DBRS Morningstar Assigns Rating to SNC-Lavalin Innisfree McGill Finance Inc.'s Series B Senior Bonds and Confirms Remaining Ratings at A (low) with Stable Trends

DBRS Limited (DBRS Morningstar) assigned a rating of A (low) with a Stable trend to the new Series B Senior Amortizing Bonds issued by SNC-Lavalin Innisfree McGill Finance Inc.

DBRS Morningstar also confirmed the Issuer Rating and the Series A Senior Amortizing Bonds rating of SNC-Lavalin Innisfree McGill Finance Inc., the financing vehicle unconditionally guaranteed by McGill Healthcare Infrastructure Group, G.P. (ProjectCo) and its General Partners, at A (low) with Stable trends.

ProjectCo is the special-purpose vehicle responsible for the design, construction, financing, and maintenance of a new 217,500-square metre hospital under a 34.3-year public-private partnership (the Project) with McGill University Health Centre/Centre universitaire de santé McGill (MUHC or the Hospital; rated AA (low) with a Stable trend by DBRS Morningstar). The Hospital is currently in its 84th month of operations after having achieved Global Substantial Completion on November 5, 2014.

The ratings were upgraded on June 22, 2021, to A (low) with Stable trends from BBB (high) with Positive trends, supported by the resolution of outstanding material disputes and the implementation of performance protocols in October 2018, which were followed by more than 35 months of sustained good service performance, evidenced by only minor monetary deductions to the monthly service payment and minor failure point accumulation. The rating of A (low) with a Stable trend was the rating initially assigned to the credit on July 9, 2010.

DBRS Morningstar assigned the rating of A (low) with Stable trend to the Series B Senior Amortizing Bonds (the Series B Bonds) pursuant to the Series B, First Supplemental Indenture dated [December 14, 2021], to the Bond Indenture dated as of July 8, 2010. The additional senior bonds are issued as Series B Senior Amortizing Bonds in the amount of $56.3 million and rank pari passu with the outstanding Series A Senior Amortizing bonds that were issued for proceeds of $764.1 million, maturing on June 30, 2044. The Issuer intends to use the proceeds from the issuance of the Series B Senior Amortizing Bonds to repay a portion of the outstanding subordinated debt, to pay transaction expenses, and to fund the increase in the debt service reserve account required pursuant to the issuance of the Series B Bonds. The project sponsors, SNC-Lavalin McGill Inc. and Innisfree McGill Inc., contemplated the possibility of a second bond issue of up to $61 million at the time of financial close on July 8, 2010, provided market conditions were suitable and the additional indebtedness test is satisfied. The credit metrics are still considered supportive of the rating category, with operating and maintenance (O&M) and lifecycle resiliencies calculated as 59.2% and 74.2%, respectively, with a minimum and average projected debt service coverage ratio (DSCR) of 1.27 times (x) and 1.34x, respectively. DBRS Morningstar notes that ProjectCo retained architectural lifecycle obligations were passed down to SNC-Lavalin Operations and Maintenance Inc. (SNC O&M or the Service Provider) in 2018, thus a combined lifecycle resiliency is now reported.

DBRS Morningstar notes the continued stabilization of service performance in the Hospital to date. For the 12-month reporting period from April 2020 to March 2021, there were relatively few Hospital-levied deductions related to service performance after the revised Project Agreement (PA) tolerances were applied. Furthermore, failure point accumulation is well within the PA thresholds for warning notices, subcontractor replacement, and Events of Default (EOD), with failure points significantly below the Service Provider replacement threshold or EOD threshold. As noted in the previous rating report of December 21, 2020, while ProjectCo continued to track and monitor both deductions and failure point service performance on a self-reported basis, At the start of the Coronavirus Disease (COVID-19) pandemic, MUHC agreed to suspend the application of service performance related deductions and failure points until the pandemic abates. These have remained consistently low and below the contractual tolerance thresholds. The suspension was lifted in July 2021. Deductions are passed down to the Service Provider from ProjectCo.

Since the finalization of the amendments to the O&M Contract and the implementation of the performance protocols in 2018, DBRS Morningstar notes the improved service performance in the Hospital to date. For the 12-month reporting period from October 2020 to September 2021, relatively low Hospital-levied deductions were related to service performance after the revised PA tolerances were applied. The largest availability deduction in the past 12 months occurred on two days in July 2021, resulting in a deduction of $27,000 related to a failure of the pneumatic transportation system. The deduction is being disputed as there is disagreement whether it should be treated as a single- or multiple-event deduction. Furthermore, failure point accumulation is well within PA thresholds for warning notices, subcontractor replacement, and EODs, with failure points at 0% of both the Service Provider replacement threshold and EOD threshold. Discussions related to the renewal of the security contract for facility security services are ongoing as part of the PA benchmarking regime and the issue is expected to be resolved by Q1 2022.

All pandemic-related costs, including the installation of hand-washing stations and temporary plexiglass, have been paid for by the Hospital. Despite the spike in gas consumption from general hot water use and increased consumption related to the maintenance of negative pressurization and temperature to control coronavirus infection throughout the facility, the energy consumption in the past period resulted in a $20,000 gainshare payment between the Hospital and ProjectCo (Energy Year #4, December 2019 to November 2020). Energy Year #5 (December 2020 to November 2021) is on track for a gainshare payment, which will be passed down to the Service Provider, as energy consumption is expected to either meet or be below the target. ProjectCo has taken initiatives to manage overall energy consumption in the past, including fine tuning chillers, cooling tower systems, and upgrading to LED lighting throughout the Hospital.

Budgeted lifecycle costs for the near term include interior finishes and replacement of chillers and communications and security equipment. Starting from the fifth year following commencement of the operational term (2018–19), both SNC O&M (for architectural elements of the Hospital) and Johnson Controls L.P. (JCLP) (for technical elements of the Hospital) are required to deliver an Annual Lifecycle Report to ProjectCo. Regardless of the works undertaken and the amount expended on lifecycle, the annual lifecycle payments from MUHC to ProjectCo and from ProjectCo to JCLP and SNC O&M are fixed. Notwithstanding, the Facilities Management Services Contract and subcontract include a mechanism to review the lifecycle budgets against the actual spending and forecast lifecycle activities, allowing ProjectCo to retain funds from SNC O&M and JCLP if there is a discrepancy. Following review of JCI’s 6th year lifecycle report, ProjectCo currently retains $4.1 million of scheduled payments identified as being in excess of works performed.

The DSCR was in line with the projection of 1.39x for the trailing 12 months ended June 30, 2021. The minimum and average DSCR are projected to be 1.27x and 1.34x, respectively, including the effect of the issue of the Series B Senior Amortizing Bonds. Negative rating pressure could result if the Project exhibits material deterioration of its operating and financial performance, leading to weakened credit metrics, whereas there is limited credit upside at the current rating of A (low) with Stable trends.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/373262.

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

The principal methodology is Rating Public-Private Partnerships (August 19, 2021; https://www.dbrsmorningstar.com/research/383244 ), which can be found on dbrsmorningstar.com under Methodologies & Criteria. Other applicable methodologies include the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (February 3, 2021; https://www.dbrsmorningstar.com/research/373262).

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 [email protected].

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

Generally, the conditions that lead to the assignment of a Negative or Positive trend are resolved within a 12-month period. DBRS Morningstar trends and ratings are under regular surveillance.

For more information on this credit or on this industry, visit www.dbrsmorningstar.com or contact us at [email protected].

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