DBRS Confirms North West Redwater Partnership’s Senior Secured Bonds at A (low), Stable Trend

DBRS Limited (DBRS) has today confirmed the Senior Secured Bonds (the Bonds) issued by North West Redwater Partnership (NWR or the Issuer) at A (low) with a Stable trend. NWR is responsible for the construction, ownership and operation of a 50,000 barrel per day (bpd) upgrader-refinery (the Project) in Sturgeon County, Alberta, the province’s oil sands pipeline and refinery hub. The Issuer is a partnership between CNR (Redwater) Limited, wholly-owned by Canadian Natural Resources Limited (CNRL; rated BBB (high)/R-2 (high) and Under Review with Developing Implications) and NWU Limited Partnership (NWU), indirectly owned by North West Refining Inc. (unrated, privately held), collectively, the Partners. The upgrader-refinery will process approximately 79,000 bpd of bitumen blend or feedstock, which represents 50,000 bpd of bitumen plus approximately 29,000 bpd of diluent for the blend into refined products, including diesel, condensate and naphtha, vacuum gas oil, butane, propane and carbon dioxide. The value proposition for NWR is to capture the refining margin and heavy oil differentials within Alberta, instead of relying on existing U.S. capacity.

On balance, DBRS considers the potential support of the Alberta Petroleum Marketing Commission (APMC) as raising the rating beyond that of CNRL’s issuer rating, taking into account the overall project progress and the complexity of remaining works and operation activities, to A (low) with a Stable Trend. DBRS placed CNRL’s ratings Under Review with Developing Implications on March 9th, 2017, in response to the announcement that CNRL had entered into agreements to acquire 70% of the Athabasca Oil Sands, while also noting that the acquisition should support DBRS’s BBB (high) rating for CNRL and that with successful completion and assuming an outlook that continues to support a WTI oil price around or above USD 50/bbl, DBRS is likely to maintain CNRL’s BBB (high) Issuer Rating. Notwithstanding, in the event that the rating of CNRL is possibly downgraded to BBB with a Stable trend, all else equal, the rating of the Bonds is unlikely to be affected.

Alberta Petroleum Marketing Commission (APMC), an agent of the Crown of the Province of Alberta (the Province, rated AA (high) with a Stable trend), and Canadian Natural Resources Partnership (CNR) are toll payers and feedstock suppliers under separate 30-year toll-based Processing Agreements (PAs) with NWR. CNRL is the general partner of CNR and ultimately responsible for CNR’s liabilities, including obligations under the CNR PA. The toll payers commit to supply bitumen blend that contains 50,000 bpd of bitumen and pay a cost-of-service toll to the Issuer for refining the feedstock (or selling unprocessed bitumen and diluent if the plant is operating below capacity). All monthly refined product and bitumen blend revenues will be deposited into a trust that pays debt service first before a net payment to the toll payers. The toll payers have an unconditional obligation to pay debt service (the Debt Service Obligation or DSO) if revenues are insufficient, whether the plant runs or not and such DSO survives termination of the PAs. These obligations are several: both the DSO and the bitumen supply commitments are split between APMC (75%) and CNRL (25%). The toll payment obligation does not begin until the earlier of the Commercial Operation Date (COD) or June 1, 2018.

Mainly as a result of foreign exchange rate pressures, scope changes and lower than expected productivity, the Executive Leadership Committee adopted an updated Facility Capital Cost (FCC) budget of $8.9 billion in January 2017, representing an increase of approximately 4% from the previously adopted budget of $8.5 billion. NWR further estimates that an additional 3%-6% (or up to $500 million) FCC could be incurred to achieve full commercial operation of the facility. As such, DBRS’s base case analysis has assumed a total FCC of $9.4 billion. The COD target date has also changed from Q4 2017 to Q2 2018, although the Issuer plans to start partial operations of all other units than the Gasifier from Q4 2017. NWR expects that the partial operation would generate modest interim sale proceeds that could be used to offset the FCC, but this is not included in DBRS’s analysis to be conservative.

Construction work started in April 2014. By February 2017, the Issuer had expended around $8 billion, or approximately 90% of the total $8.9 billion adopted budget to complete and start up the facility. The Project is currently expected to reach full mechanical completion in December 2017. To date, the Project has been funded through nine series of Canadian dollar bonds through five issuances totaling $4.85 billion, $638 million of equity funding from the Partners, and $649 million of subordinated debt from Canadian Natural Upgrading Limited and APMC. A $3.5 billion credit facility was established in June 2014 to bridge the funding requirements between bond issuances. As of December 31, 2016, NWR had incurred $1.6 billion of borrowing under the credit facility. In line with the $9.4 billion FCC case, NWR would issue another $3.45 billion of bonds in 2017 and 2018, and expect that an extra $100 million subordinated debt in total would be required from CNR (Redwater) Limited and APMC, to fund the FCC.

The Issuer is responsible for managing construction execution and the start-up. There is no general contractor with an overall fixed-price wrap of the construction risk, although the cost certainty of the Project has significantly improved since the onset of the construction. Despite the delay and the cost overruns that could bring the FCC to $9.4 billion, under major downside scenarios, such as a CNRL insolvency event prior to COD (within the next 12 months based on the current schedule) or a failure of CNR (Redwater) Limited to advance subordinated debts to fund material cost overruns above $8.5 billion, it remains reasonable to expect that APMC will be economically motivated to step up and become a 100% feedstock provider or cover any unfunded subordinated debts in order to bring the Project to COD, primarily supported by the increased DSO since the last DBRS report.

After COD, the rating is not anchored by a fixed-price operating and maintenance contract or high net debt service coverage ratios, but instead is supported by the feedstock and refined product value, significant recourse to toll payers through the DSO, expected improved replaceability of CNR and APMC’s stronger incentives to keep the Project operational, which exhibits high resilience against operation cost overruns. However, the rating will be constrained on the basis that NWR still entails a single-asset risk with a self-perform strategy, high production complexity, a level of refinancing risk and the merchant risk exposure to an unpredictable world oil price and refined products markets (in terms of how it is driving APMC’s incentives to refine).

Notes:
All figures are in Canadian dollars unless otherwise noted.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link to the right under Related Research or by contacting us at info@dbrs.com.

The principal methodology is Rating Project Finance, which can be found on dbrs.com under Methodologies.