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Rating Action:

Moody's assigns provisional (P)A3/(P)Baa3 ratings to Affinity Water

18 Jan 2013

Approximately GBP780 million of Debt Securities Affected

London, 18 January 2013 -- Moody's Investors Service has today assigned a provisional corporate family rating ("CFR") of (P)Baa1 with a stable outlook to Affinity Water Limited. Concurrently, Moody's has assigned provisional (P)A3 ratings to approximately GBP480 million of Class A notes to be issued by Affinity Water Programme Finance Limited under a new GBP2.5 billion multicurrency medium-term note programme (the "MTN Programme") and provisional (P)Baa3 ratings to approximately GBP96 million of Class B notes. The MTN Programme is assigned (P)A3/(P)Baa3 ratings. The notes will be guaranteed by Affinity Water Limited, one of the nine water-only companies in England and Wales.

These rating actions follow the announcement on 18 January 2013 by Affinity Water Limited of the launch of a highly leveraged refinancing transaction of its regulated water business. On the assumption that the refinancing will complete as planned, Moody's will also withdraw the A3 issuer rating on Affinity Water Limited for business reasons.

Moody's also maintains the A3 ratings on the GBP200 million of bonds issued by Affinity Water Finance 2004 Limited and guaranteed by Affinity Water Limited under review for downgrade pending final completion of the transaction. The terms and conditions of the GBP200 million of bonds stipulate that this issuance will migrate into the new structure at financial close as Class A debt. We expect to resolve the review upon financial close.

The purpose of the proposed transaction is to (1) refinance the debt incurred in the acquisition of Affinity Water Limited by Affinity Water Acquisitions Limited, as completed in June 2012 and pushed down to Affinity Water Limited; (2) finance Affinity Water Limited's future capital investment needs; and (3) pay the costs of establishing the programme and issuing the debt.

The fundamental business risk of Affinity Water Limited, the company's financial strength as well as the new funding structure, determine the credit quality of the transaction. The structure of this transaction is similar to other transactions previously rated by Moody's for other water (and sewerage) companies in the UK water sector.

Moody's issues provisional ratings in advance of the final sale of securities; these ratings represent Moody's preliminary opinion only. Upon a conclusive review of the transaction and associated documentation, Moody's will endeavour to assign definitive ratings to the notes. A definitive rating may differ from a provisional rating. A rating is not a recommendation to purchase, sell or invest in any securities.

RATINGS RATIONALE

- ASSIGNMENT OF (P)Baa1 CFR

The (P)Baa1 CFR assigned to Affinity Water Limited is based upon the stable and predictable nature of the company's cash flows arising from its regulated water business under an established and transparent regulatory framework. It takes into account the protection afforded to lenders by the debt covenant package, including (1) the limitations on borrowing and restrictions on payments to shareholders if key credit metrics weaken; and (2) the requirement (to the extent debt exceeds 67.5% of the Regulatory Capital Value ("RCV")) for the company to maintain debt service liquidity facilities and/or cash reserves equivalent to at least 12 months of debt service to mitigate temporary cash shortfalls. The rating is in line with the CFRs assigned to similar transactions in the UK water sector (including those of Anglian Water, Thames Water and Yorkshire Water).

The rating is constrained by Moody's expectation that gearing at the operating company level will increase to around 80% debt to RCV at the closing of the transaction. Moody's expects that Affinity Water will thereafter maintain a highly leveraged financial structure and that it will be exposed to the risks of adverse future market conditions that may not allow it to fund its capital expenditure programme, or refinance its maturing debt on reasonable terms, as are other similarly structured water and sewerage companies ("WaSCs"). The rating also recognises that, notwithstanding the various creditor protections, the benefit of the proposed security is limited because of restrictions on the granting and enforcement of security given the regulated and essential nature of the services provided by Affinity Water Limited, as governed by its licence and the Water Industry Act 1991 (the "WIA").

The (P)Baa1 CFR assigned to Affinity Water Limited consolidates the legal and financial obligations of Affinity Water Limited, Affinity Water Finance 2004 Limited, Affinity Water Programme Finance Limited and Affinity Water Holdings Limited, Affinity Water Limited's immediate holding company. Together these entities constitute the ring-fenced Affinity Water Financing Group, as defined under the terms and conditions of the MTN Programme. In addition, the (P)Baa1 CFR factors in the structural enhancements of the MTN Programme.

- ASSIGNMENT OF (P)A3 RATING TO CLASS A NOTES

The (P)A3 rating on the Class A notes reflects the strength of the debt protection measures for this class of bonds and other pari passu indebtedness (together, the "Class A debt"), as well as the notes' senior position in the cash waterfall and post any enforcement of security. However, the rating also factors in the permitted subordinated bonds (together with any other pari passu indebtedness, the "Class B debt", and together with the Class A debt, the "Senior Debt"), which, whilst they would be contractually subordinated, would once issued serve to reduce the operator's financial flexibility. Downgrade or default of the Class B debt could have an impact on the viability of Affinity Water Limited's funding model as a whole, since an inability to raise additional Class B debt in the future could undermine the company's capital structure and affect the credit quality of the Senior Debt.

- ASSIGNMENT OF (P)Baa3 RATING TO CLASS B NOTES

The (P)Baa3 rating assigned to the Class B notes reflects (1) Moody's estimates of the default probability for these bonds, which is the same as that factored into Affinity Water Limited's CFR; and (2) the greatly heightened loss severity in the event of default, given the presence of a large proportion of Class A debt with priority ranking. The rating also reflects the limited representation of Class B bondholders in certain matters, including termination of standstill and, in certain circumstances, revision of financial covenants. Non-payment of scheduled interest on the Class B notes is not an Event of Default and is deferred under the Finance Documents, but Moody's would regard it as a bond default.

RATING OUTLOOK

The outlook for the provisional ratings is stable. Moody's believes that the financing structure is reasonably resilient to downside sensitivities including the possibility that the industry regulator, Ofwat, will allow a lower cost of capital in setting price limits for the regulatory review period from April 2015 to March 2020 ("AMP 6").

WHAT COULD CHANGE THE RATING UP/DOWN

Moody's considers that there is limited potential for an upgrade of the assigned ratings, given (1) Affinity Water Limited's intention to raise debt under the proposed structure to refinance acquisition facilities; and (2) Moody's expectation that management will maintain overall gearing at a level similar to that at closing, which is relatively close to the maximum level permitted by the distribution lock-up covenants.

The ratings could come under downward pressure following (1) an adverse regulatory determination that results in a significantly lower assumed cost of capital for the industry or Affinity Water Limited following the current or subsequent regulatory reviews; (2) underperformance in operating or capital expenditure; (3) poor operational performance that leads to regulatory action and/or fines; (4) negative funding conditions; or (5) a material adverse change in the regulatory framework.

PRINCIPAL METHODOLOGY

The principal methodology used in this rating was Global Regulated Water Utilities published in December 2009. Please see the Credit Policy page on www.moodys.com for a copy of this methodology.

Affinity Water Limited is the largest of the nine water only companies ("WoCs") in England and Wales in terms of customers served, and is the second largest by RCV after South East Water Limited. For the 12 months ended 31 March 2012, Affinity Water Limited was created by unifying the licences of three WoCs, previously wholly owned by Veolia. The licence unification became effective on 27 July 2012. As part of this process, Veolia Water East Ltd. and Veolia Water South East Ltd. transferred their assets and liabilities to Veolia Water Central Limited, which was renamed Affinity Water Limited with effect from 1 October 2012.

Affinity Water Limited reported revenue of GBP288 million and a combined RCV of GBP949 million. The company supplied water to around 1.36 million household customers and around 810,000 local businesses (equivalent to a population of over 3.3 million people) over an area of approximately 4,510 square kilometres, including parts of Bedfordshire, Berkshire, Buckinghamshire, Essex, Hertfordshire, Surrey, Kent and London.

To reserve a copy of Moody's forthcoming Pre-Sale Report regarding this transaction, please contact Moody's Client Services Desk at +44-(0)20-7772 5454.

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.

Stefanie Voelz
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

Andrew Blease
Senior Vice President
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 provisional (P)A3/(P)Baa3 ratings to Affinity Water
No Related Data.
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