-- EQT Infrastructure Ltd. and Fortistar LLC have now signed a definitive agreement to sell Midland Cogeneration Venture L.P. (MCV) to an affiliate of OMERS Administration Corp. (OMERS).
-- We are placing our 'BBB-' rating on MCV's senior secured notes on CreditWatch with developing implications.
-- As part of the CreditWatch resolution we will review the new ownership structure and any implications for the project's capital structure.
On Oct. 4, 2012, Standard & Poor's Ratings Services placed its 'BBB-' rating on Midland Cogeneration Venture L.P.'s (MCV) $560 million senior secured notes on CreditWatch with developing implications.
The CreditWatch placement follows the Oct. 2, 2012, announcement that EQT Infrastructure Ltd. and Fortistar LLC have signed a definitive agreement to sell MCV to an affiliate of OMERS Administration Corp. (OMERS; AAA/Stable/A-1+).
MCV is a 1,630-megawatt (MW) natural-gas-fired combined-cycle plant in Midland, Mich., which entered commercial operations in 1990. MCV is 100% owned by Midland Acquisition Co. 2 LLC (MAC2), which through various subsidiaries is indirectly 70% owned by EQT Infrastructure and about 30% owned by Fortistar.
The CreditWatch developing listing indicates that we could raise, lower, or affirm our rating following our review of how the pending sale could affect the project. We could affirm the rating if, in our assessment, the new ownership structure, the project transaction structure and any changes in the capital structure including debt at MAC2, the immediate parent of MCV, supports a 'BBB-' rating. Or, assuming our analysis of the ownership structure, transaction structure and capital structure debt at MAC2 are supportive, we could potentially raise the rating if we upgraded Consumers Energy Co. (BBB-/Positive/--), which contracts for a significant amount of the project's energy and capacity. The project has generated stronger cash flows to support debt service due to lower property taxes and expenses under the amended long-term service agreement (LTSA) with General Electric Co. (AA+/Stable/A-1+) together with more favorable terms (and extension) of the steam and electric power agreement with Dow Chemical Co. that bring further predictability to revenues. However, we may lower the rating if the new ownership structure, the project transaction structure and any changes in the capital structure including debt at MAC2, the immediate parent of MCV, are not supportive of a 'BBB-' rating.
The project's contractual framework provides the primary credit support for this transaction. Up to 1,240 MW of the asset's energy and capacity are contracted to Consumers Energy through a power purchase agreement (PPA) that expires in 2025 and is co-terminal with the notes' maturity. Under our base case, the PPA provides predictable payments of about 81% of the project's revenue through the life of the notes. In addition to its payments under the PPA, MCV also earns revenue by selling a portion of its capacity, energy, and ancillary services into the Midwest Independent Transmission System Operator (MISO) region on a merchant basis. Under our base-case assumptions, merchant sales and ancillary services will likely contribute about 12% of revenues through the life of the notes. Following an extension, the asset has an LTSA with GE through about 2021. This agreement provides maintenance payment stability. The project recovers service agreement costs, variable operation and maintenance costs, and fuel costs under the terms of the PPA. Fuel costs are reimbursed up to a heat rate of 8,500 Btu per kilowatt-hour. When the PPA expires, Consumers Energy has the option to purchase the facility or extend the PPA for an additional five years.
The support from the contractual framework is offset by two credit factors. First, the project has a steam and electric power purchase agreement (SEPA) with Dow. Although this agreement generates about 17% of revenues through 2015, the contract currently represents a net loss to the project under its current terms. However, MCV recently extended the contract through the term of the PPA under favorable terms.
The presence of holding company debt at MAC2, the immediate parent of MCV, is also a factor in our assessment. MAC2 issued a seven-year term loan facility of $65 million subject to a custom cash sweep to achieve a target debt balance schedule. Because there is holding company debt, we analyzed projected financial performance initially on a consolidated basis that factors in all of the debt. Starting there, because of structural features and MCV's debt service coverage performance under our base case and various stress cases, we adjusted the senior secured bond rating upward.
The 'BBB-' rating reflects the following risks:
-- The PPA helps to mitigate market power price risk. Through the life of the debt, 81% of revenues are contracted with a low-investment-grade off-taker; contracted revenues are sufficient to pay all debt.
-- Lenders benefit from a full security package that includes all project assets and a pledge of the equity in the project.
-- Lenders benefit from structural protections such as limitations on additional debt and a six-month debt service reserve.
-- Operating performance has been consistently strong since the inception of the amended and restated PPA in 2008, with average PPA availabilities of about 99.6% and at 100% for the first six months of 2012.
The rating reflects the following risks:
-- Total leverage, including holding company debt, results in a consolidated credit profile that could constrain the rating if the project's cash flows are impeded.
-- The project is exposed to counterparty risk with Consumers Energy.
-- The age of the turbines, although this is offset by the LTSA and maintenance practices at the plant.
The project's liquidity includes a six-month debt service reserve. Ancillary facilities of $100 million, which the project will use to fund the debt service reserve, will also serve as collateral posting under the steam and energy purchase agreement with Dow and other project requirements. The extension of the term of the SEPA agreement also removed the need for the $25 million credit support agreement. This should lead to a reduction of the ancillary facilities to $75 million which the project expects to happen around the middle of October, 2012. The project can use the balance of the ancillary facilities, which should be about $40 million, for working capital purposes. We would consider the ancillary facilities, if drawn, to be parity debt.
We will resolve the CreditWatch placement as the sale process proceeds and we acquire a sound understanding of MCV's new ownership structure and its potential impact on its credit quality.
Related Criteria And Research
-- Project Finance Construction and Operations Counterparty Methodology, Dec 20, 2011
-- Updated Project Finance Summary Debt Rating Criteria, Sept. 18, 2007
Ratings Placed On CreditWatch
Midland Cogeneration Venture L.P.
Senior Secured BBB-/Watch Dev BBB-/Stable