DBRS Confirms Brookfield Renewable Kwagis Bonds at A (low)

DBRS Limited (DBRS) has today confirmed the rating of A (low) with a Stable trend on the Series I Senior Secured Bonds (the Bonds) issued by Brookfield Renewable Kwagis Holding Inc. (the Issuer). The Bonds are guaranteed by the Issuer’s project subsidiary, Kwagis Power Limited Partnership, and are secured by all assets of the 45-megawatt run-of-river hydroelectric power generating facility (the Project). The $175 million Bonds start amortizing at the start of 2024 and fully amortize until 2053, at the end of the Electricity Purchase Agreement (EPA) with British Columbia Hydro and Power Authority (rated AA (high) with a Stable trend by DBRS).

The Project started commercial operations on April 9, 2014, and generation data is available until the end of April 2017. Since the commercial operation date (COD) to April 2017, cumulative generation is 14.8% below long-term average generation and revenue is 16.3% below planned revenue. May and June have had exceptionally low generation caused by low water flow rather than availability issues. These low-flow months have been partially offset by higher-than-expected flows in November and December. Hydrological variability for run-of-river projects can be large, and patterns can only be statistically significant over longer periods of time. Moreover, the EPA is complex and introduces more price volatility than a typical power purchase agreement. As a result, the post–capital expenditures (capex) interest-only debt service coverage ratio (DSCR) achieved since COD was 1.90 times (x) for 2015 and 1.74x for 2016 — well below the expected 2.31x and 2.33x, respectively. DBRS will continue to closely monitor the impact of generation, revenue and the effective energy price on the interest-only DSCR and may take a negative rating action if the post-capex DSCR continues to materially underperform (below 2.0x) compared with the plan in the coming year.

DBRS notes that the DSCR was originally projected using levelized capex based on the structure agreed upon with noteholders per the Indenture (minimum DSCR of 1.45x). The Independent Engineer’s initial review identified the capex likely to occur over the next 40 years, showing levelized and non-levelized capex. The DSCR calculation already accounts for operations and maintenance costs, which include labour, supplies and materials, routine repair and maintenance estimates and other miscellaneous plant expenses; thus capex consists only of major overhauls typically required well into the forecast period. DBRS has also calculated the DSCR based on the non-levelized capex, which shows downward pressure on the DSCR in 2033, 2038, 2048 and 2053 (when the Bonds mature) if all capex was spent in that year. The Sponsor, Brookfield Renewable Partners L.P. (rated BBB (high) with a Stable trend by DBRS), noted the precise timing and quantum of major capex changes over the course of the Project and that such capex estimates well into the future give it the visibility necessary to adequately manage cash flow. Spending can be spread by prepaying some contracts or stockpiling materials years in advance of the actual work. By spreading the capex cost over two to four years (depending on size), the resulting minimum DSCR remains robust at 1.39x compared with 1.45x in the levelized calculation. As the Sponsor has a long history in hydroelectric projects, DBRS views this approach regarding future capex costs as reasonable.

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.

DBRS will publish a full report shortly that will provide additional analytical detail on this rating action. If you are interested in receiving this report, contact us at info@dbrs.com.