DBRS Morningstar Confirms Spy Hill Power L.P. at “A” with Stable Trends

DBRS Limited (DBRS Morningstar) confirmed the Issuer Rating and the rating on the Series A Senior Secured Amortizing Bonds (the Bonds) of Spy Hill Power L.P. (the Issuer) at “A,” both with Stable trends. The Issuer is a special-purpose entity that owns a simple-cycle natural gas-fired 86-megawatt (MW) power generation facility (the Project). The Issuer benefits from a 25-year peaking power purchase agreement (PPA) with Saskatchewan Power Corporation (SaskPower) to provide electrical power to SaskPower’s transmission system. At this time, DBRS Morningstar does not consider the current rating status of SaskPower as constraining either the Issuer Rating or the Bonds rating. The Bonds are secured by the Project’s assets and are fully amortizing with maturity on March 31, 2036, six months prior to the PPA’s expiry.

The PPA insulates the Issuer from electricity price and demand fluctuations as well as fuel price and supply risks because 100% of fuel supply costs are passed through to SaskPower. The remaining primary risk to the Issuer is performance risk. The Project must (1) meet an availability factor of at least 97%, (2) provide energy at the level requested by SaskPower, and (3) be able to start up within 15 minutes of a dispatch request or else pay liquidated damages that are capped at $4 million per year, indexed. The Project must also meet specific heat rate requirements or pay a higher operating cost.

In 2022, the Project’s performance was as expected and the debt service coverage ratio (DSCR) was 1.72 times (x).

In May 2022, during the borescope inspection, a hole was discovered in the stage one nozzle (S1N) assembly on one of the gas turbines (Unit #1), and General Electric (GE), the turbine manufacturer, recommended its replacement as soon as possible. This is the same S1N assembly that GE replaced in 2020 with the latest model available at the time and which failed after 2,800 hours instead of its expected life of 28,000 hours. GE issued a revised service bulletin on April 28, 2022, after having discovered that the installed model was prone to leaf-seal failures, which can cause burn holes. The issue with the Project’s S1N assembly was discovered because of the revised service bulletin. GE supplied the parts and labour and the net additional operating expense to the Project was around $0.12 million; the total financial impact was around $0.3 million, factoring in net additional operating expense and capacity revenue loss during the expected outage to replace the S1N assembly. This outage resulted in a lower overall project availability at around 97.8% versus the expected availability of approximately 99%. DBRS Morningstar notes that operational issues that have a material impact on the DSCR may lead to a negative rating action.

In 2023, the DSCR is expected to be lower at around 1.58x because of planned gas turbine maintenance (Unit #2) and the balance of plant maintenance, considered to be a one-time expense. DBRS Morningstar notes that in 2025 the project will undertake maintenance on the other gas turbine (Unit #1). Beyond 2023, the DSCR is expected to be closer to original projections, ranging between 1.65x and 1.85x (with the exception of one year in which the DSCR is projected to be lower at around 1.60x because of gas turbine major maintenance, which may not occur at all if dispatch levels remain similar to the last three years). The projected average DSCR from 2022 to debt maturity is expected to be around 1.70x.

In 2022, the Project’s approximately 1602 (18.3% annualized) operating hours were lower compared with the eight-year period between 2014 and 2021 when dispatch levels averaged approximately 2,464 (28% annualized) fired hours (FH). This is the third straight year in which the Project's operating hours are comparatively lower. The Issuer informed DBRS Morningstar that the decline in operating hours is potentially because of new electricity supply becoming available in Saskatchewan. However, this has no material impact on the Project’s revenues as they are largely driven by availability rather than generation hours.

The Issuer also informed DBRS Morningstar that, based on its discussions with SaskPower, it expects the Project to be dispatched at lower levels in the future as well. As such, the projected gas turbine major maintenance (scheduled at around 50,000 FH) may not be required if the Project continues to be dispatched at levels similar to the last three years. In 2022, the Issuer did not make deposits to the major maintenance reserve account (MMRA) in the expectation that the major maintenance on the gas turbines will not be needed. This increases the risk that, if the Project is dispatched at a higher level in the future, there could be a shortfall. DBRS Morningstar will continue to monitor the Project’s operating hours.

DBRS Morningstar may take a negative rating action if material operational issues occur, actual financial results are lower than expectations and/or the MMRA is underfunded. An upgrade is considered unlikely given the projected level of the DSCR.

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 (May 17, 2022).

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

DBRS Morningstar applied the following principal methodology:
-- Global Methodology for Rating Project Finance (September 6, 2022)
https://www.dbrsmorningstar.com/research/402400.

The credit rating methodologies used in the analysis of this transaction can be found at: https://www.dbrsmorningstar.com/about/methodologies.

A description of how DBRS Morningstar analyzes corporate finance transactions and how the methodologies are collectively applied can be found at: https://www.dbrsmorningstar.com/research/397223.

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 rating was initiated at the request of the rated entity.

The rated entity or its related entities did participate in the rating process for this rating action.

DBRS Morningstar had access to the accounts, management, and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

This is a solicited credit rating.

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.

Information regarding DBRS Morningstar ratings, including definitions, policies, and methodologies, is available on www.dbrsmorningstar.com or contact us at [email protected].

DBRS Limited
DBRS Tower, 181 University Avenue, Suite 700
Toronto, ON M5H 3M7 Canada
Tel. +1 416 593-5577