SOUTHERN POWER GENERATION SDN BHD - 2017

MARC has assigned a rating of AA-_IS to Southern Power Generation Sdn Bhd’s (Southern Power) proposed Sukuk Wakalah of up to RM4.0 billion. The outlook on the rating is stable. Southern Power, a 51:49 joint venture (JV) between Tenaga Nasional Berhad (TNB) and SIPP Energy Sdn Bhd (SIPP), will utilise proceeds from the sukuk to develop a 2x720-megawatt (MW) combined cycle gas-fired plant in Pasir Gudang, Johor.

The rating reflects Southern Power’s predictable operational cash flow on the back of the availability-based tariff structure under a 21-year power purchase agreement (PPA) with TNB, on which MARC has a senior unsecured debt rating of AAA/Stable. The absence of demand and fuel price risks offered by the PPA support the project fundamentals. The rating also considers the strong commitment from its shareholders, through a two-way undertaking to address any shortfall in capital contributions from either shareholder.

The estimated total project cost is up to RM4.6 billion and will be funded by a debt-to-equity mix of 80:20. A major portion of the equity injection will be partially met by a junior facility of up to RM610 million to be set up closer to the sukuk issuance date. While all outstanding junior financing is expected to be repaid at commercial operation date (COD) through proceeds from a redeemable preference shares (RPS) subscription, any unpaid junior financing obligations after scheduled COD (SCOD) will be backed by a rolling guarantee provided by the shareholders. In addition, TNB covenants to maintain at least 51% direct or indirect interest in Southern Power throughout the sukuk tenure.

Constraining the rating are risks associated with the project’s construction and completion. Southern Power has awarded the power plant development to an experienced consortium led by Taiwan-based CTCI Corporation (CTCI) and General Electric Energy Products France SNC (GE) under a fixed sum engineering, procurement and construction (EPC) contract. MARC opines that the involvement of the original equipment manufacturer GE under the EPC arrangement as crucial to minimise problems related to technical and plant design. Coupled with CTCI’s experience in Malaysian power plant construction, the implementation and execution risks of the project are largely mitigated. Construction and completion risks are further moderated by performance guarantees, warranties, liquidated damages (LD) for any delays and a contingency sum equivalent to 4.0% of the EPC cost (or RM120.7 million). Southern Power had undertaken a hedging arrangement to address foreign exchange exposure as the EPC cost incorporates a US dollar portion of US$505.2 million. Using an exchange rate of RM4.30/US$1, the total EPC cost is RM3,018.7 million.

During operations, Southern Power will receive capacity payments to cover its fixed operating expenses, financing obligations and shareholders’ returns, all of which are subject to an unplanned outage rate of below 4% and a contracted average availability target (CAAT) of at least 94%. A key concern surrounding the project is the short operational track record of the 9HA gas turbines. In this regard, an independent technical advisor has assessed and opined that the operations and maintenance (O&M) risk mitigation measures for the project are adequate considering the availability of O&M performance guarantees and the long-term service agreement (LTSA) with the original gas turbine supplier. The plant’s O&M duties will be carried out by TNB’s wholly-owned subsidiary, TNB Repair and Maintenance Sdn Bhd (TNB Remaco) under a 21-year O&M agreement (OMA).

Southern Power’s average pre-distribution financial service cover ratio (FSCR) with cash balance throughout the sukuk tenure is expected to stand at 1.94 times. The FSCR profile is relatively flat except for the second half of 2020 and first half of 2021 (first operating period), attributed to the uneven CRFs. Southern Power would need to rely on its cash buffer to meet its financing obligations in its first operating year in light of the Tier-1 CRF that is 69% lower than the Tier-2 CRF. The first sukuk principal repayment will commence in the second year of operations. The projections also assumed that Southern Power will fully redeem its outstanding junior financing through proceeds from the RPS subscription at COD.

Under MARC’s sensitivity analysis, the project demonstrates moderate resilience against stressed scenarios including a persistent breach of heat rate requirements and lower plant capacity. The risk of a severe plant underperformance is mitigated by the OMA’s LD provisions as well as insurance protection. Although a completion delay would heighten the cash flow mismatches, LD payments from the EPC contractor provide adequate cover for the potential loss of operational cash flow and delay penalty under the PPA. Consistent with its rated peers, the requirement to maintain an FSCR of 1.50 times post-distribution ensures that Southern Power would exercise prudence in its liquidity management particularly in the period of plant underperformance.

The stable outlook reflects MARC’s expectations that the construction will progress on schedule and stay within the allocated budget.

Major Rating Factors

Strengths

• Adequate project cash flow coverage from availability-based capacity payments;
• Strong support from shareholders; and
• Well-structured project arrangement with sufficient risk mitigation measures for the plant’s pre- and post-operational phases.

Challenges/Risks

• Limited track record on plant technology; and
• Potential project completion delays and cost overruns.