DBRS Morningstar Confirms Ratings on Madrileña Red de Gas Finance B.V. at BBB (low) with Stable Trends

DBRS Ratings GmbH (DBRS Morningstar) confirmed its Issuer Rating and Euro Medium Term Notes rating on Madrileña Red de Gas Finance B.V. (MRG Finance or the Issuer) at BBB (low) with Stable trends. MRG Finance is the financing entity for Madrileña Red de Gas, S.A.U. (MRG or the Guarantor), and all current debt issued by MRG Finance is guaranteed by MRG. As such, the ratings on the Issuer are based on the Guarantor’s credit quality.

KEY RATING CONSIDERATIONS
The rating confirmation is supported by MRG´s (1) stable regulated business and (2) reasonable franchise area. MRG is a regulated natural gas distributor operating in Madrid. DBRS Morningstar considers MRG’s regulatory framework under the Comisión Nacional de los Mercados y la Competencia (CNMC) to be reasonable for the BBB rating category as it provides a steady stream of earnings and cash flow. Almost all of MRG’s operations are regulated (98% of 2021 revenues). The current regulatory period for 2021–26 is consistent with the previous framework where the base remuneration was adjusted based on the annual changes in the volume of natural gas distributed and the number of connection points. DBRS Morningstar notes that the regulatory framework provides remuneration based on growth on demand and connection points rather than assets, incentivising to optimise operating and capital expenditures (capex). As a consequence, DBRS Morningstar notes that MRG's capex requirements (maintenance capex of around EUR 1.0 million to EUR 2.0 million annually) are not material and that most of the expansionary capex is discretionary.

MRG's key credit metrics are weak for the BBB rating category. MRG’s cash flow-to-debt ratio has averaged around 9.0% to 11.0% for the past few years. MRG's debt-to-capital ratio has also been high, reaching 85.7% in 2021. These two weaker metrics are partly offset by the Issuer’s stronger EBIT-interest coverage ratio of 3.74 times (x) in 2021 and the stability of the business risk assessment (BRA). Although DBRS Morningstar expects the cash flow-to-debt ratio to weaken over the next regulatory period, DBRS Morningstar expects the debt-to-capital ratio to improve, which should support the BBB (low) rating.

RATING DRIVERS
Based on the final framework for the 2021–26 regulatory period, the CNMC established a final haircut of EUR 24.5 million to be phased in over the six-year period. While this is lower than the preliminary haircut estimate of EUR 34.1 million, earnings and cash flows will both decrease over the medium term and pressure the already-weaker key credit metrics. A negative rating action is possible if MRG is unable to manage the remuneration haircut, resulting in the cash flow-to-debt ratio falling below 9.0% for an extended time frame. DBRS Morningstar also notes that, because the remuneration haircut will be phased in gradually, the metrics may become increasingly more difficult to maintain over the medium term.

If MRG is able to demonstrate that it can prudently manage its dividends and debt load and maintain its key credit metrics in the BBB rating category (specifically, the cash flow-to-debt ratio above 10.0%) on a sustained basis, then a positive rating action may occur.

RATING RATIONALE
DBRS Morningstar assumed that, over the six-year period, earnings will decrease by up to EUR 24.5 million with a corresponding decrease in cash flow. Under this scenario, DBRS Morningstar expects the cash flow-to-debt ratio to weaken over the forecast; however, DBRS Morningstar expects the debt-to-capital metrics to improve, given the expected deleverage remaining supportive of the BBB (low) rating, given the stable BRA. DBRS Morningstar expects MRG to be prudent in its dividend and debt management to maintain key credit metrics at current levels, supportive of the BBB (low) rating.

ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS
There were no Environmental/Social/Governance factors that had a significant or relevant effect on the credit analysis.

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/396929/dbrs-morningstar-criteria-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings.

Notes:
All figures are in euros unless otherwise noted.

The principal methodology is Rating Companies in the Regulated Electric, Natural Gas and Water Utilities Industry (24 September 2021), which can be found on dbrsmorningstar.com under Methodologies & Criteria. Other applicable methodologies include DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (17 May 2022) and DBRS Morningstar Criteria: Guarantees and Other Forms of Support (4 April 2022).

The primary sources of information used for this rating include audited annual accounts for MRG and MRG Finance, MRG´s business and financial projections, regulatory documents for MRG, meetings with management, and all written correspondence as of today. DBRS Morningstar considers the information available to it for the purposes of providing this rating to be of satisfactory quality.

DBRS Morningstar does not audit the information it receives in connection with the rating process, and it does not and cannot independently verify that information in every instance.

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

For further information on DBRS Morningstar historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: https://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. DBRS Morningstar understands further information on DBRS Morningstar historical default rates may be published by the Financial Conduct Authority (FCA) on its webpage: https://www.fca.org.uk/firms/credit-rating-agencies.

The sensitivity analysis of the relevant key rating assumptions can be found at: https://www.dbrsmorningstar.com/research/400852.

This rating is endorsed by DBRS Ratings Limited for use in the United Kingdom.

Lead Analyst: Ana Relanzon, Assistant Vice President
Rating Committee Chair: Andrew Lin, Managing Director
Initial Rating Date: 17 August 2020
Last Rating Date: 3 August 2021

DBRS Ratings GmbH, Sucursal en España
Paseo de la Castellana 81
Plantas 26 & 27 28046 Madrid
Spain
Tel. +34 (91) 903 6500

DBRS Ratings GmbH
Neue Mainzer Straße 75
60311 Frankfurt am Main Deutschland
Tel. +49 (69) 8088 3500
Geschäftsführer: Detlef Scholz
Amtsgericht Frankfurt am Main, HRB 110259

-- Rating Companies in the Regulated Electric, Natural Gas, and Water Utilities Industry (24 September 2021), https://www.dbrsmorningstar.com/research/384922.
-- DBRS Morningstar Criteria: Guarantees and Other Forms of Support (4 April 2022), https://www.dbrsmorningstar.com/research/394683.
-- DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (17 May 2022), https://www.dbrsmorningstar.com/research/396929.

Information regarding DBRS Morningstar ratings, including definitions, policies, and methodologies, is available on www.dbrsmorningstar.com.