Fitch Affirms Perusahaan Gas at 'BBB-'/'AA+(idn)'; Outlook Stable

(Fitch Ratings - Jakarta/Singapore - 06 Apr 2022)-- Fitch Ratings has affirmed Indonesia-based PT Perusahaan Gas Negara Tbk's (PGN) Long-Term Foreign- and Local-Currency Issuer Default Ratings (IDRs) at 'BBB-'. The Outlooks are Stable. Fitch has also affirmed PGN's senior unsecured rating and the rating on the USD1.35 billion 5.125% bonds due 2024 at 'BBB-'. At the same time, Fitch Ratings Indonesia has affirmed PGN's National Long-Term Rating at 'AA+(idn)' with a Stable Outlook.

PGN's IDRs are one notch below those of its immediate parent, PT Pertamina (Persero) (BBB/Stable), based on our assessment of medium incentives for Pertamina to support PGN, under Fitch's Parent and Subsidiary Linkage Rating Criteria. PGN's National Ratings are also based on the same criteria.

PGN's Standalone Credit Profile (SCP) of 'bb+' reflects its dominance in Indonesia's gas transmission and distribution sector and an adequate financial profile. Regulatory uncertainty over PGN's gas distribution margins and weak upstream operations constrain the SCP, although a high oil price assumption in 2022 should be beneficial. Fitch expects PGN's credit metrics to remain adequate for the SCP over the next four years despite capex plans increasing leverage.

AA' National Ratings denote expectations of a very low level of default risk relative to other issuers or obligations in the same country or monetary union. The default risk inherent differs only slightly from that of the country's highest rated issuers or obligations.

Key Rating Drivers

Ratings Linked to Parent: We use a top-down minus one (TD-1) approach to rate PGN, based on our assessment of 'Medium' legal, strategic and operational incentives of its parent, Pertamina, to support PGN. PGN is the sub-holding company for Pertamina's gas business and accounts for over 90% of gas distribution and 100% of gas transmission in Indonesia. Pertamina appoints the majority of PGN's board of directors and senior management. Pertamina's senior unsecured notes also include a cross-default provision with its material subsidiaries. This provision applies to most of PGN's debt, in Fitch's view.

Margin Compression: We expect the gas distribution margin to compress further to around USD1.6 per metric million British thermal unit (mmbtu) (2021: USD1.9/mmbtu) over the next four years as demand picks up, increasing the proportion of gas volumes sold at capped prices. Regulations passed in April 2020 require PGN to cap selling prices to certain industries at USD6.0/mmbtu, while the Indonesian government will ensure that PGN sources this gas (allocated gas) to these industries at between USD4.0/mmbtu and USD4.5/mmbtu.

We estimate the effective spreads on PGN's gas sales have maintained at USD1.9/mmbtu in 2021 and 2020.

Regulatory Risks Constrain the SCP: Fitch believes that PGN faces further risks to margins because the state could increase the volume of gas sold under the capped pricing of USD6.0/mmbtu. In addition, the possibility of further margin shrinkage remains when PGN re-contracts most of its gas sourcing agreements in 2023. PGN's distribution margins have been declining steadily since 2013, when they averaged over USD3.0/mmbtu (FY21: 1.9/mmbtu).

Large Capex Plans: PGN plans to increase investments across its existing gas distribution and transmission businesses, and is exploring investments to enhance downstream integration. PGN's downstream investment plans are preliminary and therefore can change. We estimate PGN's consolidated capex to be around USD750 million in 2022 (2021: USD222 million) and range around USD900 million over the next three years. We expect the large investment plans to drive up PGN's leverage over the medium term.

Leverage to Increase: Fitch expects 2022 net leverage (net debt/EBITDA) (2021: 1.0x) to remain largely stable, supported by higher earnings from the upstream business benefiting from high oil prices despite large capex and narrower gas distribution spreads. We expect EBITDA to increase to USD828 million in 2022 (2021: USD788 million). Fitch estimates PGN's net leverage will increase to around 3.0x by 2024 and 4.1x by 2025 because of the large capex plan.

Weak Upstream Operations: The operating profile of PGN's wholly owned upstream subsidiary, PT Saka Energi Indonesia (B+/Negative), remains weak with proved reserve life of four to five years of production. Saka's EBITDA should increase to about USD330 million in 2022 on high oil prices, but then decline yearly to around USD100 million-200 million a year until 2025, assuming a reduction in production due to depleting reserves and lower long-term oil price assumptions. Fitch expects Saka to require PGN's support to repay external debt - USD405 million in notes due 2024.

Derivation Summary

PGN's ratings are notched below that of its parent, Pertamina, in line with Fitch's criteria. The one-notch difference reflects our assessment of medium incentives for Pertamina to support PGN. In comparison, PTT Exploration and Production Public Company Limited's (PTTEP, BBB+/Stable) ratings are equalised with those of its parent, PTT Public Company Limited (BBB+/Stable), on the significant strategic and operational linkages between PTTEP's upstream oil and gas operations and the parent.

PTTEP plays an important part in supporting its parent's strategic role in Thailand's oil and gas sector and improving the country's security, and contributes about 50% of PTT's consolidated EBITDA. In contrast, PGN contributes around 10% of Pertamina's EBITDA, even though it is a leading player in Indonesia's natural gas transmission and distribution sector and covers 92% of the natural gas pipeline infrastructure in Indonesia.

Key Assumptions

Fitch's Key Assumptions Within Our Rating Case for the Issuer:

- Gas distribution margin to decline to around USD1.6/mmbtu from 2022 (2021: USD1.9/mmbtu) onwards;

- Distribution volume to rise to 923 million standard cubic feet per day (mmscfd) in 2022, from 871mmscfd in 2021, and gradually increase to 999mmscfd by 2025;

- Revenue of about USD100 million from 2022 from its Rokan oil transportation pipeline;

- Consolidated capex of USD750 million in 2022 (2021: USD222 million), increasing to USD900 million a year until 2025.

RATING SENSITIVITIES

Factors that could, individually or collectively, lead to positive rating action/upgrade:

- Positive action on its parent, Pertamina, provided the linkages between PGN and Pertamina remain intact;

- Further strengthening of linkages between PGN and Pertamina.

Factors that could, individually or collectively, lead to negative rating action/downgrade:

- Negative rating action on Pertamina or weakening of linkages with Pertamina.

Best/Worst Case Rating Scenario

International scale credit ratings of Non-Financial Corporate issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579.

Liquidity and Debt Structure

Healthy Liquidity: PGN's liquidity is robust. Cash was over USD1.6 billion at end-2021. PGN had total consolidated debt of USD2.5 billion, including USD1.75 billion in senior unsecured notes issued by PGN and Saka due 2024. The maturity schedule of its remaining debt is generally well-spread-out. PGN also has good funding access with domestic and international banks, given its linkages with Pertamina.

Issuer Profile

PGN, in which Pertamina owns 57%, is the leading player in Indonesia's natural gas transmission and distribution sector. The company has 90% market share in gas distribution and 100% in gas transmission.

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING

The principal sources of information used in the analysis are described in the Applicable Criteria.

Public Ratings with Credit Linkage to other ratings

PGN's ratings are notched down once from the ratings on its parent, Pertamina. Any change in Pertamina's ratings will result in a similar revision in PGN's ratings.

ESG Considerations

Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg. (ends)