Senai-Desaru Expressway Bhd - 2010

MARC has assigned ratings of A+IS and A-IS to Senai-Desaru Expressway Berhad's (SDEB)  RM1.89 billion nominal value Senior Sukuk Ijarah Medium Term Notes (Senior Sukuk) Programme and RM3.69 billion nominal value Junior Sukuk Ijarah Medium Term Notes (Junior Sukuk) Programme respectively. Proceeds from the issuance are to primarily refinance existing debt of SDEB. The ratings outlook is stable and incorporates SDEB’s improved financial and maturity profile following completion of the transaction.

SDEB is a single purpose company 70%-owned by private company Rancak Bistari Sdn Bhd and 30%-owned by Johor state-related entity YPJ Holdings Sdn Bhd. SDEB holds the concession to design, construct, finance, operate and maintain a 77km tolled inter-urban expressway located in the state of Johor. The Senai-Pasir Gudang-Desaru Expressway (E22) connects Senai in west Johor to Desaru in east Johor.  The E22 operates on a closed toll system under which all traffic movements are tolled. Total project costs of RM1.37 billion are funded by RM940 million in debt and RM430 million in equity, including irredeemable convertible unsecured loan stocks (ICULS).  The adjusted debt-to-equity ratio of the project is 74:26 as of June 30, 2010, giving full equity credit to the principal amount of ICULS outstanding of RM405 million in SDEB's capital structure.

The original target completion date for E22 was June 30, 2008. The project has encountered numerous construction challenges, impacting the original project timeline. The first phase of the expressway, a 50km stretch linking Senai to Pasir Gudang, was only opened to traffic in September 2009. The second phase, a 27km stretch from Cahaya Baru to Desaru, targets completion by end-February 2011. MARC considers residual construction risk to be low taking into account the advanced stage of remaining construction works. The contractor, Ranhill Engineers and Constructors Sdn Bhd (REC), has assumed most of the project's construction risk under a fixed-price, turnkey contract. MARC notes that SDEB has received RM20.05 million as compensation for loss of revenue from REC for the delayed completion of Phase 1.

The rating on the Senior Sukuk reflects structural protections that should help SDEB to maintain compliance with its forward-looking debt service coverage ratio (Finance Service Cover Ratio or FSCR) covenant of 1.5 times throughout the tenure of the notes. The structural protections include a back-ended amortisation schedule which permits a larger margin error around forecast traffic volumes, pre-funded debt service reserves of RM26.48 million and the debt cushion provided by non-profit bearing Junior Sukuk in addition to existing ICULS to absorb losses and downside risks ahead of the Senior Sukuk. Senior Sukuk distribution tests provide a significant buffer against dilution of future Senior FSCRs.

The rating of the non-profit bearing Junior Sukuk addresses the full payment of principal on the maturity date of each series from 2032 through 2038, after the scheduled final redemption of the Senior Sukuk. It also incorporates their priority of payment in the cash flow waterfall over the RM405.0 million principal amount of ICULS outstanding to date and subordination relative to the Senior Sukuk. The Junior Sukuk may also be redeemed ahead of their scheduled maturities if actual traffic volumes exceed a pre-defined high traffic scenario.

The above ratings are largely constrained by SDEB's exposure to green-field toll road traffic risk with the project slated to move fully into the operating phase by March 2011. MARC believes that there is significant revenue uncertainty given the short operating history of the expressway's completed Senai to Pasir Gudang stretch (Package 1 and 2) and the observed magnitude of variance in forecast versus actual traffic volume. The ratio of actual-to-forecast average daily traffic (ADT) from January to November 2010 against full year 2010 ADT on Package 1 and 2 was 0.62:1 based on E22's updated June 2010 traffic forecast on which SDEB is basing its cash flow and debt service coverage forecasts. MARC believes that traffic downside risk remains high as realisation of the forecast depends on traffic diversion from congested alternative toll-free routes in the nearer term, in addition to anticipated developments in its service area proceeding as planned over the longer term. The expressway's prospects of establishing itself as the main east-west commuter thoroughfare in South Johor will be the primary driver of the ratings going forward.

Lower-than-forecasted FSCR and reserve levels could exert pressure on the ratings and outlook over the intermediate term while the demonstrated ability to achieve or exceed forecasted FSCR would provide positive rating momentum.

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