DBRS Limited (DBRS Morningstar) downgraded the ratings on Brookfield Renewable Kwagis Holding Inc.’s (the Issuer) Issuer Rating and Series I Senior Secured Bonds (the Bonds) to BBB from BBB (high) and changed the trend to Stable from Negative. The Bonds are guaranteed by the Issuer’s project subsidiary, Kwagis Power Limited Partnership (the Project LP) and are secured by all the assets of the 45-megawatt run-of-river hydroelectric power-generating facility in British Columbia (the Project). The $175 million Bonds start amortizing in 2024 and fully amortize in 2053 at the end of the Electricity Purchase Agreement (EPA) between the Project LP and British Columbia Hydro and Power Authority (rated AA (high) with a Stable trend by DBRS Morningstar).
The Project achieved commercial operations on April 9, 2014. The Project's generation and revenues have generally been lower than originally modelled at financial close. While the Project's performance had rebounded and the generation was slightly higher than projected in 2020 and 2021, performance weakened again in 2022. In 2022, generation and revenue were 22% and 27% below the long-term average generation and revenue targets, respectively. Cumulative generation until the end of 2022 was 13% below and cumulative revenue was 18% below the modelled figures at financial close.
The divergence in revenue from target is partially the result of the EPA's first reset of the Seasonal Firm Energy Amount (SFEA), in mid-2020, which has eroded the effective energy price. In 2020, DBRS Morningstar updated its rating-case projections to reflect the SFEA reset, reducing the minimum forecast debt service coverage ratio (DSCR) to 1.42 times (x) from 1.45x. The DSCR was 1.48x for 2022. The eroded energy price puts downward pressure on the ratings, especially as 2024 approaches, when the Bonds begin to amortize. As the Bonds start amortizing only in 2024, the DSCR in 2022 is an interest-only metric.
DBRS Morningstar recognizes that hydrological variability for run-of-river projects can be large and that patterns can be statistically significant only over longer periods of time. The next firm energy adjustment anniversary is in 2025. Although not expected in the base-case forecast, DBRS Morningstar notes that if the generation until then is weak, there is risk of a further erosion in the effective energy price that could cause a negative rating action. DBRS Morningstar continues to closely monitor this project for volatility in the water flow over the medium term, which could cause negative rating pressure. A sustained period of higher generation and the expectation that it could continue could lead to a positive rating action.
ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS
Environmental (E) Factors
As a run-of-river hydro power facility in British Columbia, Climate and Weather risk is a relevant ESG factor for the Project because of greater hydrology volatility. Materially low water flows in this region could negatively affect the ratings.
There were no Social or 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/416784 (July 4, 2023).
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 following methodologies have also been applied:
-- DBRS Morningstar Global Criteria: Guarantees and Other Forms of Support (March 28, 2023) https://www.dbrsmorningstar.com/research/411694
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.
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The credit rating was initiated at the request of the rated entity.
The rated entity or its related entities did participate in the credit rating process for this credit 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 credit 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 credit ratings are under regular surveillance.
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