY DISCLOSURES

For ratings issued on a program, series or category/class of debt, this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series or category/class of debt or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the rating action on the support provider and in relation to each particular rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this rating action, and whose ratings may change as a result of this rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

Natividad Martel
Vice President - Senior Analyst
Infrastructure Finance Group
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

William L. Hess
MD - Utilities
Infrastructure Finance Group
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

Releasing Office:
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

Moody's affirms EPM's rating; outlook changed to positive
No Related Data.
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