MARC has affirmed its AA-_IS rating on Southern Power Generation Sdn Bhd’s (Southern Power) Sukuk Wakalah of up to RM4.0 billion with a stable outlook.

The affirmed rating primarily reflects Southern Power’s predictable operational cash flow on the back of an availability-based tariff structure under a 21-year power purchase agreement (PPA) with Tenaga Nasional Berhad (TNB) (AAA/Stable). The absence of demand and fuel price risks offered under the PPA support the project fundamentals. The rating also considers the strong commitment from its shareholders, primarily through a two-way undertaking to address any shortfall in capital contributions from either of its two shareholders. The stable outlook incorporates MARC’s expectation that the construction will progress on schedule and stay within the allocated budget.

Southern Power is a 51:49 joint venture between TNB and SIPP Energy Sdn Bhd (SIPP), and was established to develop a 2x720-megawatt (MW) combined-cycle gas turbine power plant in Pasir Gudang, Johor. The scheduled commercial operation date (SCOD) for both units is July 1, 2020. The company 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 would enable technical and plant design problems to be minimised. Coupled with CTCI’s prior experience in Malaysian power plant construction, the implementation and execution risks of the project are largely mitigated. As at September 25, 2018, the power plant project recorded actual physical progress of 58.7% against the planned progress of 53.8%.

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 of RM3,018.7 million, at an exchange rate of RM4.30/US$1.00. Southern Power has undertaken a hedging arrangement to address foreign exchange exposure as the EPC cost incorporates a US dollar portion of US$505.2 million. The total project cost is funded by a debt-to-equity mix of 80:20. The equity injection comprises ordinary share capital and redeemable preference shares (RPS) amounting to RM916.3 million in aggregate of which RM506.3 million from the subsequent RPS subscription will be used to repay the junior facility of the same amount. Any unpaid junior financing obligations post-COD 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.

During the operational phase, 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 of at least 94%. A key concern surrounding the project is the short operational track record of the gas turbine. 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 with the original gas turbine supplier. The plant’s O&M will be carried out by TNB’s wholly-owned subsidiary, TNB Repair and Maintenance Sdn Bhd 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 projected at 1.94 times. The FSCR profile is relatively flat except in 2H2020 and 1H2021 (first operating period), due to uneven capacity rate financials (CRF). During the first operational period, Southern Power would need to rely on its cash buffer to meet its financing obligations as the Tier-1 CRF of 69% is lower than the Tier-2 CRF. The first sukuk principal repayment will commence in 2022. 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 breaches 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. While completion delay would heighten cash flow mismatches, LD payments from the EPC contractor provide adequate cover for any 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 would ensure that Southern Power exercises prudence in its liquidity management, particularly during periods of plant underperformance.

Contacts:
Ati Affira Kholid, +603-2717 2941/ affira@marc.com.my;
David Lee, +603-2717 2955/ david@marc.com.my.