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Fitch Revises Electrica's Outlook to Negative on Sovereign Action
Fitch Ratings has revised the Outlook on Electrica SA's Long-Term Issuer Default Rating (IDR) to Negative from Stable and affirmed the IDR at 'BBB'.
The revision of the Outlook mirrors the recent revision of the Outlook on Romania's rating to Negative from Stable (largely driven by the implications of the coronavirus pandemic) as we do not expect to rate Electrica more than one notch above the Romanian state (BBB-/Negative), its largest shareholder.
Electrica's rating continues to reflect its Standalone Credit Profile (SCP) of 'bbb', supported by its resilient business profile with 80%-85% of EBITDA coming from regulated and fairly predictable electricity distribution, and a strong financial profile.
KEY RATING DRIVERS
Rated Above Sovereign: Electrica's rating is at the company's SCP of 'bbb' and above the Romanian sovereign rating due to the company's weak links with the state assessed under Fitch's Government-Related Entities (GRE) and Parent and Subsidiary Linkage (PSL) Rating Criteria. Nevertheless, some linkage exists through the Romanian state's large shareholding of Electrica (48.8% by capital, 49.8% by voting rights), therefore we cap Electrica's rating at one notch above that of the Romanian state. This corresponds with Electrica's 'BBB' Long-Term IDR.
Outlook Revised to Negative: The revision of the Outlook on Romania rating to Negative from Stable (see "Fitch Revises Romania's Outlook to Negative; Affirms at 'BBB-'" dated 17 April 2020 on www.fitchratings.com) implies increased likelihood of a downgrade of the sovereign rating. This is reflected in the revision of the rating Outlook on Electrica to Negative.
Weak GRE Linkage: Electrica's status, ownership and control links with the Romanian state are strong given that the Romanian state is Electrica's main shareholder. However, the support track record and expectations are weak, in our view, as the company has not received any tangible support in the past nor we expect it to receive it. Also, both the socio-political and financial implications of Electrica's default are weak, in our view.
Default should not lead to a disruption in delivery of the company's services, in particular distribution, but also supply, as they are strategic for the economy and society. Such a default would also not impact the Romanian sovereign's funding ability as Electrica operates independently from the state, is one of several distribution companies and its existing and expected debt exposure is relatively small.
Weak PSL Linkage: Electrica operates independently from the government with four out of seven members of the supervisory board independent members and a large free float with the European Bank for Reconstruction and Development among the shareholders (5.0% by capital). Fitch expects Electrica to continue to finance its operations independently without cross-defaults or guarantees from the government.
Resilient Core Business: Electrica's main area of operations is electricity distribution (85% of EBITDA in 2019), conducted via three regional subsidiaries (SDTN, SDTS and SDMN). The three subsidiaries operate electricity distribution networks under long-term concessions granted in 2005 and expiring in 2054. Distribution services are regulated by ANRE (sector regulator in Romania) by applying a regulatory asset-based methodology to tariff calculations without direct government interference. Regulated revenues are approved for five years and the current fourth regulatory period started in 2019 and will last until 2023.
More Risky Supply: Electrica's second area of operations is electricity and gas supply (19% of EBITDA in 2019), conducted via subsidiary EFSA. It comprises two sub-segments: the regulated one (in which EFSA acts as a supplier of last resort) and the competitive one in which EFSA competes freely with other suppliers throughout the whole country. The supply business is more volatile, competitive and prone to market shocks than distribution.
Supportive Financial Profile: At end-2019 Electrica's FFO net leverage stood at 1x, but we expect it to increase due to higher capex and to average around 2x over 2020-2023. It should remain comfortably below the negative rating guideline of 3x, supporting Electrica's SCP.
Manageable Coronavirus Impact: Electrica's business profile is relatively resilient to the COVID-19 outbreak and related economic shock thanks to the dominant share of electricity distribution in EBITDA. It is remunerated on an asset base and is relatively insulated from lower sales volumes and economic downturn.
We assume Electrica's financial profile will weaken due to working capital drawdown and increase in bad debts, but also a rescue plan for the economy allowing end-customers to postpone their bill payments. However, we understand that currently processed anti-crisis measures include compensation for utilities for postponement of the bills, e.g. in the form of zero-interest bridge loans.
DERIVATION SUMMARY
Electrica's Romanian peer is SNTGN Transgaz SA (BBB-/Stable), which is a gas transmission and transit company. Transgaz shares the same regulatory environment, but has a large gas transit business (which is more risky than transmission and distribution) and higher leverage. Therefore, Electrica's rating is one notch above SNTGN Transgaz's rating.
Another central European peer is Polish Energa S.A. (BBB/RWN), an integrated utility with comparably large electricity distribution business (around 75% of EBITDA). Energa operates in a marginally more stable regulatory environment, therefore we allow its debt capacity to be higher by 0.5x for the same rating.
Some further peers include German e-netz Suedhessen AG (BBB/Stable), which is an electricity and gas distribution company, and Czech Severomoravske vodovody a kanalizace Ostrava, a.s. (SmVaK, BB+/Stable), which is a water company. Both companies operate in a more predicable regulatory framework, but have significantly higher leverage than Electrica.
RATING SENSITIVITIES
Developments That May, Individually or Collectively, Lead to Positive Rating Action/Upgrade
Due to the Negative Outlook an upgrade of Electrica's rating is unlikely. However, revision of the Outlook on the Romanian sovereign rating to Stable would result in similar action on Electrica's rating.
Developments That May, Individually or Collectively, Lead to Negative Rating Action/Downgrade
- Downgrade of the Romanian sovereign rating
- FFO net leverage above 3.0x or significantly worsened liquidity, eg. due to rising bad debt, higher capex, excess dividends or negative outcome of litigations
- Less predictable regulatory environment, eg. persistent tariff deficit in the distribution or supply business