Assigns (P)Baa2 rating to proposed senior secured notes
London, 21 February 2013 -- Moody's Investors Service has today assigned a provisional (P)Baa2
corporate family rating (CFR) to Brookfield Utilities UK No 2 Limited
(BUUK), an owner and operator of independent electricity and gas
networks in the UK. Concurrently, Moody's has assigned
a (P)Baa2 rating to approximately GBP600 million of senior secured notes
expected to be issued by Brookfield Utilities Issuer UK plc ("the
Issuer"), whose immediate parent is BUUK. The offering
is expected to be split between a range of currencies and maturities.
The outlook assigned to the ratings is stable. This is the first
time that Moody's has assigned ratings to BUUK.
The proceeds of the notes will be used to refinance an existing bank facility,
which was put in place following completion of the acquisition of Inexus
Group Ltd (Inexus) and its subsequent merger with The Gas Transportation
Company Ltd (GTC) to form BUUK. While GTC has been owned by Brookfield
Infrastructure Partners since 2010, Inexus was acquired by the group
in October 2012. BUUK's fundamental business risk,
its financial strength and the terms of the financing structure determine
the credit quality of this transaction.
A CFR is an opinion on the expected loss associated with a company's
financial obligations assuming that it has a single class of debt and
is a single consolidated legal entity. The (P)Baa2 CFR assigned
to BUUK consolidates the legal and financial obligations of BUUK,
its holding company Brookfield Utilities UK No 1 Ltd, the Issuer
as well as various operating subsidiaries owned by GTC and Inexus,
which together constitute the original obligors, and factors in
the terms and conditions of the finance documents.
Moody's issues provisional ratings in advance of the final sale
of securities and these ratings reflect Moody's preliminary credit
opinion regarding the transaction only. Upon a conclusive review
of the final documentation, Moody's will endeavour to assign
definitive ratings to the notes. A definitive rating may differ
from a provisional rating.
RATINGS RATIONALE
The assigned (P)Baa2 CFR reflects the fact that BUUK's revenue is
derived from a combination of regulated and competitive businesses.
Electricity and gas transportation charges account for around 60%
of BUUK's EBITDA and provide stable, predictable cash flows
underpinned by a supportive regulatory framework. While the regulation
of independent network operators is less mature than for the incumbent
networks, Moody's believes that BUUK benefits from the fact
that the overall regulatory framework is administered by Ofgem,
which has an excellent track record of consistent decision making.
In addition, while the business remains small in comparison with
the incumbent electricity and gas networks, BUUK has developed sufficient
scale following the merger of GTC and Inexus.
However, the rating is constrained by the following:
(1) The additional volatility of cash flows associated with 'connections
income' and gas metering. The size of the 'connections
income' component of BUUK's EBITDA is a function of the company's
ability to compete and win new connections. A prolonged downturn
in the UK housing market or an increase in competition could negatively
affect the ability of BUUK to achieve new sales. However,
Moody's acknowledges the strength of BUUK's order book,
which will likely underpin growth in the near to medium term. While
gas metering is a competitive business, the charging model to recover
incurred investment provides BUUK with stable, quasi-regulated
cash flows. While there is a risk for all meter owners that under
some scenarios metering assets could be stranded, Moody's
notes that BUUK has taken steps to mitigate the potential impact.
(2) The possibility of a change in BUUK's business risk over time.
While 'fibre to the home' (FTTH) currently represents a small
proportion of the overall business mix of BUUK, it is forecast to
grow over time, driven by developers' desire to procure a
'triple fuel' product of gas, electricity and fibre.
Moody's understands that while fibre is complementary to BUUK's
existing business, it does not benefit from the same level of regulatory
protection as gas and electricity and, similarly to gas metering,
there is a low risk of asset stranding. A quicker roll-out
of fibre or an acquisition of fibre connections could increase BUUK's
overall business risk, particularly if it coincides with a decline
in the company's sale of new gas connections.
(3) The risk of regulatory changes that would have negative consequences
for the company. While BUUK's transportation charges are
linked to a price control mechanism administered by Ofgem, Independent
Network Operators are subject to more 'light-touch regulation'
There is therefore a risk of a change to the regulatory framework that
negatively affects the independents. Moody's believes however,
that this is a low risk given that Ofgem continues to promote competition
in new connections with BUUK's interests aligned with the regulator.
Charges levied by BUUK's gas transportation business are often lower
than the equivalent charges levied by the incumbent networks, suggesting
that competition in connections has benefited customers and thus reduces
the risk of a negative regulatory action.
(4) A highly leveraged capital structure. The assigned rating takes
into consideration the group's highly leveraged capital structure
with FFO / net debt expected to average around 10% and FFO / interest
around 2-2.5x over the near-to-medium term.
STRUCTURAL CONSIDERATIONS
The assigned rating of (P)Baa2 on the senior secured notes takes into
consideration BUUK's executed future financing platform, which
includes a Common Terms Agreement, Security Trust and Intercreditor
Deed and a Master Definitions Agreement. Creditors will benefit
from a covenant and security package, which includes, among
other things, (1) cash-trapping triggers if certain financial
ratios are breached, designed to help maintain or restore credit
quality by preventing distribution and retaining cash in the group;
(2) the agreement by financial creditors to give up their individual rights
to petition for insolvency proceedings; (3) a fixed charge over the
shareholding in BUUK; and (4) a GBP40 million liquidity facility.
Moody's notes, however, that the benefit of this security
is somewhat limited by restrictions imposed by the regulatory licences.
While Moody's views as positive BUUK's intention to maintain
a stable financing structure, the rating agency does not give any
additional ratings uplift for the package, for the following reasons:
Insufficient protection from event risk. Moody's believes
that the definition of 'permitted business' essentially allows
for any type of enterprise related to the provision of gas, electricity
and water services as well as any other current businesses such as fibre.
If used, this could lead to a change in the business risks over
time.
High debt maturity concentration. Precedent transactions,
particularly in the UK water sector, contain restrictions on the
amount of debt that can mature in a given period in order to reduce refinancing
risk. The financing documentation for BUUK does not include this
covenant, however.
Significant headroom against the trigger level. While the presence
of financial-ratio-based triggers is usually beneficial
to highly leveraged structures, Moody's notes that there is
significant headroom associated with BUUK's forward-looking
projections against the lock-up level, which the company
may not reach even in a severe down scenario. In Moody's
view, this headroom reduces the value of the covenants to creditors
as there is limited potential for the resulting cash-trapping mechanisms
to be activated.
OUTLOOK
The stable outlook on the ratings reflects Moody's view that BUUK's
business model and financing structure are reasonably resilient to downside
sensitivities, given the company's RPI-linked revenues
and a strong order book for the provision of new electricity and gas connections.
However, the outlook assumes the full refinancing of the company's
existing debt facilities. Should BUUK be unable to successfully
execute the proposed refinancing, the definitive ratings and/or
their outlook could differ from the assigned provisional (P)Baa2 ratings
with stable outlook.
WHAT COULD CHANGE THE RATING UP/DOWN
Given BUUK's highly leveraged financial structure, Moody's
sees limited potential for a higher rating, although positive rating
pressure could develop as a result of a track record of continued successful
growth and a decrease in leverage (funds from operations (FFO)/net debt
of above 15%; net debt/fixed assets below 50%).
Conversely, FFO/net debt below 8% or net debt/fixed assets
higher than 65% would not be consistent with the assigned rating
and could result in a downgrade. Furthermore, an adverse
regulatory change could also likely affect the rating.
PRINCIPAL METHODOLOGY
The principal methodology used in this rating was Regulated Electric and
Gas Networks, published in August 2009. Please see the Credit
Policy page on www.moodys.com for a copy of this methodology.
Brookfield Utilities UK No 2 Ltd is the UK's largest owner and operator
of independent electricity and gas networks, with around 1.2
million of installed connections.
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.
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.
Scott Michael Phillips
Asst Vice President - Analyst
Infrastructure Finance Group
Moody's Investors Service Ltd.
One Canada Square
Canary Wharf
London E14 5FA
United Kingdom
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454
Monica Merli
MD - Infrastructure Finance
Infrastructure Finance Group
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454
Releasing Office:
Moody's Investors Service Ltd.
One Canada Square
Canary Wharf
London E14 5FA
United Kingdom
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454
Moody's assigns (P)Baa2 rating to Brookfield Utilities UK No 2 Ltd; stable outlook
