Morningstar DBRS Assigns Issuer Rating of BB (high) to Wolf Midstream Canada LP and Provisional Credit Rating of BB to Wolf Midstream Canada LP's Senior Unsecured Notes

DBRS Limited (Morningstar DBRS) assigned an Issuer Rating of BB (high) to Wolf Midstream Canada LP (Wolf or the Company). Morningstar DBRS also assigned a provisional credit rating of BB with a recovery rating of RR5 to Wolf's Senior Unsecured Notes (the Senior Notes). All trends are Stable.

KEY CREDIT RATING CONSIDERATIONS
The Company's business risk profile is anchored by its long-term contracted cash flows. Approximately 87% of the Company's adjusted EBITDA in 2023 (contributions from assets placed in service during the year have been annualized) was generated under take-or-pay (ToP) and firm purchase obligations (Firm) contracts. The contracts have minimal volume risk and also include provisions to recover operating costs. Given that a majority of the Company's ongoing/proposed capital projects are also underpinned by contracts, Morningstar DBRS expects ToP and Firm contracts to contribute more than 85% of the Company's EBITDA over the near term and more than 75% of EBITDA once the expansion projects are placed in service in 2027. The weighted-average tenor of Wolf's contracts (approximately 21 years) is longer than those of its Morningstar DBRS-rated peers; however, the contribution of investment-grade counterparties to overall revenue (Morningstar DBRS estimates 50% to 60%) is relatively lower. The Company is also well diversified for its current credit ratings and will have a meaningful presence in each of its three business segments once key expansion projects are completed in 2027.

Supply/demand considerations remain supportive of the credit ratings. While the assets in the Company's pipeline segment (approximately 50% of EBITDA in 2028) have a limited geographic footprint, they serve oil sands assets, which have low breakeven prices and long reserve lives. Morningstar DBRS expects the Company's natural gas liquids (NGLs) assets to benefit from the high liquids content available in the natural gas stream in Western Canada and a growing petrochemical industry in Alberta. Wolf has preferential rights to recover NGLs from the NOVA Gas Transmission Ltd. (NGTL) system and is protected from a new NGL recovery facility being interconnected with the NGTL system upstream of Wolf's NGL facilities. The Company's carbon segment is also well positioned given Wolf's first-mover advantage in the carbon dioxide transportation business and government and investor focus on decarbonization.

The credit ratings are constrained by price and volume risks predominantly present at the Company's NGL segment. Morningstar DBRS estimates that approximately 25% of the Company's EBITDA will be exposed to volume and/or commodity risks in 2027. Morningstar DBRS notes that the Company intends to hedge a majority of its commodity price exposure. The credit ratings are also constrained by the Company's large capital expenditure (capex) plan (approximately $1.1 billion) over the next three years. As part of the expansion, Wolf intends to build a second NGL recovery facility, extend and expand existing assets, and develop a carbon sequestration hub. Morningstar DBRS notes that the Company has a history of completing projects on time and largely on budget, and the scope of expansion projects largely mirrors the projects the Company has already completed. Nevertheless, the capex spend is significant, with a potential for cost overruns and delays.

Morningstar DBRS expects the Company's financial risk profile to remain supportive of the credit ratings through the construction period. Morningstar DBRS expects the Company to fund its capex plan with a mix of debt and equity while maintaining its leverage (total debt-to-adjusted EBITDA) ratio in line with the current levels (Q1 2024: 4.4 times pro forma to the issuance of Senior Notes). Morningstar DBRS expects the Company to maintain a cash flow-to-debt ratio of around 12% over the construction period (Q1 2024: 12.4%). Morningstar DBRS has assigned an equity weighting of 25% to the Promissory Notes issued by Wolf to its parent entity, which is ultimately owned by Canada Pension Plan Investment Board (the Sponsor; rated AAA with a Stable trend by Morningstar DBRS), given the presence of prepayment provisions.

Morningstar DBRS expects the Company to have adequate liquidity through the construction period, with $784 million collectively available under its new $650 million secured revolving credit facility (RCF) and $200 million delayed-draw term loan (the New Term Loan). Morningstar DBRS notes that the Sponsor has foregone distributions during periods of high capex in the past to preserve financial flexibility, and Morningstar DBRS expects the Sponsor to continue to be flexible with its distribution policy in order to maintain Wolf's key credit metrics and liquidity.

The recovery rating assumes that creditors would gain the greatest recovery by reorganizing Wolf as a going concern. Morningstar DBRS has estimated value at default with an EBITDA-based valuation approach. The EBITDA and the multiple used to estimate the value at default are both conservative to reflect the potential that investors will perceive higher risk in purchasing a company emerging from a reorganization and therefore may pay only deeply discounted values. At the time of default, the Company's debt outstanding is expected to be composed of the existing term loan of $1,340 million, the RCF, the New Term Loan, and the Senior Notes. The Term Loan, RCF, and New Term Loan are secured by Wolf's operating assets on a pari passu basis and rank ahead of the Senior Notes. Under this scenario, Wolf's market value would be adequate to cover between 10% and 30% of the Senior Notes, resulting in an assigned recovery rating of RR5.

CREDIT RATING DRIVERS
A positive credit rating action is unlikely until the Company successfully completes its expansion projects and maintains its cash flow-to-debt at around 15%. While unlikely, a negative credit rating action could occur if Wolf's debt level increases materially because of cost overruns and its cash flow-to-debt ratio stays consistently less than 10%.

EARNINGS OUTLOOK
Morningstar DBRS expects EBITDA in 2024 to be higher because of the full-year impact of the projects placed in service in 2024. Morningstar DBRS also expects EBITDA to grow modestly in 2025 and 2026 before increasing materially in 2027 once the expansion projects are placed in service.

FINANCIAL OUTLOOK
Morningstar DBRS expects cash flow from operations to also trend higher as a result of higher earnings. While overall debt levels are expected to increase as the Company funds part of its capex from debt, Morningstar DBRS expects the Company to stay within its target leverage ratio.

CREDIT RATING RATIONALE
Wolf's credit ratings are supported by relatively stable cash flows generated from long-term ToP and Firm contracts across its three business segments and its reasonably diversified portfolio of assets. The credit ratings are constrained by the residual volume and commodity risks in the business and the large capex program over the next three years.

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

A description of how Morningstar DBRS considers ESG factors within the Morningstar DBRS analytical framework can be found in the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (January 23, 2024) at https://dbrs.morningstar.com/research/427030.

BUSINESS RISK ASSESSMENT (BRA) AND FINANCIAL RISK ASSESSMENT (FRA)
(A) Weighting of BRA Factors 
In the analysis of Wolf, the BRA factors were considered in the order of importance contemplated in the methodology.

(B) Weighting of FRA Factors 
In the analysis of Wolf, the following FRA factors were considered more important: cash flow-to-debt ratio and EBIT interest coverage.
 
(C) Weighting of the BRA and the FRA 
In the analysis of Wolf, the BRA carries greater weight than the FRA.

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

Morningstar DBRS applied the following principal methodology:
-- Global Methodology for Rating Companies in the Pipeline and Midstream Energy Industry (April 15, 2024),
https://dbrs.morningstar.com/research/431181

Morningstar DBRS credit ratings may use one or more sections of the Morningstar DBRS Global Corporate Criteria (April 15, 2024), https://dbrs.morningstar.com/research/431186, which covers, for example, topics such as holding companies and parent/subsidiary relationships, guarantees, recovery, and common adjustments to financial ratios.

The following criteria has also been applied:
-- Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (January 23, 2024), https://dbrs.morningstar.com/research/427030

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

A description of how Morningstar DBRS analyzes corporate finance transactions and how the methodologies are collectively applied can be found at: https://dbrs.morningstar.com/research/431153.

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@morningstar.com.

A provisional credit rating is not a final credit rating with respect to the above-mentioned security and may change or be different than the final credit rating assigned or may be discontinued. The assignment of a final credit rating on the above-mentioned security is subject to receipt by Morningstar DBRS of all data and/or information and final documentation that Morningstar DBRS deems necessary to finalize the credit rating.

The credit ratings were initiated at the request of the rated entity.

The rated entity or its related entities did participate in the credit rating process for these credit rating actions.

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

These are solicited credit ratings.

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

Information regarding Morningstar DBRS credit ratings, including definitions, policies, and methodologies, is available on dbrs.morningstar.com or contact us at info-DBRS@morningstar.com.

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