Rating action          

MARC Ratings has affirmed its AA-_IS rating on SHC Capital Sdn Bhd’s RM80.0 million issuance under its RM200 million Islamic Medium-Term Notes (Sukuk Wakalah) Programme with a stable outlook. There is no further drawdown expected, but any drawdown will require a reassessment of the rating. The outstanding amount currently stands at RM70.0 million.      

Rationale   

SHC Capital is a wholly-owned funding vehicle of Tunas Cool Energy Sdn Bhd (TUNAS), a subsidiary of Sin Heng Chan (Malaya) Berhad. TUNAS owns a district cooling system (DCS) plant that distributes chilled water for air conditioning to four higher learning institutions within the Pagoh Education Hub (PEH) in Johor. This is pursuant to a 20-year supply contract between the government (via the Ministry of Education) and Sime Darby Property Selatan Satu Sdn Bhd (SDPSS). SDPSS subsequently contracted TUNAS supply chilled water to PEH.     

TUNAS benefits from a strong business profile with good predictability of revenue and cash flows, driven by the long-term, take-or-pay cooling energy supply contract with the government. This contract insulates revenue from demand risk as revenue is set at a minimum of approximately RM15.02 million per year for 20 years through 2037.     

With a stable cost profile and strong rate flexibility, TUNAS has the independent ability to pass through cost increases via rate adjustments, providing good visibility over underlying profitability. MARC Ratings expects the company to generate around RM7.0 million to RM9.0 million in operating cash flow a year, sufficient to meet SHC Capital’s debt service obligations under the rated programme.       

A risk to this transaction, however, is the potential for administrative issues delaying payments. Nevertheless, payment of account receivables has generally been timely. As at end-June 2024, outstanding receivables stood at approximately RM4.7 million, of which around RM1.9 million was overdue by more than 45 days. The rating agency understands the overdue receivables were mostly related to additional invoices issued to recover higher electricity costs incurred through rate adjustments. Our rating case has, nevertheless, assumed a longer 90-day collection period, which still indicates sufficient liquidity and cash flow for timely servicing of the sukuk.     

The relevant contracts are also exposed to termination risk due to non-performance. However, MARC Ratings believes the risk of contract termination is low, given the good operational track record of the DCS plant and the essential chilled water distribution services provided by the company. PEH has no ready alternative for cooling, and the underground pipe network connecting the DCS plant to the buildings serves as a strong barrier to entry, which is a credit positive for TUNAS.     

Overall, the transaction has performed better than expected. Cash and cash equivalents as at end-FY2023 were higher than previously projected at RM11.6 million (forecast: RM7.4 million), supported by lower opex which was 12.7% less than budgeted. A lower-than-budgeted load factor due to lower-than-expected chilled water consumption was the main driver of the lower opex. As at end-May 2024, cash stood at RM14.5 million, more than sufficient to meet SHC Capital’s financial obligations of RM6.7 million due on December 23, 2024. The finance service cover ratio (FSCR) was 2.3x as at end-2023, well above the covenanted 1.25x. Our sensitised case envisages an average FSCR of 2.2x through 2037 with a minimum of 1.9x. The forecast is based on what the rating agency considers reasonable assumptions that simulate a scenario of a 90-day receivables collection cycle and an increase in operations and maintenance (O&M) costs, based on a dispatch factor that is assumed to grow 3% annually to around 80% of the take-or-pay level. That said, the cash flow generation is modest, leaving little headroom if expenditures were to rise above projections, or in the unanticipated event of dividend upstream. The rating agency notes that any distribution will be subject to a post-distribution FSCR of 2.0x.     

Rating outlook     

The stable outlook reflects our expectation of sustained operating performance supported by stable, long-term contracted revenue with a strong offtaker in the form of the government.     

Rating trajectory      

Upside scenario      

Any upgrade will require a significant improvement in volume demand well above the minimum take-or-pay level on a consistent basis and strengthening of coverage metrics.       

Downside scenario      

Unexpected collection delays and/or a material increase in operating costs leading to an adverse change in the company’s operating and financial profiles.     

Key strengths