DBRS Confirms North West Redwater Partnership at A (low) with Stable Trends

DBRS Limited (DBRS) confirmed the Issuer Rating and Senior Secured Bonds (the Bonds) issued by North West Redwater Partnership (NWR or the Issuer) at A (low) with Stable trends. NWR is responsible for the construction, ownership and operation of a 50,000 barrel per day (b/d) 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 (CNR Redwater), wholly owned by Canadian Natural Resources Limited (CNRL; rated BBB (high)/R-2 (high) with Stable trends by DBRS) and NWU Limited Partnership (NWU), indirectly owned by North West Refining Inc. (collectively, the Partners). The upgrader-refinery is designed to process approximately 79,000 b/d of bitumen blend or feedstock, 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 shipping bitumen to U.S. refineries for processing.

The ratings and trends are confirmed despite the serious delays experienced by the project to date in the commissioning of the refinery’s Gasifier unit, which is a critical component in the upgrading process flow of the facility. These delays are due to a number of issues uncovered in Q1 2019 during commissioning activities, including cracking in the Gasifier’s piping and the need to refabricate and reinstall its burners. DBRS views these issues as concerning given the critical nature of the unit in the integrated workflow of the facility, introducing a significant risk overhang to the Project, and likely to be credit negative if they remain unresolved. DBRS also notes that these commissioning issues have followed a series of previous delays and cost overruns, caused by foreign exchange rate pressures, scope changes and lower-than-expected productivity, which have increased the total Facility Capital Cost to $9.7 billion from $5.8 billion, heightening concerns about the progress of the Project. Even after the issues with the Gasifier have been addressed, a number of steps must still be undertaken to fully integrate the Gasifier into the process workflow before Commercial Operation Date (COD) is reached.

Bondholders, however, have been largely insulated from the commissioning issues due to the structure of the 30-year Processing Agreements (PAs) with the two toll payers: the Alberta Petroleum Marketing Commission (APMC), an agent of the Crown of the Province of Alberta (the Province; rated AA with a Negative trend by DBRS), and Canadian Natural Resources Partnership (CNR), whose obligations are ultimately guaranteed by its general partner, CNRL. The PAs provide for the APMC and CNR on a 75%/25% basis, respectively, to commit to supply bitumen blend that contains 50,000 b/d of bitumen and pay a cost-of-service toll (COST) to the Issuer for refining the feedstock, thus shielding NWR from supply or merchant pricing risk. The PAs include an unconditional Debt Service Obligations (DSO) provision, which obligates APMC and CNR, also on a 75%/25% basis, to ensure sufficient funds for debt service regardless of the operational or completion status of the refinery. This obligation to fund the DSO survives termination of the PAs; however, the obligations are several and not joint.

DBRS notes that both APMC and CNR have been fulfilling this obligation since the contractual Toll Commencement Date was reached in June 2018, despite the fact the facility is not yet operating, indicating a level of commitment from the toll payers to the Project. Additionally, DBRS views that the APMC has significant economic incentives in the form of revenues from sales of refined products to step in and take over CNRL’s obligations in the case that CNRL should default, which adds additional support to the rating. As a result, DBRS views the rating level as between the rating of CNRL and the Alberta government. Given the delays and issues in commissioning, DBRS has focused on the incentive for APMC to step in in the hypothetical situation that CNR Redwater does not advance any more funds to complete commissioning; in such a scenario, the economic incentives remain strong, and the one-notch uplift from CNRL’s rating continues to be supported. DBRS also notes that refining facilities of NWR have been operating since November 2017, producing refined products such as ultra-low-sulfur diesel (ULSD) for sale on the open market. The margins generated from these sales have been used to help offset cost overruns resulting from the commissioning delays, and the outstanding balance on the construction line of credit actually decreased slightly in 2018.

Nevertheless, a continued inability to successfully bring the Gasifier into service could reduce the willingness of the toll payers to continue supporting the project and challenge the APMC’s willingness to step in regardless of the economic incentive. DBRS views any further delay or issues encountered as credit negative and will monitor the NWR’s updates over the next year. Additional delays or issues discovered after commissioning re-commences is likely to result in downward rating pressure.

After the COD, the rating is not anchored by a fixed-price operating and maintenance (O&M) 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, a weakness of the Project remains that NWR entails a single-asset risk with a self-perform strategy, high production complexity and the merchant risk exposure to volatility in the price of oil, the heavy oil-light oil price differential and refined products markets (in terms of how it drives APMC’s economic incentives to step in if necessary). Additionally, the assigned rating may be downgraded if the DSO obligation is not met by either toll payer, either the Province’s rating or CNRL’s rating is downgraded or there are protracted performance issues after the COD.

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

The principal methodologies are Rating Project Finance and DBRS Criteria: Guarantees and Other Forms of Support, which can be found on dbrs.com under Methodologies & Criteria.

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 under Related Documents or by contacting us at info@dbrs.com.

The rated entity or its related entities did participate in the rating process for this rating action. DBRS had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

For more information on this credit or on this industry, visit www.dbrs.com or contact us at info@dbrs.com.

DBRS Limited
DBRS Tower, 181 University Avenue, Suite 700
Toronto, ON M5H 3M7 Canada