Rating Action: Moody's assigns Ba3 rating to Pattern Operations' new notes; affirms Ba3 CFR; outlook positive
Global Credit Research - 13 Jul 2020
Approximately $700 million of debt securities rated
New York, July 13, 2020 -- Moody's Investors Service, ("Moody's") assigned a Ba3 unsecured rating to Pattern Energy Operations LP's (Pattern Operations) proposed new issuance of up to $700 million of senior unsecured notes that will be co-issued by Pattern Energy Operations Inc., a special purpose finance vehicle. Moody's affirmed the company's Ba3 Corporate Family Rating (CFR), the Ba3 senior unsecured rating on the company's outstanding notes, and the Ba3-PD Probability of Default rating (PDR). The Speculative Grade Liquidity Rating (SGL) is unchanged at SGL-2. The outlook for Pattern Operations is positive.
Pattern Operations intends to use the net proceeds from the new notes to fund the early redemption of $350 million of senior unsecured notes due in 2024 that were issued by Pattern Energy Group Inc. (PEGI) in 2017. In March 2020, Pattern Operations became co-obligor on these notes. Upon their redemption Moody's will withdraw the rating on these notes.
Pattern Operations will also repay the $250 million outstanding under a term loan entered by the intermediate holding companies: Pattern US Finance Company, LLC and Pattern Canada Finance Company ULC. These companies are also borrowers and co-guarantors under the group's existing $440 million revolving bank credit facility. Similar to the outstanding notes, Pattern US Finance Company, LLC will also guarantee the new notes. Management will use the rest of the proceeds of around $100 million for corporate purposes, including funding the acquisition of new projects currently under construction by Pattern Energy Group Holdings 2 LP ("Pattern Development"). Pattern Energy Group LP ("Parent company") wholly owns Pattern Operations and Pattern Energy Operations Inc., (co-issuer) as described in the terms of the notes will not have any assets, operations or revenues. Pattern Energy Group LP is also the parent company of the issuer's affiliated companies: Pattern Development and Green Power Investments Corp ("GPI").
"The Ba3 rating assigned to the new notes being issued by Pattern Operations considers the debt security's senior position in the capital structure following the repayment of the secured term loan", said Natividad Martel, VP-Senior Analyst. "The rating assumes that Pattern will not incur any new corporate debt, including secured term loans, to fund its capital requirements over the next two years, given its highly leveraged financial profile".
Pattern Operations' Ba3 CFR reflects the low business risk of its portfolio of contracted wind projects, in addition to some transmission assets, that operate across different regions of the US and Canada. The rating is supported by the contracts average remaining life of around 14.5 years (including Gulf Power repowering new 20-year contract) and the robust credit quality of the project offtakers. The Ba3 also acknowledges the issuer's capital structure with amortizing project debt accounting for the majority of the debt which offsets growing recontracting risk.
The Ba3 CFR is tempered by Pattern Operations' exposure to construction risk given the reliance of Pattern Development and GPI on the organization's $440 million corporate revolving credit facility to meet its liquidity needs. In addition, Pattern Operations' parent company may provide corporate guarantees and other forms of financial support to the group's development activities given their weaker credit profiles.
Credit risk is heightened by the group's elevated leverage including a ratio of consolidated debt to EBITDA that will likely exceed 8.0x in 2020. In April 2020, the direct parent company of two unencumbered projects (Lost Creek and Spring Valley) entered into a $260 million 364 day term loan to help to strengthen the group's liquidity profile in the midst of the coronavirus outbreak, exacerbating already high debt leverage.
The positive outlook reflects our expectation that Pattern Operations' exposure to construction risk will remain moderate. It also assumes that should the consolidated ratio of debt to EBITDA (run-rate) deteriorate during 2020, this will be temporary. We expect the company to report a consolidated ratio of debt to EBITDA of maximum 8.0x, on a sustained basis. The positive outlook anticipates that amortizing debt will continue to represent the bulk of the group's debt and result in an improving leverage profile. This factors in management's commitment to not incur incremental financial obligations at its parent company, or any intermediary holding company between them.
The positive outlook also assumes that, following the $100 million increase in Pattern Operation's corporate debt with the notes issuance, the company will maintain a material balance of working capital that will be also funded with proceeds received from potential new transactions, including new sales of economic interest to the Public Sector Pension Board (PSP). The positive outlook assumes that this balance and Pattern Operations' access to borrowings under the credit facility will be sufficient to meet most of its capital requirements over the next two years without incurring new corporate long-term debt.
..Issuer: Pattern Energy Operations LP / Pattern Energy Operations Inc.
....Senior Unsecured Regular Bond/Debenture, Assigned Ba3
..Issuer: Pattern Energy Operations LP
....Corporate Family Rating, Affirmed Ba3
....Probability of Default Rating, Affirmed Ba3-PD
..Issuer: Pattern Energy Group Inc.
....Senior Unsecured Regular Bond/Debenture, Affirmed Ba3 (LGD5)
..Issuer: Pattern Energy Operations LP
....Outlook, Remains Positive
The Ba3 rating on the new notes reflects Moody's Loss Given Default (LGD) methodology based on Pattern Operations' CFR, Probability of Default Rating (PDR) and the collateral provided to the secured lenders under the revolving and the term loan facilities. The repayment of the $250 million term loan will reduce the amount of secured debt in the capital structure that will now consist only of the $440 million revolving credit facility of Pattern US Operations Holdings LLC and Pattern Canada Operations Holdings ULC.
The collateral package securing the revolving credit facility consists of the holding companies' equity interests in the assets operating in the US and Canada. Although the majority of the assets have outstanding project debt or tax equity obligations, the recovery prospects of the lenders of the secured credit facility, in case of default, are better than that of the unsecured debt. We note that Pattern US Finance Company, LLC will also guarantee the new notes. Still, we see a difference in the recovery prospects between the secured and unsecured obligations that could limit the possibility of an upgrade of the new Ba3 senior unsecured notes should the CFR be upgraded to Ba2.
Pattern Operations' SGL-2 speculative grade liquidity rating reflects good liquidity and our expectation that operating cash flows will be sufficient to meet its debt service obligations consisting of annual interest payments of around $35 million.
Following the repayment of PEGI's $225 million of convertible notes , the $250 million term loan, as well as the early redemption of the 2024 Notes, Pattern Operations' next debt maturity consists of the aforementioned $260 million 364 day term loan. The parent of the two unencumbered projects (Spring Valley and Lost Creek) entered into this term loan in April 2020. We anticipate that this term loan will be fully repaid before its due date in April 2021.
We assume that the group will use additional available cash from the proceeds received from potential transactions and shareholders' equity contributions as well as the excess cash flow generated by Pattern Operations' assets during the rest of 2020 to repay the 364 days term loan. During the 2Q2020, management used a portion of the $260 million preferred units issued in April (mirror instrument of the outstanding $260 million PEGI preferred instruments) to repay around $175 million of borrowings outstanding under the $440 million revolving credit facility. Importantly, we assume that following the increase in Pattern Operations' corporate debt by around $100 million with the completion of this transaction, the company will maintain a material balance of working capital that will allow it to meet most of its capital requirements over the next two years without incurring new corporate long-term debt.
Pattern Operations used the majority of the proceeds of the 364 day term loan to repay borrowings outstanding under its $440 million revolving bank credit facility that is scheduled to expire in 2022.
At the end of June 2020, availability under the revolver approximated $182 million, including outstanding letter of credits of around $85 million. We expect that Pattern US Finance Company, LLC and Pattern Canada Finance Company ULC will remain comfortably in compliance with the covenants embedded in the credit facility.
The SGL-2 anticipates that the vast majority of Pattern Operations' encumbered projects will comfortably meet their distribution tests (typically at 1.2x) and be able to upstream cash flow. Currently, all of Pattern Operations' eight unencumbered assets have entered into tax equity partnerships (totaling $1.2 billion) and we anticipate that this type of arrangements will remain the Gulf Wind project's only obligation upon completion of the repowering (construction loan due in September 2020). The expectation of the full repayment of the 364 day term loan is important because it will allow Pattern Operations to own at least two assets that are fully unencumbered or not subject to tax equity payments.
FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATINGS
Factors that could lead to an upgrade
An upgrade of Pattern Operations' CFR is possible if, following the change in ownership in April 2020, there are no material deviations in the implementation of the new organizational structure and management exhibits a track record of corporate policy decisions that are supportive of credit quality. Positive momentum could also occur if the consolidated ratio of debt to EBITDA is sustained at or below, 8.0x , including any new parent debt. As indicated above, in the absence of other changes to Pattern Operations' capital structure, an upgrade of its CFR may not result in an upgrade of the senior unsecured notes.
Factors that could lead to a downgrade
A stabilization of the outlook and/or downgrade is possible if Pattern Operations' leverage increases such that its consolidated debt to EBITDA exceeds 8.0x on a sustained basis. Pattern Operations' ratings could also be lowered if significant exposure to construction risk materializes at Pattern Operations' parent and/or sister companies, or if corporate governance or accounting reporting transparency decreases. A downgrade of the notes is possible if, against our expectations, Pattern Operations' incurs new secured debt, including a new secured term loan. This change in the capital structure could negatively affect the senior position and recovery prospects of the unsecured notes.
The principal methodology used in these ratings was Unregulated Utilities and Unregulated Power Companies published in May 2017 and available at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1066389. Alternatively, please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.
In March 2020, following the completion of a take-private merger transaction, The Canada Pension Plan Investment Board (CPPIB, Aaa stable) became the ultimate majority shareholder of Pattern Operations' parent company, Pattern Energy Group, LP. CPPIB's voting rights currently approximate 71.5%. Private equity funds sponsored by Riverstone Holdings LLC ("Riverstone") hold over 20% while management currently owns a 2.15% interest.
For further specification of Moody's key rating assumptions and sensitivity analysis, see the sections Methodology Assumptions and Sensitivity to Assumptions in the disclosure form. Moody's Rating Symbols and Definitions can be found at: https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_79004.
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Natividad Martel Vice President - Senior Analyst Infrastructure Finance Group Moody's Investors Service, Inc. 250 Greenwich Street New York, NY 10007 U.S.A. JOURNALISTS: 1 212 553 0376 Client Service: 1 212 553 1653 Michael G. Haggarty Associate Managing Director Infrastructure Finance Group JOURNALISTS: 1 212 553 0376 Client Service: 1 212 553 1653 Releasing Office: Moody's Investors Service, Inc. 250 Greenwich Street New York, NY 10007 U.S.A. JOURNALISTS: 1 212 553 0376 Client Service: 1 212 553 1653
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